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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
---------------
FORM 10-Q
---------------
(MARK ONE)
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM
.................... TO ....................
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COMMISSION FILE NUMBER: 1-13888
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GRAFTECH INTERNATIONAL LTD.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 06-1385548
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
---------------
1521 CONCORD PIKE
BRANDYWINE WEST, SUITE 301 19803
WILMINGTON, DE (ZIP CODE)
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (302) 778-8227
---------------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [ X ] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [ X ] No [ ]
As of August 11, 2003, 66,893,584 shares of common stock, par value $.01 per
share, were outstanding.
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TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION:
ITEM 1. FINANCIAL STATEMENTS:
Consolidated Balance Sheets at December 31, 2002 and
June 30, 2003 (unaudited)................................... Page 3
Consolidated Statements of Operations for the Three Months and
Six Months ended June 30, 2002 and 2003 (unaudited)......... Page 4
Consolidated Statements of Cash Flows for the Six Months
ended June 30, 2002 and 2003 (unaudited).................... Page 5
Consolidated Statement of Stockholders' Deficit for the Year
ended December 31, 2002 and the Six Months ended
June 30, 2003 (unaudited)................................... Page 6
Notes to Consolidated Financial Statements...................... Page 7
INTRODUCTION TO PART I, ITEM 2, AND PART II, ITEM 1................... Page 42
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS.................................... Page 47
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK... Page 72
ITEM 4. CONTROLS AND PROCEDURES...................................... Page 74
PART II. OTHER INFORMATION:
ITEM 1. LEGAL PROCEEDINGS............................................ Page 76
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.................... Page 76
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.......... Page 77
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K............................. Page 78
SIGNATURE............................................................. Page 79
EXHIBIT INDEX......................................................... Page 80
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in millions, except per share data)
(Unaudited)
December 31, June 30,
ASSETS 2002 2003
---- ----
CURRENT ASSETS:
Cash and cash equivalents.......................................................... $ 11 $ 8
Accounts and notes receivable, net................................................. 104 119
Inventories:
Raw materials and supplies......................................................... 39 45
Work in process.................................................................... 102 120
Finished goods..................................................................... 30 29
------ -----
Total inventories............................................................ 171 194
Prepaid expenses and deferred income taxes......................................... 21 27
Assets of discontinued operations.................................................. 14 -
------ -----
Total current assets......................................................... 321 348
------ -----
Property, plant and equipment...................................................... 995 1,070
Less: accumulated depreciation..................................................... 695 742
------ -----
Net fixed assets............................................................. 300 328
Deferred income taxes.............................................................. 171 187
Goodwill........................................................................... 17 20
Other assets....................................................................... 50 36
------ -----
Total assets................................................................. $ 859 $ 919
====== =====
LIABILITIES AND STOCKHOLDERS' DEFICIT
CURRENT LIABILITIES:
Accounts payable................................................................... $ 105 $ 105
Short-term debt.................................................................... 18 23
Accrued income and other taxes..................................................... 23 32
Other accrued liabilities.......................................................... 57 76
Liabilities of discontinued operations............................................. 3 3
------ -----
Total current liabilities.................................................... 206 239
------ -----
Long-term debt:
Carrying value..................................................................... 699 680
Fair value of hedged debt obligation .............................................. 8 -
Unamortized bond premium........................................................... 6 6
------ -----
Total long-term debt......................................................... 713 686
------ -----
Other long-term obligations........................................................ 258 275
Deferred income taxes.............................................................. 33 39
Minority stockholders' equity in consolidated entities............................. 30 29
Commitments & contingencies........................................................ - -
STOCKHOLDERS' DEFICIT:
Preferred stock, par value $.01, 10,000,000 shares authorized, none issued......... - -
Common stock, par value $.01, 100,000,000 and 150,000,000 shares authorized,
respectively at
December 31, 2002 and June 30, 2003
59,211,664 shares issued at December 31, 2002,
64,338,211 shares issued at June 30, 2003.................................... 1 1
Additional paid-in capital......................................................... 636 662
Accumulated other comprehensive loss............................................... (304) (299)
Accumulated deficit................................................................ (620) (622)
Less: cost of common stock held in treasury, 2,542,539 shares at December 31, 2002,
2,451,035 shares at June 30, 2003............................................ (88) (85)
Less: common stock held in employee benefits trust, 426,400 shares at December 31,
2002 and June 30, 2003....................................................... (6) (6)
------ -----
Total stockholders' deficit.................................................. (381) (349)
------ -----
Total liabilities and stockholders' deficit.................................. $ 859 $ 919
====== =====
See accompanying Notes to Consolidated Financial Statements
3
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in millions, except per share data)
(Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
-------- --------
2002 2003 2002 2003
---- ---- ---- ----
Net sales...................................................... $ 157 $ 181 $ 291 $ 351
Cost of sales ................................................. 122 138 226 269
------- ------ ------ -------
Gross profit.............................................. 35 43 65 82
Research and development....................................... 3 2 6 5
Selling, administrative and other expenses..................... 24 21 42 42
Other (income) expense, net.................................... (10) (6) (9) (10)
Restructuring charges.......................................... - 1 5 20
Impairment loss on long-lived and other assets................. 13 - 13 -
Interest expense............................................... 17 13 30 27
------- ------ ------ -------
47 31 87 84
------- ------ ------ -------
Income (loss) from continuing operations before provision
for income taxes........................................ (12) 12 (22) (2)
Provision (benefit) for income taxes........................... (5) 5 (11) 1
------- ------ ------ -------
Income (loss) from continuing operations of consolidated
entities before minority interest .................... (7) 7 (11) (3)
Less: Minority stockholders' share of income................... - 1 1 1
------- ------ ------ -------
Income (loss) from continuing operations.................. (7) 6 (12) (4)
------- ------ ------ -------
Discontinued operations:
Income from discontinued operations (less applicable
income tax expense)..................................... - - 1 1
Gain on sale of discontinued operations (less applicable
income tax expense)..................................... - 1 - 1
------- ------ ------ -------
Net income (loss).............................................. $ (7) $ 7 $ (11) $ (2)
======= ====== ====== =======
BASIC INCOME (LOSS) PER COMMON SHARE:
Income (loss) from continuing operations.................. $ (0.14) $ 0.11 $(0.21)$ (0.06)
Discontinued operations................................... - 0.01 0.01 0.02
------- ------ ------- -------
Net income (loss) per share............................... $ (0.14) $ 0.12 $(0.20)$ (0.04)
======= ====== ====== =======
Weighted average common shares outstanding
(in thousands).......................................... 55,872 57,037 55,848 56,829
======= ====== ====== =======
DILUTED INCOME (LOSS) PER COMMON SHARE:
Income (loss) from continuing operations.................. $ (0.14) $ 0.11 $(0.21)$ (0.06)
Discontinued operations................................... - 0.01 0.01 0.02
------- ------ ------ -------
Net income (loss) per share............................... $ (0.14) $ 0.12 $(0.20)$ (0.04)
======= ====== ====== =======
Weighted average common shares outstanding
(in thousands).......................................... 55,872 57,040 55,848 56,829
======= ====== ====== =======
See accompanying Notes to Consolidated Financial Statements
4
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in millions)
(Unaudited)
Six Months Ended
June 30,
--------
2002 2003
---- ----
CASH FLOW FROM OPERATING ACTIVITIES:
Net loss........................................................ $ (11) $ (2)
Income from discontinued operations............................. 1 1
Gain on sale of discontinued operations......................... - 1
------ ------
Loss from continuing operations................................. (12) (4)
Non-cash charges to net loss:
Depreciation and amortization.............................. 15 15
Deferred income taxes...................................... (13) (10)
Restructuring charges...................................... 5 20
Impairment loss on long-lived and other assets............. 13 -
Other non-cash charges (credits), net...................... (20) (20)
(Increase) decrease in working capital*......................... (24) (27)
Long-term assets and liabilities................................ - -
------ ------
Net cash used in operating activities from continuing
operations............................................... (36) (26)
Net cash provided by operating activities from
discontinued operations.................................. - 1
------ ------
NET CASH USED IN OPERATING ACTIVITIES...................... (36) (25)
------ ------
CASH FLOW FROM INVESTING ACTIVITIES:
Capital expenditures............................................ (20) (20)
Proceeds from sale of discontinued operations................... - 15
------ ------
NET CASH USED IN INVESTING ACTIVITIES...................... (20) (5)
------- -------
CASH FLOW FROM FINANCING ACTIVITIES:
Short-term debt borrowings, net................................. 10 4
Revolving credit facility borrowings (reductions), net.......... (95) 1
Long-term debt borrowings....................................... 557 -
Long-term debt reductions....................................... (387) -
Proceeds from reset of interest rate swap....................... - 31
Purchase of interest rate caps.................................. - (5)
Sale of common stock............................................ 1 -
Financing costs................................................. (20) -
Dividends paid to minority stockholders......................... - (4)
------ ------
NET CASH PROVIDED BY FINANCING ACTIVITIES 66 27
------ ------
Net increase (decrease) in cash and cash equivalents............ 10 (3)
Effect of exchange rate changes on cash and cash equivalents.... 3 -
Cash and cash equivalents at beginning of period................ 38 11
------ ------
CASH AND CASH EQUIVALENTS AT END OF PERIOD...................... $ 51 $ 8
====== ======
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Net cash paid during the periods for:
Interest expense........................................... $ 17 $ 33
====== ======
Income taxes............................................... $ 4 $ 5
====== ======
*Net change in working capital due to the following components:
(Increase) decrease in current assets:
Notes and accounts receivable........................... $ (18) $ (6)
Inventories............................................. 10 (9)
Prepaid expenses and other current assets............... (2) (3)
Decrease in accounts payable and accruals.................. (12) (2)
Payments in antitrust investigations and related lawsuits
and claims, net.......................................... - (4)
Restructuring payments, net................................ (2) (3)
------ ------
(INCREASE) DECREASE IN WORKING CAPITAL.................. $ (24) $ (27)
====== ======
See accompanying Notes to Consolidated Financial Statements
5
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' DEFICIT
(Dollars in millions, except share data)
December 31, 2002 and June 30, 2003 (Unaudited)
Common
Stock
Accumulated Held in
Shares of Additional Other Unearned Employee Total
Common Common Paid-in Comprehensive Accumulated Restricted Treasury Benefits Stockholders'
Stock Stock Capital Loss Deficit Stock Stock Trust (Deficit)
----- ----- ------- ---- ------- ----- ----- ----- ---------
BALANCE AT JANUARY 1, 2002..... $ 1 58,623,713 $ 629 $ (269) $ (602) $ - $ (85) $ (6) $ (332)
------ ---------- -------- --------- -------- -------- ------- -------- ----------
Comprehensive loss:
Net loss................... - - - - (18) - - - (18)
Other comprehensive loss:
Minimum pension liability. - - - (15) - - - - (15)
Foreign currency
translation adjustments. - - - (20) - - - - (20)
------ ---------- -------- --------- -------- -------- ------- -------- ----------
Total comprehensive loss..... - - - (35) (18) - - - (53)
Issuance of restricted stock. - 412,200 6 - - (6) - - -
Amortization of restricted
stock...................... - - - - - 1 - - 1
Accelerated vesting of
restricted stock........... - - - - - 5 - - 5
Sale of common stock under
stock options.............. - 175,751 1 - - - - - 1
Repurchase of treasury stock. - - - - - - (3) - (3)
------ ---------- -------- --------- -------- -------- ------- -------- ----------
BALANCE AT DECEMBER 31, 2002... 1 59,211,664 636 (304) (620) - (88) (6) (381)
Comprehensive income (loss):
Net loss................... - - - - (2) - - - (2)
Other comprehensive
income (loss):
Foreign currency
translation
adjustments.......... - - - 5 - - - - 5
------ ---------- -------- --------- -------- -------- ------- -------- ----------
Total comprehensive income
(loss)..................... - - - 5 (2) - - - 3
Senior Notes for common
stock exchange ......... - 3,800,758 20 - - - - - 20
Treasury stock............... - - (3) - - - 3 - -
Issuance of common stock to
savings and pension plans.. - 1,325,789 9 - - - - - 9
------ ---------- -------- --------- -------- -------- ------- -------- ----------
BALANCE AT JUNE 30, 2003....... $ 1 64,338,211 $ 662 $ (299) $ (622) $ - $ (85) $ (6) $ (349)
====== ========== ======== ========= ======== ======== ======= ======== ==========
See accompanying Notes to Consolidated Financial Statements
6
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) INTERIM FINANCIAL PRESENTATION
These interim Consolidated Financial Statements are unaudited; however,
in the opinion of management, they have been prepared in accordance with Rule
10-01 of Regulation S-X adopted by the SEC and reflect all adjustments (all of
which are of a normal, recurring nature) which are necessary for a fair
presentation of financial position, results of operations and cash flows for the
periods presented. These interim Consolidated Financial Statements should be
read in conjunction with the audited Consolidated Financial Statements,
including the related Notes, contained in our Annual Report on Form 10-K at and
for the year ended December 31, 2002 (the "ANNUAL REPORT"). Results of
operations for the six months ended June 30, 2003 are not necessarily indicative
of the results of operations that may be expected for any other interim period
or for the entire year ending December 31, 2003.
Certain amounts in the Consolidated Financial Statements for the three
months and six months ended June 30, 2002 have been reclassified as described in
this Note 1 below.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and judgments that affect the amounts reported in
the financial statements and accompanying notes. The accounting estimates that
require our management's most difficult and subjective judgments include those
related to employee benefit plans, financial instruments, contingencies,
impairments of long-lived assets, inventories and accounting for income taxes.
Actual amounts may differ materially from our management's estimates.
Important Terms
We use the following terms to identify various companies or groups of
companies in the Consolidated Financial Statements.
"GTI" refers to GrafTech International Ltd. only. GTI is our public
parent company and the issuer of the publicly traded common stock covered by the
Consolidated Financial Statements. GTI is a guarantor of the Senior Notes and
the Senior Facilities. Prior to our Annual Meeting of Stockholders for 2002, GTI
was named UCAR International Inc.
"GRAFTECH GLOBAL" refers to GrafTech Global Enterprises Inc. only.
GrafTech Global is a direct, wholly owned subsidiary of GTI and the direct or
indirect holding company for all of our operating subsidiaries. GrafTech Global
is a guarantor of the Senior Notes and the Senior Facilities. Prior to June 7,
2002, GrafTech Global Enterprises Inc. was named UCAR Global Enterprises Inc.
"UCAR CARBON" refers to UCAR Carbon Company Inc. only. UCAR Carbon is
our wholly owned subsidiary through which we conduct most of our U.S.
operations. UCAR Carbon is a guarantor of the Senior Notes and the Senior
Facilities.
7
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
"GRAFTECH FINANCE" refers to GrafTech Finance Inc. only. GrafTech
Finance is a direct, wholly owned special purpose finance subsidiary of GTI and
the borrower under our senior secured bank credit facilities (as amended, the
"SENIOR FACILITIES"). GrafTech Finance is the issuer of our 10.25% senior notes
due 2012 (the "SENIOR NOTES"). The Senior Notes were issued under an Indenture
dated February 15, 2002, as supplemented on April 30, 2002 (as supplemented, the
"INDENTURE"). Prior to June 7, 2002, GrafTech Finance was named UCAR Finance
Inc.
"AET" refers to Advanced Energy Technology Inc. only. AET is our 97.5%
owned (wholly owned, prior to June 2001) subsidiary engaged in the development,
manufacture and sale of natural graphite-based products. Prior to January 1,
2003, AET was named Graftech Inc.
"CARBONE SAVOIE" refers to Carbone Savoie S.A.S. and its subsidiaries.
Carbone Savoie is our 70% owned subsidiary engaged in the development,
manufacture and sale of cathodes.
"SUBSIDIARIES" refers to those companies that, at the relevant time, are
or were majority owned or wholly owned directly or indirectly by GTI or its
predecessors to the extent that those predecessors' activities related to the
graphite and carbon business. All of GTI's subsidiaries have been wholly owned
(with de minimis exceptions in the case of certain foreign subsidiaries) from at
least January 1, 2000 through June 30, 2003, except for:
o Carbone Savoie, which has been and is 70% owned; and
o AET, which was 100% owned until it became 97.5% owned in June
2001.
Our 100% owned Brazilian cathode manufacturing operations were contributed to
Carbone Savoie and, as a result, became 70% owned on March 31, 2001.
"WE," "US" or "OUR" refers to GTI and its subsidiaries collectively or,
if the context so requires, GTI, GrafTech Global or GrafTech Finance,
individually.
In 2002, we substantially completed the realignment of our foreign
subsidiaries. Most of the operations and net sales of our synthetic graphite
line of business are located outside the U.S. and, as a result of the
realignment, are held by our Swiss subsidiary or its subsidiaries. Most of our
technology is held by our U.S. subsidiaries. We may in the future realign the
corporate organizational structure of our U.S. subsidiaries.
New Accounting Standards
In May 2003, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 150, "Accounting for
Certain Financial Instruments with Characteristics of Both Liabilities and
Equity." SFAS No. 150 establishes standards for the classification and
measurement of certain financial instruments with characteristics of both
liabilities and equity. SFAS No. 150 is effective for financial instruments
8
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
entered into or modified after May 31, 2003, and otherwise effective at the
beginning of the first interim period beginning after June 15, 2003. The Company
currently has no financial instruments which meet these requirements.
In April 2003, FASB issued SFAS No. 149 "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." SFAS No. 149 amends and
clarifies accounting for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities under SFAS
No. 133. SFAS No. 149 is effective for contracts entered into or modified, and
for hedging relationships designated, after June 30, 2003. Other provisions of
SFAS No. 149 that related to SFAS No. 133 implementation issues should continue
to be applied in accordance with their respective dates. We do not expect the
adoption of SFAS No. 149 will have a significant impact on our results of
operations or financial position.
In December 2002, FASB issued SFAS No. 148 "Accounting for Stock-Based
Compensation - Transition and Disclosure." SFAS No. 148 amends SFAS No. 123,
"Accounting for Stock-Based Compensation," to provide alternative methods of
transition for a voluntary change to the fair value method of accounting for
stock-based employee compensation. In addition, SFAS No. 148 amends the
disclosure requirements of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. The adoption of SFAS No. 148 did not have a significant impact on our
consolidated results of operations or financial position because the impact was
limited to additional disclosure. The additional disclosure is set forth below.
No compensation expense has been recognized for our time vesting options
granted with exercise prices at not less than market price on the date
of grant. At June 30, 2003, all awards subject to performance conditions
were fully vested. If compensation expense for our stock-based
compensation plans was determined by the fair value method prescribed by
SFAS No. 123, "Accounting for Stock Based Compensation," our net income
(loss) and net income (loss) per share would have been reduced or
increased to the pro forma amounts indicated in the following table.
9
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Three Months Ended Six Months Ended
June 30, June 30,
-------- --------
2002 2003 2002 2003
---- ---- ---- ----
Net income (loss) as reported........ $ (7) $ 7 $ (11) $ (2)
Deduct: Total stock-based employee
compensation expense determined
under fair value based method for
all awards, net of related tax
effects........................... (2) (1) (4) (2)
----- ------ ------ ------
Pro forma net income (loss).......... $ (9) $ 6 $ (15) $ (4)
===== ====== ====== ======
Earnings per share:
Basic - as reported.............. $ (0.14) $ 0.12 $ (0.20) $ (0.04)
Basic - pro forma................ $ (0.17) $ 0.11 $ (0.26) $ (0.07)
Diluted - as reported............ $ (0.14) $ 0.12 $ (0.20) $ (0.04)
Diluted - pro forma.............. $ (0.17) $ 0.11 $ (0.26) $ (0.07)
In November 2002, FASB issued Financial Interpretation ("FIN") No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness to Others." The initial recognition and
measurement provisions of FIN No. 45 are applicable on a prospective basis to
guarantees issued or modified after December 31, 2002, and require that we
record a liability, if any, for the fair value of such guarantees in the
Consolidated Balance Sheet. The adoption of FIN No. 45 did not have a
significant impact on our consolidated financial position or results of
operations because the impact was limited to additional disclosure. The
additional disclosure is set forth below.
Certain of our subsidiaries have guaranteed the Senior Facilities and
the Senior Notes as described in Notes 5 and 8.
Under the charters, by-laws and other organizational documents of GTI
and its subsidiaries as well as certain laws, we are obligated to
indemnify our directors and officers for certain liabilities or expenses
arising out of service to us, and we maintain insurance with respect to
certain of those obligations. Under certain circumstances, we may be
entitled to recover from them expenses advanced on their behalf. No
amounts have been recorded in respect of such obligations.
We generally sell products with a limited warranty. We accrue for known
warranty claims if a loss is probable and can be reasonably estimated,
and accrue for estimated incurred but unidentified claims based on
historical activity. The accruals were not significant for either the
2002 first half or the 2003 first half.
In June 2002, FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities," which is effective for exit or disposal
activities initiated after December 31, 2002. SFAS No. 146 addresses financial
accounting and reporting for costs associated with exit or disposal activities
and nullifies Emerging Issues Task Force Issue No. 94-3, "Liability Recognition
for Certain Employee Termination Benefits and Other Costs to Exit
10
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
an Activity (including Certain Costs Incurred in a Restructuring)." SFAS No. 146
requires that a liability for a cost associated with an exit or disposal
activity be recognized when the liability is incurred. Under Issue No. 94-3, a
liability for an exit cost as defined in Issue No. 94-3 is recognized at the
date an entity commits to an exit plan. We adopted SFAS No. 146 effective
January 1, 2003 and recorded $19 million ($12 million, net of tax) of
restructuring charges in the 2003 first quarter, $8 million of which related to
organization changes and $11 million of which related to the closure and
settlement of our U.S. non-qualified defined benefit plan for the participating
salaried workforce.
In April 2002, FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." The provisions of SFAS No. 145 related to the rescission of SFAS
No. 4 must be applied in fiscal years beginning after May 15, 2002. The
provisions of SFAS No. 145 related to SFAS No. 13 are effective for transactions
occurring after May 15, 2002. All other provisions of SFAS No. 145 are effective
for financial statements issued on or after May 15, 2002. SFAS No. 145 rescinds
SFAS No. 4, "Reporting Gains and Losses from Extinguishment of Debt," and an
amendment thereto, and SFAS No. 64, "Extinguishments of Debt Made to Satisfy
Sinking-Fund Requirements." Previously, accounting principles generally accepted
in the United States required that gains and losses from extinguishment of debt
be classified as an extraordinary item, net of related income tax effect. Based
on SFAS No. 145, gains and losses from extinguishment of debt are classified as
extraordinary items only if they meet the criteria of Accounting Principle
Boards Opinion 30 ("APB 30"), "Reporting the Effects of Disposal of a Segment of
a Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions." The provisions of APB 30 distinguish transactions that are part
of an entity's recurring operations from those that are unusual or infrequent or
that meet the criteria for classification as an extraordinary item. As such,
those that do not meet the criteria of APB 30 are included in the statement of
operations before income (loss) before provisions (benefits) for income taxes,
minority interest and extraordinary items. All prior periods presented that do
not meet the criteria in APB 30 for classification as an extraordinary item must
be reclassified. SFAS No. 145 also rescinds SFAS No. 44, "Accounting for
Intangible Assets of Motor Carriers." SFAS No. 145 amends SFAS No. 13,
"Accounting for Leases," to eliminate an inconsistency between the required
accounting for sale-leaseback transactions and the required accounting for
certain lease modifications that have economic effects that are similar to
sale-leaseback transactions. SFAS No. 145 also amends other existing
authoritative pronouncements to make various technical corrections, clarify
meanings or describe their applicability under changed conditions. We adopted
SFAS No. 145 relating to SFAS No. 4 effective January 1, 2003. The effect of the
adoption was to require reclassification of certain write-offs of capitalized
bank charges for the three months and six months ended June 30, 2002 in the
amount of $1 million and $4 million, respectively, from extraordinary items to
other (income) expense, net. Correspondingly, the provision for income taxes
from continuing operations for the three months and six months ended June 30,
2002 was increased by nil and $1 million, respectively. The adoption of the
provisions of SFAS No. 145 relating to SFAS No. 13 and the other provisions of
SFAS No. 145, excluding the provisions
11
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
relating to SFAS No. 4, did not have a significant impact on our consolidated
financial position or results of operations.
In July 2001, FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations." SFAS No. 143 requires that the fair value of a liability for an
asset retirement obligation be recognized in the period in which it is incurred
if a reasonable estimate of fair value can be made. We adopted SFAS No. 143
effective January 1, 2003. The adoption of SFAS No. 143 did not have a
significant impact on our consolidated financial position or results of
operations.
(2) EARNINGS PER SHARE
Basic and diluted earnings per share are calculated using the following
share data:
Three Months Six Months
Ended June 30, Ended June 30,
-------------- --------------
2002 2003 2002 2003
---- ---- ---- ----
Weighted average common shares
outstanding for basic calculation 55,872,417 57,036,671 55,848,004 56,829,015
Add: Effect of stock options........ - 3,581 - -
---------- ---------- ---------- ----------
Weighted average common shares
outstanding for diluted
calculation...................... 55,872,417 57,040,252 55,848,004 56,829,015
========== ========== ========== ==========
Basic earnings (loss) per common share are calculated by dividing net
income (loss) by the weighted average number of common shares outstanding, in
each case for the same period. Diluted earnings (loss) per share are calculated
by dividing net income (loss) by the sum of the weighted average number of
common shares outstanding plus the additional common shares that would have been
outstanding if potentially dilutive securities had been issued, in each case for
the same period. As a result of the net loss reported for the three months and
six months ended June 30, 2002, 1,709,758 and 1,409,850, respectively, of
potential common shares underlying dilutive securities have been excluded from
the calculation of diluted earnings (loss) per share because their effect would
reduce the loss per share. As a result of the net loss for the six months ended
June 30, 2003, 48,554 of potential common shares underlying dilutive securities
have been excluded from the calculation of diluted earnings (loss) per share
because their effect would reduce the loss per share.
In addition, the calculation of weighted average common shares
outstanding for the diluted calculation excludes consideration of stock options
covering 4,205,994 and 9,016,980 shares in the three months ended June 30, 2002
and 2003, respectively, and 4,267,546, and 9,114,280 shares in the six months
ended June 30, 2002 and 2003, respectively, because the exercise of these
options would not have been dilutive for those periods due to the fact that the
exercise prices were greater than the weighted average market price of our
common stock for each of those periods.
12
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table summarizes information about stock options
outstanding at June 30, 2003.
Options Outstanding Options Exercisable
------------------- -------------------
Weighted-
Average Weighted-
Remaining Average Weighted-Average
Range of Number Contractual Exercise Number Exercise
Exercise Prices Outstanding Life Prices Exercisable Prices
--------------- ----------- ---- ------ ----------- ------
(Shares in thousands)
Time vesting options:
$ 2.83 to $10.77 4,636 7 years $ 8.39 3,451 $ 8.34
$11.60 to $19.06 2,467 5 years $ 16.57 2,215 $ 16.92
$22.82 to $29.22 141 5 years $ 25.71 135 $ 25.85
$30.59 to $40.44 1,426 3 years $ 34.33 1,236 $ 34.15
----- -----
8,670 7,037
===== =====
Performance vesting options:
$7.60 361 4 years $ 7.60 361 $ 7.60
The calculation of both basic and diluted earnings (loss) per share gives
effect to, among other things, the grant of 412,200 shares of restricted stock
to employees in March 2002. GTI's Board of Directors accelerated the vesting of
all of these shares in June 2002. As a result, we recorded $5 million of
compensation expense in the 2002 second quarter which amount has been included
in selling, administrative and other expenses.
In September 1998, GTI's Board of Directors adopted an executive
employee loan program and an executive employee stock purchase program. In the
2002 first quarter, the programs were closed. In the 2002 second quarter, all of
the outstanding loans, an aggregate of $3 million, were repaid and discharged.
GTI received an aggregate of 220,127 shares of common stock, valued at the
closing sale price on the date of repayment, and cash as repayment of the loans.
Those shares were added to common stock held in treasury.
(3) SEGMENT REPORTING
In 2002, our businesses were organized around two operating divisions,
our Graphite Power Systems Division, which included our graphite electrode and
cathode businesses, and our Advanced Energy Technology Division, which included
our natural graphite and advanced synthetic graphite and carbon materials
businesses.
In 2003, we further refined the organization of our businesses into the
following three lines of business:
o a synthetic graphite line of business called Graphite Power
Systems, which primarily serves the steel, aluminum,
semiconductor and transportation industries and includes graphite
electrodes, cathodes and other advanced synthetic graphite
materials;
13
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
o a natural graphite line of business called Advanced Energy
Technology, which primarily serves the transportation, power
generation, electronics and chemical industries and includes fuel
cell, electronic thermal management and sealant products and
services; and
o a carbon materials line of business called Advanced Carbon
Materials, which primarily serves the silicon metal and
ferro-alloy industries and includes carbon electrodes and
refractories.
In accordance with SFAS No. 131, "Segment Reporting," we have segregated
our businesses into three corresponding operating segments. "Other" in the table
below includes Advanced Energy Technology and Advanced Carbon Materials.
We evaluate the performance of our reportable segments based on gross
profit. Intersegment sales and transfers of goods and services are not material.
The following tables summarize financial information concerning our reportable
segments.
Three Months Ended
------------------
March 31, June 30, September 30, December 31, March 31, June 30,
2002 2002 2002 2002 2003 2003
---- ---- ---- ---- ---- ----
(Dollars in millions)
(Unaudited)
Net sales:
Synthetic Graphite........... $ 118 $ 142 $ 136 $ 142 $ 149 $ 162
Other........................ 16 15 14 13 21 19
------ ----- ------ ------ ------- ------
Total...................... $ 134 $ 157 $ 150 $ 155 $ 170 $ 181
====== ===== ====== ====== ======= ======
Cost of sales:
Synthetic Graphite........... $ 90 $ 110 $ 105 $ 108 $ 115 $ 123
Other........................ 14 12 12 9 16 15
------ ----- ------ ------ ------- ------
Total...................... $ 104 $ 122 $ 117 $ 117 $ 131 $ 138
====== ===== ====== ====== ======= ======
Gross profit:
Synthetic Graphite........... $ 28 $ 32 $ 31 $ 34 $ 34 $ 39
Other........................ 2 3 2 4 5 4
------ ----- ------ ------ ------- ------
Total...................... $ 30 $ 35 $ 33 $ 38 $ 39 $ 43
====== ===== ====== ====== ======= ======
Depreciation and amortization:
Synthetic Graphite........... $ 6 $ 7 $ 6 $ 7 $ 6 $ 7
Other........................ 1 1 1 1 1 1
------ ----- ------ ------ ------- ------
Total...................... $ 7 $ 8 $ 7 $ 8 $ 7 $ 8
====== ===== ====== ====== ======= ======
"Other" in the table above has been restated for the periods presented to
exclude our composite tooling business that was sold in June 2003.
14
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(4) RESTRUCTURING AND IMPAIRMENT CHARGES
In the 2003 second quarter, we recorded an additional $1 million (before
and after tax) of restructuring charges that related to the organizational
changes in the 2003 first quarter described below. The $1 million charge was
primarily related to employee severance programs and related benefits associated
with a workforce reduction of several employees.
In the 2003 first quarter, we recorded $19 million ($12 million, net of
tax) of restructuring charges, consisting of $8 million for organizational
changes and $11 million for the closure and settlement of our U.S. non-qualified
defined benefit plan for the participating salaried workforce. The $8 million
($5 million, net of tax) charge for organizational changes related to U.S.
voluntary and selective severance programs and related benefits associated with
a workforce reduction of 103 employees. The closure of our non-qualified U.S.
defined benefit plan resulted in recognition of net non-cash actuarial losses of
$11 million ($7 million, net of tax).
In the 2002 fourth quarter, we recorded $3 million ($2 million, net of
tax) of impairment charges relating to our investment in our joint venture with
Jilin Carbon Co. Ltd. (together with its affiliates, "JILIN"). The impairment
resulted from uncertainty about the completion and start-up of the planned
graphite electrode facility in Changchun, China due to the effects that the
challenging 2002 graphite electrode industry conditions had on Jilin. We also
recorded a $1 million (nil, net of tax) change in estimate for the restructuring
charge for our graphite electrode operations in Caserta, Italy.
In the 2002 third quarter, we recorded a $1 million charge related to
the impairment of available-for-sale securities.
In the 2002 second quarter, we recorded a $13 million ($8 million, net
of tax) non-cash charge primarily related to the impairment of our long-lived
carbon electrode assets in Columbia, Tennessee as a result of a decline in
demand and loss of market share. The primary end market for carbon electrodes is
silicon metal, which was very depressed in the U.S. where our main customer base
was located. This charge also included $1 million related to the impairment of
available-for-sale securities.
In the 2002 first quarter, we recorded a $5 million restructuring charge
related primarily to the mothballing of our graphite electrode operations in
Caserta, Italy. This charge included estimated pension, severance and other
related employee benefit costs for 102 employees and other costs related to the
mothballing.
The following table summarizes activity relating to the accrued expense
in connection with the restructuring charges.
15
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Severance Plant
and Shutdown
Related and Related
Costs Costs Total
----- ----- -----
(Dollars in millions)
BALANCE AT DECEMBER 31, 2001...... $ 4 $ 8 $ 12
Restructuring charges in 2002..... 6 - 6
Payments in 2002.................. (5) 1 (4)
----- ----- -----
BALANCE AT DECEMBER 31, 2002...... 5 9 14
Restructuring charges in 2003..... 20 - 20
Payments in 2003.................. (2) (1) (3)
----- ----- -----
BALANCE AT JUNE 30, 2003.......... $ 23 $ 8 $ 31
===== ===== =====
The restructuring accrual is included in other accrued liabilities on
the Consolidated Balance Sheets.
(5) LONG-TERM DEBT AND LIQUIDITY
The following table presents our long-term debt:
December 31, June 30,
2002 2003
---- ----
(Dollars in millions)
Senior Facilities:
Tranche A euro facility.................. $ - $ -
Tranche A U.S. dollar facility........... - -
Tranche B U.S. dollar facility........... 137 137
Revolving credit facility................ 10 12
-------- --------
Total Senior Facilities................ 147 149
Other European debt.......................... 2 1
Senior Notes:
Senior Notes due 2012.................... 550 530
Fair value of hedged debt obligations.... 8 -
Unamortized bond premium................. 6 6
-------- --------
Total Senior Notes..................... 564 536
-------- --------
Total............................... $ 713 $ 686
======== ========
Debt for Equity Exchange
In June 2003, we exchanged $20 million aggregate principal amount of
Senior Notes, plus accrued interest of approximately $1 million, for 3,800,758
shares of common stock. These exchanges resulted in a net gain of approximately
$1 million in the 2003 second quarter which has been recorded in other (income)
expense, net. As a result of these exchanges, we accelerated certain
amortization of swap proceeds (see Note 6) and recorded approximately $2 million
as a
16
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
credit against interest expense. See Note 11 regarding additional debt for
equity exchanges during July and August 2003.
Senior Notes
On February 15, 2002, GrafTech Finance issued $400 million aggregate
principal amount of Senior Notes. Interest on the Senior Notes is payable
semi-annually on February 15 and August 15 of each year, commencing August 15,
2002, at the rate of 10.25% per annum. The Senior Notes mature on February 15,
2012.
In April 2002, we obtained consent from the holders of the Senior Notes
issued in February 2002 to amend the Indenture so as to waive the requirement to
use the gross proceeds from the issuance of up to $150 million aggregate
principal amount of additional Senior Notes to make intercompany loans to our
foreign subsidiaries. On April 30, 2002, we entered into a Supplemental
Indenture.
On May 6, 2002, GrafTech Finance issued $150 million aggregate principal
amount of additional Senior Notes at a purchase price of 104.5% of principal
amount, plus accrued interest from February 15, 2002, under the same Indenture
pursuant to which it issued the Senior Notes in February 2002. All of the Senior
Notes constitute one class of debt securities under the Indenture. The
additional Senior Notes bear interest at the same rate and mature on the same
date as the Senior Notes issued in February 2002. The $7 million premium
received upon issuance of the additional Senior Notes was added to the principal
amount of the Senior Notes shown on the Consolidated Balance Sheets and is
amortized (as a credit to interest expense) over the term of the additional
Senior Notes. As a result of our receipt of such premium, the effective annual
interest rate on the additional Senior Notes is about 9.5%.
Except as described below, GrafTech Finance may not redeem the Senior
Notes prior to February 15, 2007. On or after that date, GrafTech Finance may
redeem the Senior Notes, in whole or in part, at specified redemption prices
beginning at 105.125% of the principal amount redeemed for the year commencing
February 15, 2007 and reducing to 100.00% of the principal amount redeemed for
the years commencing February 15, 2010 and thereafter, in each case plus accrued
and unpaid interest to the redemption date.
In addition, before February 15, 2005, GrafTech Finance is entitled at
its option on one or more occasions to redeem Senior Notes in an aggregate
principal amount not to exceed 35% of the aggregate principal amount of Senior
Notes originally issued by GrafTech Finance at a redemption price of 110.25% of
the principal amount redeemed, plus accrued and unpaid interest to the
redemption date, with the net cash proceeds from one or more underwritten
primary public offerings of common stock of GTI pursuant to an effective
registration statement under the Securities Act so long as:
17
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
o at least 65% of such aggregate principal amount of Senior Notes
remains outstanding immediately after each such redemption (other
than Senior Notes held, directly or indirectly, by us); and
o each such redemption occurs within 60 days after the date of the
related public offering.
Upon the occurrence of a change of control, GrafTech Finance will be
required to make an offer to repurchase the Senior Notes at a price equal to
101.00% of the principal amount redeemed, plus accrued and unpaid interest to
the redemption date. For this purpose, a change in control occurs on:
o the date on which any person beneficially owns more than 35% of
the total voting power of GTI; or
o the date on which individuals, who on the issuance date of the
Senior Notes were directors of GTI (or individuals nominated or
elected by a vote of 66 2/3% of such directors or directors
previously so elected or nominated), cease to constitute a
majority of GTI's Board of Directors then in office; or
o the date on which a plan relating to the liquidation or
dissolution of GTI is adopted; or
o the date on which GTI merges or consolidates with or into another
person, or another person merges into GTI, or all or
substantially all of GTI's assets are sold (determined on a
consolidated basis), with certain specified exceptions; or
o the date on which GTI ceases to own, directly or indirectly, all
of the voting power of GrafTech Global, UCAR Carbon and GrafTech
Finance.
The Senior Notes rank senior to present and future subordinated debt and
equally with present and future senior debt and obligations of GrafTech Finance.
The Senior Notes are effectively subordinated to present and future secured debt
and obligations of GrafTech Finance, to the extent of the value of the assets
securing such debt and obligations, and are structurally subordinated to debt
and obligations, including trade payables, of subsidiaries that are neither
guarantors of the Senior Notes nor unsecured intercompany term note obligors.
GTI, GrafTech Global and UCAR Carbon and other U.S. subsidiaries holding
a substantial majority of our U.S. assets have guaranteed the Senior Notes on a
senior unsecured basis, except that the guarantee by UCAR Carbon is secured as
described below. Additional information with respect to the guarantees is set
forth in Note 8.
Unsecured intercompany term notes in an aggregate principal amount at
June 30, 2003 equal to $485 million (based on currency exchange rates in effect
at June 30, 2003) and
18
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
guarantees of those unsecured intercompany term notes issued to GrafTech Finance
by certain of our foreign subsidiaries have been pledged by GrafTech Finance to
secure the Senior Notes, subject to the limitation that at no time will the
combined value of the pledged portion of any foreign subsidiary's unsecured
intercompany term note and unsecured guarantee of unsecured intercompany term
notes issued by other foreign subsidiaries exceed 19.99% of the principal amount
of the then outstanding Senior Notes. As a result of this limitation, the
principal amount of unsecured intercompany term notes pledged to secure the
Senior Notes at June 30, 2003 equals $391 million (based on currency exchange
rates in effect at June 30, 2003), or about 74% of the principal amount of the
outstanding Senior Notes. The remaining unsecured intercompany term notes held
by GrafTech Finance in an aggregate principal amount at June 30, 2003 of $94
million (based on currency exchange rates in effect at June 30, 2003), and any
pledged unsecured intercompany term notes that cease to be pledged due to a
reduction in the principal amount of the then outstanding Senior Notes due to
redemption, repurchase or other events, will not be subject to any pledge and
will be available to satisfy the claims of creditors (including the lenders
under the Senior Facilities and the holders of the Senior Notes) of GrafTech
Finance, as their interests may appear. The Senior Notes contain provisions
restricting, subject to certain exceptions, the pledge of those unsecured
intercompany term notes to secure any debt or obligation unless they are equally
and ratably pledged to secure the Senior Notes for so long as such other pledge
continues in effect.
The guarantee by UCAR Carbon has been secured by a pledge of all of our
shares of AET, but at no time will the value of the pledged portion of such
shares exceed 19.99% of the principal amount of the then outstanding Senior
Notes. The pledge of the shares of AET is junior to the pledge of the same
shares to secure UCAR Carbon's guarantee of the Senior Facilities.
The unsecured intercompany term note obligations rank senior to present
and future subordinated guarantees, debt and obligations of the respective
obligors, and equally with present and future senior guarantees, debt and
obligations of the respective obligors. The unsecured intercompany term note
obligations are effectively subordinated to present and future secured
guarantees, debt and obligations of the respective obligors, to the extent of
the value of the assets securing such guarantees, debt and obligations, and are
structurally subordinated to guarantees, debt and obligations, including trade
payables, of subsidiaries of the respective obligors that are not also unsecured
intercompany term note obligors.
The Senior Notes contain a number of covenants that, among other things,
restrict our ability to incur additional indebtedness, pay dividends, make
investments, create or permit to exist restrictions on distributions from
subsidiaries, sell assets, engage in certain transactions with affiliates or
enter into certain mergers and consolidations.
In addition to the failure to pay principal and interest when due or to
repurchase Senior Notes when required, events of default under the Senior Notes
include: failure to comply with applicable covenants; failure to pay at maturity
or upon acceleration indebtedness exceeding $10
19
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
million; judgment defaults in excess of $10 million to the extent not covered by
insurance; and certain events of bankruptcy.
The Senior Notes contain provisions as to legal defeasance and covenant
defeasance.
Senior Facilities
The Senior Facilities consist of:
o A Tranche A Facility which provided for initial term loans of
$137 million and (euro)161 million to GrafTech Finance. At June
30, 2003, the Tranche A Facility had been fully repaid and
terminated.
o A Tranche B Facility providing for initial term loans of $350
million to GrafTech Finance. At June 30, 2003, the principal
amount of term loans outstanding under the Tranche B Facility was
$137 million, all of the scheduled principal payments of which
are due in 2007.
o A Revolving Facility providing for dollar and euro-denominated
revolving and swing line loans to, and the issuance of
dollar-denominated letters of credit for the account of, GrafTech
Finance and certain of our other subsidiaries in an aggregate
principal and stated amount at any time not to exceed,
initially,(euro)250 million and, at June 30, 2003, (euro)200
million ((euro)25 million of which can only be used to pay or
secure payment of the fine assessed by the EU Competition
Commission). The Revolving Facility terminates on February 22,
2006. As a condition to each borrowing under the Revolving
Facility, we are required to represent, among other things, that
the aggregate amount of payments made (excluding certain imputed
interest) and additional reserves created in connection with
antitrust, securities and stockholder derivative investigations,
lawsuits and claims do not exceed $340 million by more than $75
million (which $75 million is reduced by the amount of certain
debt (excluding the Senior Notes) incurred by us that is not
incurred under the Senior Facilities ($12 million of which debt
was outstanding at June 30, 2003)).
We are generally required to make mandatory prepayments in the amount
of:
o Either 75% or 50% (depending on our net debt leverage ratio,
which is the ratio of our net debt to our EBITDA (as defined in
the Senior Facilities)) of excess cash flow. The obligation to
make these prepayments, if any, arises after the end of each year
with respect to adjusted excess cash flow during the prior year;
o 100% of the net proceeds of certain asset sales or incurrence of
certain indebtedness; and
o 50% of the net proceeds of the issuance of certain GTI equity
securities.
20
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
We may make voluntary prepayments under the Senior Facilities. There is
no penalty or premium due in connection with prepayments (whether voluntary or
mandatory).
GrafTech Finance has made and may make secured and guaranteed
intercompany loans of the net proceeds of borrowings under the Senior Facilities
to GrafTech Global's subsidiaries. The obligations of GrafTech Finance under the
Senior Facilities are secured, with certain exceptions, by first priority
security interests in all of these intercompany loans (including the related
security interests and guarantees). We used the proceeds from the issuance of
the Senior Notes in February 2002 to finance the repayment of all of these
intercompany loans that were outstanding at that time, except for intercompany
revolving loans to UCAR Carbon and our Swiss subsidiary.
GTI guarantees the obligations of GrafTech Finance under the Senior
Facilities. This guarantee is secured, with certain exceptions, by first
priority security interests in all of the outstanding capital stock of GrafTech
Global and GrafTech Finance, all of the intercompany debt owed to GTI and GTI's
interest in the lawsuit initiated by us against our former parents.
GTI, GrafTech Global and each of GrafTech Global's subsidiaries
guarantees, with certain exceptions, the obligations of GrafTech Global's
subsidiaries under the intercompany loans, except that our foreign subsidiaries
do not guarantee the intercompany loan obligations of our U.S. subsidiaries.
The obligations of GrafTech Global's subsidiaries under the intercompany
loans as well as these guarantees are secured, with certain exceptions, by first
priority security interests in substantially all of our assets, except that no
more than 65% of the capital stock or other equity interests in our foreign
subsidiaries held directly by our U.S. subsidiaries, and no other foreign
assets, secure obligations or guarantees of our U.S. subsidiaries.
Each of the guarantees is full, unconditional and joint and severable,
except as otherwise required to comply with applicable non-U.S. laws. Payment
under the guarantees could be required immediately upon the occurrence of an
event of default under the Senior Facilities. If a guarantor makes a payment
under its guarantee, it would have the right under certain circumstances to seek
contribution from the other guarantors.
At June 30, 2003, the interest rate applicable to the Revolving Facility
is, at our option, either euro LIBOR plus a margin ranging from 1.375% to 3.375%
(depending on our leverage ratio) or the alternate base rate plus a margin
ranging from 0.375% to 2.375% (depending on our leverage ratio). At June 30,
2003, the interest rate applicable to the Tranche B Facility is, at our option,
either euro LIBOR plus a margin ranging from 2.875% to 3.625% (depending on our
leverage ratio) or the alternate base rate plus a margin ranging from 1.875% to
2.625% (depending on our leverage ratio). The alternate base rate is the higher
of the prime rate announced by JP Morgan Chase Bank or the federal funds
effective rate, plus 0.50%. GrafTech Finance pays a per annum fee ranging from
0.375% to 0.500% (depending on our leverage ratio) on the undrawn portion of the
commitments under the Revolving Facility. At June 30, 2003, the
21
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
interest rates on outstanding debt under the Senior Facilities were: Tranche B
Facility, 5.0%; and dollar-denominated borrowings under the Revolving Facility,
4.8%. The weighted average interest rate on the Senior Facilities was 5.1%
during the 2003 second quarter and 5.5% during the 2002 second quarter and 5.1%
during the 2003 first half and 5.6% during the 2002 first half.
The Senior Facilities contain a number of significant covenants that,
among other things, significantly restrict our ability to sell assets, incur
additional debt, repay or refinance other debt or amend other debt instruments,
create liens on assets, enter into sale and lease back transactions, make
investments or acquisitions, engage in mergers or consolidations, make capital
expenditures, make intercompany dividend payments to GTI, pay intercompany debt
owed to GTI, engage in transactions with affiliates, pay dividends to
stockholders of GTI or make other restricted payments and that otherwise
significantly restrict corporate activities. In addition, we are required to
comply with financial covenants relating to specified minimum interest coverage
ratios and maximum net senior secured debt leverage ratios (which is the ratio
of our net senior secured debt to our EBITDA (as defined in the Senior
Facilities)), which become more restrictive over time, beginning September 30,
2003.
Under the Senior Facilities, GTI is permitted to pay dividends on, and
repurchase, common stock in an aggregate annual amount of $25 million, plus up
to an additional $25 million if certain leverage ratio and excess cash flow
requirements are satisfied. We are also permitted to repurchase common stock
from present or former directors, officers or employees in an aggregate amount
of up to the lesser of $5 million per year (with unused amounts permitted to be
carried forward) or $25 million on a cumulative basis since February 22, 2000.
In addition to the failure to pay principal, interest and fees when due,
events of default under the Senior Facilities include: failure to comply with
applicable covenants; failure to pay when due, or other defaults permitting
acceleration of, other indebtedness exceeding $7.5 million; judgment defaults in
excess of $7.5 million to the extent not covered by insurance; certain events of
bankruptcy; and certain changes in control.
Certain Amendments to Senior Facilities
In February 2002, the Senior Facilities were amended to, among other
things, permit us to issue up to $400 million aggregate principal amount of
Senior Notes. The amendment also changed the manner in which net debt and EBITDA
(as defined in the Senior Facilities) are calculated for financial covenant
purposes with respect to certain expenses incurred in connection with the
lawsuit initiated by us against our former parents and any letter of credit
issued to secure payment of the antitrust fine assessed against us by the EU
Competition Authority. In connection therewith, we paid an amendment fee of $1
million and the margin that is added to either euro LIBOR or the alternate base
rate in order to determine the interest rate payable thereunder increased by
37.5 basis points.
In May 2002, the Senior Facilities were amended to, among other things,
permit us to issue up to $150 million aggregate principal amount of Senior
Notes. In connection with this
22
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
amendment, our maximum permitted leverage ratio was changed to measure the ratio
of net senior secured debt to EBITDA (as defined in the Senior Facilities) as
against new specified amounts. Our interest coverage ratio was also changed. We
believe that these changed ratios provide us with greater flexibility. In
addition, the amendment reduced the maximum amount available under the Revolving
Facility to (euro)200 million from (euro)250 million ((euro)25 million of which
can only be used to pay or secure payment of the fine assessed by the EU
Competition Authority) and reduced the basket for certain debt incurred by us
that is not incurred under the Senior Facilities (excluding the Senior Notes) to
$75 million from $130 million ($11 million of which debt was outstanding at June
30, 2003). In connection with the amendment and a consent to amend the Senior
Notes to permit such issuance, we paid fees and costs of $1 million.
Leverage
We are highly leveraged and, as discussed in Note 7, have substantial
obligations in connection with antitrust investigations, lawsuits and claims (in
respect of which we have an unfunded reserve totaling $94 million). We had total
debt of $709 million (including $6 million for unamortized bond premium) and a
stockholders' deficit of $349 million at June 30, 2003. A substantial portion of
our debt has variable interest rates or has been effectively converted from a
fixed rate obligation to a variable rate obligation pursuant to interest rate
management initiatives. We typically discount or factor a portion of our
accounts receivable. In the 2003 first half, certain of our subsidiaries sold
receivables totaling $96 million. In addition, if we are required to pay or
issue a letter of credit to secure payment of the fine assessed by the antitrust
enforcement authority of the European Union (the "EU COMPETITION AUTHORITY")
pending resolution of our appeal regarding the amount of the fine, the payment
would be financed by borrowing under, or the letter of credit would constitute a
borrowing under, the Revolving Facility.
We use, and are dependent on, funds available under the Revolving
Facility as well as monthly or quarterly cash flow from operations as our
primary sources of liquidity. As a result, we are dependent upon continued
compliance with the financial covenants under the Senior Facilities. In
addition, while the Revolving Facility provides for maximum borrowings of up to
(euro)200 million ($230 million, based on currency exchange rates in effect at
June 30, 2003), our future ability to borrow under the Revolving Facility may
effectively be less because of the impact of additional borrowings upon our
compliance with the maximum net senior secured debt leverage ratio permitted or
minimum interest coverage ratio required under the Senior Facilities.
Our high leverage and substantial obligations in connection with
antitrust investigations, lawsuits and claims could have a material impact on
our liquidity. Cash flow from operations services payment of our debt and these
obligations, thereby reducing funds available to us for other purposes. Our
leverage and these obligations make us more vulnerable to economic downturns or
in the event that these obligations are greater or timing of payment is sooner
than expected.
Our ability to service our debt as it comes due, including maintaining
compliance with the financial covenants under the Senior Facilities, and to meet
these and other obligations as
23
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
they come due is dependent on our future financial and operating performance.
This performance, in turn, is subject to various factors, including certain
factors beyond our control, such as changes in conditions affecting our
industry, changes in global and regional economic conditions, changes in
interest and currency exchange rates, developments in antitrust investigations,
lawsuits and claims involving us and inflation in raw material, energy and other
costs.
Even if we are able to meet our debt service and other obligations when
due, we may not be able to comply with the covenants and other provisions under
the Senior Facilities. These covenants and provisions include financial
covenants and representations regarding absence of material adverse changes
affecting us. A failure to so comply, unless waived by the lenders thereunder,
would be a default thereunder. This would permit the lenders to accelerate the
maturity of the Senior Facilities. It would also permit them to terminate their
commitments to extend credit under the Revolving Facility. This would have an
immediate material adverse effect on our liquidity. An acceleration of maturity
of the Senior Facilities would permit the holders of the Senior Notes to
accelerate the maturity of the Senior Notes. A breach of the covenants contained
in the Senior Notes would also permit the holders of the Senior Notes to
accelerate the maturity of the Senior Notes. Acceleration of maturity of the
Senior Notes would permit the lenders to accelerate the maturity of the Senior
Facilities and terminate their commitments to extend credit under the Revolving
Facility. If we were unable to repay our debt to the lenders and holders or
otherwise obtain a waiver from the lenders and holders, the lenders and holders
could proceed against the collateral securing the Senior Facilities and the
Senior Notes, respectively, and exercise all other rights available to them. If
we were unable to repay our debt to the lenders or the holders, or otherwise
obtain a waiver from the lenders or the holders, we could be required to limit
or discontinue, temporarily or permanently, certain of our business plans,
activities or operations, reduce or delay certain capital expenditures, sell
certain of our assets or businesses, restructure or refinance some or all of our
debt or incur additional debt, or sell additional common stock or other
securities. We cannot assure you that we would be able to obtain any such waiver
or take any of such actions on favorable terms or at all.
As described above, we are dependent on the Revolving Facility and
continuing compliance with the financial covenants under the Senior Facilities
for liquidity. The Senior Facilities require us to, among other things, comply
with financial covenants relating to specified minimum interest coverage and
maximum net senior secured debt leverage ratios that become more restrictive
over time. At June 30, 2003, we were in compliance with the financial covenants
under the Senior Facilities. Based on our current business plan, we believe we
will remain in compliance with the financial covenants for 2003. If we were to
believe that we would not continue to comply with the financial covenants, we
would seek an appropriate waiver or amendment from the lenders thereunder. We
cannot assure you that we would be able to obtain such waiver or amendment on
acceptable terms or at all.
24
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(6) FINANCIAL INSTRUMENTS
We use derivative financial instruments for managing well-defined
currency exchange rate risks and interest rate risks. We do not use derivative
financial instruments for trading purposes.
Foreign Currency Contracts
The amount of foreign exchange contracts used by us to minimize foreign
currency exposure was $56 million at December 31, 2002 and $17 million at June
30, 2003.
Sale of Receivables
Certain of our U.S. and foreign subsidiaries sold receivables of $96
million in the 2003 first half and $94 million in the 2002 first half.
Receivables sold and remaining on the Consolidated Balance Sheets were $1
million at December 31, 2002 and nil at June 30, 2003.
Interest Rate Risk Management
We implement interest rate management initiatives to seek to optimize
the risk profile of our portfolio of fixed and variable interest rate
obligations and lower our effective interest costs. Use of these initiatives is
allowed under the Senior Notes and the Senior Facilities.
Our interest rate swaps described below are designated as hedging the
exposure to changes in the fair value of our related debt obligation (referred
to as a fair value hedge). The gain or loss on the fair value hedge is recorded,
together with the offsetting gain or loss on the debt obligation (sometimes
referred to as the short-cut method), in the Consolidated Statements of
Operations in the period of change in value.
In the 2003 first quarter, we entered into an additional $200 million
notional amount interest rate swap (bringing our total notional amount of swaps
to $450 million) through the remaining term of the Senior Notes, effectively
converting that amount of fixed rate debt to variable rate debt. Subsequently in
the 2003 first quarter, we sold the entire $450 million notional amount of swaps
for $10 million in cash. Following the sale of the swaps, in the 2003 first
quarter, we entered into $350 million notional amount of interest rate swaps
through the remaining term of the Senior Notes. Subsequently, in the 2003 second
quarter, we entered into an additional $50 million notional amount interest rate
swap (bringing our total notional amount of swaps to $400 million). The swaps
reduced our interest expense by approximately $3 million during the 2003 second
quarter and by approximately $6 million during the 2003 second half.
Subsequently, we sold the total notional amount of $400 million of swaps to
allow for the accelerated collection of $21 million in cash in the 2003 second
quarter. The proceeds from the sale of the swaps are being amortized over the
term of the Senior Notes and recorded as a credit against interest expense. See
Note 11 regarding additional interest rate swap transaction during July 2003.
25
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In the 2003 first quarter, we entered into interest rate caps for a
notional amount of $300 million. In the 2003 second quarter, we also entered
into additional interest rate caps for a notional amount of $200 million
(bringing our total notional amount of caps to $500 million through August
2007).
The adjustment for the fair value of the hedged debt obligation was $8
million at December 31, 2002 and nil at June 30, 2003 and has been recorded as
part of other assets in the Consolidated Balance Sheets. The adjustment for the
fair value of the interest rate caps was $2 million for the six months ended
June 30, 2003, and has been recorded as a charge to other (income) expense, net,
in the Consolidated Statements of Operations.
Fair Market Value Disclosures
SFAS No. 107, "Disclosure about Fair Market Value of Financial
Instruments," defines the fair value of a financial instrument as the amount at
which the instrument could be exchanged in a current transaction between willing
parties. Such fair values must often be determined by using one or more methods
that indicate value based on estimates of quantifiable characteristics as of a
particular date. Values were estimated as follows:
Cash and cash equivalents, short-term notes and accounts receivables,
accounts payable and other current payables-The carrying amount
approximates fair value because of the short maturity of these
instruments.
Debt-Fair value of debt was approximately $586 million at December 31,
2002 and $669 million at June 30, 2003.
Foreign currency contracts-Foreign currency contracts are carried at
market value. The market value of the contracts was a loss of
approximately $3 million at December 31, 2002 and a loss of
approximately $2 million at June 30, 2003.
Interest rate swaps-See "Interest Rate Risk Management."
(7) CONTINGENCIES
Antitrust Investigations
In April 1998, pursuant to a plea agreement between the U.S. Department
of Justice (the "DOJ") and GTI, GTI pled guilty to a one count charge of
violating U.S. federal antitrust law in connection with the sale of graphite
electrodes and was sentenced to pay a non-interest-bearing fine in the aggregate
amount of $110 million. The plea agreement was approved by the U.S. District
Court for the Eastern District of Pennsylvania (the "DISTRICT COURT") and, as a
result, under the plea agreement, we will not be subject to prosecution by the
DOJ with respect to any other violations of U.S. federal antitrust law occurring
prior to April 1998. At our request, in January 2002, the payment schedule for
the $60 million unpaid balance outstanding at that time
26
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
was revised to require a $2.5 million payment in April 2002, a $5.0 million
payment in April 2003 and, beginning in April 2004, quarterly payments ranging
from $3.25 million to $5.375 million, through January 2007. Beginning in 2004,
the DOJ may ask the District Court to accelerate the payment schedule based on a
change in our ability to make such payments. Interest will begin to accrue on
the unpaid balance, commencing in April 2004, at the statutory rate of interest
then in effect. At June 30, 2003, the statutory rate of interest was 1.09% per
annum. Accrued interest will be payable together with each quarterly payment.
The revised payment schedule has been approved by the District Court. All
payments due have been timely paid.
In October 1999, we became aware that the Korean antitrust authority had
commenced an investigation as to whether there had been any violation of Korean
antitrust law by producers and distributors of graphite electrodes. In March
2002, we were advised that the Korean antitrust authority had assessed a fine
against us in the amount of 676 million KRW ($569,000, based on currency
exchange rates in effect at the time of payment) and assessed fines against five
other graphite electrode producers in amounts ranging up to 4,396 million KRW
(approximately $3.3 million, based on currency exchange rates in effect at the
time of the decision imposing the fine). Our fine, which represented 0.5% of our
graphite electrode sales in Korea during the relevant time period and was the
lowest fine as a percentage of sales imposed by the Korean antitrust authority,
reflected a substantial reduction as a result of our cooperation with that
authority during its investigation. In May 2002, we appealed the decision. In
July 2002, the Korean antitrust authority affirmed its decision on appeal. We
paid the fine together with accrued interest, an aggregate of $584,000, in
August 2002.
In January 2000, the EU Competition Authority issued a statement of
objections initiating proceedings against us and other producers of graphite
electrodes. The statement alleges that we and other producers violated antitrust
laws of the European Community and the European Economic Area in connection with
the sale of graphite electrodes. In July 2001, the EU Competition Authority
issued its decision regarding the allegations. Under the decision, the EU
Competition Authority assessed a fine of (euro)50.4 million (about $58 million,
based on exchange rates in effect at June 30, 2003) against us and assessed
fines against seven other graphite electrode producers in amounts ranging up to
(euro)80.2 million. From the initiation of its investigation, we have cooperated
with the EU Competition Authority. As a result of our cooperation, our fine
reflects a substantial reduction from the amount that otherwise would have been
assessed. It is the policy of the EU Competition Authority to negotiate
appropriate terms of payment of antitrust fines, including extended payment
terms. We have had discussions regarding payment terms with the EU Competition
Authority. After an in-depth analysis of the decision, in October 2001, we filed
an appeal to the Court of First Instance of the European Communities in
Luxembourg (the "COURT") challenging the amount of the fine. In July 2003, the
Court heard oral argument on this appeal and we are awaiting its decision. The
fine or collateral security therefor would typically be required to be paid or
provided at about the time the appeal was filed. We have had discussions with
the EU Competition Authority regarding the appropriate form of collateral
security during the pendency of the appeal. If the EU Competition
27
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Authority seeks to require payment of the fine or provision of collateral
security therefor, we may file an interim appeal to the Court to waive or modify
such requirement. We cannot predict how or when the Court would rule on such an
interim appeal.
In May 2001, we became aware that the Brazilian antitrust authority had
requested written information from various steelmakers in Brazil. In April 2002,
our Brazilian subsidiary received a request for information from that authority.
We have provided that information.
In May 2002, the EU Competition Authority issued a statement of
objections initiating proceedings against us and other producers of specialty
graphite. The statement alleges that we and other producers violated European
antitrust laws in connection with the sale of specialty graphite. In December
2002, the EU Competition Authority issued its decision regarding the
allegations. Under the decision, the EU Competition Authority assessed no fine
against us and assessed fines against seven other producers in amounts ranging
up to (euro)28 million. We received a 100% reduction from the amount that
otherwise would have been assessed against us due to our cooperation.
Except as described above, the antitrust investigations against us in
the U.S., Canada, the European Union, Japan and Korea have been resolved. We are
continuing to cooperate with the DOJ, the EU Competition Authority and the
Canadian Competition Bureau in their continuing investigations of others. In
October 1997, we were served with subpoenas by the DOJ to produce documents
relating to, among other things, our carbon electrode and bulk graphite
businesses. It is possible that antitrust investigations seeking, among other
things, to impose fines and penalties could be initiated against us by antitrust
authorities in Brazil or other jurisdictions.
To the extent that antitrust investigations involving us have been
resolved with guilty pleas or by adverse decisions, such guilty pleas and
decisions make it more difficult for us to defend against other investigations
as well as civil lawsuits and claims. We have been vigorously protecting, and
intend to continue to vigorously protect, our interests in connection with the
investigations described above. We may, however, at any time settle any possible
unresolved charges.
Antitrust Lawsuits
Through June 30, 2003, except as described in the following paragraphs,
we have settled or obtained dismissal of all of the civil antitrust lawsuits
(including class action lawsuits) previously pending against us, certain civil
antitrust lawsuits threatened against us and certain possible civil antitrust
claims against us by certain customers who negotiated directly with us. The
settlements cover, among other things, virtually all claims against us by
customers in the U.S. and Canada arising out of alleged antitrust violations
occurring prior to the date of the relevant settlements in connection with the
sale of graphite electrodes. One of the settlements also covers the actual and
respective potential claims against us by certain foreign customers arising out
of alleged antitrust violations occurring prior to the date of that settlement
in
28
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
connection with the sale of graphite electrodes sourced from the U.S. Although
each settlement is unique, in the aggregate they consist primarily of current
and deferred cash payments with some product credits and discounts. All payments
due have been timely paid.
In 1999 and 2000, we and other producers of graphite electrodes were
served with three complaints commencing three separate civil antitrust lawsuits
in the District Court. In March 2002, we were served with another complaint
commencing a separate civil antitrust lawsuit in the District Court. These
lawsuits are called the "FOREIGN CUSTOMER LAWSUITS." The first complaint,
entitled Ferromin International Trade Corporation, et al. v. UCAR International
Inc., et al., was filed by 27 steelmakers and related parties, all but one of
whom are located outside the U.S. The second complaint, entitled BHP New Zealand
Ltd. et al. v. UCAR International Inc., et al. was filed by 4 steelmakers, all
of whom are located outside the U.S. The third complaint, entitled Saudi Iron
and Steel Company v. UCAR International Inc., et al., was filed by a steelmaker
who is located outside the U.S. The fourth complaint, entitled Arbed, S.A., et
al. v. Mitsubishi Corporation, et al., was filed by 5 steelmakers, all of whom
are located outside the U.S. In each complaint, the plaintiffs allege that the
defendants violated U.S. federal antitrust law in connection with the sale of
graphite electrodes sold or sourced from the U.S. and those sold and sourced
outside the U.S. The plaintiffs seek, among other things, an award of treble
damages resulting from such alleged antitrust violations. We believe that we
have strong defenses against claims alleging that purchases of graphite
electrodes outside the U.S. are actionable under U.S. federal antitrust law. We
filed motions to dismiss the first and second complaints. In June 2001, our
motions to dismiss the first and second complaints were granted with respect to
substantially all of the plaintiffs' claims. Appeals have been filed by the
plaintiffs and the defendants with the U.S. Court of Appeals for the Third
Circuit with regard to these dismissals. The U.S. Court of Appeals for the Third
Circuit heard oral argument on these appeals on March 11, 2003, and we are
awaiting its decision. The third complaint was dismissed without prejudice to
refile pending the resolution of such appeals. We filed a motion to stay the
lawsuit commenced by the fourth complaint pending resolution of appeals in the
other foreign customer lawsuits and such motion was granted in July 2002.
In 1999 and 2000, we were served with three complaints commencing three
civil antitrust lawsuits (the "CARBON ELECTRODE LAWSUITS"). The first complaint,
filed in the District Court, is entitled Globe Metallurgical, Inc. v. UCAR
International Inc., et al. The second complaint, initially filed in the U.S.
Bankruptcy Court for the Northern District of Ohio and subsequently transferred
to the U.S. District Court for the Northern District of Ohio, Eastern Division,
is now entitled Cohen & Co., Distribution Trustee v. UCAR International Inc., et
al. (In re Simetco, Inc.). The third complaint, filed in the U.S. District Court
for the Southern District of West Virginia, is entitled Elkem Metals Company Inc
and Elkem Metals Company Alloy LLP v. UCAR Carbon Company Inc., et al. SGL
Carbon AG is also named as a defendant in the first complaint and SGL Carbon
Corporation is also named as a defendant in the first and third complaints. In
the complaints, the plaintiffs allege that the defendants violated U.S. federal
antitrust law in connection with the sale of carbon electrodes and seek, among
other things, an award of treble damages resulting from such alleged violations.
In October 2001, we settled the lawsuit
29
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
commenced by the third complaint. In September 2002, we settled the lawsuit
commenced by the first complaint. In January 2003, we settled the lawsuit
commenced by the second complaint. The guilty pleas and decisions described
above do not relate to carbon electrodes.
In the 2002 first quarter, we and other producers of cathodes were
served with a complaint commencing a civil antitrust lawsuit in the U.S.
District Court for the District of Oregon entitled Northwest Aluminum Company,
et al. vs. VAW Aluminum A.G., et al (the "CARBON CATHODE LAWSUIT"). The
complaint was filed by two producers of aluminum. In the complaint, the
plaintiffs allege that the defendants violated U.S. federal antitrust law in
connection with the sale of cathodes and seek, among other things, an award of
treble damages resulting from such alleged violations. In November 2002, we
settled this lawsuit. The guilty pleas and decisions described above do not
relate to cathodes.
In December 2002 and January 2003, we and other producers of bulk
graphite were served with two complaints commencing two civil class action
antitrust lawsuits. The first complaint, filed in the U.S. District Court for
the District of New Jersey, is entitled Industrial Graphite Products, Inc. v.
Carbone Lorraine North America Corporation, et al. The second complaint, filed
in the same court, is entitled Ceradyne, Inc. v. Carbone Lorraine North America
Corporation, et al. In February 2003, we learned that a class action complaint
commencing a civil class action antitrust lawsuit had been filed against us and
other producers of bulk graphite in the District Court entitled General
Refractories Company v. GrafTech International Ltd., et al. In March 2003, this
lawsuit was dismissed by the District Court without prejudice. In March 2003, we
learned that two complaints commencing civil class action antitrust lawsuits had
been filed against us and other producers of bulk graphite in the U.S. District
Court for the District of New Jersey entitled General Refractories Company v.
GrafTech International Ltd., et al. and Midwest Graphite Co., Inc. v. SGL
Carbon, LLC, et al., respectively. The lawsuits commenced by the first, second,
fourth and fifth complaints, along with a lawsuit commenced by a sixth complaint
filed only against SGL Carbon, LLC, SGL Carbon A.G. and SGI Carbon GmbH, were
subsequently consolidated or are subject to consolidation into a single lawsuit
in the United States District Court for the District of New Jersey entitled In
re: Bulk [Extruded] Graphite Products Antitrust Litigation (the "BULK GRAPHITE
LAWSUITS"). In the bulk graphite lawsuits, the plaintiffs allege that the
defendants violated U.S. federal antitrust law in connection with the sale of
bulk graphite and seek, among other things, an award of treble damages resulting
from such alleged violations. In March 2003, we reached an agreement to settle
the bulk graphite lawsuits. The guilty pleas and decisions described above do
not relate to bulk graphite.
The foreign customer lawsuits are still in their early stages. We have
been vigorously defending, and intend to continue to vigorously defend, against
these remaining lawsuits as well as all threatened lawsuits and possible
unasserted claims. We may at any time, however, settle these lawsuits as well as
any threatened lawsuits and possible claims. It is possible that additional
civil antitrust lawsuits seeking, among other things, to recover damages could
be commenced against us in the U.S. and in other jurisdictions.
30
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Antitrust Earnings Charges
We have recorded pre-tax charges of $350 million against results of
operations as a reserve for potential liabilities and expenses in connection
with antitrust investigations and related lawsuits and claims. The reserve of
$350 million is calculated on a basis net of, among other things, imputed
interest on installment payments of the DOJ fine. Actual aggregate liabilities
and expenses (including settled investigations, lawsuits and claims as well as
continuing investigations, pending appeals and unsettled pending, threatened and
possible lawsuits and claims mentioned above) could be materially higher than
$350 million and the timing of payment thereof could be sooner than anticipated.
The fines and net settlements and expenses are within the amounts we used to
evaluate the aggregate charge of $350 million. To the extent that aggregate
liabilities and expenses, net, are known or reasonably estimable, at June 30,
2003, $350 million represents our estimate of these liabilities and expenses.
Our insurance has not and will not materially cover liabilities that have or may
become due in connection with antitrust investigations or related lawsuits or
claims.
Through June 30, 2003, we have paid an aggregate of $256 million of
fines and net settlement and expense payments and $19 million of imputed
interest. At June 30, 2003, $94 million remained in the reserve. The balance of
the reserve is available for the fine payable to the DOJ (excluding imputed
interest thereon), the fine assessed by the EU Competition Authority and other
matters. The aggregate amount of remaining committed payments payable to the DOJ
for imputed interest at June 30, 2003 was nil.
Other Proceedings Against Us
We are involved in various other investigations, lawsuits, claims and
other legal proceedings incidental to the conduct of our business. While it is
not possible to determine the ultimate disposition of each of them, we do not
believe that their ultimate disposition will have a material adverse effect on
us.
Lawsuit Initiated by Us Against Our Former Parents
In February 2000, at the direction of a special committee of independent
directors of GTI's Board of Directors, we commenced a lawsuit in the U.S.
District Court for the Southern District of New York against our former parents,
Mitsubishi Corporation and Union Carbide Corporation. The other defendants named
in the lawsuit include two of the respective representatives of Mitsubishi and
Union Carbide who served on GTI's Board of Directors at the time of our 1995
leveraged equity recapitalization, Hiroshi Kawamura and Robert D. Kennedy. Mr.
Kennedy, who was a director of GTI at the time the lawsuit was commenced,
resigned as such on March 14, 2000.
In the lawsuit, we allege, among other things, that, in January 1995,
Mitsubishi and Union Carbide had knowledge of facts indicating that GTI had
engaged in illegal graphite electrode price fixing activities and that any
determination of GTI's statutory capital surplus
31
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
would be overstated as a result of those activities. We also allege that certain
of their representatives knew or should have known about those activities. In
January 2000, Mitsubishi was indicted by the DOJ on a one count charge of aiding
and abetting violations of U.S. federal antitrust law in connection with the
sale of graphite electrodes. Mitsubishi entered a plea of not guilty. In
February 2001, a jury found Mitsubishi guilty of the charge. Mitsubishi entered
into a sentencing agreement with the DOJ, which was approved by the District
Court, pursuant to which Mitsubishi agreed to pay a fine of $134 million and not
appeal its conviction. Mitsubishi has also been named as a defendant in several
civil antitrust lawsuits commenced by electric arc furnace steel producers with
respect to its alleged participation in those activities. In addition, we allege
that, in January 1995, GTI did not have the statutory capital surplus required
to lawfully authorize the payments that GTI made to its former parents. We also
allege that Mitsubishi and Union Carbide were unjustly enriched by receipts from
their investments in GTI and that they knowingly induced or actively and
substantially assisted former senior management of GTI to engage in illegal
graphite electrode price fixing activities in breach of their fiduciary duties
to GTI.
Based on the allegations summarized above, we are seeking to recover
from Mitsubishi and Union Carbide more than $1.5 billion in damages, including
interest. Some of our claims provide for joint and several liability; however,
damages from our various claims would not generally be additive to each other.
The defendants have filed motions to dismiss this lawsuit and a motion
to disqualify certain of our counsel from representing us in this lawsuit. Oral
hearings were held on those motions in the 2001 first and second quarters. The
court approved a motion to disqualify certain of our counsel in November 2002,
and denied our motion to reconsider that decision. We do not believe that either
that decision or the adverse ruling on such motion for reconsideration will
adversely affect this lawsuit. The court has not ruled on the motions to
dismiss.
We expect to incur $10 million to $20 million for legal expenses to
pursue this lawsuit from the date of filing the complaint through trial. Through
June 30, 2003, we had incurred about $5 million of these legal expenses. This
lawsuit is in its earliest stages. The ultimate outcome of this lawsuit is
subject to many uncertainties. We may at any time settle this lawsuit.
(8) FINANCIAL INFORMATION ABOUT THE PARENT, THE ISSUER, THE GUARANTORS AND
THE SUBSIDIARIES WHOSE SECURITIES SECURE THE SENIOR NOTES AND RELATED
GUARANTEES
On February 15, 2002, GrafTech Finance (the "ISSUER") issued $400
million aggregate principal amount of Senior Notes and, on May 6, 2002, $150
million aggregate principal amount of additional Senior Notes. The Senior Notes
have been guaranteed on a senior basis by GTI (the "PARENT") and GrafTech
Global, UCAR Carbon and other subsidiaries holding a substantial majority of our
U.S. assets, which subsidiaries are UCAR International Holdings Inc., UCAR
International Trading Inc., UCAR Carbon Technology LLC, UCAR Composites Inc. and
UCAR Holdings III Inc. The guarantors (other than the Parent) are collectively
called the "U.S. GUARANTORS." The guarantees of the U.S. Guarantors are
unsecured, except that the guarantee of
32
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
UCAR Carbon has been secured by a pledge of all of our shares of AET, but in no
event will the value of the pledged portion of such shares exceed 19.99% of the
principal amount of the then outstanding Senior Notes. All of the guarantees are
full, unconditional and joint and several, and the Issuer and each of the U.S.
Guarantors are 100% owned by the Parent. If a U.S. Guarantor makes a payment
under its guarantee, it would have the right under certain circumstances to seek
contribution from the other U.S. Guarantors. Payment under the guarantees could
be required immediately upon the occurrence of an event of default under the
Senior Notes. AET and our other subsidiaries, which are not guarantors, are
called the "NON-GUARANTORS." The following table sets forth condensed
consolidating balance sheets at December 31, 2002 and June 30, 2003 and
condensed consolidating statements of operations and cash flows for the three
months and six months ended June 30, 2002 and 2003 of the Parent, the Issuer,
the U.S. Guarantors and the Non-Guarantors. Provisions in the Senior Facilities
restrict the payment of dividends by our subsidiaries to the Parent. At June 30,
2003, retained earnings of our subsidiaries subject to such restrictions were
approximately $482 million. Investments in subsidiary companies are recorded on
the equity basis.
33
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONDENSED CONSOLIDATING BALANCE SHEET
AT JUNE 30, 2003
(Unaudited)
June 30, 2003
-------------
U.S. Non-
Parent Issuer Guarantors Guarantors Eliminations Consolidated
------ ------ ---------- ---------- ------------ ------------
(Dollars in millions)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents............. $ - $ - $ 2 $ 5 $ 1 $ 8
Notes and accounts receivable......... 1 827 448 122 (1,279) 119
Inventories:
Raw materials and supplies........ - - 2 44 (1) 45
Work in process................... - - 29 90 1 120
Finished goods.................... - - 8 24 (3) 29
------- -------- -------- ------- -------- -------
1 - 39 158 (3) 194
Prepaid expenses and deferred income
taxes............................... - 4 11 14 (2) 27
Assets of discontinued operations..... - - 17 - (17) -
------- -------- -------- ------- -------- -------
Total current assets.............. 1 831 517 299 (1,300) 348
------- -------- -------- ------- -------- -------
Property, plant and equipment............ - - 301 773 (4) 1,070
Less: accumulated depreciation.......... - - (260) (481) (1) (742)
------- -------- -------- ------- -------- -------
Net fixed assets...................... - - 41 292 (5) 328
------- -------- -------- ------- -------- -------
Deferred income taxes and other assets... 21 24 (77) 127 148 243
------- -------- -------- ------- -------- -------
Total assets.......................... $ 22 $ 855 $ 481 $ 718 $ (1,157) $ 919
======= ======== ======== ======= ======== =======
LIABILITIES AND STOCKHOLDERS' EQUITY
(DEFICIT)
CURRENT LIABILITIES:
Accounts payable...................... $ 42 $ 26 $ 48 $ 87 $ (98) $ 105
Short-term debt....................... 389 - 224 586 (1176) 23
Accrued income and other taxes........ (8) 22 (4) 22 - 32
Other accrued liabilities............. - - 74 39 (37) 76
Liabilities of discontinued operations - - 5 - (2) 3
------- -------- -------- ------- -------- -------
Total current liabilities......... 423 48 347 734 (1,313) 239
------- -------- -------- ------- -------- -------
Long-term debt........................... (20) 704 - 2 - 686
Other long-term obligations.............. - 38 190 47 - 275
Deferred income taxes.................... - (12) - 37 14 39
Minority stockholders' equity in
consolidated entities.................. - - - 28 1 29
Stockholders' equity (deficit)........... (381) 77 (56) (130) 141 (349)
------- -------- -------- ------- -------- -------
Total liabilities and stockholders'
equity (deficit).................... $ 22 $ 855 $ 481 $ 718 $ (1,157) $ 919
======= ======== ======== ======= ======== =======
34
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONDENSED CONSOLIDATING BALANCE SHEET
AT DECEMBER 31, 2002
December 31, 2002
-----------------
U.S. Non-
Parent Issuer Guarantors Guarantors Eliminations Consolidated
------ ------ ---------- ---------- ------------ ------------
(Dollars in millions)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents............. $ - $ - $ 4 $ 7 $ - $ 11
Notes and accounts receivable, net.... - 752 466 255 (1,369) 104
Inventories:
Raw materials and supplies........ - - 2 38 (1) 39
Work in process................... - - 30 71 1 102
Finished goods.................... - - 10 23 (3) 30
------- -------- -------- ------- -------- -------
- - 42 132 (3) 171
Prepaid expenses and deferred income
taxes............................... - - 8 13 - 21
Assets of discontinued operations..... - - 14 - - 14
------- -------- -------- ------- -------- -------
Total current assets.............. - 752 534 407 (1,372) 321
Net fixed assets...................... - - 36 268 (4) 300
Deferred income taxes and other assets... 47 34 (33) 120 70 238
------- -------- -------- ------- -------- -------
Total assets.......................... $ 47 $ 786 $ 537 $ 795 $ (1,306) $ 859
======= ======== ======== ======= ======== =======
LIABILITIES AND STOCKHOLDERS' EQUITY
(DEFICIT)
CURRENT LIABILITIES:
Accounts payable...................... $ 21 $ 26 $ 30 $ 89 $ (61)$ 105
Short-term debt....................... 416 - 231 668 (1,297) 18
Accrued income and other taxes........ (24) (3) 36 18 (4) 23
Other accrued liabilities............. - - 36 39 (18) 57
Liabilities of discontinued operations - - 3 - - 3
------- -------- -------- ------- -------- -------
Total current liabilities......... 413 23 336 814 (1,380) 206
------- -------- -------- ------- -------- -------
Long-term debt........................... - 711 - 2 - 713
Other long-term obligations.............. - 9 203 45 1 258
Deferred income taxes.................... - (5) (1) 36 3 33
Minority stockholders' equity in
consolidated entities.................. - - - 30 - 30
Stockholders' equity (deficit)........... (366) 48 (1) (132) 70 (381)
------- -------- -------- ------- -------- -------
Total liabilities and stockholders'
equity (deficit).................... $ 47 $ 786 $ 537 $ 795 $ (1,306) $ 859
======= ======== ======== ======= ======== =======
35
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED JUNE 30, 2002 AND 2003
(Unaudited)
Three Months Ended June 30, 2002
--------------------------------
U.S. Non-
Parent Issuer Guarantors Guarantors Eliminations Consolidated
------ ------ ---------- ---------- ------------ ------------
(Dollars in millions)
Net sales.................................. $ - $ - $ 59 $ 133 $ (35) $ 157
Cost of sales.............................. - - 49 103 (30) 122
------- -------- -------- ------- ------- --------
Gross profit............................. - - 10 30 (5) 35
R&D, SG&A, global realignment and related
expenses, restructuring charge and
impairment loss of long-lived and other
assets, and other expenses............... 5 (16) (91) 19 113 30
Interest income............................ - (12) (6) - 18 -
Interest expense........................... 6 16 4 9 (18) 17
------- -------- -------- ------- ------- --------
Income (loss) before provision for
income taxes........................... (11) 12 103 2 (118) (11)
Provision for (benefit from) income taxes.. (4) 4 (13) 8 - (5)
------- -------- -------- ------- ------- --------
Income (loss) of consolidated entities
from continuing operations............. (7) 8 116 (6) (118) (6)
Minority stockholders' share of income..... - - - - - -
Income from discontinued operations........ - - - - - -
Equity in earnings of subsidiaries......... - - 124 - (124) -
------- -------- -------- ------- ------- --------
Net income (loss)..................... $ (7) $ 8 $ (8) $ (6) $ 6 $ (7)
======= ======== ======== ======= ======= ========
Three Months Ended June 30, 2003
--------------------------------
U.S. Non-
Parent Issuer Guarantors Guarantors Eliminations Consolidated
------ ------ ---------- ---------- ------------ ------------
(Dollars in millions)
Net sales.................................. $ - $ - $ 64 $ 156 $ (39) $ 181
Cost of sales.............................. - - 54 123 (39) 138
------- -------- -------- ------- ------- --------
Gross profit............................. - - 10 33 - 43
R&D, SG&A, global realignment and related
expenses, restructuring charge and
impairment loss of long-lived and other
assets, and other expenses............... - (18) 17 19 - 18
Interest income............................ - (17) - 1 16 -
Interest expense........................... 10 13 - 6 (16) 13
------- -------- -------- ------- ------- --------
Income (loss) before provision for
income taxes........................... (10) 22 (7) 7 - 12
Provision for (benefit from) income taxes.. (4) 12 (5) 2 - 5
------- -------- -------- ------- ------- --------
Income (loss) of consolidated entities
from continuing operations............. (6) 10 (2) 5 - 7
Minority stockholders' share of income..... - - - 1 - 1
Income from discontinued operations........ - - - - - -
Gain on the sale of discontinued operations - - 1 - - 1
Equity in earnings of subsidiaries......... (13) - (4) 4 17 -
------- -------- -------- ------- ------- --------
Net income (loss)..................... $ 7 $ 10 $ 3 $ 4 $ (17) $ 7
======= ======== ======== ======= ======= ========
36
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 2002 AND 2003
(Unaudited)
Six Months Ended June 30, 2002
------------------------------
U.S. Non-
Parent Issuer Guarantors Guarantors Eliminations Consolidated
------ ------ ---------- ---------- ------------ ------------
(Dollars in millions)
Net sales.................................. $ - $ - $ 108 $ 252 $ (69) $ 291
Cost of sales.............................. - - 91 195 (60) 226
------- -------- -------- ------- ------- --------
Gross profit............................. - - 17 57 (9) 65
R&D, SG&A, global realignment and related
expenses, restructuring charge and
impairment loss of long-lived and other
assets, and other expenses............... 5 (15) (103) 39 131 57
Interest income............................ - (24) (12) (4) 40 -
Interest expense........................... 12 32 9 17 (40) 30
------- -------- -------- ------- ------- --------
Income (loss) before provision for (17) 7 123 5 (140) (22)
income taxes...........................
Provision for (benefit from) income taxes.. (6) 4 (26) 17 - (11)
------- -------- -------- ------- ------- --------
Income (loss) of consolidated entities
from continuing operations............. (11) 3 149 (12) (140) (11)
Minority stockholders' share of income..... - - - 1 - 1
Income from discontinued operations........ - - 1 - - 1
Equity in earnings of subsidiaries......... - - 153 - (153) -
------- -------- -------- ------- ------- --------
Net income (loss)..................... $ (11) $ 3 $ (3) $ (13) $ 13 $ (11)
======= ======== ======== ======= ======= ========
Six Months Ended June 30, 2003
------------------------------
U.S. Non-
Parent Issuer Guarantors Guarantors Eliminations Consolidated
------ ------ ---------- ---------- ------------ ------------
(Dollars in millions)
Net sales.................................. $ - $ - $ 122 $ 306 $ (77) $ 351
Cost of sales.............................. - - 102 244 (77) 269
------- -------- -------- ------- ------- --------
Gross profit............................. - - 20 62 - 82
R&D, SG&A, global realignment and related
expenses, restructuring charge and
impairment loss of long-lived and other
assets and other expenses................ 1 (13) 52 17 - 57
Interest income............................ - (33) - - 33 -
Interest expense........................... 20 26 - 14 (33) 27
------- -------- -------- ------- ------- --------
Income (loss) before provision for
income taxes........................... (21) 20 (32) 31 - (2)
Provision for (benefit from) income taxes.. (8) 15 (13) 7 - 1
------- -------- -------- ------- ------- --------
Income (loss) of consolidated entities
from continuing operations............. (13) 5 (19) 24 - (3)
Minority stockholders' share of income..... - - - 1 - 1
Income from discontinued operations........ - - 1 - - 1
Gain on the sale of discontinued operations - - 1 - - 1
Equity in earnings of subsidiaries......... (11) - (23) - 34 -
------- -------- -------- ------- ------- --------
Net income (loss)..................... $ (2) $ 5 $ 6 $ 23 $ (34) $ (2)
======= ======== ======== ======= ======= ========
37
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2002 AND 2003
(Unaudited)
Six Months Ended June 30, 2002
------------------------------
U.S. Non-
Parent Issuer Guarantors Guarantors Eliminations Consolidated
------ ------ ---------- ---------- ------------ ------------
(Dollars in millions)
Net cash provided by (used in) operating
activities from continuing operations. $ (23) $ 70 $ 109 $ (243) $ 51 $ (36)
Net cash provided by (used in) operating
activities from discontinuing
operations............................ - - - - - -
------- -------- -------- ------- ------- --------
Net cash used in operating activities.... (23) 70 109 (243) 51 (36)
Net cash provided by (used in) investing
activities............................ - 133 92 255 (500) (20)
Net cash provided by (used in) financing
activities............................ 23 (209) (207) 10 449 66
------- -------- -------- ------- ------- --------
Net increase (decrease) in cash and cash
equivalents........................... - (6) (6) 22 - 10
Effect of exchange rate changes on cash
and cash equivalents.................. - - - 3 - 3
Cash and cash equivalents at beginning -
of period............................. - 16 8 14 38
------- -------- -------- ------- ------- --------
Cash and cash equivalents at end of
period................................ $ - $ 10 $ 2 $ 39 $ - $ 51
======= ======== ======== ======= ======= ========
Six Months Ended June 30, 2003
------------------------------
U.S. Non-
Parent Issuer Guarantors Guarantors Eliminations Consolidated
------ ------ ---------- ---------- ------------ ------------
(Dollars in millions)
Net cash provided by (used in) operating
activities from continuing operations. $ 27 $ 33 $ (16) $ (54) $ (16) $ (26)
Net cash provided by (used in) operating
activities from discontinuing
operations............................ - - 1 - - 1
------- -------- -------- ------- ------- --------
Net cash provided by (used in) operating
activities............................ 27 33 (15) (54) (16) (25)
Net cash used in investing activities
from continuing operations............ - - (20) - - (20)
Proceeds from sale of discontinued -
operations............................ - - 15 - 15
Net cash provided by (used in) investing
activities............................ - (60) 20 137 (102) (5)
Net cash provided by (used in) financing
activities............................ (27) 27 (7) (85) 119 27
------- -------- -------- ------- ------- --------
Net increase (decrease) in cash and cash
equivalents........................... - - (2) (2) 1 (3)
Effect of exchange rate changes on cash
and cash equivalents.................. - - - - - -
Cash and cash equivalents at beginning
of period............................. - - 4 7 - 11
------- -------- -------- ------- ------- --------
Cash and cash equivalents at end of
period................................ $ - $ - $ 2 $ 5 $ 1 $ 8
======= ======== ======== ======= ======= ========
38
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Unsecured intercompany term notes in an aggregate principal amount, at
June 30, 2003, equal to $485 million (based on currency exchange rates in effect
at June 30, 2003), and guarantees of those unsecured intercompany term notes,
issued to GrafTech Finance by certain of our foreign subsidiaries have been
pledged by GrafTech Finance to secure the Senior Notes, subject to the
limitation that at no time will the combined value of the pledged portion of any
foreign subsidiary's unsecured intercompany term note and unsecured guarantee of
unsecured intercompany term notes issued by other foreign subsidiaries exceed
19.99% of the principal amount of the then outstanding Senior Notes.
As described above, the guarantee of the Senior Notes by UCAR Carbon has
been secured by a pledge of all of our shares of AET, but at no time will the
value of the pledged portion of such shares exceed 19.99% of the principal
amount of the then outstanding Senior Notes.
Rule 3-16 of Regulation S-X adopted by the SEC provides that, for each
of the registrant's affiliates whose securities constitute a "substantial"
portion of the collateral for registered securities, financial statements (that
would be required to be filed if the affiliate were a registrant) must be filed
with this Report. Under Rule 3-16(b), securities of a person will be deemed to
constitute a "substantial" portion of the collateral if the aggregate principal
amount, par value, or book value of securities as carried by the registrant, or
the market value of such securities, whichever is the greatest, equals 20% or
more of the principal amount of the registered securities. In this case, the
pledges of common stock of AET and the intercompany notes and related guarantees
have been limited such that they will never be more than 19.99% of the principal
amount of the outstanding Senior Notes. Therefore, no such financial statements
are required to be included in this Report.
(9) OTHER (INCOME) EXPENSE, NET
The following table presents an analysis of other (income) expense, net.
Six Months Ended
June 30
-------
2002 2003
---- ----
Interest income............................ $ (2) $ -
Currency gains............................. (20) (19)
Bank and other financing fees.............. 2 2
Fair value adjustment on interest rate
caps..................................... - 2
Write-off of capitalized bank fees......... 4 -
Legal fees (not related to antitrust
investigations and related lawsuits
and claims).............................. 2 2
Global realignment......................... 3 -
Gain on Senior Note for common stock
exchange................................. - (1)
Relocation expenses........................ - 1
Other...................................... 2 3
------ ------
Total other (income) expense, net....... $ (9) $ (10)
====== ======
39
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
We have intercompany loans between GrafTech Finance and some of our
other subsidiaries. Some of these loans are denominated in currencies other than
the dollar and, accordingly, are subject to translation gains and losses due to
changes in currency exchange rates. Some of these intercompany loans are deemed
to be essentially permanent and, as a result, translation gains and losses on
these loans are reflected in accumulated other comprehensive income (loss) on
the Consolidated Balance Sheets. The remaining intercompany loans are expected
to be repaid in the foreseeable future and, as a result, translation gains and
losses on these loans are reflected in other (income) expense, net on the
Consolidated Statement of Operations. The translation gains and losses on these
loans were a net gain of $18 million and $16 million in the 2002 first half and
the 2003 first half, respectively, and are included in the line entitled
"currency gains" in the preceding table.
In the 2002 first half, we recorded an extraordinary charge of $4
million ($3 million, net of tax) for the write-off of capitalized fees
associated with the term loans under Tranche A and B Facilities repaid with the
net proceeds from the issuance of Senior Notes. This amount has been
reclassified and included as other (income) expense, net, for the six months
ended June 30, 2002 in accordance with SFAS No. 145 relating to SFAS No. 4.
In 2002, we substantially completed the realignment of our foreign
subsidiaries, which resulted in tax savings. The expenses incurred to implement
the realignment (which are referred to as global realignment and related
expenses) have been classified into other (income) expense, net.
(10) DISCONTINUED OPERATIONS
In June 2003, we sold certain assets and operations of our non-strategic
composite tooling business to a third party for approximately $17 million,
including an approximately $2 million working capital adjustment. We received
$15 million in cash prior to June 30, 2003. We recorded an approximately $1
million (net of tax) gain related to the sale. As a result, the composite
tooling business is reflected as a discontinued operation in accordance with
SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets."
We reflected prior year results of the composite tooling business as a
discontinued operation on the Consolidated Statements of Operations.
The following table sets forth the results of the discontinued
operation.
Year Ended Six Months Ended
December 31, 2002 June 30, 2003
----------------- -------------
(Dollars in millions)
Net sales......................... $17 $ 9
Income before provision for
income taxes.................... $ 2 $ 1
40
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In addition, the assets and liabilities of the discontinued operation
have been presented separately in the Consolidated Balance Sheets. The amounts
at December 31, 2002 have been reclassified to conform to the June 30, 2003
presentation.
The following table sets forth the assets and liabilities of the
discontinued operation.
December 31, 2002 June 30, 2003
----------------- -------------
(Dollars in millions)
Current assets.......................... $ 6 $ -
Property, plant and equipment, net...... 8 -
----- -----
Total assets........................ $ 14 $ -
===== =====
Current liabilities..................... $ 3 $ 3
----- -----
Total liabilities................... $ 3 $ 3
===== =====
(11) SUBSEQUENT EVENT
In July 2003, we entered into an additional interest rate swap for a
notional amount of $500 million to effectively convert that amount of fixed rate
debt to variable rate debt. As a result, our interest rate swaps currently
relate to $500 million notional amount of debt in the aggregate.
In July and August 2003, we exchanged $30 million aggregate principal
amount of Senior Notes, plus accrued interest of approximately $1 million, for
5,404,329 shares of common stock.
In July 2003, we adopted a long term incentive program. Under this
program, we granted five and one-half-year options to certain officers and
managers to purchase an aggregate of 2,921,500 shares of common stock at an
exercise price equal to the fair market value at the date of grant. The options
vest five years from the grant date and expire five months later. Accelerated
vesting occurs if certain cash flow performance targets are achieved in each of
2003, 2004 and 2005.
41
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
INTRODUCTION TO PART I, ITEM 2, AND PART II, ITEM 1
IMPORTANT TERMS
We use various terms to identify companies, groups of companies or other
matters. These terms help to simplify the presentation of information and are
defined in the Notes to Consolidated Financial Statements in this Report.
PRESENTATION OF FINANCIAL, MARKET AND LEGAL DATA
We present our financial information on a consolidated basis. This means
that we consolidate financial information for all subsidiaries where our
ownership is greater than 50%. As a result, the financial information for
Carbone Savoie and AET is consolidated on each line of the Consolidated
Financial Statements and the equity of the other owners in those subsidiaries is
reflected on the lines entitled "minority stockholders' equity in consolidated
entities" and "minority stockholders' share of income." We use the equity method
to account for 50% or less owned interests.
References to cost in the context of our low-cost supplier strategy do
not include the impact of special or non-recurring charges, expenses or credits,
such as those related to investigations, lawsuits or claims, restructurings or
impairments, or the impact of changes in accounting principles.
The legal and tax restructuring and global realignment mentioned in this
Report are part of the corporate realignment of our subsidiaries. The tax
benefits from the realignment (which are called tax benefits from legal and tax
restructuring) have been recorded separately from expenses to implement the
realignment (which are called global realignment and related expenses).
All cost savings and reductions relating to our 2002 major cost savings
plan are estimates or targets based on a comparison to costs in 2001 (and
assuming no change in currency exchange rates from the average rates we used to
prepare the Consolidated Financial Statements at and for the year ended December
31, 2001 and no change in annual graphite electrode production volume). For
these purposes, our average graphite electrode production cost per metric ton
was determined based on annual graphite electrode production volume of about
180,000 metric tons, our annual overhead costs, together with research and
development costs, were $90 million, our annual interest expense was $60 million
and our effective income tax rate was 45% before taking into account the
realignment of our subsidiaries.
Neither any statement made in this Report nor any charge taken by us
relating to any legal proceedings constitutes an admission as to any wrongdoing.
Unless otherwise specifically noted, market and market share data in
this Report are our own estimates. Market data relating to the steel industry,
our general expectations concerning such industry and our market position and
market share within such industry, both domestically
42
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
and internationally, are derived from publications by the International Iron and
Steel Institute and other industry sources as well as assumptions made by us,
based on such data and our knowledge of the industry. Market data relating to
the fuel cell power generation industry, our general expectations concerning
such industry and our market position and market share within such industry,
both domestically and internationally, are derived from publications by
securities analysts relating to Ballard Power Systems Inc., other industry
sources and public filings, press releases and other public documents of Ballard
Power Systems as well as assumptions made by us, based on such data and our
knowledge of the industry. Market and market share data relating to the graphite
and carbon industry as well as cost information relating to our competitors, our
general expectations concerning such industry and our market position and market
share within such industry, both domestically and internationally, are derived
from the sources described above and public filings, press releases and other
public documents of our competitors as well as assumptions made by us, based on
such data and our knowledge of the industry. Although we are not aware of any
misstatements regarding any industry or market share data, our estimates involve
risks and uncertainties and are subject to change based on various factors,
including those discussed under "Forward-Looking Statements and Risks." We
cannot guarantee the accuracy or completeness of this market and market share
data and have not independently verified it. None of the sources mentioned above
has consented to the disclosure or use of data in this Report.
Unless otherwise noted, when we refer to dollars, we mean U.S. dollars.
Unless otherwise noted, references to "MARKET SHARES" are based on sales
volumes in 2002 and references to "MAJOR PRODUCT LINES" mean graphite
electrodes, cathodes and natural graphite-based products.
The GRAFTECH logo, GRAFCELL(R), eGRAF(TM), GRAFOIL(R), GRAFGUARD(R) and
GRAFSHIELD(R) are our trademarks and trade names. This Report also contains
trademarks and trade names belonging to other parties.
We make available free of charge on or through our web site copies of
our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports
on Form 8-K and amendments to those reports filed or furnished pursuant to
Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as
reasonably practicable after we electronically file them with, or furnish them
to, the SEC. A copy of our Code of Conduct and Ethics and any waivers thereunder
are also available on or through our web site. We maintain a web site at
http://www.graftech.com. The information contained on our web site is not part
of this Report.
Reference is made to the Annual Report for background information on
various risks and contingencies and other matters related to circumstances
affecting us and our industry.
FORWARD LOOKING STATEMENTS AND RISKS
This Report contains forward looking statements. In addition, from time
to time, we or our representatives have made or may make forward looking
statements orally or in writing.
43
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
These include statements about such matters as: future production and sales of
steel, aluminum, fuel cells, electronic devices and other products that
incorporate our products or that are produced using our products; future prices
and sales of and demand for graphite electrodes and our other products; future
operational and financial performance of various businesses; strategic plans;
impacts of regional and global economic conditions; interest rate management
activities; restructuring, realignment, strategic alliance, supply chain,
technology development and collaboration, investment, acquisition, joint
venture, operating, integration, tax planning, rationalization, financial and
capital projects; legal matters and related costs; consulting fees and related
projects; potential offerings, sales and other actions regarding debt or equity
securities of us or our subsidiaries; and future costs, working capital,
revenues, business opportunities, values, debt levels, cash flows, cost savings
and reductions, margins, earnings and growth. The words "will," "may," "plan,"
"estimate," "project," "believe," "anticipate," "intend," "should," "target,"
"goal," "expect" and similar expressions identify some of these statements.
Actual future events and circumstances (including future performance,
results and trends) could differ materially from those set forth in these
statements due to various factors. These factors include:
o the possibility that global or regional economic conditions
affecting our products may not improve or may worsen due to
geopolitical events, governmental actions or other factors;
o the possibility that anticipated additions to capacity for
producing steel in electric arc furnaces or anticipated
reductions in graphite electrode manufacturing capacity may not
occur;
o the possibility that increased production of steel in electric
arc furnaces or reductions in graphite electrode manufacturing
capacity may not result in stable or increased demand for or
prices or sales volume of graphite electrodes;
o the possibility that economic or technological developments may
adversely affect growth in the use of graphite cathodes in lieu
of carbon cathodes in the aluminum smelting process;
o the possibility that anticipated additions to aluminum smelting
capacity using graphite cathodes may not occur or that increased
production of graphite cathodes by competitors may occur;
o the possibility that increased production of aluminum or stable
production of graphite cathodes by competitors may not result in
stable or increased demand for or prices or sales volume of
graphite cathodes;
o the possibility of delays in or failure to achieve widespread
commercialization of proton exchange membranes ("PEM") fuel cells
which use natural graphite materials
44
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
and components or that manufacturers of PEM fuel cells may obtain
those materials or components from other sources;
o the possibility of delays in or failure to achieve successful
development and commercialization of new or improved electronic
thermal management or other products;
o the possibility of delays in meeting or failure to meet
contractually specified or other product development milestones
or delays in expanding or failure to expand our manufacturing
capacity to meet growth in demand for new or improved products,
if any;
o the possibility that end markets for our other products may not
improve or may worsen;
o the possibility that we may be unable to protect our intellectual
property or may infringe the intellectual property rights of
others;
o the occurrence of unanticipated events or circumstances relating
to antitrust investigations, lawsuits or claims or to the lawsuit
initiated by us against our former parents;
o the possibility that expected cost savings from our 2002 major
cost savings plan or our other cost savings efforts will not be
fully realized;
o the possibility that the anticipated benefits from the corporate
realignment of our subsidiaries or the refinement of our
organizational structure into three lines of business may be
delayed or may not occur;
o the possibility that our provision for income taxes and effective
income tax rate (as distinguished from our tax payments) may
fluctuate significantly based on changes in financial performance
of subsidiaries in various countries, changes in estimates of
future ability to use foreign tax credits, changes in tax laws
and other factors;
o the occurrence of unanticipated events or circumstances relating
to health, safety or environmental compliance or remediation
obligations or liabilities to third parties, labor relations, raw
material or energy supplies, or strategic plans;
o changes in interest rates, in currency exchange rates (including
those impacting our euro-denominated antitrust liabilities or
intercompany loans denominated in currencies other than U.S.
dollars), in competitive conditions or in inflation affecting our
raw material, energy or other costs;
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o the possibility of failure to satisfy conditions or milestones
under, or occurrence of breach of terms of, our strategic
alliances with Pechiney, Ballard, ConocoPhillips or others;
o the possibility that changes in financial performance may affect
our compliance with financial covenants or the amount of funds
available for borrowing under the Senior Facilities; and
o other risks and uncertainties, including those described
elsewhere in this Report or in the Annual Report, as well as
future decisions by us.
Occurrence of any of the events or circumstances described above could
also have a material adverse effect on our business, financial condition,
results of operations or cash flows.
No assurance can be given that any future transaction about which
forward looking statements may be made will be completed or as to the timing or
terms of any such transaction.
All subsequent written and oral forward looking statements by or
attributable to us or persons acting on our behalf are expressly qualified in
their entirety by these factors. Except as otherwise required to be disclosed in
periodic reports required to be filed by public companies with the SEC pursuant
to the SEC's rules, we have no duty to update these statements.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
GENERAL
We are one of the world's largest manufacturers and providers of high
quality natural and synthetic graphite- and carbon-based products and services,
offering energy solutions to industry-leading customers worldwide. We
manufacture and deliver high quality graphite and carbon electrodes and
cathodes, used primarily in electric arc furnace steel production and aluminum
smelting. We also manufacture other natural and synthetic graphite and carbon
products used in, and provide services to, the fuel cell power generation,
electronics, semiconductor, transportation, chemical and petrochemical markets.
We have over 100 years of experience in the research and development of graphite
and carbon technology, and currently hold numerous patents related to this
technology.
We believe that our electrode and cathode businesses have the leading
market shares in the world. We are a global business, selling our products and
engineering and technical services in more than 70 countries. We have 13
manufacturing facilities strategically located in Brazil, Mexico, South Africa,
France, Spain, Russia and the U.S. Our customers include industry leaders such
as Nucor Corporation and Arcelor in steel, Alcoa Inc. and Pechiney in aluminum,
Ballard Power Systems Inc. in fuel cells, Intel Corporation in electronics and
MEMC Electronic Materials in semiconductors.
Our core competencies include graphite and carbon material sciences and
high temperature processing know-how. We believe that we operate industry
leading research, development and testing facilities. We also have strategic
alliances with Pechiney, the world leader in aluminum smelting technology,
Ballard Power Systems, the world leader in PEM fuel cell technology, and leaders
in the electronic thermal management and other industries.
In 2002, our businesses were organized around two operating divisions,
our Graphite Power Systems Division, which included our graphite electrode and
cathode businesses, and our Advanced Energy Technology Division, which included
our natural graphite and advanced synthetic graphite and carbon materials
businesses. In 2003, we further refined the organization of our businesses into
three lines of business:
o a synthetic graphite line of business called Graphite Power
Systems, which primarily serves the steel, aluminum,
semiconductor and transportation industries and includes graphite
electrodes, cathodes and other advanced synthetic graphite
materials;
o a natural graphite line of business called Advanced Energy
Technology, which primarily serves the transportation, power
generation, electronics and chemical industries and includes fuel
cell, electronic thermal management and sealant products and
services; and
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o a carbon materials line of business called Advanced Carbon
Materials, which primarily serves the silicon metal and
ferro-alloy industries and includes carbon electrodes and
refractories.
We believe that our new organizational structure better aligns our
advantaged manufacturing platform with market opportunities and enables
accelerated decision-making to respond to those opportunities. Under this
organizational structure, we are further streamlining our operations and
revising our compensation programs to strengthen our business strategies. A main
component of both our annual and long-term incentive compensation programs is a
direct link between incentive compensation and the cash profitability of our
businesses.
Our management team has actively repositioned our manufacturing network,
improved product quality, reduced costs, reduced debt and other obligations, and
managed antitrust liabilities. We have also implemented an enterprise-wide risk
management process whereby we assess the business risks to our goal of
maximizing cash flow, using a structured and disciplined approach. This approach
seeks to align our people and processes with our critical strategic
uncertainties so that our management team and GTI's Board of Directors may
better evaluate and manage those uncertainties.
COST REDUCTION PLANS
OVERVIEW. GTI's Board of Directors adopted a global restructuring and
rationalization plan in September 1998 that delivered recurring annualized run
rate cost savings of $132 million by the end of 2001. In January 2002, we
announced a major cost savings plan that we believe is one of the most
aggressive major cost reduction plans being implemented in the graphite and
carbon industry.
2002 PLAN. The key elements of the 2002 plan consist of:
o the rationalization of graphite electrode manufacturing capacity
at our higher cost facilities and the incremental expansion of
capacity at our lower cost facilities;
o the redesign and implementation of changes in our U.S. benefit
plans for active and retired employees;
o the implementation of global work process changes;
o the corporate realignment of our subsidiaries to generate
significant tax savings; and
o non-strategic asset sales.
Under the 2002 plan, we are targeting recurring annual pre-tax cost
savings of $30 million in 2003, $60 million in 2004 and $80 million in 2005.
Savings achieved under the 2002 plan are additive to those which we achieved by
the end of 2001 under the 1998 plan that is now completed. We achieved total
cost savings of $14 million in 2002. Our target of $30 million of
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savings in 2003 represents an increase of $16 million over the savings achieved
in 2002, and should benefit primarily cost of sales and overhead over the last
three quarters of 2003.
Rationalization of graphite electrode manufacturing capacity. As part of
the 2002 plan, we mothballed our graphite electrode manufacturing operations in
Caserta, Italy during the 2002 first quarter, ahead of schedule. These
operations had the capacity to manufacture 26,000 metric tons of graphite
electrodes annually. After the shutdown of our graphite electrode manufacturing
operations in Clarksville and Columbia, Tennessee in the 2001 third quarter,
these operations were our highest cost graphite electrode manufacturing
operations. During the 2002 second quarter, we launched the expansion of our
graphite electrode manufacturing facility in Monterrey, Mexico, which has
increased its capacity from about 40,000 metric tons to about 60,000 metric tons
annually. We completed 10,000 metric tons of expansion at this facility by the
end of 2002. We completed the remaining 10,000 metric tons of expansion during
the 2003 first quarter. The 2003 second quarter was the first full quarter of
operation of the fully expanded capacity. We have also incrementally expanded
graphite electrode manufacturing capacity at our other facilities. After the
mothballing and expansions, our total annual graphite electrode manufacturing
capacity remains about 210,000 metric tons.
The mothballing of our graphite electrode manufacturing operations in
Caserta, Italy resulted in a $7 million restructuring charge and a $27 million
impairment loss on long-lived and other assets. These charges were recorded in
the 2001 fourth quarter. In the 2002 first quarter, we recorded an additional $5
million restructuring charge that included the estimated pension, severance and
other related employee benefit costs for the 102 employees affected by, and
other costs related to, the mothballing. In the 2002 fourth quarter, we recorded
an additional $1 million restructuring charge relating to a change in the
estimate for the restructuring charges previously recorded.
Redesign and implementation of U.S. benefit changes. In the 2001 fourth
quarter and 2002 first quarter, we redesigned and implemented changes in our
retiree medical insurance plan and our U.S. retirement and savings plans for
active and retired employees. Among other things, we froze our qualified defined
benefit plan and established a new defined contribution plan for most of our
U.S. employees.
On July 1, 2002, we amended our U.S. post-retirement medical coverage.
Effective March 31, 2003, we discontinued the Medicare supplement plan (for
retirees 65 years or older or those eligible for Medicare benefits). This change
applies to all current employees not covered by a collective bargaining
agreement, all current retirees who were not covered by a collective bargaining
agreement when they retired and those retirees who retired under a former
collective bargaining agreement.
Effective March 31, 2003, we froze our qualified defined benefit plan
for our remaining U.S. employees and closed our non-qualified U.S. defined
benefit plan for the participating salaried workforce. The closure and
settlement of our non-qualified defined benefit plan resulted in a $11 million
restructuring charge in the 2003 first quarter.
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We have terminated our executive life insurance program and, in the 2003
second quarter, liquidated the split dollar life insurance policies for
executives for net cash proceeds of approximately $3 million.
On June 25, 2003, we announced the termination of the early retiree
medical plan for retirees under age 65, effective December 31, 2005. In
addition, we will limit the amount of retiree's life insurance after December
31, 2004.
Implementation of global work process changes. We continue to implement
global business process transformation initiatives, including the streamlining
of our organizational structure into three major lines of business, the
consolidation and streamlining of order fulfillment, purchasing, finance and
accounting, and human resource processes, along with the identification and
implementation of outsourcing opportunities. Through June 30, 2003, our
investment in these initiatives included about $11 million of consulting fees
and internal costs and $13 million of capital expenditures, primarily for costs
related to implementation of global information technology systems for advanced
planning and scheduling software and global treasury management systems. We have
evaluated every aspect of our supply chain and improved and continue to improve
performance through realignment and standardization of supply chain processes
and systems and improvement of interfaces with trading partners.
Effective April 2001, we entered into a ten-year service contract with
CGI Group Inc. ("CGI") valued at $75 million. Pursuant to this contract, CGI
became the delivery arm for our global information technology service
requirements, including the design and implementation of our global information
and advanced manufacturing and demand planning processes, using J.D. Edwards
software. Through this contract, we are seeking to transform our information
technology service capability into an efficient, high quality enabler for our
global supply chain initiatives as well as a contributor to our cost reduction
activities. Under the outsourcing provisions of this contract, CGI manages our
data center services, networks, desktops, telecommunications and legacy systems.
Through this contract, we believe that we will be able to leverage the resources
of CGI to assist us in achieving our information technology goals and our cost
savings targets.
In the 2002 third quarter, we entered into a ten year outsourcing
contract with CGI valued at $36 million. Pursuant to this contract, CGI became
the delivery arm for our finance and accounting business process services,
including accounts receivable and accounts payable activities. CGI also provides
various related analytical services such as general accounting, cost accounting
and financial analysis activities. Through this contract, we believe that we
will be able to further leverage the resources of CGI to assist us in achieving
our cost savings targets.
Under the 2002 plan, we implemented voluntary and selective severance
programs. These programs were designed to compliment our global work process and
organizational redesign. From 1998 through 2002, we reduced our global workforce
by about 1,600 employees (or 30%). The voluntary and selective severance
programs are expected to reduce our global workforce by up to an additional 200
employees (or about 5%). During the 2003 first quarter,
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we substantially completed the U.S. voluntary and selective severance programs,
resulting in a reduction of 103 U.S. employees, or 27% of the U.S. salaried
workforce. As a result, we recorded an $8 million restructuring charge in the
2003 first quarter. We expect additional severance costs or charges associated
with further global work process changes of approximately $6 million to occur
over the next 12 to 18 months.
Corporate realignment of our subsidiaries. The realignment of our
foreign subsidiaries was substantially completed in the 2002 first half and has
contributed and is expected to continue to contribute to the achievement of our
targeted cost savings.
Non-strategic asset sales. As part of the ongoing asset sale program, we
sold our non-strategic composite tooling business based in Irvine, California in
June 2003 for approximately $17 million, including an approximately $2 million
working capital adjustment. We received $15 million in cash prior to June 30,
2003. We intend to continue to sell real estate, non-strategic businesses and
certain other non-strategic assets over the next eighteen months. We anticipate
that the aggregate estimated pre-tax, cash proceeds from these sales will total
$25 million in 2003 and $75 million by the end of 2004.
STRATEGIC ALLIANCES
We are pursuing strategic alliances that enhance or complement our
existing or related businesses. Strategic alliances may be in the form of joint
venture, licensing, supply or other arrangements.
We have developed a strategic alliance in the cathode business with
Pechiney, the world's recognized leader in aluminum smelting technology. To
broaden our alliance, in March 2001, we contributed our Brazilian cathode
manufacturing operations to Carbone Savoie. Pechiney, the 30% minority owner of
Carbone Savoie, contributed approximately $9 million in cash to Carbone Savoie
as part of this transaction. The cash contribution was used to upgrade
manufacturing operations in Brazil and France, which was completed by the end of
the 2002 first quarter. Ownership in Carbone Savoie remains 70% by us and 30% by
Pechiney. Under our now broadened alliance, Carbone Savoie holds our entire
cathode manufacturing capacity.
In April 2001, we entered into a graphite electrode production joint
venture with Jilin in China. We are required to make capital contributions of $6
million of cash ($2 million of which has been contributed to date) plus
technical assistance ($1 million of which has been contributed to date) for our
25% ownership interest in the joint venture. The successful implementation and
completion of the parties' capital contributions to the joint venture is subject
to the receipt of required Chinese governmental approvals and satisfaction of
other conditions. During the 2002 fourth quarter, we recorded an impairment loss
of $3 million associated with the investment in the joint venture. This
impairment resulted from uncertainty about the completion and start-up of the
joint venture facilities in China due to the effects that the challenging 2002
graphite electrode industry conditions had on Jilin. We continue to work closely
with Jilin on production alternatives. However, we will make no further
contributions to the joint venture until we have agreed upon production
alternatives.
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We have been working with Ballard Power Systems since 1992 on developing
natural graphite-based materials for use in its PEM fuel cells for power
generation. In June 2001, our subsidiary, AET, entered into an expanded
exclusive development and collaboration agreement and an expanded exclusive
long-term supply agreement with Ballard Power Systems. In addition, Ballard
Power Systems became a strategic investor in AET in June 2001, investing at that
time $5 million in shares of Ballard Power Systems common stock for a 2.5%
equity ownership interest in AET.
The scope of the expanded exclusive development and collaboration
agreement includes natural graphite-based materials and components, including
flow field plates and gas diffusion layers, for use in PEM fuel cells and PEM
fuel cell systems for transportation, stationary and portable applications. The
initial term of this agreement extends through 2011. Under the new supply
agreement, we will be the exclusive manufacturer and supplier of natural
graphite-based materials for Ballard Power Systems fuel cells and fuel cell
systems. We will also be the exclusive manufacturer of natural graphite-based
components, other than those components that Ballard Power Systems manufactures
for itself. The initial term of this agreement, which contains customary terms
and conditions, extends through 2016. We have the right to manufacture and sell,
after agreed upon release dates, natural graphite-based materials and components
for use in PEM fuel cells to other parties in the fuel cell industry.
GLOBAL ECONOMIC CONDITIONS AND OUTLOOK
We are impacted in varying degrees, both positively and negatively, as
global, regional or country conditions fluctuate.
Over the past three years, we have faced challenging business
conditions. Many of the customers in the markets that we serve have reduced
production levels (which reduced demand and adversely impacted prices for
products sold by us and our competitors), become less creditworthy, filed for
bankruptcy protection or were acquired as part of the consolidation and
rationalization trends within their industries. In order to seek to minimize our
credit risks, we reduced our sales of, or refused to sell (except for cash on
delivery), graphite electrodes to some customers and potential customers in the
U.S. and, to a limited extent, elsewhere. Our unrecovered trade receivables
worldwide was only 0.2% of global net sales during the same period. In addition,
we have been experiencing intense competition, particularly in the graphite
electrode industry. Two of our competitors, one in the U.S. and one in Europe,
have filed for bankruptcy protection. The competitor in the U.S. recently sold a
portion of its graphite electrode capacity to a third party bidder in a
bankruptcy auction process.
2002. Global economic conditions remained relatively weak in 2002.
However, electric arc furnace steel production rebounded from the depressed
level in 2001. We estimate that worldwide electric arc furnace steel production
increased by about 7% in 2002 (to a total of about 299 million metric tons,
about 33% of total steel production) from 2001. This increase was primarily due
to an increase in production in the U.S. and China and, to a limited extent, in
Mexico and Asia (other than China).
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In March 2002, President Bush announced his decision to impose tariffs,
of up to 30% initially and declining thereafter over a three year period, on
most imported steel as part of a broader plan to rescue the financially troubled
steel industry in the U.S. Several additional exemptions were granted in 2002 by
the Bush administration. We believe that the tariffs are having a modest
positive impact on electric arc furnace steel production in the U.S. While steel
imported from Mexico is exempt from the tariffs, steel imported from Europe and
Asia is not exempt. Steel production in those regions has been adversely
impacted by the tariffs. The tariffs are expected to remain in place through
2004. Further, import duties in China on both steel and graphite electrodes have
declined as a result of the admission of China to the World Trade Organization.
We cannot predict whether and to what extent these developments will impact our
global business over the long-term.
Worldwide graphite electrode demand was very depressed in the 2002 first
quarter, but rebounded from those depressed levels during the balance of 2002.
We utilized virtually 100% of our graphite electrode manufacturing capacity
during the last three quarters of 2002 and our volume of graphite electrodes
sold increased about 4% in 2002 from 2001. Overall, we believe that worldwide
graphite electrode demand increased modestly in 2002 as compared to 2001. While
we attempted to implement increases in graphite electrode prices in 2002, we
believe that graphite electrode pricing declined by about 10% (in average dollar
terms) in 2002 as compared to 2001, driven by a supply/demand imbalance as well
as global and industry economic conditions.
Demand and prices for cathodes remained strong primarily due to
construction of new aluminum smelters using graphite cathodes, even as old
smelters using carbon cathodes are removed from service. We used virtually 100%
of our cathode manufacturing capacity during 2002 and our volume of cathodes
sold increased about 10% in 2002 from 2001. Weak economic conditions in 2002
resulted in relatively low demand and weak pricing for our other products sold
to metals, transportation and other industries.
2003 FIRST HALF. Global and regional economic conditions strengthened
slightly in the 2003 first half. While steel production remained stable globally
and was particularly strong in China, certain end markets for steel such as the
automotive industry continued to be weak. We estimate that worldwide steel
production was about 470 million metric tons in the 2003 first half. We estimate
that total steel production in the 2003 second quarter was about 3% higher than
in the 2003 first quarter, and in the 2003 first half was about 8% higher than
in the 2002 first half. We estimate that electric arc furnace steel production
fluctuated correspondingly. We operated our graphite electrode manufacturing
capacity at very high levels, and estimate that industry wide graphite electrode
manufacturing capacity utilization rate was over 95% in the 2003 first half.
Graphite electrode price increases announced in the 2002 second half and
early 2003 have been successfully implemented. We announced, effective for new
orders placed after February 2003, price increases of (euro)100 per metric ton
for our graphite electrodes sold in Europe, $200 per metric ton for our graphite
electrodes sold in Asia, the Middle East, North Africa and
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South America and $0.05 per pound for our graphite electrodes sold in the U.S.
In June 2003, we announced the increase of graphite electrode prices in South
Africa to an average price range of $2,500 to $2,600 per metric ton. The South
African price increase represents the first price increase applicable to 2004
since annual contracts for South African graphite electrode orders run from July
1 to June 30. We also increased graphite electrode prices in Asia (except China)
and the Middle East by $500 per metric ton, effective for all new orders
beginning July 1, 2003. This price increase is expected to bring these regions
in line with current spot market prices in the U.S. and Europe. In July 2003, we
announced the increase of graphite electrode prices in North and South America
to $2,600 per metric ton effective August 1, 2003. We cannot predict whether we
will be able to maintain such price increases without adversely affecting sales
volume.
Demand for cathodes continued to remain strong during the 2003 first
half due primarily to construction of new aluminum smelters using graphite
cathodes. We used virtually 100% of our cathode manufacturing capacity in the
2003 first half. Demand for refractories was strong in the 2003 first half. Weak
economic conditions resulted in relatively low demand and weak pricing in the
2003 first half for our other products sold to metals, transportation and other
industries.
OUTLOOK. We do not expect a significant and sustainable recovery in
global economic conditions until the end of 2003, at the earliest. We believe
that the rebound we have experienced in graphite electrode demand from the
depressed level in early 2002 was primarily due to a correction from overly
depressed conditions in the steel industry and an increase in our market share
primarily due to the implementation of our strategies and the bankruptcy of two
of our graphite electrode competitors. Our graphite electrode and cathode order
books are virtually full for 2003. While we are encouraged by our graphite
electrode and cathode order books and expect to operate at capacity to meet
demand, we continue to monitor closely the steel and aluminum industries in
light of global and regional economic conditions.
Operation of our plants at capacity is expected to positively impact
graphite electrode and cathode production costs in 2003 as compared to 2002,
offset by higher energy, freight costs and the negative impact of net changes in
currency exchange rates on costs. In addition, we also expect to benefit from
the impact of our plant rationalization and other cost saving activities as well
as increased economies of scale.
We believe that business conditions for most of our products (other than
graphite electrodes and cathodes) will remain challenging throughout 2003. In
particular, demand for carbon electrodes in the U.S. and demand for advanced
graphite material products used in semiconductor, telecommunication and
electronic industries continues to be depressed. Accordingly, we expect the
financial performance of our businesses selling those products to remain similar
to 2002 levels. We will continue to seek to drive productivity improvements in
these businesses through our cost savings activities.
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We continue to focus on commercializing new technologies. In our natural
graphite line of business, we are seeking to commercialize approximately 20
active eGRAF(TM) thermal management product development programs that are
currently underway. Approximately half of these programs are already in the
product testing phase.
We implement interest rate management initiatives to seek to optimize
the risk profile of our portfolio of fixed and variable interest rate
obligations and lower our effective interest costs, as described under "Interest
Rate Risk Management" in Note 6 to the Notes to Consolidated Financial
Statements contained in this Report. We are targeting interest expense of
approximately $50 million for 2003.
We are targeting an effective income tax rate of 40% for 2003 and 35%
for 2004.
Our outlook could be significantly impacted by, among other things,
changes in interest rates by the U.S. Federal Reserve Board and the European
Central Bank, changes in tax and fiscal policies by the U.S. and other
governments, developments in the Middle East, the occurrence of further
terrorist acts and developments (including increases in security, insurance,
data back-up, energy and transportation and other costs, transportation delays
and continuing or increased economic uncertainty and weakness) resulting from
terrorist acts and the war on terrorism, and changes in global and regional
economic conditions.
FINANCING TRANSACTIONS
On February 15, 2002, we completed an offering of $400 million aggregate
principal amount of Senior Notes at a price of 100% of principal amount. On May
6, 2002, we completed an offering of $150 million aggregate principal amount of
additional Senior Notes at a price of 104.5% of principal amount, plus accrued
interest from February 15, 2002. The Senior Notes bear interest at an annual
rate of 10.25% and mature in 2012.
The net proceeds from the offering completed in February 2002 were $387
million. The net proceeds (excluding accrued interest paid by the purchasers of
the Senior Notes) from the offering completed in May 2002 were $151 million. We
used all of these net proceeds to reduce the balance outstanding under our
revolving credit facility and to repay term loans under the Senior Facilities.
We paid approximately $13 million of debt issuance costs related to the Senior
Notes sold in February 2002 and $6 million related to the Senior Notes sold in
May 2002. These costs are being amortized over the term of the Senior Notes. The
$7 million premium received upon issuance of the additional Senior Notes issued
in May 2002 is classified as long-term liability on the Consolidated Balance
Sheets and amortized (as a credit to interest expense) over the term of the
additional Senior Notes. As a result of our receipt of such premium, the
effective annual interest rate on the additional Senior Notes is about 9.5%. We
recorded an extraordinary charge of $3 million ($2 million, net of tax) in the
2002 first quarter and an extraordinary charge of $1 million ($1 million, net of
tax) in the 2002 second quarter for write-off of capitalized fees associated
with the term loans under Senior Facilities repaid with the net proceeds from
the issuance of the Senior Notes. These extraordinary charges have been
reclassified and included in other (income) expense, net in accordance with SFAS
No. 145 relating to SFAS No. 4.
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Through August 14, 2003, we have exchanged $50 million aggregate
principal amount of Senior Notes, plus accrued interest of $2 million, for
approximately 9.2 million shares of common stock. These transactions resulted in
a net gain of approximately $2 million, which has been recorded in other
(income) expense, net.
LITIGATION AGAINST OUR FORMER PARENT COMPANIES INITIATED BY US
In February 2000, we commenced a lawsuit against our former parents,
Mitsubishi Corporation and Union Carbide Corporation, to recover certain
payments made to them in connection with our leveraged equity recapitalization
in January 1995 as well as certain unjust receipts by them from their
investments in us and damages for aiding and abetting breaches of fiduciary
duties owed to us by our former senior management in connection with illegal
graphite electrode price fixing activities. We are seeking to recover more than
$1.5 billion, including interest. The defendants have filed motions to dismiss
this lawsuit. Oral hearings were held on those motions in the 2001 first
quarter. The court has not ruled on these motions. We expect to incur $10
million to $20 million for legal expenses to pursue this lawsuit from the date
of filing the complaint through trial. Through June 30, 2003, we had incurred
about $5 million of these legal expenses. This lawsuit is in its earliest
stages, and the ultimate outcome of this lawsuit is subject to many
uncertainties.
ANTITRUST AND OTHER LITIGATION AGAINST US
Since 1997, we and other producers and distributors of graphite and
carbon products have been subject to antitrust investigations by antitrust
authorities in the U.S., the European Union, Canada, Japan and Korea. In
addition, civil antitrust lawsuits have been commenced and threatened against us
and other producers and distributors of graphite and carbon products in the
U.S., Canada and elsewhere. We recorded pre-tax charges against results of
operations in the aggregate amount of $350 million as a reserve for estimated
potential liabilities and expenses in connection with antitrust investigations
and related lawsuits and claims.
In April 1998, GTI pled guilty to a one count charge of violating U.S.
federal antitrust law in connection with the sale of graphite electrodes and was
sentenced to pay a non-interest-bearing fine in the aggregate amount of $110
million, payable in six annual installments. At our request, in January 2002,
the payment schedule for the $60 million unpaid balance outstanding at that time
was revised to $2.5 million payment in April 2002, a $5.0 million payment in
April 2003 and, beginning in April 2004, quarterly payments ranging from $3.25
million to $5.375 million through January 2007. The payments due in 2002 and
2003 were timely made. Beginning in 2004, the DOJ may ask the court to
accelerate the payment schedule based on a change in our ability to make such
payments. Interest will begin to accrue on the unpaid balance, commencing in
April 2004, at the statutory rate of interest then in effect. At June 30, 2003,
the statutory rate of interest was 1.09% per annum. Accrued interest will be
payable together with each quarterly payment. Of the $110 million aggregate
amount, $90 million is treated as a fine and $20 million is treated as imputed
interest for accounting purposes. In addition, in 1999,
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2001 and 2002, investigations by the antitrust authorities in Canada, Japan and
Korea were resolved.
In January 2000, the EU Competition Authority alleged that we and other
producers violated European antitrust laws in connection with the sale of
graphite electrodes. In July 2001, that authority issued its decision regarding
the allegations and assessed a fine of (euro)50.4 million ($58 million, based on
currency exchange rates in effect at June 30, 2003) against GTI. As a result of
our cooperation, this fine reflects a substantial reduction from the amount that
otherwise would have been assessed. This decision has brought to a conclusion
our last major antitrust liability.
It is the policy of EU Competition Authority to negotiate appropriate
terms of payment of antitrust fines, including extended payment terms. We have
had discussions regarding payment terms. After an in-depth analysis of the
decision, in October 2001, we filed an appeal to the court challenging the
amount of the fine. In July 2003, the Court heard oral argument on this appeal
and we are awaiting its decision. The fine or collateral security therefor would
typically be required to be paid or provided at about the time the appeal was
filed. We are currently in discussions with EU Competition Authority regarding
the appropriate form of collateral security during the pendency of the appeal.
If the results of these discussions are not acceptable to us, we may file an
interim appeal to the court to waive the requirement for collateral security or
to allow us to provide alternative security for payment. We cannot predict how
or when the court would rule on such an interim appeal.
In the 2001 second quarter, we became aware that the Brazilian antitrust
authority had requested written information from various steelmakers in Brazil.
In April 2002, our Brazilian subsidiary received a request for information from
that authority. We have provided that information.
In May 2002, the EU Competition Authority alleged that we and other
producers violated European antitrust laws in connection with the sale of
specialty graphite. In December 2002, the EU Competition Authority assessed
fines against other producers, but assessed no fine against us due to our
cooperation.
We are continuing to cooperate with the U.S., European and Canadian
antitrust authorities in their continuing investigations of others. It is
possible that antitrust investigations seeking, among other things, to impose
fines and penalties could be initiated against us by authorities in Brazil or
other jurisdictions.
We have settled, among others, virtually all of the actual and potential
claims against us by customers in the U.S. and Canada arising out of alleged
antitrust violations occurring prior to the date of the relevant settlement in
connection with the sale of graphite electrodes. All settlement payments due
have been timely made. None of the settlement or plea agreements contain
restrictions on future prices of our graphite electrodes. There remain, however,
certain pending claims as well as pending lawsuits in the U.S. relating to the
sale of graphite electrodes
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GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
sold to foreign customers. It is also possible that additional antitrust
lawsuits and claims could be asserted against us in the U.S. or other
jurisdictions.
Through June 30, 2003, we have paid an aggregate of $256 million of
fines and net settlement and expense payments and $19 million of imputed
interest. At June 30, 2003, $94 million remained in the reserve. The balance of
the reserve is available for the balance of the fine payable by us to the DOJ
(excluding imputed interest thereon), the fine assessed against us by the EU
Competition Authority and other matters. The aggregate amount of remaining
committed payments payable to the DOJ for imputed interest at June 30, 2003 was
nil.
We cannot assure you that remaining liabilities and expenses in
connection with antitrust investigations, lawsuits and claims will not
materially exceed the remaining uncommitted balance of the reserve or that the
timing of payment thereof will not be sooner than anticipated. In the aggregate,
the fines and net settlements and expenses are within the amounts we used to
evaluate the $350 million charge. To the extent that aggregate liabilities and
expenses, net, are known or reasonably estimable, $350 million represents our
estimate of these liabilities and expenses. The guilty pleas and the decisions
by the antitrust authorities make it more difficult to defend against other
investigations, lawsuits and claims. Our insurance has not and will not
materially cover liabilities that have or may become due in connection with
antitrust investigations or related lawsuits or claims.
RESULTS OF OPERATIONS
Financial information for the 2003 first quarter and the 2002 first half
has been restated to reflect our non-strategic composite tooling business, that
was sold in June 2003, as discontinued operations rather than as part of our
Other segment. The results of our discontinued operations were not material to
our consolidated results of operations.
THREE MONTHS ENDED JUNE 30, 2003 AS COMPARED TO THREE MONTHS ENDED JUNE
30, 2002. Net sales of $181 million in the 2003 second quarter represented a $24
million, or 15%, increase from net sales of $157 million in the 2002 second
quarter, primarily due to higher graphite electrode prices and higher sales
volumes of synthetic graphite and advanced carbon materials. Cost of sales of
$138 million in the 2003 second quarter represented a $16 million, or 13%,
increase from cost of sales of $122 million in the 2002 second quarter,
primarily due to the higher sales volumes. Gross profit of $43 million in the
2003 second quarter represented a $8 million, or 23%, increase from gross profit
of $35 million in the 2002 second quarter.
Synthetic Graphite Segment. Net sales of $162 million in the 2003 second
quarter represented a $20 million, or 14%, increase from net sales of $142
million in the 2002 second quarter, primarily due to higher average graphite
electrodes sales revenue per metric ton and higher sales volumes of graphite
electrodes. Volume of graphite electrodes sold was 50,600 metric tons in the
2003 second quarter as compared to 48,800 metric tons in the 2002 second
quarter. The higher volume of graphite electrodes sold represented an increase
of $4 million in net sales. The increase was a result of stronger demand for
graphite electrodes primarily in the United States and Europe. Average sales
revenue per metric ton of graphite electrodes in the
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PART I (CONT'D)
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2003 second quarter was $2,347 as compared to the average in the 2002 second
quarter of $2,095. The increase was primarily due to changes in currency
exchange rates. The higher average sales revenue per metric ton represented an
increase of $13 million in net sales. Net sales of cathodes increased in the
2003 second quarter by 11%, or $2 million, from net sales of $22 million in the
2002 second quarter.
Cost of sales of $123 million in the 2003 second quarter represented a
$13 million, or 12%, increase from cost of sales of $110 million in the 2002
second quarter, primarily due to the higher volumes of graphite electrodes.
Gross profit in the 2003 second quarter was $39 million, or 21% or $7 million,
higher than in the 2002 second quarter. The increase in gross profit was
primarily due to higher graphite electrode net sales and improved productivity
throughout the production network. These improvements were partially offset by
higher energy costs, higher freight costs and the negative impact of net changes
in currency exchange rates on costs. Gross margin was 23.8% of net sales in the
2003 second quarter, higher than the 22.6% of net sales in the 2002 second
quarter.
Other Segment. Net sales of $19 million in the 2003 second quarter
represented a $4 million, or 27%, increase from net sales of $15 million in the
2002 second quarter, primarily due to increased net sales in our advanced carbon
materials line of business. Cost of sales of $15 million in the 2003 second
quarter represented a $3 million, or 25%, increase from cost of sales of $12
million in the 2002 second quarter. The increase in cost of sales was primarily
related to higher sales volumes sold in our advanced carbon materials line of
business and higher energy costs, primarily natural gas. Gross profit in the
2003 second quarter was $4 million (a gross margin of 24.3% of net sales) as
compared to gross profit in the 2002 second quarter of $3 million (a gross
margin of 20.7% of net sales).
Items Affecting Us as a Whole. Selling, administrative and other
expenses were $21 million in the 2003 second quarter, a decrease of $3 million
from the 2002 second quarter. This decrease resulted from cost savings
associated with the redesign of employee benefit plans, the streamlining of our
organizational structure and lower incentive compensation primarily due to the
absence in the 2003 second quarter of an expense comparable to the accelerated
vesting of restricted stock grants in the 2002 second quarter.
Other (income) expense, net, was income of $6 million in the 2003 second
quarter, primarily due to currency exchange benefits associated with
euro-denominated intercompany loans, which were partially offset by other
expenses, including an approximately $1 million fair value adjustment on $500
million notional amount of five-year interest rate caps. Other (income) expense,
net, was income of $10 million for the 2002 second quarter. Among other things,
income of $14 million primarily associated with currency exchange benefits
relating to euro-denominated debt was partially offset by the write-off of
previously capitalized bank charges and operating costs related to the Italian
shutdown.
Restructuring charges were $1 million in the 2003 second quarter. The $1
million charge was primarily related to employee severance programs and related
benefits associated with a
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PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
workforce reduction of several employees. Restructuring charges were nil in the
2002 second quarter.
Impairment loss on long-lived and other assets were nil in the 2003
second quarter. In the 2002 second quarter, we recorded a $13 million non-cash
charge primarily related to the impairment of our long-lived carbon electrode
assets in Columbia, Tennessee as a result of a decline in demand and loss of
market share. The primary end market for carbon electrodes is silicon metal,
which was very depressed in the U.S. where our main customer base was located.
This charge also included $1 million related to the impairment of
available-for-sale securities.
Interest expense was $13 million in the 2003 second quarter as compared
to $17 million in the 2002 second quarter. Average total debt outstanding was
$761 million in the 2003 second quarter as compared to $708 million in the 2002
second quarter. The average annual interest rate was 5.9% in the 2003 second
quarter as compared to 9.1% in the 2002 second quarter. These average annual
rates include the benefits of our interest rate swaps and exclude imputed
interest on the fine payable to the DOJ. Interest rate swaps reduced our
interest expense by approximately $5 million during the 2003 second quarter,
which includes a $2 million credit to interest expense from the acceleration of
interest swap proceeds as a result for our debt for equity exchange during June
2003.
During the 2003 second quarter, we recorded a $1 million gain on the
sale of our non-strategic composite tooling business as part of our asset sale
program.
Provision for income taxes was a charge of $5 million in the 2003 second
quarter as compared to a benefit of $5 million in the 2002 second quarter. The
effective income tax rate was approximately 40% in the 2003 second quarter as
compared to approximately 39% in the 2002 second quarter.
As a result of the changes described above, net income was $7 million in
the 2003 second quarter as compared to a net loss of $7 million in the 2002
second quarter.
SIX MONTHS ENDED JUNE 30, 2003 AS COMPARED TO SIX MONTHS ENDED JUNE 30,
2002. Net sales of $351 million in the 2003 first half represented a $60
million, or 21%, increase from net sales of $291 million in the 2002 first half.
Gross profit of $82 million in the 2003 first half represented a $17 million, or
27%, increase from gross profit of $65 million in the 2002 first half. Gross
margin increased to 23.4% of net sales in 2003 first half from 22.3% in 2002
first half. The increase in net sales, gross profit and gross margin was
primarily due to higher net sales in our synthetic graphite and advanced carbon
materials lines of businesses.
Synthetic Graphite Segment. Net sales of $311 million in the 2003 first
half represented a $51 million, or 20%, increase from net sales of $260 million
in the 2002 first half, primarily due to higher sales volume of graphite
electrodes and higher average graphite electrode sales revenue per metric ton.
Volume of graphite electrodes sold was 97,700 metric tons in the 2003 first half
as
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PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
compared to 87,300 metric tons in the 2002 first half. The higher volume of
graphite electrodes sold represented an increase of $22 million in net sales.
Average sales revenue per metric ton of graphite electrodes in the 2003 first
half was $2,311 as compared to the average in the 2002 first half of $2,090. The
higher average sales revenue per metric ton represented an increase of $21
million in net sales. The increase was primarily due to changes in currency
exchange rates. Net sales of cathodes increased in the 2003 first half by 19%,
or $8 million, from net sales of $43 million in the 2002 first half.
Cost of sales of $238 million in the 2003 first half represented a $38
million, or 19%, increase from cost of sales of $200 million in the 2002 first
half, primarily due to the higher volumes of graphite electrodes and cathodes
sold. Gross profit in the 2003 first half was $73 million, or 22% or $13
million, higher than in the 2002 first half. The increase in gross profit was
primarily due to higher graphite electrode net sales and higher operating levels
throughout the production network. These improvements were partially offset
primarily by higher energy costs, higher freight costs and the negative impact
of net changes in currency exchange rates on costs. Gross margin was 23.3% of
net sales in the 2003 first half, higher than the 22.9% of net sales in the 2002
first half.
Other Segment. Net sales of $40 million in the 2003 first half
represented a $9 million, or 27%, increase from net sales of $31 million in the
2002 first half, primarily due to increased net sales in our advanced carbon
materials line of business. Cost of sales of $31 million in the 2003 first half
represented a $5 million, or 15%, increase from cost of sales of $26 million in
the 2002 first half. The increase in cost of sales was primarily related to
higher sales volume sold in our advanced carbon materials line of business and
higher energy costs, primarily natural gas. Gross profit in the 2003 first half
was $9 million (a gross margin of 24.7% of net sales) as compared to gross
profit in the 2002 first half of $5 million (a gross margin of 17.1% of net
sales).
Items Affecting Us as a Whole. Selling, administrative and other
expenses were $42 million in the 2003 first half, unchanged from the 2002 first
half. In the 2003 first half, we recorded higher variable compensation expense.
In the 2002 first half, we recorded a one-time reduction in franchise and other
taxes associated with the corporate realignment of our subsidiaries, and a $5
million non-cash charge to compensation expense associated with the accelerated
vesting of restricted stock grants.
Other (income) expense, net, was income of $10 million in the 2003 first
half, primarily due to currency exchange benefits of $19 million, which were
primarily associated with euro-denominated intercompany loans. These benefits
were partially offset by other expenses, including an approximately $2 million
fair value adjustment on $300 million notional amount of five-year interest rate
caps and $4 million of bank fees and legal fees. Other (income) expense, net,
was net income of $12 million in the 2002 first half. Among other things, income
of $20 million primarily associated with currency exchange benefits relating to
euro-denominated intercompany loans was partially offset by the write-off of $4
million of previously capitalized bank charges.
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PART I (CONT'D)
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Restructuring charges were $20 million in the 2003 first half. We
recorded $20 million of restructuring charges, consisting of $9 million for
organizational changes and $11 million for the closure and settlement of our
U.S. non-qualified defined benefit plan for the participating salaried
workforce. The $9 million charge for organizational changes related to
U.S. voluntary and selective severance programs and related benefits associated
with a workforce reduction of 103 employees. The closure of our non-qualified
U.S. defined benefit plan resulted in recognition of net non-cash actuarial
losses of $11 million. Approximately half of the $9 million will involve cash
outlays. Restructuring charges were $5 million in the 2002 first half. We
recorded a $5 million restructuring charge related primarily to the mothballing
of our graphite electrode operations in Caserta, Italy. This charge included
estimated pension, severance and other related employee benefit costs for 102
employees and other cost related to the mothballing.
In the 2002 first half, we recorded a $13 million non-cash charge
primarily related to the impairment of our long-lived carbon electrode assets in
Columbia, Tennessee and a charge of $3 million related to the corporate
realignment of our subsidiaries.
Interest expense was $27 million in the 2003 first half as compared to
$30 million in the 2002 first half. Average total debt outstanding was $758
million in the 2003 first half as compared to $688 million in the 2002 first
half. The average annual interest rate was 6.3% in 2003 first half as compared
to 8.5% in the 2002 first half. These average annual rates include the benefits
of our interest rate swaps and exclude imputed interest on the fine payable to
the DOJ. Interest rate swaps reduced our interest expense by approximately $9
million during the 2003 second quarter, which includes a $2 million credit to
interest expense from the acceleration of interest swap proceeds as a result for
our debt for equity exchange during June 2003.
Provision for income taxes was a charge of $1 million in the 2003 first
half as compared to a benefit of $11 million in the 2002 first half.
During the 2003 first half, we recorded a $1 million gain from the sale
of our non-strategic composite tooling business. The discontinued business
recorded a net income from operations of $1 million during both the 2003 first
half and the 2002 first half.
As a result of the changes described above, net loss was $2 million in
the 2003 first half as compared to net loss of $11 million in the 2002 first
half.
EFFECTS OF INFLATION
We incur costs in the currency of each of the six non-U.S. countries in
which we have a manufacturing facility. In general, our results of operations,
cash flows and financial condition are affected by the effects of inflation on
our costs incurred in each of these six countries.
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During 2002, the effects of inflation on our cost of sales globally
(except for highly inflationary countries) were generally mitigated by a
combination of improved operating efficiency and permanent on-going cost
savings. Accordingly, during 2002, these effects were not material to us. During
the 2003 first half, we experienced higher energy and freight costs primarily
due to the substantial increase in the worldwide market price of oil and natural
gas. We believe that these costs are peaking and should, over the course of
2003, return to levels consistent with those experienced in 2002. During the
2003 first half, we did not experience significant inflation with respect to
other costs. We cannot assure you that future increases in our costs will not
occur or exceed the rate of inflation or the amounts, if any, by which we may be
able to increase prices for our products.
CURRENCY TRANSLATION AND TRANSACTIONS
We account for our non-U.S. subsidiaries under the provisions of SFAS
No. 52, "Foreign Currency Translation." Accordingly, except for highly
inflationary countries, the assets and liabilities of our non-U.S. subsidiaries
are translated into dollars for consolidation and reporting purposes. Foreign
currency translation adjustments are generally recorded as part of stockholders'
equity and identified as part of accumulated other comprehensive income (loss)
in the Consolidated Balance Sheets until such time as their operations are sold
or substantially or completely liquidated.
We have subsidiaries in Russia, Mexico, Brazil and other countries which
have had in the past, and may have now or in the future, highly inflationary
economies, defined as cumulative inflation of about 100% or more over a period
of three calendar years. In general, the financial statements of foreign
operations in highly inflationary economies are remeasured as if the functional
currency of their economic environments were the dollar and translation gains
and losses relating to these foreign operations are included in other (income)
expense, net, in the Consolidated Statements of Operations rather than as part
of stockholders' equity in the Consolidated Balance Sheets. We also record
foreign currency transaction gains and losses as part of other (income) expense,
net.
Currently, we account for our Mexican subsidiary using the dollar as its
functional currency, irrespective of Mexico's inflationary status, because its
sales and purchases are predominantly dollar-denominated. In addition, we
account for our Russian subsidiary using the dollar as its functional currency
because Russia is considered to have a highly inflationary economy.
Significant changes in currency exchange rates impacting us are
described under "Effects of Changes in Currency Exchange Rates." Foreign
currency translation adjustments decreasing stockholders' equity amounted to $20
million, including $16 million associated with our Brazilian subsidiary, in
2002. These adjustments increased stockholders' equity by $5 million during the
2003 first half.
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PART I (CONT'D)
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EFFECTS OF CHANGES IN CURRENCY EXCHANGE RATES
We incur costs in the currency of each country in which we have a
manufacturing facility and we sell our products in multiple currencies. In
general, our results of operations, cash flows and financial condition are
affected by changes in currency exchange rates affecting the currencies of these
and other countries.
When the currencies of non-U.S. countries in which we have a
manufacturing facility decline (or increase) in value relative to the dollar,
this has the effect of reducing (or increasing) the dollar equivalent cost of
sales and other expenses with respect to those facilities. This effect is,
however, partially offset by the cost of petroleum coke, a principal raw
material used by us, which is priced in dollars. In certain countries where we
have manufacturing facilities, and in certain instances where we price our
products for sale in export markets, we sell in currencies other than the
dollar. Accordingly, when these currencies increase (or decline) in value
relative to the dollar, this has the effect of increasing (or reducing) net
sales. The result of these effects is to increase (or decrease) operating profit
and net income.
Many of the non-U.S. countries in which we have a manufacturing facility
have been subject to significant economic pressures, which have impacted
currency exchange rates. We seek to mitigate adverse impacts of changes in
currency exchange rates on net sales by increasing local currency prices for
some of our products in various regions as circumstances permitted. During the
2003 first half, the average exchange rate of the euro and the South African
rand increased about 24% and 37%, respectively, when compared to the average
exchange rate for the 2002 first half. During the 2003 first half, the average
exchange rate for the Brazilian real and the Mexican peso declined about 30% and
12%, respectively, when compared to the average exchange rate for the 2002 first
half. We cannot predict changes in currency exchange rates in the future or
whether those changes will have positive or negative impacts on our net sales or
cost of sales. We cannot assure you that we would be able to mitigate any
adverse effects of such changes.
We have intercompany loans between GrafTech Finance and some of our
other subsidiaries. Some of these loans are denominated in currencies other than
the dollar and, accordingly, are subject to translation gains and losses due to
changes in currency exchange rates. Some of these intercompany loans are deemed
to be essentially permanent and, as a result, translation gains and losses on
these loans are reflected in accumulated other comprehensive income (loss) on
the Consolidated Balance Sheets. The remaining intercompany loans are expected
to be repaid in the foreseeable future and, as a result, translation gains and
losses on these loans are reflected in other (income) expense, net on the
Consolidated Statement of Operations. Foreign currency translation gains and
losses relating to these loans included in other (income) expense, net, were a
gain of $22 million in the 2003 first half and a gain of $18 million in the 2002
first half.
To manage certain exposures to specific financial market risks caused by
changes in currency exchange rates, we use various financial instruments as
described under "Qualitative
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PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
and Quantitative Disclosures about Market Risks."
LIQUIDITY AND CAPITAL RESOURCES
Our sources of funds have consisted principally of invested capital,
cash flow from operations, debt financing and, since July 2001, net proceeds
from our public offering of common stock. Our uses of those funds (other than
for operations) have consisted principally of debt reduction, capital
expenditures, payment of fines, liabilities and expenses in connection antitrust
with investigations, lawsuits and claims and payment of restructuring costs.
We remain highly leveraged and have substantial obligations in
connection with antitrust investigations, lawsuits and claims. We had total debt
of $709 million and a stockholders' deficit of $349 million at June 30, 2003 and
total debt of $731 million and a stockholders' deficit of $381 million at
December 31, 2002. Cash and cash equivalents were $11 million at December 31,
2002 and $8 million at June 30, 2003.
If we are required to pay or issue a letter of credit to secure payment
of the fine assessed by the EU Competition Authority pending resolution of our
appeal regarding the amount of the fine, the payment would be financed by
borrowing under (or secured by a letter of credit that would constitute a
borrowing under) our revolving credit facility.
We closely monitor compliance with the financial covenants in the Senior
Facilities and believe that we will remain in compliance for 2003.
RECENT DE-LEVERAGING ACTIONS. We completed over $55 million in
de-leveraging actions in the 2003 second quarter. These actions consisted of the
sale of our non-strategic composite tooling business for approximately $17
million, the sale of $400 million notional amount of interest rate swaps for
cash proceeds of approximately $21 million and the exchange of $20 million
aggregate principal amount of Senior Notes for common stock.
In July and August 2003, we exchanged an additional $30 million
aggregate principal amount of Senior Notes, plus accrued interest of
approximately $1 million, for 5,404,329 shares of common stock.
We expect our total debt to be less than $700 million at the end of
2003, before taking into account possible future asset sales. We believe that we
will have a net use of cash in operating and investing activities in 2003. We
believe that we will generate positive cash flow from operations in 2004.
LONG-TERM CONTRACTUAL, COMMERCIAL AND OTHER OBLIGATIONS AND COMMITMENTS.
The following tables summarize our long-term contractual obligations and other
commercial commitments at June 30, 2003.
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PART I (CONT'D)
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PAYMENT DUE BY PERIOD
---------------------
LESS
THAN 1 1-3 4-5 AFTER 5
TOTAL YEAR YEARS YEARS YEARS
----- ---- ----- ----- -----
(Dollars in millions)
CONTRACTUAL AND OTHER OBLIGATIONS
Long-term debt........................ $ 686 $ - $ 12 $ 138 $ 536
Capital lease obligations............. 2 - 1 - 1
Operating leases...................... 7 2 4 1 -
Unconditional purchase obligations.... 50 8 16 12 14
-------- ------- ------- ------- -------
Total contractual obligations..... 745 10 33 151 551
Estimated liabilities and expenses
in connection with antitrust
investigations and related
lawsuits and claims............... 94 3 50 33 8
Postretirement, pension and related
benefits............................ 131 14 21 22 74
Other long-term obligations........... 12 - 3 1 8
-------- ------- ------- ------- -------
Total contractual and other
obligations.................... $ 982 $ 27 $ 107 $ 207 $ 641
======== ======= ======= ======= =======
AMOUNT OF COMMITMENT EXPIRATION BY PERIOD
-----------------------------------------
LESS
THAN 1 1-3 4-5 AFTER 5
TOTAL YEAR YEARS YEARS YEARS
----- ---- ----- ----- -----
(Dollars in millions)
OTHER COMMERCIAL COMMITMENTS
Lines of credit....................... $ 13 $ 13 $ - $ - $ -
Letter of credit...................... 16 16 - - -
Guarantees............................ 2 1 - - 1
-------- ------- ------- ------- -------
Total other commercial commitments $ 31 $ 30 $ - $ - $ 1
======== ======= ======= ======= =======
The first preceding table includes our reserve for estimated liabilities
and expenses in connection with antitrust investigations and related lawsuits
and claims, which includes the fine of (euro)50.4 million assessed against us by
the EU Competition Authority. The timing of payment of such fine is not known
and for purposes of this table is split between the columns captioned "payments
due in 1-3 years" and "payments due in 4-5 years" on the line entitled
"estimated liabilities and expenses in connection with antitrust investigations
and related lawsuits and claims." It is the policy of EU Competition Authority
to negotiate appropriate terms of payment of antitrust fines, including extended
payment terms. We have had discussions regarding such payment terms. We have
also filed an appeal to the court challenging the amount of the fine. We cannot
predict how or when the court will rule on the appeal. While we cannot assure
you that such will be the case, we believe the amount of the fine will be
impacted by the appeal and that, after such ruling, we will be permitted to pay
the fine over an extended period. In addition, if we are required to pay (or
issue a letter of credit to secure payment of) the fine pending resolution of
our appeal, the payment would be financed by a borrowing under (or the letter of
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PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
credit would constitute a borrowing under) our revolving credit facility. Such a
requirement would result in a change in the manner in which such amount is
reflected in the preceding tables.
Effective April 2001, we entered into a ten-year service contract with
CGI valued at $75 million. Pursuant to this contract, CGI provides a majority of
our global information technology service requirements. We are dependent on CGI
for these services. A failure by CGI to provide these services to us in a timely
manner could have a material adverse effect on our operations and results of
operations. The first preceding table includes a line entitled "unconditional
purchase obligations" that includes the minimum purchases under that contract.
In September 2002, we entered into a ten-year outsourcing contract with CGI to
provide finance and accounting business process services valued at $36 million.
That contract does not constitute an unconditional purchase obligation and
therefore is not included in the first preceding table.
The second preceding table includes a line entitled "lines of credit."
These are local lines of credit established by our foreign subsidiaries for
working capital purposes and are not part of our revolving credit facility.
Our pension benefit obligations were underfunded by $80 million at
December 31, 2002 as compared to $50 million at December 31, 2001. This increase
in underfunding was primarily due to the decline in asset values resulting from
the decline in the capital markets in the U.S. in 2002. We value our pension
assets and obligations on an annual basis.
CASH FLOW AND PLANS TO MANAGE LIQUIDITY. As a result of our high
leverage, our substantial obligations in connection with antitrust
investigations, lawsuits and claims and our substantial other long-term
contractual and commercial obligations and commitments, we have placed high
priority on efforts to manage cash, generate additional cash flow and reduce
debt. Our longer term efforts include our 1998 major cost savings plan, our 2002
major cost savings plan and our other cost savings activities, our strategic
alliances and our financing activities. Our shorter term efforts include our
interest rate management and working capital initiatives.
During the four years prior to 2002, we had positive annual cash flow
from operations, excluding payments in connection with restructurings and
investigations, lawsuits and claims. Typically, the first quarter of each year
resulted in neutral or negative cash flow from operations (excluding payments in
connection with restructurings and investigations, lawsuits and claims) due to
various factors. Factors impacting seasonality included customer order patterns,
customer buy-ins in advance of annual price increases, fluctuations in working
capital requirements and payment of variable compensation with respect to the
immediately preceding year. Typically, the other three quarters resulted in
positive cash flow from operations (before such exclusions). The third quarter
tended to produce relatively less positive cash flow primarily as a result of
scheduled plant shutdowns by our customers for vacations. During 2002, we had
negative cash flow from operations before such exclusions primarily due to
negative net income before non-cash charges (credits) primarily from lower net
sales and to a use of cash for working capital.
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PART I (CONT'D)
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We expect financial performance to improve in 2003 and to have positive cash
flow from operations before such exclusions.
Prior to 2000, our cash flow from operations (before such exclusions) in
the first and third quarters was adversely impacted by the semi-annual interest
payments on our previously outstanding senior subordinated notes. The second and
fourth quarters correspondingly benefited from the absence of interest payments
on such notes. We expect the semi-annual interest payments on the Senior Notes
to have a similar impact.
As part of our cash management activities, we seek to manage accounts
receivable credit risk, collections, and accounts payable and payments thereof
to seek to maximize our free cash at any given time and minimize accounts
receivable losses. We typically discount or factor a portion of our accounts
receivable. Certain of our subsidiaries sold receivables totaling $94 million in
2002 first half and $96 million in the 2003 first half. Accounts receivable sold
and remaining on the Consolidated Balance Sheet aggregated $1 million at
December 31, 2002 and nil at June 30, 2003. If we had not sold such receivables,
our accounts receivable and our debt would have been about $46 million higher at
December 31, 2002 and about $48 million higher at June 30, 2003. If we were
unable to factor our accounts receivable, our debt would increase, which could
adversely affect our financial condition and compliance with the financial
covenants in the Senior Facilities. In addition, careful management of credit
risk over at least the past three years has allowed us to avoid significant
accounts receivable losses notwithstanding the poor financial condition of many
of our potential and existing customers. In light of current global and regional
economic conditions, we cannot assure you that we will not be materially
adversely affected by accounts receivable losses in the future.
We use, and are dependent on, funds available under our revolving credit
facility as our primary source of liquidity. As a result, we are also dependent
upon continued compliance with the financial covenants under the Senior
Facilities. We believe that our cost savings initiatives will, over the next one
to two years, continue to improve our cash flow from operations for a given
level of net sales. Improvements in cash flow from operations resulting from
these initiatives are being partially offset by associated cash implementation
costs, while they are being implemented. We also believe that our planned asset
sales together with these improvements in cash flow from operations should allow
us to reduce our debt and other obligations over the long term.
We may from time to time and at any time exchange or purchase Senior
Notes in open market or privately negotiated transactions, opportunistically on
terms that we believe to be favorable. These exchanges or purchases may be
effected for cash (from cash on hand, borrowings under our revolving credit
facility or new credit facilities, or proceeds from sale of debt or equity
securities or assets), common stock or other equity or debt securities, or a
combination thereof. We may at any time and from time to time seek and obtain
consent from the lenders under the Senior Facilities with respect to any
restrictions thereunder applicable to such transactions. We will evaluate any
such transaction in light of then prevailing market conditions and our then
current and prospective liquidity and capital resources, including
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GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
projected and potential needs and prospects for access to capital markets. Any
such transactions may, individually or in the aggregate, be material.
Our high leverage and substantial antitrust related and other
obligations could have a material impact on our liquidity. Cash flow from
operations services payment of our debt and these obligations, thereby reducing
funds available to us for other purposes. Our leverage and these obligations
make us more vulnerable to economic downturns or in the event that these
obligations are greater or timing of payment is sooner than expected.
Our ability to service our debt as it comes due, including maintaining
compliance with the financial covenants under the Senior Facilities, and to meet
these and other obligations as they come due is dependent on our future
financial and operating performance. This performance, in turn, is subject to
various factors, including certain factors beyond our control, such as changes
in conditions affecting our industry, changes in global and regional economic
conditions, changes in interest and currency exchange rates, developments in
antitrust investigations, lawsuits and claims involving us and inflation in raw
material, energy and other costs.
We cannot assure you that our cash flow and capital resources will be
sufficient to enable us to meet our debt service, antitrust-related and other
obligations when due. Even if we are able to meet our debt service,
antitrust-related and other obligations when due, we may not be able to comply
with the covenants and other provisions under the Senior Facilities. These
covenants and provisions include financial covenants and representations
regarding absence of material adverse changes affecting us. A failure to comply,
unless waived by the lenders, would be a default under the Senior Facilities.
This would permit the lenders to accelerate the maturity of the Senior
Facilities. It would also permit the lenders to terminate their commitments to
extend credit under our revolving credit facility. This would have an immediate
material adverse effect on our liquidity. An acceleration of maturity of the
Senior Facilities or a breach of the covenants contained in the Senior Notes
would permit the holders of the Senior Notes to accelerate the maturity of the
Senior Notes. Acceleration of maturity of the Senior Notes would permit the
lenders to accelerate the maturity of the Senior Facilities and terminate their
commitments to extend credit under our revolving credit facility. If we were
unable to repay our debt to the lenders or holders, the lenders and holders
could proceed against the collateral securing the Senior Facilities and the
Senior Notes, respectively, and exercise all other rights available to them. If
we were unable to repay our debt to the lenders or the holders, or otherwise
obtain a waiver from the lenders or the holders, we could be required to limit
or discontinue, temporarily or permanently, certain of our business plans,
activities or operations, reduce or delay certain capital expenditures, sell
certain of our assets or businesses, restructure or refinance some or all of our
debt or incur additional debt, or sell additional common stock or other
securities. We cannot assure you that we would be able to obtain any such waiver
or take any of such actions on favorable terms or at all.
As described above, we are dependent on our revolving credit facility
and continuing compliance with the financial covenants under the Senior
Facilities for liquidity. The Senior
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PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
Facilities require us to, among other things, comply with financial covenants
relating to specified minimum interest coverage and maximum net senior secured
debt leverage ratios that become more restrictive over time. At June 30, 2003,
we were in compliance with the financial covenants under the Senior Facilities.
Based on our current business plan, we believe we will remain in compliance with
these covenants for 2003. If we were to believe that we would not continue to
comply with these covenants, we would seek an appropriate waiver or amendment
from the lenders thereunder. We cannot assure you that we would be able to
obtain such waiver or amendment on acceptable terms or at all.
While our revolving credit facility provides for maximum borrowings of
up to (euro)200 million ($230 million, based on currency exchange rates in
effect at June 30, 2003), our future ability to borrow under this facility may
effectively be less because of the impact of additional borrowings upon our
compliance with the maximum net senior secured debt leverage ratio permitted or
minimum interest coverage ratio required under the Senior Facilities. In
addition, (euro)25 million of the (euro)200 million is reserved exclusively for
use to pay or secure payment of the fine assessed by the EU Competition
Authority. At June 30, 2003, we had drawn $14 million under this facility and
the remaining $203 million (after consideration of outstanding letters of
credit) was fully available. Payment of the fine or issuance of a letter of
credit to secure payment of the fine assessed by the EU Competition Authority
would significantly reduce the funds available under our revolving credit
facility for operating and other purposes.
We believe that the long-term fundamentals of our business continue to
be sound. Accordingly, although we cannot assure you that such will be the case,
we believe that, based on our expected cash flow from operations, our expected
resolution of our remaining obligations in connection with antitrust
investigations, lawsuits and claims, and our existing capital resources, and
taking into account our efforts to reduce costs and working capital needs,
improve efficiencies and product quality, generate growth and cash flow and
maximize funds available to meet our debt service and other obligations, we will
be able to manage our liquidity to permit us to service our debt and meet our
obligations when due.
DESCRIPTION OF SENIOR FACILITIES, CERTAIN AMENDMENTS THERETO AND SENIOR
NOTES. A description of the Senior Facilities, certain amendments thereto and
the Senior Notes is set forth in Note 5 to the Notes to Consolidated Financial
Statements contained in this Report, and such description is hereby incorporated
herein by reference.
RELATED PARTY TRANSACTIONS. We have not, since January 1, 2002, engaged
in or been a party to any material transactions with affiliates or related
parties other than transactions with our subsidiaries (including Carbone Savoie
and AET), compensatory transactions (including employee benefits, stock option
and restricted stock grants, compensation deferral and executive employee loans
and stock purchases) with directors or officers, and transactions with our
25%-owned joint venture with Jilin in China.
SPECIAL PURPOSE ENTITIES. We have not been, since January 1, 2002,
affiliated with or related to any special purpose entity other than GrafTech
Finance.
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PART I (CONT'D)
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OFF-BALANCE-SHEET FINANCINGS AND COMMITMENTS. We have not, since January
1, 2002, undertaken or been a party to any material off-balance-sheet financing
arrangements or other commitments (including non-exchange traded contracts),
other than:
o Commitments under non-cancelable operating leases that, at
December 31, 2002 and June 30, 2003, individually totaled less
than $1 million in each year and $5 million in the aggregate.
o Minimum required purchase commitments under our information
technology outsourcing services agreement with CGI Group Inc.
described under "-Long-Term Contractual, Commercial and Other
Obligations and Commitments" that, at December 31, 2002 and June
30, 2003, totaled approximately $5 million in each year and about
$44 million in the aggregate.
o Discounting or factoring accounts receivable as described under
"- Cash Flow and Plans to Manage Liquidity."
CASH FLOWS. In general, during the 2003 first half, we used cash to
finance operating activities and capital expenditures. This financing was
provided by the proceeds of asset sales, sales of interest rate swaps and
borrowings.
Cash Flow Used in Operating Activities. Cash flow used in operating
activities was $25 million in 2003 first half as compared to $36 million in 2002
first half, an improvement of $11 million. The improvement was primarily due to
a reduction of net losses from continuing operations. The net loss from
continuing operations in the 2003 first half was $4 million as compared to a net
loss in the 2002 first half of $12 million.
Cash Flow Used in Investing Activities. Cash flow used in investing
activities was $5 million in the 2003 first half as compared to $20 million in
the 2002 first half. Capital expenditures in both the 2003 first half and the
2002 first half were $20 million. Capital expenditures in the 2003 first half
related primarily to the expansion of graphite electrode manufacturing capacity,
implementation of J.D. Edwards information systems and essential capital
maintenance. In the 2003 first half, $15 million of cash was provided to
investing activities from the sale of our non-strategic composite tooling
business.
Cash Flow Provided by Financing Activities. Cash flow provided by
financing activities was $27 million during 2003 first half as compared to $66
million in 2002 first half. During the 2003 first half, we received proceeds of
$31 million from the sale of interest rate swaps and $4 million from additional
borrowings under our short- term debt facilities. We used these proceeds to
fund, in part, the semi-annual interest payment on the Senior Notes, a dividend
payment to minority stockholders in consolidated entities, a purchase of
interest rate caps and a repayment of short-term debt borrowings. In the 2002
first half, we completed a private offering of $550 million of Senior Notes. Net
proceeds were $538 million, which were used to repay term loans
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PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
under the Senior Facilities, reduce the outstanding balance under our revolving
credit facility and fund increased working capital.
RESTRICTIONS ON DIVIDENDS AND STOCK REPURCHASES
Under the Senior Facilities, we are generally permitted to pay dividends
on common stock and repurchase common stock in an aggregate annual amount of
between $25 million and $50 million, depending on our leverage ratio and excess
cash flow. Under the Senior Notes, we are generally permitted to pay dividends
on common stock and repurchase common stock in an aggregate cumulative (from
February 15, 2002) amount of $25 million, plus certain consolidated net income,
equity proceeds and investment gains.
RECENT ACCOUNTING PRONOUNCEMENTS
A description of recent accounting pronouncements is set forth under
"New Accounting Standards" in Note 1 to the Notes to Consolidated Financial
Statements contained in this Report, and such description is hereby incorporated
herein by reference.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
We are exposed to market risks primarily from changes in interest rates
and currency exchange rates. We routinely enter into various transactions that
have been authorized according to documented policies and procedures to manage
well-defined currency exchange rate risks and interest rate risks. These
transactions relate primarily to financial instruments described below. Since
the counterparties to these financial instruments are large commercial banks and
similar financial institutions, we do not believe that we are exposed to
material counterparty credit risk. We do not use financial instruments for
trading purposes.
Our exposure to changes in interest rates results primarily from
floating rate long-term debt tied to LIBOR or euro LIBOR. We implement interest
rate management initiatives to seek to minimize our interest expense and
optimize our portfolio of fixed and variable interest rate obligations. Use of
these initiatives is allowed under the Senior Notes and Senior Facilities.
Our interest rate swaps described below are designated as hedging the
exposure to changes in the fair value of our related debt obligation (referred
to as a fair value hedge). The gain or loss on the fair value hedge is recorded,
together with the offsetting gain or loss on the debt obligation (sometimes
referred to as the short-cut method), in the Consolidated Statements of
Operations in the period of change in value.
In the 2003 first quarter, we entered into an additional $200 million
notional amount interest rate swap (bringing our total notional amount of swaps
to $450 million) through the remaining term of the Senior Notes, effectively
converting that amount of fixed rate debt to variable rate debt. Subsequently,
in the 2003 first quarter, we sold the entire $450 million notional amount of
swaps for $10 million in cash. Following the sale of the swaps, in the 2003
first quarter, we entered into $350 million notional amount of interest rate
swaps through the
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PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
remaining term of the Senior Notes. Subsequently, in the 2003 second quarter, we
entered into an additional $50 million notional amount interest rate swap
(bringing our total notional amount of swaps to $400 million). The swaps reduced
our interest expense by $3 million during the 2003 second quarter and by $[___]
million during the 2003 second half. Subsequently, we sold the total notional
amount of $400 million of swaps to allow for the accelerated collection of $21
million in cash in the 2003 second quarter. The proceeds from the sale of the
swaps are being amortized over the term of the Senior Notes and recorded as a
credit against interest expense.
In July 2003, we entered into an additional interest rate swap for a
notional amount of $500 million to effectively convert that amount of fixed rate
debt to variable rate debt. As a result, our interest rate swaps currently
relate to $500 million notional amount of debt in the aggregate.
In the 2003 first quarter, we entered into interest rate caps for a
notional amount of $300 million. In the 2003 second quarter, we also entered
into additional interest rate caps for a notional amount of $200 million
(bringing our total notional amount of caps to $500 million through August
2007). The adjustment for the fair value of the hedged debt obligation was $8
million at December 31, 2002 and nil at June 30, 2003 and has been recorded as
part of other assets in the Consolidated Balance Sheet. The adjustment for the
fair value of the interest rate caps was $2 million for the 2003 first half, and
has been recorded as a charge to other (income) and expense, net, in the
Consolidated Statements of Operations.
Our exposure to changes in currency exchange rates results primarily
from:
o investments in and intercompany loans to our foreign subsidiaries
and our share of the earnings of those subsidiaries, to the
extent denominated in currencies other than local currencies;
o raw material purchases made by our foreign subsidiaries in
currencies other than local currencies; and
o export sales made by our subsidiaries in currencies other than
local currencies.
When we deem it appropriate, we may attempt to limit our risks
associated with changes in currency exchange rates through both operational
activities and financial instruments. Financial instruments may be used to
attempt to hedge existing exposures, firm commitments and, potentially,
anticipated transactions. We use these instruments to reduce risk by essentially
creating offsetting currency exposures. These instruments include forward
exchange contracts and purchased foreign currency options, and are primarily
used to attempt to hedge net global currency exposures relating to
euro-denominated debt and identifiable foreign currency receivables, payables
and commitments. Forward exchange contracts are agreements to exchange different
currencies at a specified future date and at a specified rate. Purchased foreign
currency options are instruments which give the holder the right, but not the
obligation, to exchange different currencies at a specified rate at a specified
date or over a range of specified
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PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
dates. The result is the creation of a range in which a best and worst price is
defined, while minimizing option cost.
We held contracts against these risks with an aggregate net notional
amount of about $56 million at December 31, 2002 and $17 million at June 30,
2003. All of our contracts mature within one year. All of our contracts are
marked to market monthly. Gains and losses are included in other (income)
expense, net. Unrealized gains and losses on outstanding foreign currency
contracts were a loss of $2 million for the 2002 first half and a loss of $2
million for the 2003 first half.
We used a sensitivity analysis to assess the potential effect of changes
in currency exchange rates and interest rates on reported earnings for the 2003
first half. Based on this analysis, a hypothetical 10% weakening or
strengthening in the dollar across all other currencies would have changed our
reported gross margin for the 2003 first half by about $2 million. A
hypothetical increase in interest rates of 100 basis points across all
maturities would have increased our interest expense for the 2003 first half by
about $4 million.
ITEM 4. CONTROLS AND PROCEDURES
Under the supervision and with the participation of our management,
including our Chief Executive Officer and our Chief Financial Officer, we have
evaluated the effectiveness of the design and operation of our disclosure
controls and procedures as of the end of the period covered by this Report.
Based on that evaluation and subject to the limitations described below, our
Chief Executive Officer and our Chief Financial Officer have concluded that
these controls and procedures are effective. There were no significant changes
in our internal controls or in other factors that could significantly affect
these controls subsequent to the date of that evaluation.
Disclosure controls and procedures are our controls and other procedures
that are designed to ensure that information required to be disclosed by us in
the reports that we file or submit under the Securities Exchange Act of 1934 is
recorded, processed, summarized and reported within the time periods specified
in the SEC's rules and forms. Disclosure controls and procedures include
controls and procedures designed to ensure that information required to be
disclosed by us in the reports that we file under the Exchange Act is
accumulated and communicated to our management, including our Chief Executive
Officer and our Chief Financial Officer, as appropriate to allow timely
decisions regarding required disclosure.
A control system is subject to inherent limitations and, as a result,
can provide only reasonable, not absolute, assurance that the system's
objectives will be achieved. In the first instance, the design of a control
system must reflect the fact that there are resource constraints, and the
benefits of controls must be considered relative to their costs. Further,
decision-making in connection with system design or operation can be faulty, and
breakdowns can occur because of simple error or mistake. In addition, controls
can be circumvented by the acts of single individuals, by collusion of two or
more individuals, or by management override of the controls. The design of any
system of controls is based in part upon certain assumptions about the
74
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
likelihood of future events, and there can be no assurance that any design will
succeed in achieving its stated objectives under all potential future
conditions. Over time, controls may become inadequate because of changes in
conditions or deterioration in the degree of compliance with policies or
procedures. In light of the inherent limitations in a cost-effective control
system, misstatements due to error or fraud may occur and not be detected.
75
PART II
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
ITEM 1. LEGAL PROCEEDINGS
This information required in response to this Item is set forth in Note
7 to the Notes to Consolidated Financial Statements contained in this Report,
and such information is hereby incorporated herein by reference.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
In the 2003 first half, we contributed 1,200,000 shares of common stock
into the trust for our qualified U.S. retirement plan. These shares may be sold
by the trust in the future to provide funding to meet obligations under the
plan. This contribution was exempt from registration under Section 4(2) of the
Securities Act of 1933 because it did not involve the public offering of
securities. We may make additional similar contributions to this and other plans
in future periods.
We may contribute up to 1,573,600 shares of common stock into a benefits
protection trust which we adopted to assist us in providing for payment of
nonqualified retirement and other benefit plan obligations to management as well
as payment of obligations with respect to certain compensation deferred by
management and earnings thereon under our compensation deferral plan. These
shares, in addition to the 426,400 shares similarly contributed in 2001, may be
sold in the future to provide funding to meet such obligations. This
contribution would be exempted from registration under Section 4(2) of the
Securities Act of 1933 because it would not involve the public offering of
securities.
In July 2003, we adopted a long term incentive program. Under this
program, we granted five and one-half-year options to certain officers and
managers to purchase an aggregate of 2,921,500 shares of common stock at an
exercise price equal to the fair market value at date of grant. The options vest
five years from the grant date and expire five months later. Accelerated vesting
occurs if certain cash flow performance targets are achieved in each of 2003,
2004 and 2005. The options were granted under the Management Stock Incentive
Plan (Senior Version), the Management Stock Incentive Plan (Mid-Management
Version), the 1995 Equity Incentive Plan and the 1996 Mid-Management Equity
Incentive Plan. At the date of and before giving effect to such grant, 1,915,733
shares were available for award thereunder to officers and other managers and an
additional 2,429,804 shares were available for award to non-officer managers. We
intend to register the issuance of the shares of common stock issuable upon
exercise of the options under the Securities Act of 1933.
In June 2003, we exchanged $20 million aggregate principal amount of
Senior Notes, plus accrued interest of approximately $1 million, for 3,800,758
shares of common stock. In July and August 2003, we exchanged an additional $30
million aggregate principal amount of Senior Notes, plus accrued interest of
approximately $1 million, for 5,404,329 shares of common stock. The Senior Notes
are fully and unconditionally guaranteed by GTI. These transactions were exempt
from registration under Section 3(a)(9) of the Securities Act of 1933 because
the shares of common stock were issued to holders of Senior Notes (the issuance
of which had been registered under the Securities Act of 1933) solely in
exchange for Senior Notes and no
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PART II (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
commission or remuneration was paid or given directly or indirectly in
connection with any such exchange.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On May 28, 2003, GTI held its annual meeting of stockholders in Wilmington,
Delaware.
At the meeting, the stockholders elected directors, and the shares present
at the meeting were voted for or withheld from each nominee, as follows:
Number of Percentage Number of
Shares of Votes Shares
Name of Director Cast For Cast For Withheld
- ---------------- -------- -------- --------
R. Eugene Cartledge 49,306,803 86.1 2,345,006
Mary B. Cranston 31,452,912 54.9 20,198,897
John R. Hall 49,340,013 86.1 2,311,796
Harold E. Layman 48,953,095 85.4 2,698,714
Ferrell P. McClean 48,618,024 84.9 3,033,785
Michael C. Nahl 48,930,199 85.4 2,721,610
Gilbert E. Playford 49,771,698 86.9 1,880,111
Craig S. Shular 49,899,586 87.1 1,752,223
At the meeting, the stockholders voted on a proposal to amend the Amended
and Restated Certificate of Incorporation of GTI to increase the number of
shares of common stock authorized for issuance by 50,000,000 shares. The
proposal was approved and the amendment became effective on June 10, 2003. The
shares present at the meeting were voted on the proposal as follows:
Number of Percentage of Number of Shares Number of
Shares Cast For Shares Cast For Cast Against Shares Abstaining
--------------- --------------- ------------ -----------------
46,555,830 81.3 5,007,719 88,260
At the meeting, the stockholders voted on a proposal to amend the
Management Stock Incentive Plan (Senior Version) to increase the number of
shares authorized for awards to non-employee directors, officers and other
management employees by 2,500,000 shares. The proposal was not approved. The
shares present at the meeting were voted on the proposal as follows:
Number of Percentage of Number of Shares Number of
Shares Cast For Shares Cast For Cast Against Shares Abstaining
--------------- --------------- ------------ -----------------
19,355,687 33.7 32,194,249 101,873
77
PART II (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(A) EXHIBITS
The exhibits listed in the following table have been filed as part of this
Report.
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT
------ ----------------------
3.1 Certificate of Amendment to Amended and Restated Certificate
of Incorporation of GTI.
31.1 Certification pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002, by Craig S. Shular, Chief Executive Officer and
President.
31.2 Certification pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002, by Corrado F. De Gasperis, Vice President, Chief
Financial Officer and Chief Information Officer.
32.1 Certification pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002, by Craig S. Shular, Chief Executive Officer.
32.2 Certification pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002, by Corrado F. De Gasperis, Chief Financial
Officer.
(B) REPORTS ON FORM 8-K
No reports on Form 8-K were filed during the 2003 second quarter.
78
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this Report to be signed on its behalf by the
undersigned thereunto duly authorized.
GRAFTECH INTERNATIONAL LTD.
Date: August 14, 2003 By: /s/ Corrado F. De Gasperis
----------------------------------------------
Corrado F. De Gasperis
Vice President, Chief Financial Officer and
Chief Information Officer (Principal
Accounting Officer)
79
INDEX TO EXHIBITS
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT
------ ----------------------
3.1 Certificate of Amendment to Amended and Restated Certificate
of Incorporation of GTI.
31.1 Certification pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002, by Craig S. Shular, Chief Executive Officer and
President.
31.2 Certification pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002, by Corrado F. De Gasperis, Vice President,
Chief Financial Officer and Chief Information Officer.
32.1 Certification pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002, by Craig S. Shular, Chief Executive Officer and
President.
32.2 Certification pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002, by Corrado F. De Gasperis, Vice President,
Chief Financial Officer and Chief Information Officer.
80