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SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
-----------------------
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended September 30, 2002
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ____________to____________
Commission file number 0-7154
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QUAKER CHEMICAL CORPORATION
- --------------------------------------------------------------------------------
(Exact name of Registrant as specified in its charter)
Pennsylvania 23-0993790
- ------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
One Quaker Park, 901 Hector Street, Conshohocken, Pennsylvania 19428 - 0809
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code 610-832-4000
------------
Not Applicable
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Former name, former address and former fiscal year, if changed since last
report.
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 ___
---
APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares
outstanding of each of the issuer's classes of common stock, as of the latest
practicable date.
Number of Shares of Common Stock
Outstanding on October 31, 2002 9,322,639
QUAKER CHEMICAL CORPORATION AND CONSOLIDATED SUBSIDIARIES
---------------------------------------------------------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited)
Condensed Consolidated Balance Sheet at September 30, 2002 and
December 31, 2001
Condensed Consolidated Statement of Income for the Three and Nine
Months ended September 30, 2002 and 2001
Condensed Consolidated Statement of Cash Flows for the Nine Months
ended September 30, 2002 and 2001
Notes to Condensed Consolidated Financial Statements
* * * * * * * * * *
Quaker Chemical Corporation
Condensed Consolidated Balance Sheet
Unaudited
(dollars in thousands)
September 30, December 31,
2002 2001 *
-------------------- --------------------
ASSETS
Current assets
Cash and cash equivalents $ 23,044 $ 20,549
Accounts receivable, net 54,583 44,787
Inventories
Raw materials and supplies 11,389 9,673
Work-in-process and finished goods 11,217 9,112
Prepaid expenses and other current assets 12,156 8,809
-------------------- --------------------
Total current assets 112,389 92,930
-------------------- --------------------
Property, plant and equipment, at cost 111,606 97,367
Less accumulated depreciation 64,123 59,123
-------------------- --------------------
Total property, plant and equipment 47,483 38,244
Goodwill 21,267 14,960
Other intangible assets 6,059 1,442
Investments in associated companies 8,765 9,839
Deferred income taxes 8,693 9,085
Other assets 14,046 13,166
-------------------- --------------------
$ 218,702 $ 179,666
==================== ====================
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Short-term borrowings and current portion of long-term debt $ 26,117 $ 2,858
Accounts and other payables 24,681 20,196
Accrued compensation 9,801 8,109
Other current liabilities 17,471 14,343
-------------------- --------------------
Total current liabilities 78,070 45,506
Long-term debt 19,452 19,380
Deferred income taxes 1,212 1,233
Other noncurrent liabilities 25,795 24,212
-------------------- --------------------
Total liabilities 124,529 90,331
-------------------- --------------------
Minority interest in equity of subsidiaries 8,411 8,436
-------------------- --------------------
Shareholders' Equity
Common stock $1 par value; authorized
30,000,000 shares; issued (including
treasury shares) 9,664,009 shares 9,664 9,664
Capital in excess of par value 631 357
Retained earnings 107,996 103,953
Unearned compensation (1,334) (1,597)
Accumulated other comprehensive (loss) (26,497) (24,075)
-------------------- --------------------
90,460 88,302
Treasury stock, shares held at cost;
2002-344,947, 2001-526,865 (4,698) (7,403)
-------------------- --------------------
Total shareholders' equity 85,762 80,899
-------------------- --------------------
$ 218,702 $ 179,666
==================== ====================
The accompanying notes are an integral part of these condensed consolidated
financial statements.
* Condensed from audited financial statements.
1
Quaker Chemical Corporation
Condensed Consolidated Statement of Income
Unaudited
(dollars in thousands, except per share data)
Three Months ended September 30, Nine Months ended September 30,
----------------------------------------- --------------------------------------
2002 2001 2002 2001
----------------- ---------------------- ---------------- ---------------------
Net sales $ 73,268 $ 63,514 $ 202,652 $ 192,802
Cost of goods sold 43,869 38,371 119,934 114,752
----------------- ---------------------- ---------------- ---------------------
Gross margin 29,399 25,143 82,718 78,050
Selling, general and administrative expenses 22,697 19,065 66,000 58,914
Restructuring and nonrecurring expenses - 3,225 - 3,225
----------------- ---------------------- ---------------- ---------------------
Operating income 6,702 2,853 16,718 15,911
Other income (expense), net 942 (469) 1,194 690
Interest expense (491) (427) (1,318) (1,418)
Interest income 22 222 571 699
----------------- ---------------------- ---------------- ---------------------
Income before taxes 7,175 2,179 17,165 15,882
Taxes on income 2,296 675 5,493 4,923
----------------- ---------------------- ---------------- ---------------------
4,879 1,504 11,672 10,959
Equity in net income of associated
companies 130 244 314 740
Minority interest in net income of
subsidiaries (720) (632) (2,103) (2,456)
----------------- ---------------------- ---------------- ---------------------
Net income $ 4,289 $ 1,116 $ 9,883 $ 9,243
================= ====================== ================ =====================
Per share data:
Net income - basic $ 0.47 $ 0.12 $ 1.08 $ 1.02
Net income - diluted $ 0.45 $ 0.12 $ 1.05 $ 1.02
Dividends declared $ 0.21 $ 0.205 $ 0.63 $ 0.615
Based on weighted average number of
shares outstanding:
Basic 9,222,050 9,115,591 9,149,337 9,028,096
Diluted 9,453,208 9,174,754 9,433,279 9,088,547
The accompanying notes are an integral part of these condensed consolidated
financial statements.
2
Quaker Chemical Corporation
Condensed Consolidated Statement of Cash Flows
For the Nine Months ended September 30,
Unaudited
(dollars in thousands)
2002 2001
---------- ----------
Cash flows from operating activities
Net income $ 9,883 9,243
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation 3,571 3,549
Amortization 576 1,091
Equity in net income of associated companies (314) (740)
Minority interest in earnings of subsidiaries 2,103 2,456
Deferred compensation and other postretirement benefits 290 690
Restructuring and nonrecurring expenses - 3,225
Other, net (221) 867
Increase (decrease) in cash from changes in current assets and current
liabilities:
Accounts receivable, net (3,375) (230)
Inventories (2,543) 1,460
Prepaid expenses and other current assets (846) (1,540)
Accounts payable and accrued liabilities 5,914 (4,093)
Change in restructuring liabilities (1,763) (443)
---------- ----------
Net cash provided by operating activities 13,275 15,535
---------- ----------
Cash flows from investing activities
Investments in property, plant and equipment (7,642) (4,980)
Payments related to acquisitions (21,285) (1,532)
Dividends from associated companies 307 902
Other, net (443) 261
---------- ----------
Net cash (used in) investing activities (29,063) (5,349)
---------- ----------
Cash flows from financing activities
Net increase in short-term borrowings 23,121 (54)
Dividends paid (5,756) (5,215)
Treasury stock issued 2,618 2,664
Distributions to minority shareholders (1,514) (2,175)
Other, net - 28
---------- ----------
Net cash provided by (used in) financing activities 18,469 (4,752)
---------- ----------
Effect of exchange rate changes on cash (186) (1,943)
---------- ----------
Net increase in cash and cash equivalents 2,495 3,491
Cash and cash equivalents at beginning of period 20,549 16,552
---------- ----------
Cash and cash equivalents at end of period $ 23,044 20,043
========== ==========
Noncash investing activities:
Contribution of property, plant & equipment to real estate joint venture $ - 4,358
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
Quaker Chemical Corporation
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands)
(Unaudited)
Note 1 - Condensed Financial Information
The condensed consolidated financial statements included herein are unaudited
and have been prepared in accordance with generally accepted accounting
principles for interim financial reporting and Securities and Exchange
Commission regulations. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to such rules and
regulations. Certain prior year amounts have been reclassified to conform to the
2002 presentation. In the opinion of management, the financial statements
reflect all adjustments (consisting only of normal recurring adjustments) which
are necessary for a fair statement of the financial position, results of
operations and cash flows for the interim periods. The results for the three and
nine months ended September 30, 2002 are not necessarily indicative of the
results to be expected for the full year. These financial statements should be
read in conjunction with the Annual Report filed on Form 10-K for the year ended
December 31, 2001.
As part of the Company's chemical management services, certain third party
products are transferred to customers at no gross profit and accordingly, these
transactions are not recorded in net sales or expense. Third party products
transferred under these arrangements totaled $20,363 and $15,552 for the nine
months ended September 30, 2002 and 2001, respectively.
Sales and cost of sales for the third quarter and nine months of 2002 are
approximately $575 higher than previously reported in its October 30, 2002 press
release. The change is due to a review and determination that a recent chemical
management service arrangement should be reported on a gross basis based on the
nature of the integrated product and service offering versus net as an agent.
This reclassification had no effect on gross margin and accordingly net income.
Effective July 1, 2002, the Company acquired a controlling interest of Quaker
Chemical South Africa (Pty.) Ltd (South Africa), a previously 50% owned joint
venture. As a result, South Africa, previously reported using the equity method,
is now a fully consolidated 51% owned subsidiary. The effect of this change was
not material to the financial statements.
4
Note 2 - Recently Issued Accounting Standards
In June 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No.
143, "Accounting for Asset Retirement Obligations." SFAS No. 143 addresses
accounting and reporting for obligations associated with the retirement of
tangible long-lived assets and the associated retirement costs. This statement
is effective for fiscal years beginning after June 15, 2002. The Company is
currently assessing the impact of this new standard.
In July 2001, the FASB issued SFAS No. 144, "Impairment or Disposal of
Long-Lived Assets." The provisions of this statement provide a single accounting
model for impairment of long-lived assets. The statement is effective for fiscal
years beginning after December 15, 2001. The Company adopted this standard on
January 1, 2002. Management has assessed the impact of the new standard and
determined there to be no material impact to the financial statements.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No.
4, 44 and 62, Amendment of FASB Statement No. 13 and Technical Corrections." For
most companies, SFAS No. 145 will require gains and losses on extinguishments of
debt to be classified as income or loss from continuing operations rather than
as extraordinary items as previously required under SFAS No. 4. Extraordinary
treatment will be required for certain extinguishments as provided in APB
Opinion No. 30. The statement also amended SFAS No. 13 for certain
sales-leaseback and sublease accounting. The Company is required to adopt the
provisions of SFAS No. 145 effective January 1, 2003. The Company is currently
evaluating the impact of adoption of this statement.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities", which nullified EITF Issue No. 94-3. SFAS No.
146 requires that a liability for a cost associated with an exit or disposal
activity be recognized when the liability is incurred, whereas EITF No 94-3 had
recognized the liability at the commitment date to an exit plan. The Company is
required to adopt the provisions of SFAS No. 146 effective for exit or disposal
activities initiated after December 31, 2002.
5
Note 3 --Earnings Per Share
The following table summarizes earnings per share (EPS) calculations for the
three months ended September 30, 2002 and 2001:
2002 2001
---- ----
Numerator for basic EPS and diluted EPS--
net income .......................................... $ 4,289 $ 1,116
------- -------
Denominator for basic EPS--weighted
average shares
..................................................... 9,222 9,116
Effect of dilutive securities, primarily
employee stock options .............................. 231 59
------- -------
Denominator for diluted EPS--weighted
average shares and assumed
conversions. ........................................ 9,453 9,175
======= =======
Basic EPS ............................................ $ .47 $ .12
Diluted EPS .......................................... $ .45 $ .12
The following table summarizes earnings per share (EPS) calculations for the
nine months ended September 30, 2002 and 2001:
2002 2001
---- ----
Numerator for basic EPS and diluted EPS--
net income .......................................... $ 9,883 $ 9,243
------- -------
Denominator for basic EPS--weighted
average shares 9,149 9,028
.....................................................
Effect of dilutive securities, primarily
employee stock options .............................. 284 61
------- -------
Denominator for diluted EPS--weighted
average shares and assumed
conversions. ........................................ 9,433 9,089
======= =======
Basic EPS ............................................ $ 1.08 $ 1.02
Diluted EPS .......................................... $ 1.05 $ 1.02
In September 2002, the Company refined its methodology for computing shares
outstanding for purposes calculating earnings per share. The effect of the
change was not material on current and prior calculations of earnings per share.
6
Note 4 - Business Segments
The Company's reportable segments are as follows:
(1) Metalworking process chemicals - products used as lubricants for various
heavy industrial and manufacturing applications.
(2) Coatings - temporary and permanent coatings for metal and concrete products
and chemical milling maskants.
(3) Other chemical products - other various chemical products.
Segment data includes direct segment costs as well as general operating costs.
The table below presents information about the reported segments for the nine
months ending September 30:
Metalworking Other
Process Chemical
Chemicals Coatings Products Total
-----------------------------------------------------
2002
Net sales $ 183,711 $ 15,593 $ 3,348 $ 202,652
Operating income 38,994 4,058 884 43,936
2001
Net sales $ 174,821 $ 14,731 $ 3,250 $ 192,802
Operating income 37,208 4,159 1,033 42,400
Operating income comprises revenue less related costs and expenses.
Non-operating items primarily consist of general corporate expenses identified
as not being a cost of operation, interest expense, interest income, and license
fees from non-consolidated associates. A reconciliation of total segment
operating income to total consolidated income before taxes, for the nine months
ended September 30 is as follows:
7
2002 2001
---- ----
Total operating income for
Reportable segments $ 43,936 $ 42,400
Non-operating expenses (26,642) (22,173)
Restructuring and nonrecurring
expenses - (3,225)
Amortization (576) (1,091)
Interest expense (1,318) (1,418)
Interest income 571 699
Other income, net 1,194 690
--------- --------
Consolidated income before taxes $ 17,165 $ 15,882
========= ========
Note 5 - Comprehensive Income
The following table summarizes comprehensive income for the three months ended
September 30:
2002 2001
---- ----
Net income $ 4,289 $ 1,116
Unrealized (loss) on available-for-sale - (269)
securities
Foreign currency translation adjustments (2,865) 1,397
--------- --------
Comprehensive income $ 1,424 $ 2,244
========= ========
The following table summarizes comprehensive income for the nine months ended
September 30:
2002 2001
---- ----
Net income $ 9,883 $ 9,243
Unrealized (loss) on available-for-sale
securities - (269)
Foreign currency translation adjustments (2,422) (5,826)
--------- --------
Comprehensive income $ 7,461 $ 3,148
========= ========
8
Note 6 - Restructuring and Nonrecurring Expenses
In the third and fourth quarters of 2001, Quaker's management approved
restructuring plans to realign its organization and reduce operating costs.
Quaker's restructuring plans include the closure and sale of its manufacturing
facilities in the U.K. and France. In addition, Quaker consolidated certain
functions within its global business units and reduced administrative functions,
as well as expensed costs related to abandoned acquisitions. Included in the
third and fourth quarter restructuring charges are provisions for the severance
of 16 and 37 employees, respectively.
Restructuring and related charges of $2,958 and $2,896 were expensed during the
third and fourth quarters of 2001, respectively. The third quarter charge
comprised $520 related to employee separations, $2,038 related to facility
rationalization charges and $400 related to abandoned acquisitions. The fourth
quarter charge comprised $2,124 related to employee separations, $575 related to
facility rationalization charges and $197 related to abandoned acquisitions.
Employee separation benefits under each plan varied depending on local
regulations within certain foreign countries and included severance and other
benefits. As of September 30, 2002, Quaker had completed 49 of the planned 53
employee separations under the 2001 plans. Quaker expects to substantially
complete the initiatives contemplated under the restructuring plans, including
the disposition of the manufacturing facilities, by mid 2003.
Accrued restructuring balances as of September 30, 2002 are as follows:
- --------------------------------------------------------------------------------
Balance Currency Balance
December 31, translation September 30,
2001 Payments and other 2002
---- -------- ----------- -------------
- --------------------------------------------------------------------------------
Employee separations $ 2,534 $(1,071) $ 40 $ 1,503
- --------------------------------------------------------------------------------
Facility rationalization 1,439 (555) 83 967
------- ------- ------ -------
- --------------------------------------------------------------------------------
Total $ 3,973 $(1,626) $ 123 $ 2,470
======= ======= ====== =======
- --------------------------------------------------------------------------------
9
Note 7 - Business Acquisitions
On March 1, 2002, the Company acquired certain assets and liabilities of United
Lubricants Corporation ("ULC"), a North American manufacturer and distributor of
specialty lubricant products and chemical management services, for approximately
$14,038. The acquisition of ULC strategically strengthens the Company's global
leadership supply position to the steel industry.
The following table shows the preliminary fair value of assets and liabilities
recorded for the acquisition:
Receivables $ 4,456
Inventories 828
Property, plant and equipment 4,155
Goodwill 5,437
Intangible assets 2,350
Other assets 74
-------
17,300
-------
Accounts payable 2,148
Accrued expenses and other current liabilities 265
Other current liabilities 849
-------
3,262
-------
Cash paid for acquisition $14,038
=======
The $5,437 of goodwill was assigned to the Metalworking process chemicals
segment, and the entire amount is expected to be deductible for income tax
purposes.
The $2,350 of intangible assets comprised $1,400 of branded customer lists, $700
of formulations, $200 of trademarks and $50 in non-compete agreements. These
intangibles are being amortized over a five-year period.
The cash paid for acquisition increased approximately $362 during the third
quarter of 2002 related to transaction costs incurred and post closing
adjustments. Such costs have been allocated to goodwill. Further, goodwill has
also increased for working capital adjustments and refinements of estimates of
assets acquired and liabilities assumed.
The results of operations of ULC are included in the consolidated statement of
income beginning March 1, 2002. Pro-forma results of operations have not been
provided because the effects are not material.
10
On April 22, 2002, the Company acquired one hundred percent of the outstanding
stock of Epmar Corporation ("Epmar"), a North American manufacturer of polymeric
coatings, sealants, adhesives, and various other compounds, for approximately
$7,611 and the assumption of $400 of debt. The acquisition of Epmar provides
technological capability that is directly related to the Company's coatings
business.
The following table shows the preliminary fair value of assets and liabilities
recorded for the acquisition:
Receivables $ 848
Inventories 472
Property, plant and equipment 967
Goodwill 3,279
Intangible assets 2,920
Other assets 39
-------
8,525
-------
Accounts payable 406
Accrued expenses and other current liabilities 108
Other noncurrent liabilities 400
-------
914
-------
Cash paid for acquisition $ 7,611
=======
The $3,279 of goodwill was assigned to the Coatings segment, and the entire
amount is expected to be deductible for income tax purposes.
The $2,920 of intangible assets comprised: $1,600 of customer lists to be
amortized over twenty years, $720 of product line technology to be amortized
over ten years, and $600 of trademarks which have indefinite lives and will not
be amortized.
The cash paid for acquisition increased approximately $111 during the third
quarter of 2002 related to transaction costs incurred and post closing
adjustments. Such costs have been allocated to goodwill. This increase in
goodwill was partially offset due to refinements of estimates of assets acquired
and liabilities assumed.
The results of operations of Epmar are included in the consolidated statement of
income beginning April 22, 2002. Pro-forma results of operations have not been
provided because the effects are not material.
11
Note 8 - Goodwill and Other Intangible Assets
In June 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets." SFAS No. 142 established new guidelines for accounting for goodwill and
other intangible assets. Upon adoption, goodwill is no longer amortized, but
instead assessed for impairment at least on an annual basis. Accordingly, on
January 1, 2002, the Company ceased amortizing its goodwill. The Company
completed impairment assessment of its goodwill and did not incur an impairment
charge related to the adoption of SFAS No. 142. Further, the Company completed
its annual impairment assessment as of the end of the third quarter 2002 and no
impairment charge was warranted.
The following is a reconciliation of previously reported financial information
to pro-forma amounts exclusive of goodwill amortization for the three months
ended September 30, 2001:
Net income $1,116
Goodwill amortization expense, net of tax 168
------
Pro-forma net income $1,284
======
Earnings per share, basic and diluted $ 0.12
Goodwill amortization expense, net of tax 0.02
------
Pro-forma earnings per share, basic and diluted $ 0.14
======
The following is a reconciliation of previously reported financial information
to pro-forma amounts exclusive of goodwill amortization for the nine months
ended September 30, 2001:
Net income $9,243
Goodwill amortization expense, net of tax 524
------
Pro-forma net income $9,767
======
Earnings per share, basic and diluted $ 1.02
Goodwill amortization expense, net of tax 0.06
------
Pro-forma earnings per share, basic and diluted $ 1.08
======
The changes in carrying amount of goodwill for the nine months ended September
30, 2002 are as follows:
12
Metalworking
process chemicals Coatings Total
----------------------------------------
Balance as of
January 1, 2002 $11,081 $3,879 $14,960
Goodwill additions 5,532 3,279 8,811
Currency translation
adjustments (2,504) -- (2,504)
------- ------ -------
Balance as of
September 30, 2002 $14,109 $7,158 $21,267
======= ====== =======
Goodwill additions are subject to post-closing adjustments.
Gross carrying amounts and accumulated amortization for intangible assets as of
September 30, 2002, are as follows:
Gross carrying Accumulated
Amount Amortization
------------------------------
Amortized intangible assets
Customer lists and rights to sell $3,850 $ 286
Trademarks and patents 2,300 1,526
Formulations and product technology 1,420 110
Other 1,464 1,053
------ ------
Total $9,034 $2,975
====== ======
Estimated annual aggregate amortization expense for the current year and
subsequent five years is as follows:
For the year ended December 31, 2002 $695
For the year ended December 31, 2003 $835
For the year ended December 31, 2004 $698
For the year ended December 31, 2005 $696
For the year ended December 31, 2006 $696
For the year ended December 31, 2007 $327
13
Note 9 - Debt
In April 2002, the Company entered into a $20.0 million committed credit
facility, with a bank, which expires in April 2003. At the Company's option, the
interest rate for borrowings under the agreement may be based on the lender's
cost of funds plus a margin, LIBOR plus a margin, or on the prime rate. The
provisions of the agreement require that the Company maintain certain financial
ratios and covenants, all of which the Company was in compliance with as of
September 30, 2002. A total of $13.0 million in borrowings was outstanding under
this facility as of September 30, 2002 at an average borrowing rate of
approximately 2.4%.
In April 2002, the Company entered into a $10.0 million uncommitted demand
credit facility with the same lender under similar terms. A total of $10.0
million in borrowings under this facility was outstanding as of September 30,
2002 at an average borrowing rate of approximately 2.4%.
These facilities replaced an uncommitted facility in the amount of $18.0
million, which was terminated in July 2002, with all balances outstanding repaid
through borrowings under the new facilities discussed above.
Note 10 - Commitments and Contingencies
The Company is involved in environmental clean-up activities and litigation
in connection with an existing plant location and former waste disposal sites.
The Company identified certain soil and groundwater contamination at AC
Products, Inc. ("ACP"), a wholly owned subsidiary. In coordination with the
Santa Ana California Regional Water Quality Board, ACP is remediating the
contamination. During the second quarter of 2000, it was discovered during an
internal environmental audit that ACP had failed to properly report its air
emissions. In response, an internal investigation of all environmental, health,
and safety matters at ACP was conducted. ACP has voluntarily disclosed these
matters to regulators and has taken steps to correct all environmental, health,
and safety issues discovered. In connection with these activities the Company
recorded pre-tax charges totaling $500 and $1,500 in 2001 and 2000,
respectively. The Company believes that the potential-known liabilities
associated with these matters ranges from approximately $1,200 to $2,100, for
which the Company has sufficient reserves. Notwithstanding the foregoing, the
Company cannot be certain that liabilities in the form of remediation expenses,
fines, penalties, and damages will not be incurred in excess of the amount
reserved.
Additionally, although there can be no assurance regarding the outcome of
other environmental matters, the Company believes that it has made adequate
accruals for costs associated with other environmental problems of which it is
aware. Approximately $226 and $260 was accrued at September 30, 2002 and
December 31, 2001, respectively, to provide for such anticipated future
environmental assessments and remediation costs.
A non-operating subsidiary of the Company acquired in 1978 had sold certain
asbestos containing products. This subsidiary is a co-defendant in claims filed
by multiple claimants alleging injury due to exposure to asbestos. Effective
October 31, 1997, the subsidiary's insurance carriers have agreed to be
responsible for all damages and costs (including attorneys' fees) arising out of
all existing and future asbestos claims up to applicable policy limits. Although
there can be no assurance regarding the potential liabilities associated with
the existing claims proceedings, the subsidiary believes that it has adequate
primary and excess insurance coverage for its potential liabilities related to
claims of which it is aware. If the subsidiary insurance coverage were to be
ever exhausted, the Company is not required to and will not fund the
subsidiary's liabilities in excess of coverage. In the absence of insurance at
the subsidiary level, asbestos claimants might pursue derivative or other claims
against the Company in an effort to hold it liable for the acts and/or
omissions, if any, of the subsidiary. The Company believes, although it can give
no assurances, that it would be successful defending any such claims.
The Company is party to other litigation which management currently
believes will not have a material adverse effect on the Company's results of
operations, cash flows or financial condition.
14
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Liquidity and Capital Resources
Net cash flows provided by operating activities were $13.3 million in the
first nine months of 2002 compared to $15.5 million in the same period of 2001.
The decrease was primarily due to increases in the changes in accounts
receivable, inventories, and decreases in restructuring liabilities, offset by
increases in the changes in accounts payable and accrued liabilities.
Net cash flows used in investing activities were $29.1 million in the first
nine months of 2002 compared to $5.3 million in the same period of 2001. The
increase was primarily related to payments of $21.3 million in 2002 related to
the acquisitions of United Lubricants Corporation ("ULC") and Epmar Corporation
("Epmar"), compared to a payment of $1.5 million related to an acquisition in
2001. See also Note 7 Business Acquisitions.
Expenditures for property, plant, and equipment totaled $7.6 million in the
first nine months of 2002 compared to $5.0 million in the same period of 2001.
The increase in spending was primarily the result of the project to implement a
global transaction system and the move into new corporate headquarters. Capital
expenditures for 2002 are expected to be approximately $12 million.
Net cash flows provided by financing activities were $18.5 million for the
first nine months of 2002 compared with a net cash use of $4.8 million for the
same period of the prior year. The net change was due to approximately $23.0
million of short-term borrowings in 2002, primarily used to finance the ULC and
Epmar acquisitions.
In April 2002, the Company entered into a $20.0 million committed credit
facility, with a bank, which expires in April 2003. At the Company's option, the
interest rate for borrowings under the agreement may be based on the lender's
cost of funds plus a margin, LIBOR plus a margin, or on the prime rate. The
provisions of the agreement require that the Company maintain certain financial
ratios and covenants, all of which the Company was in compliance with as of
September 30, 2002. A total of $13.0 million in borrowings was outstanding under
this facility as of September 30, 2002 at an average borrowing rate of
approximately 2.4%.
15
In April 2002, the Company entered into a $10.0 million uncommitted demand
credit facility with the same lender under similar terms. A total of $10.0
million in borrowings under this facility was outstanding as of September 30,
2002 at an average borrowing rate of approximately 2.4%.
These facilities replaced an uncommitted facility in the amount of $18.0
million, which was terminated in July 2002, with all balances outstanding repaid
through borrowings under the new facilities discussed above.
Despite the Company's acquisitions, the Company believes that its balance
sheet remains strong with approximately $23 million of cash at the end of
September. It is the intent of the Company to utilize some of this cash to pay
down a portion of the Company's short term borrowings in the fourth quarter of
2002. The Company believes that its current credit facilities, which expire in
April of 2003, will be renewed or replaced at competitive rates upon their
termination in 2003. Accordingly, the Company believes, that in 2002 and 2003,
it is capable of supporting its operating requirements, payments of dividends to
shareholders, possible acquisition opportunities, and possible resolution of
contingencies, through internally generated funds supplemented with debt as
needed. Financial market declines have reduced the asset value of the Company's
pension plans and will likely result in a non-cash charge to equity in the
fourth quarter. The amount of the charge will depend on 2002 investment returns.
The charge will have no effect on 2002 net income. In addition, in 2003, the
Company is likely to have mandatory cash contributions to its plan that are
approximately $2 million higher than 2002 levels.
Operations
Sales and cost of sales for the third quarter and nine months of 2002 are
approximately $575 higher than previously reported in its October 30, 2002 press
release. The change is due to a review and determination that a recent chemical
management service arrangement should be reported on a gross basis based on the
nature of the integrated product and service offering versus net as an agent.
This reclassification had no effect on gross margin and accordingly net income.
Comparison of First Nine Months 2002 with First Nine Months 2001
Consolidated net sales for the first nine months of 2002 were $202.7
million, compared to $192.8 million in the first nine months of 2001. The sales
comparison was favorably impacted by the inclusion of revenues from the
acquisitions of ULC and Epmar earlier this year, as well as the purchase of a
controlling interest in the Company's South Africa joint venture, which was
effective July 1, 2002. Sales increases were also partially offset by
unfavorable foreign currency translations. At constant exchange rates and
excluding revenue from acquisitions, consolidated net sales would have been
essentially flat compared to 2001.
16
Cost of sales decreased as a percentage of sales from 59.5% in 2001 to
59.2% in 2002. The improvement was primarily a result of lower raw material
costs.
Selling, general and administrative (SG&A) expenses of $66.0 million in the
first nine months of 2002 were approximately 12% higher than the $58.9 million
reported in the first nine months of 2001. The increase was primarily the result
of SG&A expenses of ULC, Epmar and South Africa, and higher pension, insurance,
and other administrative costs. The first nine months of 2002 were also
favorably impacted by the adoption of Statement of Financial Accounting
Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets." Upon
adoption of SFAS No. 142, the company no longer amortizes goodwill. The Company
reported approximately $0.8 million of goodwill amortization in the first nine
months of 2001. In addition, in the third quarter of 2001 the Company recorded
an additional reserve for doubtful accounts of $0.5 million related to the poor
financial condition of certain U.S. steel customers that filed for bankruptcy
protection under the provisions of Chapter 11.
In the third quarter of 2001, the Company recorded restructuring and
nonrecurring charges totaling $3.2 million on a pre-tax basis. These charges
consist of restructuring charges of $3.0 million, primarily related to plans to
close and sell our manufacturing facilities in the U.K. and France, as well as
other cost reduction efforts. Nonrecurring organizational consulting expenses of
$0.2 million were also incurred. See also Note 6 Restructuring and Nonrecurring
Expenses.
Other income variance primarily reflects increased foreign exchange gains
in the first nine months of 2002 compared with the first nine months of 2001,
offset by lower license fee revenue in 2002 compared with 2001. Net interest
expense was favorable in the first nine months of 2002 compared to the prior
year, despite increased borrowings to fund the ULC and Epmar acquisitions, due
to lower borrowing rates and the impact of principal payments made on the
Company's higher rate long-term debt. Equity income in the first nine months of
2002 compared to the first nine months of 2001 reflects lower income year over
year from the Company's joint venture in Mexico, the start up of the Company's
real estate joint venture in Conshohocken, PA and the consolidation of the
Company's South Africa joint venture. Minority interest was lower in the first
nine months of 2002 compared with the same period last year, primarily due to
lower net income from the Company's subsidiary in Brazil.
17
The effective tax rate for 2002 is currently 32%, compared to 31% in the
prior year. The effective tax rate is dependent on many internal and external
factors, and is assessed by the Company on a regular basis. The Company has been
assessed approximately $2.6 million of additional taxes based on an audit of
certain of its subsidiaries for prior years. The Company has initiated an appeal
process related to this assessment and currently believes its reserves are
adequate.
Comparison of Third Quarter 2002 with Third Quarter 2001
Consolidated net sales for the third quarter of 2002 were a record $73.3
million, a 15% increase compared to the third quarter of 2001. The sales
comparison was favorably impacted by the inclusion of revenues from ULC, Epmar
and South Africa. The impact of foreign currency translations was not material
to the quarterly comparison, as the strengthening Euro was largely offset by the
weakening Brazilian Real and Argentine Peso. At constant exchange rates and
excluding ULC, Epmar and South Africa revenues, consolidated net sales would
have been up approximately 5% compared to 2001.
Cost of sales decreased as a percentage of sales from 60.4% in the third
quarter of 2001 to 59.9% in the third quarter of 2002. The improvement was
primarily a result of lower raw material costs.
Selling, general and administrative (SG&A) expenses in the third quarter of
2002 were up $3.6 million from the third quarter of 2001. SG&A expenses of ULC,
Epmar and South Africa accounted for approximately one half of the quarterly
increase. Higher pension, insurance, and other administrative costs were also
factors. The third quarter of 2002 was also favorably impacted by the adoption
of Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and
Other Intangible Assets." Upon adoption of SFAS No. 142, the company no longer
amortizes goodwill. The Company reported approximately $0.2 million of goodwill
amortization in the third quarter of 2001. In addition, in the third quarter of
2001 the Company recorded an additional reserve for doubtful accounts of $0.5
million related to the poor financial condition of certain U.S. steel customers
that filed for bankruptcy protection under the provisions of Chapter 11.
In the third quarter of 2001, the Company recorded restructuring and
nonrecurring charges totaling $3.2 million on a pre-tax basis. These charges
consist of restructuring charges of $3.0 million, primarily related to plans to
close and sell our manufacturing facilities in the U.K. and France, as well as
other
18
cost reduction efforts. Nonrecurring organizational consulting expenses of $0.2
million were also incurred. See also Note 6 Restructuring and Nonrecurring
Expenses.
Other income variance primarily reflects foreign exchange gains in the
third quarter of 2002 compared with foreign exchange losses in the third quarter
of 2001. Net interest expense was unfavorable in the third quarter of 2002
compared to the prior year, due to increased borrowings to fund the ULC and
Epmar acquisitions. Equity income in the third quarter of 2002 was down compared
to equity income in the third quarter 2001 due to the consolidation of South
Africa. Minority interest was higher in the third quarter of 2002 compared with
the same period last year, as a result of the consolidation of South Africa
The uncertain global economic and political environment and rising raw
material prices creates uncertainty regarding fourth quarter earnings. However,
the Company currently expects to achieve similar earnings in the fourth quarter
as the third quarter, which provides the prospect that earnings for the full
year 2002 will slightly exceed 2001 full-year earnings, which exclude the 2001
special items. Earnings for the full-year 2001, excluding special items, were
$1.49 per share. Special items totaling $0.65 per share are inclusive of the
following: $0.20 for facility rationalization costs, $0.20 for severance costs,
$0.04 for costs related to abandoned acquisitions, $0.15 for additional
provisions for doubtful accounts, $0.02 for organizational structure costs and
$0.04 for increases in environmental reserves.
Regarding 2003, the Company is anticipating U.S. pension costs will be $0.08 to
$0.12 higher per share, depending on 2002 investment returns. In addition, raw
material prices are expected to be higher in 2003. The Company is currently in
the midst of the budget process and a full year 2003 forecast is not yet
available. However, it is the goal of the Company to have increased earnings
year over year.
Other Significant Items
On March 1, 2002, the Company acquired certain assets and liabilities of
United Lubricants Corporation for approximately $14.0 million. The acquisition
resulted in the recognition of approximately $5.4 million of goodwill and $2.4
million of intangible assets. Pro-forma results of operations have not been
presented because the effects were not material.
19
On April 22, 2002, the Company acquired all of the outstanding stock of
Epmar Corporation for $7.6 million and the assumption of $0.4 million of debt.
The acquisition resulted in the recognition of approximately $3.3 million of
goodwill and $2.9 million of intangible assets. Pro-forma results of operations
have not been presented because the effects were not material.
Effective July 1, 2002, the Company acquired a controlling interest in Quaker
Chemical South Africa (Pty.) Ltd (South Africa), a previously fifty-percent
owned joint venture. As a result, South Africa, previously reported using the
equity method, is now a fully consolidated subsidiary. The effect of this change
was not material to the financial statements.
Euro Conversion
On January 1, 1999, 11 of the 15 member countries of the European Union
established fixed conversion rates between their existing currencies ("legacy
currencies") and one common currency - the euro. The euro trades on currency
exchanges and may be used in business transactions. In January 2002, new
euro-denominated bills and coins were issued, and legacy currencies were
withdrawn from circulation. The Company's operating subsidiaries affected by the
euro conversion executed plans to address the systems and business issues raised
by the euro currency. The euro conversion did not have a material adverse impact
on the Company's financial condition or results of operations.
Forward-Looking and Cautionary Statements
Except for historical information and discussions, statements contained in
this Form 10-Q may constitute forward-looking statements within the meaning of
the Private Securities Litigation Reform Act of 1995. These statements involve a
number of risks, uncertainties and other factors that could cause actual results
to differ materially from those projected in such statements.
Such risks and uncertainties include, but are not limited to, further
downturns in our customers' businesses, significant increases in raw material
costs, worldwide economic and political conditions, foreign currency
fluctuations and future terrorist attacks such as those that occurred on
September 11, 2001. Furthermore, the Company is subject to the same business
cycles as those experienced by steel, automobile, aircraft, appliance or durable
goods manufacturers.
20
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
Quaker is exposed to the impact of interest rates, foreign currency
fluctuations, changes in commodity prices, and credit risk.
Interest Rate Risk. Quaker's exposure to market rate risk for changes in
interest rates relates primarily to its short and long-term debt. Most of
Quaker's long-term debt has a fixed interest rate, while its short-term debt is
negotiated at market rates which can be either fixed or variable. Incorporated
by reference is the information in "Liquidity and Capital Resources" in
Management's Discussion and Analysis of Financial Condition and Results of
Operations and Note 8 of the Notes to Consolidated Financial Statements
beginning on pages 10 and 31, respectively, of the Registrant's 2001 Annual
Report filed on Form 10-K. Accordingly, if interest rates rise significantly,
the cost of short-term debt to Quaker will increase. This can have an adverse
effect on Quaker depending on the extent of Quaker's short-term borrowings. As
of September 30, 2002, Quaker had $23.0 million of short-term borrowings.
Foreign Exchange Risk. A significant portion of Quaker's revenues and
earnings is generated by its foreign subsidiaries. These foreign subsidiaries
also hold a significant portion of Quaker's assets and liabilities. Incorporated
by reference is the information concerning Quaker's non-U.S. activities
appearing in Note 11 of the Notes to Consolidated Financial Statements beginning
on page 35 of the Registrant's 2001 Annual Report filed on Form 10-K. Each such
subsidiaries uses its local currency as their functional currency. Accordingly,
Quaker's financial results are affected by risks typical of global business such
as currency fluctuations, particularly between the U.S. dollar, the Brazilian
real and the E.U. euro. As exchange rates vary, Quaker's results can be
materially adversely affected.
In the past, Quaker has used, on a limited basis, forward exchange
contracts to hedge foreign currency transactions and foreign exchange options to
reduce exposure to changes in foreign exchange rates. The amount of any gain or
loss on these derivative financial instruments was immaterial. Quaker is not
currently a party to any derivative financial instruments. Therefore, adoption
of SFAS No. 133, as amended by SFAS No. 138, did not have a material impact on
Quaker's operating results or financial position as of September 30, 2002.
21
Commodity Price Risk. Many of the raw materials used by Quaker are
commodity chemicals, and, therefore, Quaker's earnings can be materially
adversely affected by market changes in raw material prices. In certain cases,
Quaker has entered into fixed-price purchase contracts having a term of up to
one year. These contracts provide for protection to Quaker if the price for the
contracted raw material rises, however, in certain limited circumstances, Quaker
will not realize the benefit if such price declines. Quaker has not been, nor is
it currently a party to, any derivative financial instrument relative to
commodities.
Credit Risk. Quaker establishes allowances for doubtful accounts for
estimated losses resulting from the inability of its customers to make required
payments. If the financial condition of Quaker's customers were to deteriorate,
resulting in an impairment of their ability to make payments, additional
allowances may be required. Downturns in the overall economic climate may also
tend to exacerbate specific customer financial issues. A significant portion of
Quaker's revenues is derived from sales to customers in the U.S. steel industry
where a number of bankruptcies occurred during recent years. In 2001 and early
2002, Quaker recorded additional provisions for doubtful accounts primarily
related to bankruptcies in the U.S. steel industry. When a bankruptcy occurs,
Quaker must judge the amount of proceeds, if any, that may ultimately be
received through the bankruptcy or liquidation process. In addition, as part of
its terms of trade, Quaker may custom manufacture products for certain large
customers and/or may ship product on a consignment basis. These practices may
increase the Company's exposure should a bankruptcy occur, and may require
writedown or disposal of certain inventory due to its estimated obsolescence or
limited marketability. Customer returns of products or disputes may also result
in similar issues related to the realizability of recorded accounts receivable
or returned inventory. Incorporated by reference is the information in "Critical
Accounting Policies and Estimates" and "Liquidity and Capital Resources" in
Management's Discussion and Analysis of Financial Condition and Results of
Operations beginning on pages 8 and 10 respectively, of the Registrant's 2001
Annual Report filed on Form 10-K.
22
Item 4. Controls and Procedures
a. Evaluation of disclosure controls and procedures. The Company's principal
executive officer and principal financial officer have concluded that the
Company's disclosure controls and procedures (as defined in Exchange Act
Rule 13a-14(c)), based on their evaluation of such controls and procedures
conducted within 90 days prior to the date hereof, are effective to ensure
that information required to be disclosed by the Company in the reports it
files under the Securities Exchange Act of 1934, as amended, is recorded,
processed, summarized and reported within the time periods specified in the
rules and forms of the Securities and Exchange Commission.
b. Changes in internal controls. There have been no significant changes in the
Company's internal controls or in other factors that could significantly
affect these controls subsequent to the date of the evaluation referred to
above.
23
PART II. OTHER INFORMATION
Items 1,2,3, 4 and 5 of Part II are inapplicable and have been
omitted.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits.
99.1 - Certification of Ronald J. Naples
99.2 - Certification of Michael F. Barry
(b) Reports on Form 8-K.
No reports on Form 8-K were filed during the quarter for which
this report is filed.
24
* * * * * * * * *
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.
QUAKER CHEMICAL CORPORATION
---------------------------
(Registrant)
/s/ Michael F. Barry
-----------------------------------
Michael F. Barry, officer duly
authorized to sign this report,
Vice President and Chief Financial Officer
Date: November 14, 2002
CERTIFICATION
I, Ronald J. Naples, the Chief Executive officer of Quaker Chemical Corporation,
certify that:
1. I have reviewed this quarterly report on Form 10-Q of Quaker Chemical
Corporation;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
25
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: November 14, 2002 Signed: /s/ Ronald J. Naples
----------------- ------------------------------
Name: Ronald J. Naples
------------------------------
Title: Chief Executive Officer
------------------------------
of Quaker Chemical Corporation
------------------------------
26
CERTIFICATION
I, Michael F. Barry, the Chief Financial Officer of Quaker Chemical Corporation,
certify that:
1. I have reviewed this quarterly report on Form 10-Q of Quaker Chemical
Corporation;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
27
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: November 14, 2002 Signed: /s/ Michael F. Barry
----------------- -------------------------------
Name: Michael F. Barry
-------------------------------
Title: Chief Financial Officer
-------------------------------
of Quaker Chemical Corporation
-------------------------------
28