SECURITIES AND EXCHANGE COMMISSION
FORM 10-Q
(Mark One)
þ Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended February 28, 2005
o Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from ___to ___
Commission file number: 0-7459
A. Schulman, Inc.
Delaware
|
34-0514850 | |
(State or Other Jurisdiction of
|
(I.R.S. Employer | |
Incorporation or Organization)
|
Identification No.) |
3550 West Market Street, Akron, Ohio
|
44333 | |||
(Address of Principal Executive Offices)
|
(Zip Code) | |||
(330) 666-3751
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 þ No o
Indicate by check mark whether the Registrant is an Accelerated Filer (as defined in Exchange Act Rule 12b-2).
Yes þ No o
Number of common shares outstanding as of March 31, 2005 – 30,661,080
- 1 -
PART I – FINANCIAL INFORMATION
ITEM 1 CONSOLIDATED FINANCIAL STATEMENTS
A. SCHULMAN, INC.
CONSOLIDATED STATEMENT OF INCOME (Notes 1, 2 and 3)
(in thousands except per share data)
| For the three months ended | For the six months ended | |||||||||||||||
| February 28, | February 29, | February 28, | February 29, | |||||||||||||
| 2005 | 2004 | 2005 | 2004 | |||||||||||||
| Unaudited | Unaudited | |||||||||||||||
Net sales |
$ | 350,042 | $ | 291,246 | $ | 713,184 | $ | 589,003 | ||||||||
Interest and other income |
410 | 382 | 797 | 874 | ||||||||||||
| 350,452 | 291,628 | 713,981 | 589,877 | |||||||||||||
Cost and expenses: |
||||||||||||||||
Cost of sales |
302,761 | 248,609 | 612,267 | 499,497 | ||||||||||||
Selling, general and administrative expenses |
33,819 | 30,772 | 70,477 | 60,103 | ||||||||||||
Interest expense |
964 | 1,037 | 1,881 | 2,117 | ||||||||||||
Foreign currency transaction (gain) loss |
(277 | ) | 77 | 2,007 | 574 | |||||||||||
Restructuring expense – N. America (Note 11) |
12 | — | 216 | — | ||||||||||||
Minority interest |
215 | 325 | 635 | 630 | ||||||||||||
| 337,494 | 280,820 | 687,483 | 562,921 | |||||||||||||
Income before taxes |
12,958 | 10,808 | 26,498 | 26,956 | ||||||||||||
Provision for U.S. and foreign income taxes (Note 9) |
1,748 | 5,498 | 8,273 | 12,102 | ||||||||||||
Net income (Note 9) |
11,210 | 5,310 | 18,225 | 14,854 | ||||||||||||
Less: Preferred stock dividends |
(14 | ) | (14 | ) | (27 | ) | (27 | ) | ||||||||
Net income applicable to common stock |
$ | 11,196 | $ | 5,296 | $ | 18,198 | $ | 14,827 | ||||||||
Weighted-average number of shares outstanding (Note 6): |
||||||||||||||||
Basic |
30,656 | 30,123 | 30,598 | 29,946 | ||||||||||||
Diluted |
31,109 | 30,588 | 31,081 | 30,314 | ||||||||||||
Earnings per share (Note 6): |
||||||||||||||||
Basic |
$ | 0.36 | $ | 0.18 | $ | 0.59 | $ | 0.50 | ||||||||
Diluted |
$ | 0.36 | $ | 0.17 | $ | 0.59 | $ | 0.49 | ||||||||
The accompanying notes are an integral part of the consolidated financial statements.
- 2 -
A. SCHULMAN, INC.
CONSOLIDATED BALANCE SHEET (Notes 1, 2 and 3)
(in thousands)
| February 28, | August 31, | |||||||
| 2005 | 2004 | |||||||
| Unaudited | ||||||||
Assets |
||||||||
Current assets: |
||||||||
Cash and cash equivalents (Note 4) |
$ | 52,608 | $ | 72,898 | ||||
Accounts receivable, less allowance for doubtful accounts of
$11,082 at February 28, 2005 and $9,268 at August 31, 2004 |
239,728 | 204,091 | ||||||
Inventories, average cost or market, whichever is lower |
288,822 | 232,102 | ||||||
Prepaids, including tax effect of temporary differences |
21,065 | 13,339 | ||||||
Total current assets |
602,223 | 522,430 | ||||||
Other assets: |
||||||||
Cash surrender value of life insurance |
1,382 | 974 | ||||||
Deferred charges, etc., including tax effect of
temporary differences |
14,911 | 16,080 | ||||||
Goodwill |
5,487 | 5,253 | ||||||
Intangible assets (Note 10) |
2,621 | 2,653 | ||||||
| 24,401 | 24,960 | |||||||
Property, plant and equipment, at cost: |
||||||||
Land and improvements |
13,091 | 12,465 | ||||||
Buildings and leasehold improvements |
132,355 | 124,760 | ||||||
Machinery and equipment |
294,269 | 274,279 | ||||||
Furniture and fixtures |
35,279 | 32,999 | ||||||
Construction in progress |
10,075 | 10,178 | ||||||
| 485,069 | 454,681 | |||||||
Accumulated depreciation and investment grants of $1,338 at
February 28, 2005 and $1,172 at August 31, 2004 |
303,793 | 277,975 | ||||||
| 181,276 | 176,706 | |||||||
| $ | 807,900 | $ | 724,096 | |||||
The accompanying notes are an integral part of the consolidated financial statements.
- 3 -
A. SCHULMAN, INC.
CONSOLIDATED BALANCE SHEET (Notes 1, 2 and 3)
(in thousands)
| February 28, | August 31, | |||||||
| 2005 | 2004 | |||||||
| Unaudited | ||||||||
Liabilities and Stockholders’ Equity |
||||||||
Current liabilities: |
||||||||
Notes payable |
$ | 2,590 | $ | — | ||||
Current portion of long-term debt |
461 | 418 | ||||||
Accounts payable |
114,923 | 95,160 | ||||||
U.S. and foreign income taxes payable |
20,817 | 12,573 | ||||||
Accrued payrolls, taxes and related benefits |
25,189 | 26,300 | ||||||
Other accrued liabilities |
31,197 | 29,685 | ||||||
Total current liabilities |
195,177 | 164,136 | ||||||
Long-term debt |
51,100 | 49,679 | ||||||
Other long-term liabilities |
69,203 | 61,984 | ||||||
Deferred income taxes |
8,381 | 8,030 | ||||||
Minority interest |
5,065 | 5,030 | ||||||
Commitments and contingencies (Note 18) |
— | — | ||||||
Stockholders’ equity (Note 5): |
||||||||
Preferred stock, 5% cumulative, $100 par value, 10,564 shares
outstanding at February 28, 2005 and 10,566 shares
at August 31, 2004 |
1,057 | 1,057 | ||||||
Special stock, 1,000,000 shares authorized, none outstanding |
— | — | ||||||
Common
stock, $1 par value,
Authorized - 75,000,000 shares
Issued - 39,871,675 shares at February 28, 2005
and 39,633,132 at August 31, 2004 |
39,872 | 39,633 | ||||||
Other capital |
74,381 | 69,812 | ||||||
Accumulated other comprehensive income (Note 7) |
49,037 | 18,643 | ||||||
Retained earnings |
483,053 | 473,540 | ||||||
Treasury stock, at cost, 9,211,095 shares at February 28, 2005
and August 31, 2004 |
(164,231 | ) | (164,231 | ) | ||||
Unearned stock grant compensation |
(4,195 | ) | (3,217 | ) | ||||
Common stockholders’ equity |
477,917 | 434,180 | ||||||
Total stockholders’ equity |
478,974 | 435,237 | ||||||
| $ | 807,900 | $ | 724,096 | |||||
The accompanying notes are an integral part of the consolidated financial statements.
- 4 -
A. SCHULMAN, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS (Notes 1, 2 and 3)
(in thousands)
| For the six months ended | ||||||||
| February 28, | February 29, | |||||||
| 2005 | 2004 | |||||||
| Unaudited | ||||||||
Provided from (used in) operating activities: |
||||||||
Net income |
$ | 18,225 | $ | 14,854 | ||||
Items not requiring the current use of cash: |
||||||||
Depreciation |
12,848 | 13,333 | ||||||
Non-current deferred taxes |
2,067 | 2,501 | ||||||
Foreign pension and other deferred compensation |
3,874 | 3,200 | ||||||
Postretirement benefit obligation |
1,478 | 485 | ||||||
Minority interest in net income of subsidiaries |
635 | 630 | ||||||
Changes in working capital: |
||||||||
Accounts receivable |
(21,641 | ) | (9,103 | ) | ||||
Inventories |
(41,447 | ) | 4,530 | |||||
Prepaids |
72 | (485 | ) | |||||
Accounts payable |
14,478 | 12,796 | ||||||
Income taxes |
(2,142 | ) | (3,787 | ) | ||||
Accrued payrolls and other accrued liabilities |
1,331 | (4,852 | ) | |||||
Changes in other assets and other long-term liabilities |
(3,520 | ) | (429 | ) | ||||
Net cash provided from (used in) operating activities |
(13,742 | ) | 33,673 | |||||
Provided from (used in) investing activities: |
||||||||
Expenditures for property, plant and equipment |
(8,245 | ) | (11,733 | ) | ||||
Disposals of property, plant and equipment |
82 | 106 | ||||||
Net cash used in investing activities |
(8,163 | ) | (11,627 | ) | ||||
Provided from (used in) financing activities: |
||||||||
Cash dividends paid |
(8,712 | ) | (8,202 | ) | ||||
Notes payable |
2,544 | (26 | ) | |||||
Increase in long-term debt |
1,395 | — | ||||||
Reduction in long-term debt |
— | (8,172 | ) | |||||
Cash distributions to minority shareholders |
(600 | ) | (750 | ) | ||||
Exercise of stock options |
3,284 | 7,836 | ||||||
Net cash used in financing activities |
(2,089 | ) | (9,314 | ) | ||||
Effect of exchange rate changes on cash |
3,704 | 6,278 | ||||||
Net increase (decrease) in cash and cash equivalents |
(20,290 | ) | 19,010 | |||||
Cash and cash equivalents at beginning of period |
72,898 | 62,816 | ||||||
Cash and cash equivalents at end of period |
$ | 52,608 | $ | 81,826 | ||||
The accompanying notes are an integral part of the consolidated financial statements.
- 5 -
A. SCHULMAN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the six months ended February 28, 2005 and February 29, 2004
| (1) | The Company’s accounting policy regarding revenue recognition is to recognize revenue when products are shipped to unaffiliated customers and both title and the risks and rewards of ownership are transferred. | |||
| The Company provides tolling services as a fee for processing of material provided and owned by customers. On some occasions, the Company is required to provide certain amounts of its materials, such as additives or packaging. These materials are charged to the customer as an addition to the tolling fees. The Company recognizes revenues from tolling services and related materials when such services are performed. The only amounts recorded as revenue related to tolling are the processing fees and the charges related to materials provided by the Company. | ||||
| The accounting policies for the periods presented are the same as described in Note 1 – Summary of Significant Accounting Policies to the consolidated financial statements contained in the Company’s Annual Report on Form 10-K for the fiscal year ended August 31, 2004. | ||||
| The intrinsic value method is used to measure compensation cost for stock-based compensation plans. Compensation cost for stock options is measured as the excess, if any, of the quoted market price of the Company’s common stock at the date of the grant over the amount the employee would pay to acquire the shares. | ||||
| The following table represents the impact on net income and earnings per share had the fair value based method been applied to measure compensation cost: | ||||
| (in thousands except per share data) | ||||||||||||||||
| For the three months ended | For the six months ended | |||||||||||||||
| February 28, | February 29, | February 28, | February 29, | |||||||||||||
| 2005 | 2004 | 2005 | 2004 | |||||||||||||
Net income applicable to common stock, as reported |
$ | 11,196 | $ | 5,296 | $ | 18,198 | $ | 14,827 | ||||||||
Add: Stock-based employee compensation included
in reported net income, net of tax |
57 | 567 | 546 | 1,139 | ||||||||||||
Deduct: Total stock-based employee compensation determined
under the fair value method, net of tax where applicable |
(1,030 | ) | (1,231 | ) | (2,442 | ) | (2,243 | ) | ||||||||
Net income applicable to common stock, as adjusted |
$ | 10,223 | $ | 4,632 | $ | 16,302 | $ | 13,723 | ||||||||
Earnings per share: |
||||||||||||||||
Basic
— as reported |
$ | 0.36 | $ | 0.18 | $ | 0.59 | $ | 0.50 | ||||||||
— as adjusted |
$ | 0.33 | $ | 0.15 | $ | 0.53 | $ | 0.46 | ||||||||
Diluted
— as reported |
$ | 0.36 | $ | 0.17 | $ | 0.59 | $ | 0.49 | ||||||||
— as adjusted |
$ | 0.33 | $ | 0.15 | $ | 0.53 | $ | 0.45 | ||||||||
- 6 -
A. SCHULMAN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the six months ended February 28, 2005 and February 29, 2004
| (2) | The results of operations for the three and six months ended February 28, 2005 are not necessarily indicative of the results expected for the year ended August 31, 2005. | |||
| (3) | The interim financial statements furnished reflect all adjustments, which are, in the opinion of management, necessary to a fair presentation of the results of the interim period presented. All such adjustments are of a normal recurring nature. | |||
| (4) | All highly liquid investments purchased with a maturity of three months or less are considered to be cash equivalents. Such investments amounted to $12,739,000 at February 28, 2005 and $39,671,000 at August 31, 2004. | |||
- 7 -
A. SCHULMAN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the six months ended February 28, 2005 and February 29, 2004
| (5) | A summary of the stockholders’ equity section for the six months ended February 28, 2005 and February 29, 2004 is as follows: |
(in thousands)
(Unaudited)
| Accumulated | ||||||||||||||||||||||||||||||||
| Other | Unearned Stock | Total | ||||||||||||||||||||||||||||||
| Preferred | Common | Other | Comprehensive | Retained | Grant | Stockholders’ | ||||||||||||||||||||||||||
| Stock | Stock | Capital | Income | Earnings | Treasury Stock | Compensation | Equity | |||||||||||||||||||||||||
Balance at September 1, 2004 |
$ | 1,057 | $ | 39,633 | $ | 69,812 | $ | 18,643 | $ | 473,540 | $ | (164,231 | ) | $ | (3,217 | ) | $ | 435,237 | ||||||||||||||
Comprehensive income: |
||||||||||||||||||||||||||||||||
Net income |
— | — | — | — | 18,225 | — | — | |||||||||||||||||||||||||
Foreign currency
translation gain |
— | — | — | 30,394 | — | — | — | |||||||||||||||||||||||||
Total comprehensive
income |
48,619 | |||||||||||||||||||||||||||||||
Cash dividends paid or accrued: |
||||||||||||||||||||||||||||||||
Preferred, $2.50 per share |
— | — | — | — | (27 | ) | — | — | (27 | ) | ||||||||||||||||||||||
Common, $.28 per share |
— | — | — | — | (8,685 | ) | — | — | (8,685 | ) | ||||||||||||||||||||||
Stock options exercised |
— | 239 | 3,045 | — | — | — | — | 3,284 | ||||||||||||||||||||||||
Grant of
restricted stock, net |
— | — | 1,337 | — | — | — | (1,337 | ) | — | |||||||||||||||||||||||
Non-cash stock based
compensation |
— | — | 187 | — | — | — | — | 187 | ||||||||||||||||||||||||
Amortization of
restricted stock |
— | — | — | — | — | — | 359 | 359 | ||||||||||||||||||||||||
Balance at February 28, 2005 |
$ | 1,057 | $ | 39,872 | $ | 74,381 | $ | 49,037 | $ | 483,053 | $ | (164,231 | ) | $ | (4,195 | ) | $ | 478,974 | ||||||||||||||
- 8 -
A. SCHULMAN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the six months ended February 28, 2005 and February 29, 2004
(in thousands)
(Unaudited)
| Accumulated | ||||||||||||||||||||||||||||||||
| Other | Unearned Stock | Total | ||||||||||||||||||||||||||||||
| Preferred | Common | Other | Comprehensive | Retained | Treasury | Grant | Stockholders’ | |||||||||||||||||||||||||
| Stock | Stock | Capital | Income (Loss) | Earnings | Stock | Compensation | Equity | |||||||||||||||||||||||||
Balance at September 1, 2003 |
$ | 1,057 | $ | 38,781 | $ | 56,035 | $ | (8,365 | ) | $ | 462,104 | $ | (164,231 | ) | $ | (2,560 | ) | $ | 382,821 | |||||||||||||
Comprehensive income: |
||||||||||||||||||||||||||||||||
Net income |
— | — | — | — | 14,854 | — | — | |||||||||||||||||||||||||
Foreign currency
translation gain |
— | — | — | 36,269 | — | — | — | |||||||||||||||||||||||||
Total comprehensive
income |
51,123 | |||||||||||||||||||||||||||||||
Cash dividends paid or accrued: |
||||||||||||||||||||||||||||||||
Preferred, $2.50 per share |
— | — | — | — | (27 | ) | — | — | (27 | ) | ||||||||||||||||||||||
Common, $.27 per share |
— | — | — | — | (8,175 | ) | — | — | (8,175 | ) | ||||||||||||||||||||||
Stock options exercised |
— | 577 | 7,259 | — | — | — | — | 7,836 | ||||||||||||||||||||||||
Grant of restricted stock |
— | — | 2,080 | — | — | — | (2,080 | ) | — | |||||||||||||||||||||||
Non-cash stock based
compensation |
— | — | 464 | — | — | — | — | 464 | ||||||||||||||||||||||||
Amortization of
restricted stock |
— | — | — | — | — | — | 675 | 675 | ||||||||||||||||||||||||
Balance at February 29, 2004 |
$ | 1,057 | $ | 39,358 | $ | 65,838 | $ | 27,904 | $ | 468,756 | $ | (164,231 | ) | $ | (3,965 | ) | $ | 434,717 | ||||||||||||||
- 9 -
A. SCHULMAN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the six months ended February 28, 2005 and February 29, 2004
| (6) | Basic earnings per share is computed by dividing income applicable to common shareholders by the weighted-average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if common stock equivalents were exercised and then shared in the earnings of the Company. | |||
| During the six months ended February 28, 2005, the Company did not repurchase any shares of its common stock. Approximately 1.7 million shares remain under a nine-million share authorization approved by the Board of Directors in August 1998. Subject to market conditions, the Company may repurchase common stock in fiscal year 2005. | ||||
| (7) | The components of Accumulated Other Comprehensive Income are as follows: | |||
| (in thousands) | ||||||||
| Unaudited | ||||||||
| February 28, | August 31, | |||||||
| 2005 | 2004 | |||||||
Foreign currency translation gain |
$ | 51,548 | $ | 21,154 | ||||
Minimum pension liability |
(2,511 | ) | (2,511 | ) | ||||
| $ | 49,037 | $ | 18,643 | |||||
- 10 -
A. SCHULMAN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the six months ended February 28, 2005 and February 29, 2004
| (8) | The Company is engaged in the sale of plastic resins in various forms, which are used as raw materials by its customers. The Company operates in two geographic business segments, North America and Europe, which includes Asia. A reconciliation of segment income to consolidated income (loss) before taxes is presented below: |
| (in thousands) | ||||||||||||||||
| (Unaudited) | ||||||||||||||||
| North | ||||||||||||||||
| America | Europe | Other | Consolidated | |||||||||||||
Three months ended February 28, 2005 |
||||||||||||||||
Sales to unaffiliated customers |
$ | 103,663 | $ | 246,379 | $ | — | $ | 350,042 | ||||||||
Gross profit |
$ | 11,857 | $ | 35,424 | $ | — | $ | 47,281 | ||||||||
Income (loss) before interest, restructuring and taxes |
$ | (1,639 | ) | $ | 15,306 | $ | — | $ | 13,667 | |||||||
Interest expense, net |
$ | — | $ | — | $ | (697 | ) | $ | (697 | ) | ||||||
Restructuring expense (Note 11) |
$ | (12 | ) | $ | — | $ | — | $ | (12 | ) | ||||||
Income (loss) before taxes |
$ | (1,651 | ) | $ | 15,306 | $ | (697 | ) | $ | 12,958 | ||||||
Three months ended February 29, 2004 |
||||||||||||||||
Sales to unaffiliated customers |
$ | 93,419 | $ | 197,827 | $ | — | $ | 291,246 | ||||||||
Gross profit |
$ | 8,866 | $ | 33,771 | $ | — | $ | 42,637 | ||||||||
Income (loss) before interest and taxes |
$ | (3,248 | ) | $ | 14,789 | $ | — | $ | 11,541 | |||||||
Interest expense, net |
$ | — | $ | — | $ | (733 | ) | $ | (733 | ) | ||||||
Income (loss) before taxes |
$ | (3,248 | ) | $ | 14,789 | $ | (733 | ) | $ | 10,808 | ||||||
Six months ended February 28, 2005 |
||||||||||||||||
Sales to unaffiliated customers |
$ | 211,206 | $ | 501,978 | $ | — | $ | 713,184 | ||||||||
Gross profit |
$ | 23,977 | $ | 76,940 | $ | — | $ | 100,917 | ||||||||
Income (loss) before interest, restructuring and taxes |
$ | (5,537 | ) | $ | 33,608 | $ | — | $ | 28,071 | |||||||
Interest expense, net |
$ | — | $ | — | $ | (1,357 | ) | $ | (1,357 | ) | ||||||
Restructuring expense (Note 11) |
$ | (216 | ) | $ | — | $ | — | $ | (216 | ) | ||||||
Income (loss) before taxes |
$ | (5,753 | ) | $ | 33,608 | $ | (1,357 | ) | $ | 26,498 | ||||||
Six months ended February 29, 2004 |
||||||||||||||||
Sales to unaffiliated customers |
$ | 197,692 | $ | 391,311 | $ | — | $ | 589,003 | ||||||||
Gross profit |
$ | 21,129 | $ | 68,377 | $ | — | $ | 89,506 | ||||||||
Income (loss) before interest and taxes |
$ | (3,828 | ) | $ | 32,236 | $ | — | $ | 28,408 | |||||||
Interest expense, net |
$ | — | $ | — | $ | (1,452 | ) | $ | (1,452 | ) | ||||||
Income (loss) before taxes |
$ | (3,828 | ) | $ | 32,236 | $ | (1,452 | ) | $ | 26,956 | ||||||
- 11 -
A. SCHULMAN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the six months ended February 28, 2005 and February 29, 2004
The majority of the Company’s sales for the three and six months ended February 28, 2005 and February 29, 2004 can be classified into five primary product families. The approximate amount and percentage of consolidated sales for these product families is as follows:
| (in thousands) | ||||||||||||||||||||
| Amount and percentage of | ||||||||||||||||||||
| sales for the three months ended | ||||||||||||||||||||
| Product Family | February 28, 2005 | February 29, 2004 | ||||||||||||||||||
Color and additive concentrates |
$ | 122,300 | 35 | % | $ | 106,587 | 37 | % | ||||||||||||
Polyolefins |
104,270 | 30 | 78,336 | 27 | ||||||||||||||||
Engineered compounds |
90,750 | 26 | 78,861 | 27 | ||||||||||||||||
Polyvinyl chloride (PVC) |
12,438 | 4 | 13,224 | 5 | ||||||||||||||||
Tolling |
4,398 | 1 | 2,912 | 1 | ||||||||||||||||
Other |
15,886 | 4 | 11,326 | 3 | ||||||||||||||||
| $ | 350,042 | 100 | % | $ | 291,246 | 100 | % | |||||||||||||
| (in thousands) | ||||||||||||||||||||
| Amount and percentage of | ||||||||||||||||||||
| sales for the six months ended | ||||||||||||||||||||
| Product Family | February 28, 2005 | February 29, 2004 | ||||||||||||||||||
Color and additive concentrates |
$ | 244,026 | 34 | % | $ | 215,065 | 37 | % | ||||||||||||
Polyolefins |
210,666 | 30 | 158,563 | 27 | ||||||||||||||||
Engineered compounds |
187,155 | 26 | 157,975 | 27 | ||||||||||||||||
Polyvinyl chloride (PVC) |
26,736 | 4 | 28,496 | 5 | ||||||||||||||||
Tolling |
8,156 | 1 | 5,890 | 1 | ||||||||||||||||
Other |
36,445 | 5 | 23,014 | 3 | ||||||||||||||||
| $ | 713,184 | 100 | % | $ | 589,003 | 100 | % | |||||||||||||
| (9) | The effective tax rates of 14.0% and 31.8% for the three and six months ended February 28, 2005 were lower than the statutory rate of 35.0%. The reason for the lower effective tax rates was the realization of tax benefits of approximately $4,370,000 from certain tax reserves. These reserves were no longer required due to a change in Mexican tax laws effective in December, 2004 and the favorable settlement of a tax claim in Canada. In addition, the Company incurred additional tax costs of approximately $1 million during the November 2004 quarter due to a change in German tax law effective September 1, 2004. Changes were implemented by the Company in the November 2004 quarter that will mitigate the effect of the increase in taxes in Germany for future periods. |
- 12 -
A. SCHULMAN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the six months ended February 28, 2005 and February 29, 2004
| The effective tax rates of 50.9% and 44.9% for the three and six months ended February 29, 2004, respectively, were greater than the statutory rate of 35.0% primarily because no tax benefits were recognized on losses in the United States. | ||||
| (10) | Accumulated amortization for intangible assets was approximately $1,239,000 and $1,044,000 at February 28, 2005 and August 31, 2004, respectively. The amortization expense for intangible assets was approximately $59,000 and $115,000 for the three and six months ended February 28, 2005, respectively, and $59,000 and $115,000 for the three and six months ended February 29, 2004, respectively. The Company does not anticipate any significant changes in amortization expense for intangible assets in future periods. | |||
| (11) | During the fourth quarter of fiscal 2004, in order to balance capacity with demand, the Company closed two manufacturing lines at its Nashville, Tennessee plant. As a result, the Company recorded pre-tax charges of $1,769,000 for the year ended August 31, 2004 and $216,000 for the six months ended February 28, 2005, respectively. | |||
| These charges were primarily non-cash and are summarized below: | ||||
| (in thousands) | ||||||||||||||||||||||||
| Paid | Accrual | Paid | Accrual | |||||||||||||||||||||
| Original | fiscal | balance | 2005 | fiscal | balance | |||||||||||||||||||
| Charge | 2004 | 8/31/04 | Charge | 2005 | 2/28/05 | |||||||||||||||||||
Employee related costs |
$ | 350 | $ | — | $ | 350 | $ | — | $ | (310 | ) | $ | 40 | |||||||||||
Other costs |
66 | — | 66 | 216 | (282 | ) | — | |||||||||||||||||
Restructuring |
416 | $ | — | $ | 416 | $ | 216 | $ | (592 | ) | $ | 40 | ||||||||||||
Accelerated depreciation,
included in North America
cost of sales |
1,353 | |||||||||||||||||||||||
| $ | 1,769 | |||||||||||||||||||||||
The employee related costs included severance payments and medical insurance for 30 employees at the Nashville facility. The other costs include equipment removal and other exit costs that were incurred as of February 28, 2005. The accelerated depreciation represents a change in estimate for the reduced life on equipment totaling $1,353,000. At February 28, 2005 the Company had remaining accruals of $40,000 related to cash out-flows for employee severance.
During fiscal 2003, the Company implemented a restructuring program in its North American operations. The purpose of the program was to improve cost efficiencies and profitability. A large part of this plan included the termination of manufacturing at its plant in Orange, Texas. The Company substantially completed its 2003 restructuring plan at August 31, 2003. As a result, the Company recorded a pre-tax charge of $8,616,000, net of a curtailment gain of $288,000, for the year ended August 31, 2003. The Company also incurred restructuring expense totaling $315,000 related primarily to the disposal of additional equipment and to work pertaining to the closing of the Texas facility during fiscal 2004.
- 13 -
A. SCHULMAN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the six months ended February 28, 2005 and February 29, 2004
The charges for this restructuring were primarily non-cash and are summarized below:
| (in thousands) | ||||||||||||||||||||||||
| Paid | ||||||||||||||||||||||||
| fiscal | Fiscal | Accrual | Paid | Accrual | ||||||||||||||||||||
| Original | 2003 and | 2004 | balance | fiscal | balance | |||||||||||||||||||
| charge | 2004 | charges | 8/31/04 | 2005 | 2/28/05 | |||||||||||||||||||
Employee related costs |
$ | 1,972 | $ | (1,969 | ) | $ | — | $ | 3 | $ | (3 | ) | $ | — | ||||||||||
Other Costs |
4,265 | (4,580 | ) | 315 | — | — | — | |||||||||||||||||
Restructuring |
6,237 | $ | (6,549 | ) | $ | 315 | $ | 3 | $ | (3 | ) | $ | — | |||||||||||
Accelerated depreciation,
included in North America
cost of sales |
2,379 | |||||||||||||||||||||||
| $ | 8,616 | |||||||||||||||||||||||
The employee related costs included severance payments and medical insurance, net of a curtailment gain of $288,000, for 35 salaried and 97 hourly employees primarily at facilities in Ohio and Texas. The curtailment gain represents the gain realized from a reduction of the post-retirement obligation due to a reduction in the workforce. The other costs include a $1,300,000 write-down of the Texas manufacturing facility, the fair market value of which was determined from an independent third party appraisal, a $2,269,000 write-off and disposal of manufacturing equipment and other assets related to dropped product lines and other exit costs. The accelerated depreciation represents a change in estimate for the reduced life on equipment at the Texas manufacturing facility totaling $2,379,000. At February 28, 2005, no further cash out-flows are required by the Company relating to this restructuring.
- 14 -
A. SCHULMAN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the six months ended February 28, 2005 and February 29, 2004
| (12) | The components of the Company’s net periodic benefit cost for defined benefit pension plans and other postretirement benefits are shown below. | |||
| Net periodic pension cost recognized included the following components: | ||||
| (in thousands) | ||||||||||||||||
| Three Months Ended | Six Months Ended | |||||||||||||||
| February 28, 2005 | February 29, 2004 | February 28, 2005 | February 29, 2004 | |||||||||||||
Service cost |
$ | 538 | $ | 500 | $ | 1,056 | $ | 954 | ||||||||
Interest cost |
826 | 731 | 1,624 | 1,379 | ||||||||||||
Expected return on plan assets |
(187 | ) | (137 | ) | (367 | ) | (259 | ) | ||||||||
Net amortization and other |
148 | 242 | 293 | 422 | ||||||||||||
Net periodic benefit cost |
$ | 1,325 | $ | 1,336 | $ | 2,606 | $ | 2,496 | ||||||||
| Postretirement benefit cost included the following components: |
| (in thousands) | ||||||||||||||||
| Three Months Ended | Six Months Ended | |||||||||||||||
| February 28, 2005 | February 29, 2004 | February 28, 2005 | February 29, 2004 | |||||||||||||
Service cost |
$ | 396 | $ | 263 | $ | 792 | $ | 526 | ||||||||
Interest cost |
380 | 323 | 760 | 646 | ||||||||||||
Net amortization and other |
70 | 26 | 140 | 52 | ||||||||||||
Net periodic benefit cost |
$ | 846 | $ | 612 | $ | 1,692 | $ | 1,224 | ||||||||
| (13) | In May 2004, the FASB issued FASB Staff Position 106-2 (“FSP106-2”) regarding SFAS No. 106, Employer’s Accounting for Postretirement Benefits Other than Pensions. FSP 106-2, “Accounting for Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003” discusses the effect of the Medicare Prescription Drug, Improvement and Modernization Act (“the Act”) enacted on December 8, 2003. FSP 106-2 considers the effect of the features introduced in the Act in determining accumulated postretirement benefit obligation and net periodic postretirement benefit cost, which may serve to reduce a company’s postretirement benefit costs. The adoption of FSP 106-2, effective September 1, 2004, did not have a material impact on the Company’s financial position or results of operations. On January 21, 2005 regulations implementing the Act were issued and are not expected to have a material impact on the Company’s financial position or results of operations. |
- 15 -
A. SCHULMAN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the six months ended February 28, 2005 and February 29, 2004
| (14) | In November 2004, the FASB issued SFAS No. 151, (“SFAS 151”), Inventory Costs — an amendment of ARB No. 43, Chapter 4 in an effort to converge U.S. accounting standards for inventories with International Accounting Standards. SFAS 151 requires abnormal amounts of idle facility expense, freight, handling costs and spoilage to be recognized as current period charges. SFAS 151 also requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. The adoption of SFAS 151 is required in the Company’s first quarter of fiscal 2006 and the Company is currently assessing the impact from the adoption of SFAS 151. | |||
| (15) | In December 2004, the FASB revised SFAS No. 123, (“SFAS 123R”), Share-Based Payment. SFAS 123R requires companies to measure all employee stock-based compensation awards using a fair value method and record the related expense in the financial statements. In addition, SFAS 123R requires disclosure of information relating to the nature of share-based payment transactions and the effects of those transactions on the financial statements. The adoption of SFAS 123R is required in the Company’s first quarter of fiscal 2006 and the Company is currently assessing the impact from the adoption of SFAS 123R. | |||
| (16) | In December 2004, the FASB issued SFAS No. 153, (“SFAS 153”), Exchanges of Nonmonetary Assets, an Amendment of APB Opinion No. 29. SFAS 153 addresses the measurement of exchanges of nonmonetary assets and redefines the scope of transactions that should be measured based on the fair value of the assets exchanged. The adoption of SFAS 153 is required in the Company’s first quarter of fiscal 2006. It is not expected to have a material effect on the Company’s financial position or results of operations. | |||
| (17) | In December 2004, the FASB issued FASB Staff Position 109-1, (“FSP 109-1”), Application of FASB Statement No. 109, “Accounting for Income Taxes,” to the Tax Deduction on Qualified Production Activities Provided by the American Jobs Creation Act of 2004. The FASB also issued Staff Position 109-2, (“FSP 109-2”), Accounting and Disclosure Guidance for the Foreign Earnings Repatriation Provision Within the American Jobs Creation Act of 2004 (the “Jobs Creation Act”). The Jobs Creation Act provided deductions for qualified domestic production activities and repatriation of foreign earnings. The adoption of FSP 109-1 and FSP 109-2 by the Company in the February 2005 quarter is not expected to have an impact on the Company’s financial condition, results of operations or cash flows for fiscal 2005. The Company is currently assessing the impact for fiscal years after 2005. | |||
| (18) | The Company is engaged in various legal proceedings arising in the ordinary course of business. The ultimate outcome of these proceedings is not expected to have a material adverse effect on the Company’s financial condition, results of operations or cash flows. | |||
| During fiscal 2004, a railroad company asserted that the Company was liable for environmental costs to investigate and remediate property located near its Bellevue, Ohio facility. The Company has not recorded a reserve relating to this matter and is currently in the process of determining whether it has responsibility with respect to this property. The ultimate outcome of this assertion is not expected to have a material adverse effect on the Company’s financial condition, results of operations or cash flows. | ||||
- 16 -
Item 2 – Management’s Discussion and Analysis of Financial Condition and the Results of Operations
Results of Operations
Sales of $350.0 million were the highest second-quarter revenues in the history of the Company. Net sales increased $58.8 million or 20.2% over last year’s second-quarter sales of $291.2 million. The reasons for the change in sales for the three and six months ended February 28, 2005 are as follows:
| Increase | ||||||||||||
| Three months ended | Six months ended | |||||||||||
| February 28, 2005 | February 28, 2005 | |||||||||||
Tonnage |
3.0 | % | 4.4 | % | ||||||||
Price and product mix |
11.3 | 9.8 | ||||||||||
Translation effect |
5.9 | 6.9 | ||||||||||
| 20.2 | % | 21.1 | % | |||||||||
The tonnage increase for the February 2005 quarter was due primarily to a 5.5% increase in the European operations, including Asia, which was offset by a tonnage decline of 1.5% in North America. The decline in North American tonnage was due primarily to a loss of business that would not accept price increases resulting from higher raw material costs.
A comparison of consolidated sales by business segment for the three and six months ended February 28, 2005 and February 29, 2004 is as follows:
| (in thousands) | (in thousands) | |||||||||||||||||||||||||||||||
| Three months ended | Six months ended | |||||||||||||||||||||||||||||||
| February 28, | February 29, | Increase | February 28, | February 29, | Increase | |||||||||||||||||||||||||||
| Sales | 2005 | 2004 | $ | % | 2005 | 2004 | $ | % | ||||||||||||||||||||||||
Europe |
$ | 246,379 | $ | 197,827 | $ | 48,552 | 24.5 | % | $ | 501,978 | $ | 391,311 | $ | 110,667 | 28.3 | % | ||||||||||||||||
North America |
103,663 | 93,419 | 10,244 | 11.0 | % | 211,206 | 197,692 | 13,514 | 6.8 | % | ||||||||||||||||||||||
| $ | 350,042 | $ | 291,246 | $ | 58,796 | 20.2 | % | $ | 713,184 | $ | 589,003 | $ | 124,181 | 21.1 | % | |||||||||||||||||
The two largest markets served by the Company are the packaging and automotive markets. For the six months ended February 28, 2005, approximately 37% of consolidated sales were derived from packaging and 19% from the automotive market. For the six months ended February 29, 2004, approximately 36% and 22% of consolidated sales were derived from the packaging and automotive markets, respectively. Sales to the automotive market were down because of weakening sales and economic conditions for certain North American companies in that industry.
- 17 -
The majority of the Company’s sales for the three and six months ended February 28, 2005 and February 29, 2004 can be classified into five primary product families. The approximate amount and percentage of consolidated sales for these product families is as follows:
| (in thousands) | ||||||||||||||||||||
| Amount and percentage of | ||||||||||||||||||||
| sales for the three months ended | ||||||||||||||||||||
| Product Family | February 28, 2005 | February 29, 2004 | ||||||||||||||||||
Color and additive concentrates |
$ | 122,300 | 35 | % | $ | 106,587 | 37 | % | ||||||||||||
Polyolefins |
104,270 | 30 | 78,336 | 27 | ||||||||||||||||
Engineered compounds |
90,750 | 26 | 78,861 | 27 | ||||||||||||||||
Polyvinyl chloride (PVC) |
12,438 | 4 | 13,224 | 5 | ||||||||||||||||
Tolling |
4,398 | 1 | 2,912 | 1 | ||||||||||||||||
Other |
15,886 | 4 | 11,326 | 3 | ||||||||||||||||
| $ | 350,042 | 100 | % | $ | 291,246 | 100 | % | |||||||||||||
| (in thousands) | ||||||||||||||||||||
| Amount and percentage of | ||||||||||||||||||||
| sales for the six months ended | ||||||||||||||||||||
| Product Family | February 28, 2005 | February 29, 2004 | ||||||||||||||||||
Color and additive concentrates |
$ | 244,026 | 34 | % | $ | 215,065 | 37 | % | ||||||||||||
Polyolefins |
210,666 | 30 | 158,563 | 27 | ||||||||||||||||
Engineered compounds |
187,155 | 26 | 157,975 | 27 | ||||||||||||||||
Polyvinyl chloride (PVC) |
26,736 | 4 | 28,496 | 5 | ||||||||||||||||
Tolling |
8,156 | 1 | 5,890 | 1 | ||||||||||||||||
Other |
36,445 | 5 | 23,014 | 3 | ||||||||||||||||
| $ | 713,184 | 100 | % | $ | 589,003 | 100 | % | |||||||||||||
- 18 -
A comparison of gross profit dollars and percentages by business segment for the three and six months ended February 28, 2005 and February 29, 2004 is as follows:
| (in thousands) | ||||||||||||||||
| For the three months ended | Increase | |||||||||||||||
| Gross profit $ | February 28, 2005 | February 29, 2004 | $ | % | ||||||||||||
Europe |
$ | 35,424 | $ | 33,771 | $ | 1,653 | 4.9 | |||||||||
North America |
11,857 | 8,866 | 2,991 | 33.7 | ||||||||||||
| $ | 47,281 | $ | 42,637 | $ | 4,644 | 10.9 | ||||||||||
Gross
profit % |
||||||||||||||||
Europe |
14.4 | 17.1 | ||||||||||||||
North America |
11.4 | 9.5 | ||||||||||||||
Consolidated |
13.5 | 14.6 | ||||||||||||||
| (in thousands) | ||||||||||||||||
| For the six months ended | Increase | |||||||||||||||
| Gross profit $ | February 28, 2005 | February 29, 2004 | $ | % | ||||||||||||
Europe |
$ | 76,940 | $ | 68,377 | $ | 8,563 | 12.5 | |||||||||
North America |
23,977 | 21,129 | 2,848 | 13.5 | ||||||||||||
| $ | 100,917 | $ | 89,506 | $ | 11,411 | 12.7 | ||||||||||
Gross
profit % |
||||||||||||||||
Europe |
15.3 | 17.5 | ||||||||||||||
North America |
11.4 | 10.7 | ||||||||||||||
Consolidated |
14.2 | 15.2 | ||||||||||||||
European gross profit, including Asia, was higher for the three and six months ended February 28, 2005 primarily due to the tonnage increase of 5.5% and 9.8%, respectively, and the translation effect of exchange rates, primarily the Euro, amounting to $2.3 million and $6.1 million, respectively. The decline in European gross profit percentage for the three and six months ended February 28, 2005 was primarily due to increased sales of commodity products with lower margins. Gross profit percentages on manufactured products also declined due to increased raw material costs for the three and six months ended February 28, 2005.
Gross profits and gross profit percentages for North America increased for the three and six months ended February 28, 2005 as compared to the same periods last year. These increases were primarily the result of higher selling prices on manufactured products. Increases in gross profit were also generated from the sales of commodity products.
- 19 -
A comparison of capacity utilization levels for the three and six months ended February 28, 2005 and February 29, 2004 is as follows:
| For the three months ended | For the six months ended | |||||||||||||||
| February 28, 2005 | February 29, 2004 | February 28, 2005 | February 29, 2004 | |||||||||||||
Europe |
79 | % | 79 | % | 88 | % | 84 | % | ||||||||
North America |
83 | % | 81 | % | 87 | % | 85 | % | ||||||||
Worldwide |
81 | % | 80 | % | 88 | % | 84 | % | ||||||||
Capacity utilization for the second quarter was less than the six-month period primarily due to the traditional holiday periods in December. Capacity utilization is calculated by dividing production pounds by practical capacity at each plant.
Selling, general and administrative expenses were $33.8 million and $70.5 million for the three and six months ended February 28, 2005, respectively. This represents an increase of $3.0 million or 9.7% for the quarter and $10.4 million or 17.3% for the six months ended February 28, 2005 compared with the same periods last year. These increases were due to the following:
| (in millions) Increase/(decrease) |
||||||||
| 3 months ended | 6 months ended | |||||||
| February 28, 2005 | February 28, 2005 | |||||||
Compensation and related benefits |
$ | (0.4 | ) | $ | 2.0 | |||
Bad debts |
0.3 | 0.5 | ||||||
Sarbanes/Oxley compliance |
1.3 | 1.8 | ||||||
Translation effect |
1.3 | 3.2 | ||||||
Other |
0.5 | 2.9 | ||||||
| $ | 3.0 | $ | 10.4 | |||||
During the fourth quarter of fiscal 2004, in order to balance capacity with demand, the Company closed two manufacturing lines at its Nashville, Tennessee plant. As a result, the Company recorded pre-tax charges of $1,769,000 for the year ended August 31, 2004 and $216,000 for the six months ended February 28, 2005. These charges were primarily non-cash and are summarized below:
| (in thousands) | ||||||||||||||||||||||||
| Paid | Accrual | Paid | Accrual | |||||||||||||||||||||
| Original | fiscal | balance | 2005 | fiscal | balance | |||||||||||||||||||
| Charge | 2004 | 8/31/04 | Charge | 2005 | 2/28/05 | |||||||||||||||||||
Employee related costs |
$ | 350 | $ | — | $ | 350 | $ | — | $ | (310 | ) | $ | 40 | |||||||||||
Other costs |
66 | — | 66 | 216 | (282 | ) | — | |||||||||||||||||
Restructuring |
416 | $ | — | $ | 416 | $ | 216 | $ | (592 | ) | $ | 40 | ||||||||||||
Accelerated depreciation,
included in North America
cost of sales |
1,353 | |||||||||||||||||||||||
| $ | 1,769 | |||||||||||||||||||||||
- 20 -
The employee related costs included severance payments and medical insurance for 30 employees at the Nashville facility. The other costs include equipment removal and other exit costs that were incurred as of February 28, 2005. The accelerated depreciation represents a change in estimate for the reduced life on equipment totaling $1,353,000. At February 28, 2005 the Company had remaining accruals of $40,000 related to cash out-flows for employee severance.
During fiscal 2003, the Company implemented a restructuring program in its North American operations. The purpose of the program was to improve cost efficiencies and profitability. A large part of this plan included the termination of manufacturing at its plant in Orange, Texas. The Company substantially completed its 2003 restructuring plan at August 31, 2003. As a result, the Company recorded a pre-tax charge of $8,616,000, net of a curtailment gain of $288,000, for the year ended August 31, 2003. The Company also incurred restructuring expense totaling $315,000 related primarily to the disposal of additional equipment and to work pertaining to the closing of the Texas facility during fiscal 2004.
The charges for this restructuring were primarily non-cash and are summarized below:
| (in thousands) | |||||||||||||||||||||||||
| Paid | |||||||||||||||||||||||||
| fiscal | Fiscal | Accrual | Paid | Accrual | |||||||||||||||||||||
| Original | 2003 and | 2004 | balance | fiscal | balance | ||||||||||||||||||||
| charge | 2004 | charges | 8/31/04 | 2005 | 2/28/05 | ||||||||||||||||||||
Employee related costs |
$ | 1,972 | $ | (1,969 | ) | $ | — | $ | 3 | $ | (3 | ) | $ | — | |||||||||||
Other Costs |
4,265 | (4,580 | ) | 315 | — | — | — | ||||||||||||||||||
Restructuring |
6,237 | $ | (6,549 | ) | $ | 315 | $ | 3 | $ | (3 | ) | $ | — | ||||||||||||
Accelerated
depreciation,
included in North
America cost of sales |
2,379 | ||||||||||||||||||||||||
| $ | 8,616 | ||||||||||||||||||||||||
The employee related costs included severance payments and medical insurance, net of a curtailment gain of $288,000, for 35 salaried and 97 hourly employees primarily at facilities in Ohio and Texas. The curtailment gain represents the gain realized from a reduction of the post-retirement obligation due to a reduction in the workforce. The other costs include a $1,300,000 write-down of the Texas manufacturing facility, the fair market value of which was determined from an independent third party appraisal, a $2,269,000 write-off and disposal of manufacturing equipment and other assets related to dropped product lines and other exit costs. The accelerated depreciation represents a change in estimate for the reduced life on equipment at the Texas manufacturing facility totaling $2,379,000. At February 28, 2005 no further cash out-flows are required by the Company relating to this restructuring.
Foreign currency transaction gains or losses were the result of changes in the value of currencies in major areas where the Company operates. For the six months ended February 28, 2005 there was a $2.0 million foreign currency transaction loss which included $1.1 million relating to the change in the value of the U.S. dollar compared with the Canadian dollar.
Minority interest represents a 30% equity position of Mitsubishi Chemical MKV Company in a partnership with the Company and a 35% equity position of P.T. Prima Polycon Indah in an Indonesian joint venture with the Company.
- 21 -
A comparison of income (loss) before interest, restructuring and taxes for each business segment for the three and six months ended February 28, 2005 and February 29, 2004 is as follows:
| (in thousands) | ||||||||||||||||||||||||
| For the three months ended | For the six months ended | |||||||||||||||||||||||
| February 28, | February 29, | Favorable | February 28, | February 29, | Favorable | |||||||||||||||||||
| 2005 | 2004 | (Unfavorable) | 2005 | 2004 | (Unfavorable) | |||||||||||||||||||
Europe |
$ | 15,306 | $ | 14,789 | $ | 517 | $ | 33,608 | $ | 32,236 | $ | 1,372 | ||||||||||||
North America |
(1,639 | ) | (3,248 | ) | 1,609 | (5,537 | ) | (3,828 | ) | (1,709 | ) | |||||||||||||
Restructuring (Note 11) |
(12 | ) | — | (12 | ) | (216 | ) | — | (216 | ) | ||||||||||||||
Interest expense, net |
(697 | ) | (733 | ) | 36 | (1,357 | ) | (1,452 | ) | 95 | ||||||||||||||
Income before taxes |
$ | 12,958 | $ | 10,808 | $ | 2,150 | $ | 26,498 | $ | 26,956 | $ | (458 | ) | |||||||||||
European income before interest and taxes, including Asia, increased for the three and six months ended February 28, 2005 primarily due to the translation effect of foreign currencies.
The North American loss before interest, restructuring and taxes for the February 2005 quarter decreased due to higher gross profits, which were the result of higher selling prices. The loss increased for the six months ended February 28, 2005 due to a $3.1 million increase in selling, general and administrative expenses and a $1.6 million increase in currency transaction losses. These increases were partially offset by increased gross profits of $2.8 million which were the result of higher selling prices.
Interest expense decreased in 2005 mainly due to lower average borrowings.
The effective tax rates of 14.0% and 31.8% for the three and six months ended February 28, 2005 were lower than the statutory rate of 35.0%. The reason for the lower effective tax rates was the realization of tax benefits of approximately $4,370,000 from certain tax reserves. These reserves were no longer required due to a change in Mexican tax laws effective in December, 2004 and the favorable settlement of a tax claim in Canada. In addition, the Company incurred additional tax costs of approximately $1 million during the November 2004 quarter due to a change in German tax law effective September 1, 2004. Changes were implemented by the Company in the November 2004 quarter that will mitigate the effect of the increase in taxes in Germany for future periods.
The effective tax rates of 50.9% and 44.9% for the three and six months ended February 29, 2004, respectively, were greater than the statutory rate of 35.0% primarily because no tax benefits were recognized on losses in the United States.
The translation effect of foreign currencies, primarily the Euro, increased net income by $0.7 and $1.9 million for the three and six months ended February 28, 2005.
Second quarter results, excluding tax benefits, were better than anticipated. However, the business environment remains extremely difficult and it continues to be a challenge to pass on higher raw material costs through increases in selling prices. Although the Company has had success in increasing its prices, some business has been lost where pricing was below its target. It is important to pass on these increases in order to maintain margins at acceptable levels. The Company anticipates similar conditions in the months ahead. A more recent concern is the level of high automotive inventories and declining sales of automobiles and trucks, and the impact it could have on the Company’s North American business.
- 22 -
The Company anticipates a sequential improvement in the third-quarter net income, excluding the second-quarter tax benefits. The Company will continue its strategy of passing on cost increases in the form of higher prices. Nevertheless, last year’s third-quarter net income of $0.42 per diluted share was a strong quarter, and it will be a challenge to match those earnings, especially in this difficult environment.
Critical Accounting Policies
The Company has identified critical accounting policies that, as a result of the judgments, uncertainties, and the operations involved, could result in material changes to its financial condition or results of operations under different conditions or using different assumptions. The Company’s most critical accounting policies relate to the allowance for doubtful accounts, inventory reserves, interim provisions for income taxes, restructuring costs and goodwill.
Management records an allowance for doubtful accounts receivable based on the careful monitoring of the current and projected credit quality of the Company’s customers, historical experience, customer payment history, expected trends and other factors that affect collectibility. Changes in these factors or changes in economic circumstances could result in changes to the allowance for doubtful accounts.
Management establishes an inventory reserve based on historical experience and amounts expected to be realized for slow-moving and obsolete inventory. The Company monitors its slow-moving and obsolete inventory on a quarterly basis and makes adjustments as considered necessary. The proceeds from the sale or dispositions of these inventories may differ from the net recorded amount.
The Company’s quarterly provision for income taxes involves a significant amount of judgment by management. Quarterly, the provision for income taxes is based upon actual year to date results plus an estimate of pretax income for the remainder of the year. This provision is impacted by the income and tax rates of the countries where the Company operates. A change in the geographical source of the Company’s income can have a significant effect on the tax rate.
The Company has not recognized any tax benefits from losses in the United States.
Restructuring charges are recorded in accordance with SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities. Liabilities for costs associated with an exit or disposal activity are recognized when the liability is incurred. Fair value is the basis for the measurement of any asset write-downs that are reflected as accelerated depreciation in cost of sales.
Goodwill is not amortized. The Company conducts a formal impairment test of goodwill at the reporting unit level on an annual basis and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value.
Liquidity and Capital Resources
The major sources of cash inflows are primarily net income, depreciation and the exercise of stock options. The primary uses of cash for other than operations are generally cash dividends and capital expenditures. Presently, the Company anticipates that cash flow from operations and other sources will be sufficient to meet its short and long-term operational requirements.
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Net cash used in operations was $13.7 million for the six months ended February 28, 2005 while the Company generated $33.7 million from operations in the same six-month period last year. This decrease of $47.4 million of cash flow from operations from last year was due primarily to increases in inventories and accounts receivable. Inventories were up due to an increase in raw material costs and a production increase of approximately 29 million pounds or 6.6%. The increase in production was due primarily to increasing prices of resins coupled with anticipated customer demands. The increase in accounts receivable was a result of the 20.2% increase in sales in the February 2005 quarter.
| (in millions) | ||||||||||||
| February 28, | August 31, | |||||||||||
| 2005 | 2004 | % Change | ||||||||||
Cash and Cash Equivalents |
$ | 52.6 | $ | 72.9 | (27.8 | )% | ||||||
Working Capital |
407.0 | 358.3 | 13.6 | |||||||||
Long-Term Debt |
51.1 | 49.7 | 2.8 | |||||||||
Stockholders’ Equity |
479.0 | 435.2 | 10.1 | |||||||||
The Company’s cash and cash equivalents decreased $20.3 million, from August 31, 2004. The primary reasons for the decrease were higher levels of accounts receivable and inventories.
As of February 28, 2005, the current ratio was 3.09 to 1 and working capital was $407.0 million, an increase of $48.7 million from August 31, 2004. Accounts receivable increased $35.6 million as of February 28, 2005, compared with August 31, 2004, primarily because of increased selling prices and a $14.8 million positive translation impact of foreign currencies. Inventories increased $56.7 million as of February 28, 2005, compared with August 31, 2004, primarily because of increased customer demand, higher raw material costs and a $13.7 million positive translation impact of foreign currencies. Accounts payable increased $19.8 million from August 31, 2004. The increase in accounts payable was due primarily to higher raw material costs and inventory levels. The majority of the increase was in Europe and the translation effect of foreign currencies increased accounts payable by $5.6 million.
The allowance for doubtful accounts increased $1.8 million from August 31, 2004, including $.5 million from the translation effect of foreign currencies. The remaining increase represents an estimate of the amount of probable credit losses due to a difficult economic environment for the Company’s customers.
During the six months ended February 28, 2005, the Company repatriated approximately $5 million as dividends from foreign subsidiaries. The Company intends to repatriate approximately $38 million from its foreign operations during the remainder of fiscal 2005. These funds will be used for payment of common stock dividends, capital expenditures and other working capital requirements.
The Company increased total long-term debt by $1.4 million during the six months ended February 28, 2005. Total long-term debt was $51.1 million as of February 28, 2005.
Capital expenditures for the six months ended February 28, 2005 were $8.2 million compared with $11.7 million last year. The largest amounts of capital expenditures were primarily for the additional costs of the new manufacturing facility in China, the expansion of the laboratory in Germany and new manufacturing equipment at the Bellevue, Ohio plant.
The ratio of long-term liabilities to capital was 20.1% at February 28, 2005 and 20.4% at August 31, 2004. This ratio is calculated by dividing the sum of long-term debt and other long-term liabilities by the sum of total stockholders’ equity, long-term debt and other long-term liabilities. Other long-term liabilities increased $7.2 million, primarily due to increases in liabilities for a German pension plan of $4.1 million and other postretirement benefits of $1.5 million.
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The Company has a $100,000,000 revolving credit agreement which expires in August 2009. The Company, under this agreement, can increase the credit amount by $50,000,000 if necessary, at a later date. Under terms of the agreement, the Company is required to satisfy certain financial and operating covenants including leverage ratio and interest coverage ratio. The revolving credit agreement is unsecured. There were borrowings of $2,000,000 outstanding under this agreement at February 28, 2005, while there were no borrowings at August 31, 2004.
The Company has an outstanding private placement of $50,000,000 of Senior Notes due in 2009. The interest rate is fixed at 7.27% and is payable quarterly with principal due upon maturity in 2009. In 1999, the Company completed an interest rate lock in order to reduce the interest cost over the life of the notes. Proceeds from this transaction totaling $630,000 have been deferred and are being amortized over the life of the loan, effectively reducing the annual interest rate from 7.27% to 7.14%. Under this agreement, as of February 28, 2005, approximately $34,000,000 of retained earnings was available for the payment of cash dividends. The Company’s latest review as of February 28, 2005 of the covenants under these agreements indicates no defaults or any non-compliance with their covenants.
The Company has an interest rate swap agreement that converts $25,000,000 of the $50,000,000 of Senior Notes from fixed rate debt to variable rate debt and is designated as a fair value hedge. As of February 28, 2005, the notional value of the underlying debt has been marked-to-market to $23,881,000 and carries a variable interest rate of 7.2%. The interest rate swap has been recorded at fair market value of $1,119,000 and is included in other long-term liabilities at February 28, 2005.
The Company had an increase in notes payable in Europe and Asia of approximately $2.6 million from August 31, 2004. These funds were used primarily for operational needs.
The Company leases certain items under capital leases. The European segment leases certain land and buildings with an amount due on this capital lease at February 28, 2005 of approximately $652,000. The North American segment leases certain equipment with an amount due on this capital lease at February 28, 2005 of approximately $28,000.
Aggregate maturities of long-term debt and capital lease obligations subsequent to February 28, 2005 are presented below:
| (in thousands) | ||||||||||||||||||||
| Less than | After | |||||||||||||||||||
| Total | 1 year | 1-3 years | 3-5 years | 5 years | ||||||||||||||||
Long-term Debt |
$ | 52,000 | $ | — | $ | 2,000 | $ | 50,000 | $ | — | ||||||||||
Capital Lease Obligations |
680 | 461 | 219 | — | — | |||||||||||||||
| $ | 52,680 | $ | 461 | $ | 2,219 | $ | 50,000 | $ | — | |||||||||||
Operating lease information is provided in footnote 13 of the Company’s 2004 Annual Report.
The Company’s outstanding commercial commitments at February 28, 2005 are not material to the Company’s financial position, liquidity or results of operations.
At August 31, 2004 the Company had purchase obligations of $108.5 million, $85.7 million being less than one year and $22.8 million within one to three years. During the quarter ended February 28, 2005, the Company entered into a purchase agreement with one of its suppliers which requires it to purchase approximately $9.3 million in the current fiscal year and $25.7 million in fiscal 2006 and 2007, based on current market prices. Under this agreement, monthly purchases are made at the existing market prices at the time of purchase. Other than this purchase agreement, as of February 28, 2005 there were no material changes to the Company’s future contractual obligations as previously reported in the Company’s 2004 Annual Report.
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During the six months ended February 28, 2005, the Company has declared and paid quarterly cash dividends totaling $.28 per share. The total amount of these dividends was $8.7 million. Cash has been sufficient to fund the payment of these dividends.
During the six months ended February 28, 2005, the Company did not repurchase any shares of its common stock. Approximately 1.7 million shares remain under a nine million-share authorization approved by the Board of Directors in August 1998. Subject to market conditions, the Company may repurchase common stock in fiscal year 2005. For the six months ended February 28, 2005, 239,000 common shares were issued upon the exercise of employee stock options. The total amount received from the exercise of these options was $3.3 million.
The assets and liabilities of the Company’s foreign subsidiaries are translated into U.S. dollars using current exchange rates. Income statement items are translated at average exchange rates prevailing during the period. The resulting translation adjustments are recorded in the “accumulated other comprehensive income” account in stockholders’ equity. The weakening of the U.S. dollar during the six months ended February 28, 2005 increased this account by $30.4 million.
New Accounting Pronouncements
In May 2004, the FASB issued FASB Staff Position 106-2 (“FSP106-2”) regarding SFAS No. 106, Employer’s Accounting for Postretirement Benefits Other than Pensions. FSP 106-2, “Accounting for Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003” discusses the effect of the Medicare Prescription Drug, Improvement and Modernization Act (“the Act”) enacted on December 8, 2003. FSP 106-2 considers the effect of the features introduced in the Act in determining accumulated postretirement benefit obligation and net periodic postretirement benefit cost, which may serve to reduce a company’s postretirement benefit costs. The adoption of FSP 106-2, effective September 1, 2004, did not have a material impact on the Company’s financial position or results of operations. On January 21, 2005 regulations implementing the Act were issued and are not expected to have a material impact on the Company’s financial position or results of operations.
In November 2004, the FASB issued SFAS No. 151, (“SFAS 151”), Inventory Costs — an amendment of ARB No. 43, Chapter 4 in an effort to converge U.S. accounting standards for inventories with International Accounting Standards. SFAS 151 requires abnormal amounts of idle facility expense, freight, handling costs and spoilage to be recognized as current period charges. SFAS 151 also requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. The adoption of SFAS 151 is required in the Company’s first quarter of fiscal 2006 and the Company is currently assessing the impact from the adoption of SFAS 151.
In December 2004, the FASB revised SFAS No. 123, (“SFAS 123R”), Share-Based Payment. SFAS 123R requires companies to measure all employee stock-based compensation awards using a fair value method and record the related expense in the financial statements. In addition, SFAS 123R requires disclosure of information relating to the nature of share-based payment transactions and the effects of those transactions on the financial statements. The adoption of SFAS 123R is required in the Company’s first quarter of fiscal 2006 and the Company is currently assessing the impact from the adoption of SFAS 123R.
In December 2004, the FASB issued SFAS No. 153, (“SFAS 153”), Exchanges of Nonmonetary Assets, an Amendment of APB Opinion No. 29. SFAS 153 addresses the measurement of exchanges of nonmonetary assets and redefines the scope of transactions that should be measured based on the fair value of the assets exchanged. The adoption of SFAS 153 is required in the Company’s first quarter of fiscal 2006. It is not expected to have a material effect on the Company’s financial position or results of operations.
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In December 2004, the FASB issued FASB Staff Position 109-1, (“FSP 109-1”), Application of FASB Statement No. 109, “Accounting for Income Taxes,” to the Tax Deduction on Qualified Production Activities Provided by the American Jobs Creation Act of 2004. The FASB also issued Staff Position 109-2, (“FSP 109-2”), Accounting and Disclosure Guidance for the Foreign Earnings Repatriation Provision Within the American Jobs Creation Act of 2004 (the “Jobs Creation Act”). The Jobs Creation Act provided deductions for qualified domestic production activities and repatriation of foreign earnings. The adoption of FSP 109-1 and FSP 109-2 by the Company in the February 2005 quarter is not expected to have an impact on the Company’s financial condition, results of operations or cash flows for fiscal 2005. The Company is currently assessing the impact for fiscal years after 2005.
Cautionary Statements
Certain statements in this report may constitute forward-looking statements within the meaning of the Federal securities laws. These statements can be identified by the fact that they do not relate strictly to historic or current facts. They use such words as “anticipate”, “estimate”, “expect”, “project”, “intend”, “plan”, “believe”, and other words and terms of similar meaning in connection with any discussion of future operating or financial performance. These forward-looking statements are based on currently available information, but are subject to a variety of uncertainties, unknown risks and other factors concerning the Company’s operations and business environment, which are difficult to predict and are beyond the control of the Company. Important factors that could cause actual results to differ materially from those suggested by these forward-looking statements, and that could adversely affect the Company’s future financial performance, include, but are not limited to, the following:
| • | Worldwide and regional economic, business and political conditions, including continuing economic uncertainties in some or all of the Company’s major product markets; | |||
| • | Fluctuations in the value of currencies in major areas where the Company operates, including the U.S. dollar, Euro, U.K. pound sterling, Canadian dollar, Mexican peso, Chinese yuan and Indonesian rupiah; | |||
| • | Fluctuations in the prices of sources of energy or plastic resins and other raw materials; | |||
| • | Changes in customer demand and requirements; | |||
| • | Escalation in the cost of providing employee health care; and | |||
| • | The outcome of any legal claims known or unknown. | |||
The risks and uncertainties identified above are not the only risks the Company faces. Additional risks and uncertainties not presently known to the Company or that it believes to be immaterial also may adversely affect the Company. Should any known or unknown risks or uncertainties develop into actual events, or underlying assumptions prove inaccurate, these developments could have material adverse effects on the Company’s business, financial condition and results of operations.
Item 3 — Quantitative and Qualitative Disclosure about Market Risk
The Company enters into forward exchange contracts to reduce its exposure to fluctuations in related foreign currencies. These contracts are with major financial institutions and the risk of loss is considered remote. The total value of open contracts and any risk to the Company as a result of these arrangements is not material to the Company’s financial position, liquidity or results of operations.
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Item 4 – Controls and Procedures
The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company’s reports under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the Commission’s rules and forms and that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
The Company carries out a variety of on-going procedures, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, to evaluate the effectiveness of the design and operation of the Company’s disclosure controls and procedures. Based on the foregoing, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective at a reasonable assurance level as of the end of the period covered by this report.
There has been no change in the Company’s internal controls over financial reporting during the Company’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal controls over financial reporting.
PART II – OTHER INFORMATION
Items 1 through 5 are not applicable or the answer to such items is negative; therefore, the items have been omitted and no reference is required in this Report.
Item 6 – Exhibits
(a) Exhibits
| Exhibit | ||
| Number | Exhibit | |
31
|
Certifications of Principal Executive and Principal Financial Officers pursuant to Rule 13a-14(a)/15d-14(a) | |
32
|
Certifications of Principal Executive and Principal Financial Officers pursuant to 18 U.S.C. 1350 |
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Date: April 11, 2005
|
A. Schulman, Inc. | |
| (Registrant) | ||
| /s/ R.A. STEFANKO | ||
| R. A. Stefanko, Executive Vice President—Finance & Administration (Signing on behalf of Registrant as a duly authorized officer of Registrant and signing as the Principal Financial Officer of Registrant) |
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