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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 001-13255
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SOLUTIA INC.
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(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 43-1781797
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(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
575 MARYVILLE CENTRE DRIVE, P.O. BOX 66760, ST. LOUIS, MISSOURI 63166-6760
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(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
(314) 674-1000
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(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS
TO BE FILED BY SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
DURING THE PRECEDING TWELVE 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
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INDICATE BY CHECK MARK WHETHER THE REGISTRANT IS AN ACCELERATED FILER
(AS DEFINED IN RULE 12b-2 OF THE EXCHANGE ACT). YES X NO .
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INDICATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE ISSUER'S
CLASSES OF COMMON STOCK, AS OF THE LATEST PRACTICABLE DATE.
OUTSTANDING AT
CLASS SEPTEMBER 30, 2003
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COMMON STOCK, $0.01 PAR VALUE 104,521,233 SHARES
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SOLUTIA INC.
STATEMENT OF CONSOLIDATED INCOME (LOSS)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
------------------- -------------------
2003 2002 2003 2002
---- ---- ---- ----
NET SALES ......................................................... $ 578 $ 574 $1,785 $1,679
Cost of goods sold................................................. 628 488 1,717 1,410
------ ------ ------ ------
GROSS PROFIT....................................................... (50) 86 68 269
Marketing expenses................................................. 38 39 117 110
Administrative expenses............................................ 43 32 106 95
Technological expenses............................................. 14 13 37 36
Amortization expense............................................... 1 1 2 2
------ ------ ------ ------
OPERATING INCOME (LOSS)............................................ (146) 1 (194) 26
Equity earnings (loss) from affiliates, net of tax................. (58) 5 (60) 17
Interest expense................................................... (25) (25) (73) (60)
Other income, net.................................................. 1 4 9 13
------ ------ ------ ------
LOSS BEFORE INCOME TAXES........................................... (228) (15) (318) (4)
Income tax expense (benefit)....................................... (55) (9) (90) (13)
------ ------ ------ ------
INCOME (LOSS) FROM CONTINUING OPERATIONS BEFORE DISCONTINUED
OPERATIONS AND CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING
PRINCIPLE....................................................... (173) (6) (228) 9
INCOME (LOSS) FROM DISCONTINUED OPERATIONS, NET OF TAX............. -- 6 (2) 28
CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE, NET OF TAX.... (5) -- (5) (167)
------ ------ ------ ------
NET INCOME (LOSS).................................................. $ (178) $ -- $ (235) $ (130)
====== ====== ====== ======
BASIC EARNINGS (LOSS) PER SHARE:
Income (Loss) from Continuing Operations Before Discontinued
Operations and Cumulative Effect of Change in Accounting
Principle....................................................... $(1.65) $(0.06) $(2.18) $ 0.09
Net Income (Loss) per Share........................................ $(1.70) $ -- $(2.25) $(1.24)
DILUTED EARNINGS (LOSS) PER SHARE:
Income (Loss) from Continuing Operations Before Discontinued
Operations and Cumulative Effect of Change in Accounting
Principle....................................................... $(1.65) $(0.06) $(2.18) $ 0.09
Net Income (Loss) per Share........................................ $(1.70) $ -- $(2.25) $(1.24)
WEIGHTED AVERAGE EQUIVALENT SHARES (IN MILLIONS):
Basic.......................................................... 104.5 104.8 104.6 104.7
Diluted........................................................ 104.5 104.8 104.6 105.0
See accompanying Notes to Consolidated Financial Statements
STATEMENT OF CONSOLIDATED COMPREHENSIVE LOSS
(DOLLARS IN MILLIONS)
(UNAUDITED)
THREE MONTHS NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
------------------- -------------------
2003 2002 2003 2002
---- ---- ---- ----
NET INCOME (LOSS)................................................ $(178) $ -- $(235) $(130)
OTHER COMPREHENSIVE LOSS:
Currency translation adjustments ................................ 5 (8) 48 74
Minimum pension liability adjustments, net of tax ............... 30 (123) 30 (123)
Net unrealized gain on derivative instruments, net of tax ....... -- 1 -- 1
Net realized loss on derivative instruments, net of tax ......... -- -- -- 1
----- ----- ----- -----
COMPREHENSIVE LOSS............................................... $(143) $(130) $(157) $(177)
===== ===== ===== =====
See accompanying Notes to Consolidated Financial Statements.
SOLUTIA INC.
STATEMENT OF CONSOLIDATED FINANCIAL POSITION
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
SEPTEMBER 30, DECEMBER 31,
2003 2002
---- ----
ASSETS
CURRENT ASSETS:
Cash and cash equivalents....................................................... $ 55 $ 17
Trade receivables, net of allowances of $21 in 2003 and $16 in 2002............. 273 270
Miscellaneous receivables....................................................... 122 97
Prepaid expenses................................................................ 28 17
Deferred income tax benefit..................................................... 142 108
Inventories..................................................................... 247 262
Assets of Discontinued Operations .............................................. -- 636
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TOTAL CURRENT ASSETS............................................................ 867 1,407
PROPERTY, PLANT AND EQUIPMENT, net of accumulated depreciation of $2,529 in
2003 and $2,436 in 2002....................................................... 945 930
INVESTMENTS IN AFFILIATES....................................................... 204 232
GOODWILL........................................................................ 147 144
IDENTIFIED INTANGIBLE ASSETS, NET............................................... 67 66
LONG-TERM DEFERRED INCOME TAX BENEFIT........................................... 384 290
OTHER ASSETS.................................................................... 240 273
------ ------
TOTAL ASSETS.................................................................... $2,854 $3,342
====== ======
LIABILITIES AND SHAREHOLDERS' DEFICIT
CURRENT LIABILITIES:
Accounts payable................................................................ $ 159 $ 234
Accrued liabilities............................................................. 404 356
Postretirement liabilities...................................................... 105 93
Short-term debt................................................................. 86 358
Liabilities of Discontinued Operations ......................................... -- 165
------ ------
TOTAL CURRENT LIABILITIES....................................................... 754 1,206
LONG-TERM DEBT.................................................................. 909 839
POSTRETIREMENT LIABILITIES...................................................... 1,132 1,164
OTHER LIABILITIES............................................................... 428 382
SHAREHOLDERS' DEFICIT:
Common stock (authorized, 600,000,000 shares, par value $0.01)
Issued: 118,400,635 shares in 2003 and 2002................................. 1 1
Additional Contributed Capital.............................................. 56 19
Treasury stock, at cost (13,879,402 shares in 2003 and 13,659,351 shares in
2002, respectively)....................................................... (251) (251)
Net deficiency of assets at spin-off............................................ (113) (113)
Accumulated other comprehensive loss............................................ (68) (146)
Reinvested earnings............................................................. 6 241
------ ------
TOTAL SHAREHOLDERS' DEFICIT..................................................... (369) (249)
------ ------
TOTAL LIABILITIES AND SHAREHOLDERS' DEFICIT..................................... $2,854 $3,342
====== ======
See accompanying Notes to Consolidated Financial Statements.
SOLUTIA INC.
STATEMENT OF CONSOLIDATED CASH FLOWS
(DOLLARS IN MILLIONS)
(UNAUDITED)
NINE MONTHS ENDED
SEPTEMBER 30,
-----------------
2003 2002
---- ----
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
OPERATING ACTIVITIES:
Net loss $(235) $(130)
Adjustments to reconcile to Cash Provided by (Used in) Operations:
Cumulative effect of change in accounting principle, net of tax ................. 5 167
Depreciation and amortization .................................................. 102 100
(Income) Loss from discontinued operations, net of tax .......................... 2 (28)
Amortization of deferred credits................................................. (10) (11)
Restructuring expenses and other charges ........................................ 237 18
Other, net....................................................................... 12 3
Changes in assets and liabilities:
Income and deferred taxes.................................................. (101) 50
Trade receivables.......................................................... (3) (27)
Inventories................................................................ 15 (12)
Accounts payable........................................................... (75) 13
Other assets and liabilities............................................... 55 (86)
----- -----
CASH PROVIDED BY OPERATIONS--CONTINUING OPERATIONS ................................... 4 57
CASH PROVIDED BY (USED IN) OPERATIONS--DISCONTINUED OPERATIONS ....................... (11) 30
----- -----
CASH PROVIDED BY (USED IN) OPERATIONS................................................. (7) 87
----- -----
INVESTING ACTIVITIES:
Property, plant and equipment purchases............................................... (59) (44)
Acquisition and investment payments, net of cash acquired ............................ (48) (31)
Property disposals and investment proceeds............................................ 1 107
----- -----
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES--CONTINUING OPERATIONS ............... (106) 32
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES--DISCONTINUED OPERATIONS ............. 475 (8)
----- -----
CASH PROVIDED BY INVESTING ACTIVITIES................................................. 369 24
----- -----
FINANCING ACTIVITIES:
Net change in short-term debt obligations............................................. (272) (107)
Proceeds from issuance of long-term debt obligations ................................. -- 182
Restricted cash for repayment of October 2002 maturities ............................. -- (150)
Issuance of stock warrants ........................................................... -- 19
Deferred debt issuance cost .......................................................... (6) (28)
Common stock issued under employee stock plans........................................ -- 2
Other, net............................................................................ (41) (15)
----- -----
CASH USED IN FINANCING ACTIVITIES--CONTINUING OPERATIONS.............................. (319) (97)
CASH USED IN FINANCING ACTIVITIES--DISCONTINUED OPERATIONS............................ (5) (18)
----- -----
CASH USED IN FINANCING ACTIVITIES..................................................... (324) (115)
----- -----
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS ..................................... 38 (4)
CASH AND CASH EQUIVALENTS:
BEGINNING OF YEAR..................................................................... 17 23
----- -----
END OF PERIOD......................................................................... $ 55 $ 19
===== =====
See accompanying Notes to Consolidated Financial Statements.
SOLUTIA INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS)
(UNAUDITED)
1. SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations
Solutia Inc. and its subsidiaries (referred to herein as "Solutia"
or the "Company") make and sell a variety of high-performance chemical-based
materials. Solutia is a world leader in performance films for laminated
safety glass and after-market applications; process development and scale-up
services for pharmaceutical fine chemicals; specialties such as water
treatment chemicals, heat transfer fluids and aviation hydraulic fluid and
an integrated family of nylon products including high-performance polymers
and fibers.
Prior to September 1, 1997, Solutia was a wholly-owned subsidiary
of the former Monsanto Company (now known as Pharmacia Corporation, a
wholly-owned subsidiary of Pfizer, Inc.). On September 1, 1997, Monsanto
distributed all of the outstanding shares of common stock of the Company as
a dividend to Monsanto stockholders (the spin-off). As a result of the
spin-off, on September 1, 1997, Solutia became an independent publicly-held
company listed on the New York Stock Exchange and its operations ceased to
be owned by Monsanto. A net deficiency of assets of $113 million resulted
from the spin-off.
At the time of the spin-off, Solutia was required to contractually
assume certain liabilities from Pharmacia. As further discussed in Note 7,
these legacy liabilities consist primarily of retiree healthcare, life
insurance costs and disability benefits; environmental compliance and
remediation costs; and litigation defense costs and judgments. Due to the
prolonged economic slow down, coupled with the prevalence of energy and raw
material costs above historic levels, the financial burden of servicing
these liabilities has become relatively more significant to the Company.
Also discussed in Note 7 are future liquidity requirements of the business
and management's plans to address these requirements.
Basis of Consolidation
The consolidated financial statements include the accounts of
Solutia and its majority-owned subsidiaries. All significant intercompany
transactions and balances have been eliminated in consolidation. Companies
in which Solutia has a significant interest but not a controlling interest
are accounted for under the equity method of accounting and included in
"Investments in Affiliates" in the Statement of Consolidated Financial
Position. Solutia's proportionate share of these companies' net earnings or
losses is reflected net of tax in "Equity Earnings (Loss) from Affiliates"
in the Statement of Consolidated Income (Loss). In accordance with Financial
Accounting Standards Board (FASB) Interpretation No. 46, "Consolidation of
Variable Interest Entities," variable interest entities in which Solutia is
the primary beneficiary are consolidated within the consolidated financial
statements.
Use of Estimates
The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and that
affect revenues and expenses during the period reported. Estimates are
adjusted when necessary to reflect actual experience. Significant estimates
were used to account for restructuring reserves, environmental reserves,
self-insurance reserves, employee benefit plans, asset impairments and
contingencies. Actual results could differ from those estimates.
Cash and Cash Equivalents
Cash and cash equivalents consist of cash and temporary investments
with maturities of three months or less when purchased. The effect of
exchange rate changes on cash and cash equivalents was not material.
Inventory Valuation
Inventories are stated at cost or market, whichever is less. Actual
cost is used to value raw materials and supplies. Standard cost, which
approximates actual cost, is used to value finished goods and goods in
process. Standard cost includes direct labor and raw materials, and
manufacturing overhead based on practical capacity. The cost of certain
inventories is determined by the last-in, first-out (LIFO) method, which
generally reflects the effects of inflation or deflation on cost of goods
sold sooner than other inventory cost methods. The cost of other inventories
generally is determined by the first-in, first-out (FIFO) method.
Property, Plant and Equipment
Property, plant and equipment are recorded at cost. The cost of
plant and equipment is depreciated over 5 to 35 years for buildings and
improvements, and 3 to 15 years for machinery and equipment, by the
straight-line method.
Intangible Assets
Solutia discontinued the amortization of goodwill and identifiable
intangible assets that have indefinite useful lives in accordance with
Statement of Financial Accounting Standard (SFAS) No. 142, "Goodwill and
Other Intangible Assets." Intangible assets that have finite useful lives
are amortized on a straight-line basis over their useful lives, generally
periods ranging from 5 to 20 years. Goodwill and indefinite-lived intangible
assets are assessed annually for impairment in the fourth quarter.
Impairment of Long-lived Assets
Impairment tests of long-lived assets are made when conditions
indicate a possible loss. Impairment tests are based on a comparison of
undiscounted cash flows to the recorded value of the asset. If an impairment
is indicated, the asset value is written down to its fair value based upon
market prices or, if not available, upon discounted cash value, at an
appropriate discount rate.
Environmental Remediation
Costs for remediation of waste disposal sites are accrued in the
accounting period in which the obligation is probable and when the cost is
reasonably estimable. Postclosure costs for hazardous waste facilities at
certain U.S. operating locations are accrued over the estimated life of the
facility as part of its anticipated closure cost. Environmental liabilities
are not discounted, and they have not been reduced for any claims for
recoveries from insurance or third parties. In those cases where insurance
carriers or third-party indemnitors have agreed to pay any amounts and
management believes that collectability of such amounts is probable, the
amounts are reflected as receivables in the consolidated financial
statements.
Self-Insurance and Insurance Recoveries
Solutia maintains self-insurance reserves to reflect its estimate
of uninsured losses. Self-insured losses are accrued based upon estimates of
the aggregate liability for uninsured claims incurred using certain
actuarial assumptions followed in the insurance industry, the Company's
historical experience and certain case specific reserves as required,
including estimated legal costs. The maximum extent of the self-insurance
provided by the Company is dependent upon a number of factors including the
facts and circumstances of individual cases and the terms and conditions of
the commercial policies. Solutia has purchased commercial insurance in order
to reduce its exposure to workers' compensation, product, general, auto and
property liability claims. Policies for periods prior to the spin-off are
shared with Monsanto. This insurance has varying policy limits and
deductibles.
Insurance recoveries are estimated in consideration of expected
losses, coverage limits and policy deductibles. When recovery from an
insurance policy is considered probable, a receivable is recorded.
Revenue Recognition
The Company's primary revenue-earning activities involve producing and
delivering goods. Revenues are considered to be earned when the Company has
completed the process by which it is entitled to such revenues. The
following criteria are used for revenue recognition: persuasive evidence of
an arrangement exists, delivery has occurred, selling price is fixed or
determinable and collection is reasonably assured. In the case of the
pharmaceutical services businesses, revenues are primarily recorded on a
percentage of completion method.
Distribution Costs
The Company includes inbound freight charges, purchasing and
receiving costs, inspection costs, warehousing costs, internal transfer
costs and the other costs of our distribution network in cost of goods sold
within the Statement of Consolidated Income (Loss).
Derivative Financial Instruments
Currency forward contracts are used to manage currency exposures
for financial instruments denominated in currencies other than the entity's
functional currency. Natural gas contracts are used to manage some of the
exposure for the cost of natural gas. Gains and losses on contracts that are
designated and effective as hedges are included in net income (loss) and
offset the exchange gain or loss of the transaction being hedged.
2
Major currencies affecting the Company's business are the U.S.
dollar, the British pound sterling, the euro, the Canadian dollar, the
Australian dollar and the Brazilian real. Currency restrictions are not
expected to have a significant effect on Solutia's cash flow, liquidity or
capital resources.
Income Taxes
Solutia accounts for income taxes using the asset and liability
method. Under this method, deferred tax assets and liabilities are
recognized for the future tax consequences of temporary differences between
the carrying amounts and tax bases of assets and liabilities at enacted
rates.
Currency Translation
The local currency has been used as the functional currency for
nearly all worldwide locations. The financial statements for most of
Solutia's ex-U.S. operations are translated into U.S. dollars at current or
average exchange rates. Unrealized currency translation adjustments in the
Statement of Consolidated Financial Position are accumulated as a component
of shareholders' deficit.
Earnings (Loss) per Share
Basic earnings (loss) per share is a measure of operating
performance that assumes no dilution from securities or contracts to issue
common stock. Diluted earnings (loss) per share is a measure of operating
performance by giving effect to the dilution that would occur if securities
or contracts to issue common stock were exercised or converted.
Stock Option Plans
Effective January 1, 2003, Solutia adopted SFAS No. 148,
"Accounting for Stock-Based Compensation--Transition and Disclosure," which
allowed Solutia to continue following the guidance of Accounting Principles
Board (APB) Opinion No. 25, "Accounting for Stock Issued to Employees," for
measurement and recognition of stock-based transactions with employees.
Accordingly, no compensation cost has been recognized for Solutia's option
plans in the Statement of Consolidated Income (Loss), as all options granted
under the plans had an exercise price equal to the market value of the
Company's stock on the date of the grant. The following table illustrates
the effect on net income (loss) and earnings (loss) per share if the fair
value based method had been applied to all outstanding and unvested awards
in each period:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ -----------------
2003 2002 2003 2002
---- ---- ---- ----
NET INCOME (LOSS):
As reported ............................................. $ (178) $ -- $ (235) $ (130)
Deduct: Total stock-based employee compensation expense
determined using the Black-Scholes option-pricing model
for all awards, net of tax ............................ (1) (2) (4) (6)
------ ------ ------ ------
Pro forma ............................................... $ (179) $ (2) $ (239) $ (136)
====== ====== ====== ======
INCOME (LOSS) PER SHARE:
Basic--as reported ...................................... $(1.70) $ -- $(2.25) $(1.24)
Basic--pro forma ........................................ $(1.71) $(0.02) $(2.28) $(1.30)
Diluted--as reported .................................... $(1.70) $ -- $(2.25) $(1.24)
Diluted--pro forma ...................................... $(1.71) $(0.02) $(2.28) $(1.30)
Compensation expense resulting from the fair value method may not
be representative of compensation expense to be incurred on a pro forma
basis in future years. The fair value of each option grant is estimated on
the date of grant by use of the Black-Scholes option-pricing model.
For the three and nine month periods ended September 30, 2003,
..3 million and .1 million common share equivalents, respectively, were
excluded because the effect would be antidilutive.
Reclassifications
Certain reclassifications to prior year's financial information
have been made to conform to the 2003 presentation.
3
These financial statements should be read in conjunction with the
audited financial statements and notes to consolidated financial statements
included in Solutia's 2002 Annual Report on Form 10-K, filed with the
Securities and Exchange Commission on March 6, 2003. The accompanying
unaudited consolidated financial statements reflect all adjustments that, in
the opinion of management, are necessary to present fairly the financial
position, results of operations, comprehensive income (loss), and cash flows
for the interim periods reported. Such adjustments are of a normal,
recurring nature. The results of operations for the three-month and
nine-month periods ended September 30, 2003, are not necessarily indicative
of the results to be expected for the full year.
2. DISCONTINUED OPERATIONS
On December 2, 2002, Solutia signed a definitive agreement to sell
its resins, additives and adhesives businesses to UCB S.A. for $500 million
in cash, plus an upfront payment of $10 million for a period of exclusivity.
On January 31, 2003, the sale was completed resulting in a pretax gain of
$24 million. Total proceeds, including the $10 million exclusivity fee
received in 2002, net of transaction costs were $494 million. The assets and
liabilities of the discontinued operations have been classified as current
in the Statement of Consolidated Financial Position at December 31, 2002. In
addition, proceeds from this divestiture were used to pay down $405 million
of borrowings under the amended credit facility in accordance with bank
agreements. As a result, all borrowings under this facility have been
classified as short-term at December 31, 2002. The Company retained certain
liabilities, primarily tax related, of approximately $40 million related to
the divested businesses and has excluded them from the liabilities
identified below. The carrying amounts of assets and liabilities from
discontinued operations at December 31, 2002, consisted of the following:
DECEMBER 31,
2002
----
ASSETS:
Receivables and prepaids............................ $100
Inventories......................................... 68
Other current assets................................ 36
----
Total Current Assets....................... 204
----
Property, plant and equipment, net.................. 199
Intangible assets................................... 205
Other long-term assets.............................. 28
----
Total Assets............................... $636
====
LIABILITIES:
Accounts payable.................................... $ 42
Accrued liabilities................................. 51
----
Total Current Liabilities.................. 93
----
Postretirement liabilities.......................... 21
Non-current deferred tax liability.................. 33
Other long-term liabilities......................... 18
----
Total Liabilities.......................... $165
====
The operating results of the resins, additives and adhesives
businesses have been reported separately as discontinued operations in the
consolidated financial statements for periods presented. The operating
results for the three and nine month periods ended September 30, 2002 exclude
certain corporate expenses of $3 million and $7 million, respectively, which
had previously been allocated to the resins, additives and adhesives
businesses. In addition, interest expense of $24 million for the nine month
period ended September 30, 2003, $8 million for the three month period ended
September 30, 2002 and $17 million for the nine month period ended
September 30, 2002, associated with debt that was repaid with the sales
proceeds was allocated to discontinued operations. The operating results for
2003 include results of operations for the month of January of 2003. Net
sales and income (loss) from discontinued operations are as follows:
4
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------- -------------
2003 2002 2003 2002
---- ---- ---- ----
Net sales............................... $-- $143 $53 $428
Income before income tax expense
(including gain on disposal of $24)... -- 8 7 40
Income tax expense...................... -- (2) (9) (12)
--- --- --- ----
Income (loss) from discontinued
operations............................ $-- $ 6 $(2) $ 28
=== ==== === ====
3. EARNINGS (LOSS) PER SHARE
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ -----------------
2003 2002 2003 2002
---- ---- ---- ----
Income (Loss) from Continuing Operations Before Discontinued
Operations and Cumulative Effect of Change in Accounting Principle $ (173) $ (6) $ (228) $ 9
Income (Loss) from Discontinued Operations, net of tax............... -- 6 (2) 28
Cumulative Effect of Change in Accounting Principle, net of tax...... (5) -- (5) (167)
------ ------ ------ ------
Net Income (Loss).................................................... $ (178) $ -- $ (235) $ (130)
====== ====== ====== ======
Basic Earnings (Loss) per Share:
Income (Loss) from Continuing Operations Before Discontinued
Operations and Cumulative Effect of Change in Accounting Principle $(1.65) $(0.06) $(2.18) $ 0.09
Income (Loss) from Discontinued Operations, net of tax .............. -- 0.06 (0.02) 0.26
Cumulative Effect of Change in Accounting Principle, net of tax...... (.05) -- (0.05) (1.59)
------ ------ ------ ------
Basic Earnings (Loss) per Share...................................... $(1.70) $ -- $(2.25) $(1.24)
------ ------ ------ ------
Diluted Earnings (Loss) per Share:
Income (Loss) from Continuing Operations Before Discontinued
Operations and Cumulative Effect of Change in Accounting Principle $(1.65) $(0.06) $(2.18) $ 0.09
Income (Loss) from Discontinued Operations, net of tax .............. -- 0.06 (0.02) 0.26
Cumulative Effect of Change in Accounting Principle, net of tax...... (.05) -- (0.05) (1.59)
------ ------ ------ ------
Diluted Earnings (Loss) per Share.................................... $(1.70) $ -- $(2.25) $(1.24)
------ ------ ------ ------
Weighted average equivalent shares (in millions):
Basic .......................................................... 104.5 104.8 104.6 104.7
Effect of dilutive securities:
Common share equivalents--common shares issuable upon
exercise of outstanding stock options and warrants........ -- -- -- 0.3
------ ------ ------ ------
Diluted ........................................................ 104.5 104.8 104.6 105.0
====== ====== ====== ======
For the three and nine month periods ended September 30, 2003,
..3 million and .1 million common share equivalents, respectively, were
excluded because the effect would be antidilutive.
5
4. RESTRUCTURING RESERVES
During the third quarter 2003, Solutia recorded a restructuring
charge of $1 million to cost of goods sold for costs associated with
workforce reductions. The restructuring was part of an enterprise-wide cost
reduction program. As a result of these actions, Solutia reduced its
workforce by 11 positions. Cash outlays associated with the restructuring
actions were funded from operations.
During the first nine months of 2003, Solutia recorded
restructuring charges of $21 million. These charges included $11 million to
cost of goods sold and $9 million to marketing, administrative and
technological expenses for costs associated with workforce reductions and
$1 million to cost of goods sold for costs primarily associated with contract
terminations of leased administrative facilities. The restructuring was part
of an enterprise-wide cost reduction program associated with the sale of the
resins, additives and adhesives businesses and other ongoing cost reduction
initiatives. As a result of these actions, Solutia reduced its workforce by
approximately 460 positions. Cash outlays associated with the restructuring
actions were funded from operations. Approximately 90 percent of the
workforce reductions affected North American business and manufacturing
operations, and approximately 10 percent affected European, Asian and Latin
American operations. Management positions represented approximately
30 percent of the workforce reductions.
The following table summarizes the restructuring charges, amounts
utilized to carry out those plans and amount remaining at September 30,
2003:
OTHER
EMPLOYMENT REDUCTIONS COSTS TOTAL
-----------------------------------------------------------------------
Performance Performance
Products and Integrated Corporate/ Products and
Services Nylon Other Services
-----------------------------------------------------------------------
Balance at January 1, 2003 .............. $-- $-- $-- $-- $--
Charges taken ........................... 6 3 2 -- 11
Amounts utilized ........................ (3) (3) (1) -- (7)
-----------------------------------------------------------------------
Balance at March 31, 2003 ............... $ 3 $-- $ 1 $-- $ 4
-----------------------------------------------------------------------
Charges taken ........................... 4 2 2 1 9
Amounts utilized ........................ (5) -- (2) (1) (8)
-----------------------------------------------------------------------
Balance at June 30, 2003 ................ $ 2 $ 2 $ 1 $-- $ 5
-----------------------------------------------------------------------
Charges taken ........................... 1 -- -- -- 1
Amounts utilized ........................ (2) (2) (1) -- (5)
-----------------------------------------------------------------------
BALANCE AT SEPTEMBER 30, 2003 ........... $ 1 $-- $-- $-- $ 1
=======================================================================
During 2000, Solutia decided to exit its resins facility at the
Port Plastics site in Addyston, Ohio. An $8 million charge to cost of goods
sold was recorded to carry out the exit plan. The charge included $2 million
to write down plant assets to their fair value, $2 million of dismantling
costs and $4 million of direct manufacturing, overhead, utilities and
severance costs for which Solutia was contractually obligated under an
operating agreement. Solutia was required to provide 24 months notice of
intent to exit and was required to pay contractually obligated costs for an
additional 18 months thereafter to a third-party operator. Solutia provided
notice of intent to exit on June 30, 2000, and exited the site in June of
2002. Solutia retained the restructuring obligation pursuant to the sales
agreement for the resins, additives and adhesives divestiture.
6
The following table summarizes the restructuring charge, amounts
utilized to carry out those plans and amount remaining at September 30, 2003:
SHUTDOWN
OF ASSET WRITE- OTHER
FACILITIES DOWNS COSTS TOTAL
-----------------------------------------------------
Balance at January 1, 2000 ............... $-- $-- $-- $--
Charges taken ............................ 2 2 4 8
Amounts utilized ......................... -- (2) -- (2)
-----------------------------------------------------
Balance at December 31, 2000 ............. 2 -- 4 6
Amounts utilized ......................... -- -- -- --
-----------------------------------------------------
Balance at December 31, 2001 ............. 2 -- 4 6
Amounts utilized ......................... (2) -- -- (2)
-----------------------------------------------------
Balance at December 31, 2002 ............. -- -- 4 4
Amounts utilized ......................... -- -- -- --
-----------------------------------------------------
Balance at March 31, 2003 ................ -- -- 4 4
Amounts utilized ......................... -- -- (2) (2)
-----------------------------------------------------
Balance at June 30, 2003 ................. -- -- 2 2
Amounts utilized ......................... -- -- (1) (1)
-----------------------------------------------------
Balance at September 30, 2003 ............ $-- $-- $ 1 $ 1
=====================================================
The remaining $1 million restructuring obligation will be fully
utilized during the fourth quarter 2003.
5. INVENTORY VALUATION
The components of inventories as of September 30, 2003, and
December 31, 2002, were as follows:
SEPTEMBER 30, DECEMBER 31,
2003 2002
---- ----
Finished goods................................................ $179 $179
Goods in process.............................................. 93 101
Raw materials and supplies.................................... 86 83
---- ----
Inventories, at FIFO cost..................................... 358 363
Excess of FIFO over LIFO cost................................. (111) (101)
---- ----
TOTAL......................................................... $247 $262
==== ====
6. GOODWILL AND OTHER INTANGIBLE ASSETS
Effective January 1, 2002, Solutia adopted SFAS No. 142 and
accordingly discontinued the amortization of goodwill and identifiable
intangible assets that have indefinite useful lives. This Statement also
required certain intangible assets that did not meet the criteria for
recognition apart from goodwill, to be subsumed into goodwill. During the
quarter ended March 31, 2002, Solutia subsumed into goodwill $1 million of
intangible assets, net of related deferred tax liabilities, representing
assembled workforce that did not meet the separability criteria under SFAS
No. 141, "Business Combinations."
7
Identified intangible assets are as follows:
SEPTEMBER 30, 2003
----------------------------------------------------
GROSS CARRYING ACCUMULATED NET CARRYING
VALUE AMORTIZATION VALUE
----- ------------ -----
Amortized intangible assets:
Contractual customer relationships ............ $24 $ (6) $18
Employment agreements.......................... 5 (3) 2
Other ......................................... 8 (5) 3
Translation ................................... 7 -- 7
--- ---- ---
TOTAL AMORTIZED INTANGIBLE ASSETS ...................... $44 $(14) $30
--- ---- ---
Unamortized intangible assets:
Trademarks..................................... $39 $ (4) $35
Translation.................................... 2 -- 2
--- ---- ---
TOTAL UNAMORTIZED INTANGIBLE ASSETS..................... $41 $ (4) $37
--- ---- ---
TOTAL IDENTIFIED INTANGIBLE ASSETS...................... $85 $(18) $67
=== ==== ===
DECEMBER 31, 2002
----------------------------------------------------
GROSS CARRYING ACCUMULATED NET CARRYING
VALUE AMORTIZATION VALUE
----- ------------ -----
Amortized intangible assets:
Contractual customer relationships ............ $23 $ (5) $18
Employment agreements.......................... 5 (3) 2
Other.......................................... 8 (5) 3
Translation.................................... 6 -- 6
--- ---- ---
TOTAL AMORTIZED INTANGIBLE ASSETS....................... $42 $(13) $29
--- ---- ---
Unamortized intangible assets:
Trademarks..................................... $39 $ (4) $35
Translation.................................... 2 -- 2
--- ---- ---
TOTAL UNAMORTIZED INTANGIBLE ASSETS..................... $41 $ (4) $37
--- ---- ---
TOTAL IDENTIFIED INTANGIBLE ASSETS ..................... $83 $(17) $66
=== ==== ===
There were no material acquisitions of intangible assets and there
have been no changes to amortizable lives or methods during the first nine
months of 2003. Amortization expense for the net carrying amount of
intangible assets is estimated to be $3 million annually in 2003 through
2007. Goodwill and indefinite-lived intangible assets are assessed annually
for impairment in the fourth quarter.
Goodwill is allocated to the Performance Products and Services
segment, which includes the CPFilms and Pharmaceutical Services reporting
units as follows:
TOTAL
PERFORMANCE
PHARMACEUTICAL PRODUCTS AND
CPFILMS SERVICES SERVICES
-----------------------------------------------
Goodwill, December 31, 2002 ................. $74 $70 $144
Translation ................................. -- 3 3
-----------------------------------------------
Goodwill, September 30, 2003 ................ $74 $73 $147
===============================================
8
7. CONTINGENCIES
Legacy Liabilities
At the time Solutia was spun-off from former Monsanto Company (now
known as Pharmacia Corporation, a wholly-owned subsidiary of Pfizer, Inc.)
in September 1997, the Company was required to contractually assume certain
liabilities from Pharmacia. Due to the prolonged economic slow down, coupled
with the prevalence of energy and raw material cost above historic levels,
the financial burden of servicing these liabilities has become relatively
more significant to the Company. These legacy liabilities consist primarily
of the following:
Retiree healthcare, life insurance costs and disability benefits:
Since the spin-off, Solutia has been required to provide retiree healthcare
and life insurance benefits to retirees who retired from Pharmacia prior to
the spin-off and who never worked for Solutia, as well as disability
benefits to individuals who became disabled while working for Pharmacia
prior to the spin-off. Currently Solutia provides retiree and disability
benefits to approximately 20,000 pre-spin retirees and disabled individuals,
their dependents and surviving spouses, roughly five times the number of
Solutia retirees, dependents and surviving spouses.
Environmental compliance and remediation costs: Since the spin-off,
Solutia has been required to bear the costs of environmental remediation and
associated compliance obligations relating to Pharmacia's historic chemical
business under applicable federal, state and local environmental laws. In
virtually all instances these obligations arise from activities conducted by
Pharmacia prior to the spin-off and fall into two broad categories:
(a) obligations related to properties that are not currently owned by
Solutia, and (b) obligations related to properties currently owned by
Solutia, including clean-up obligations for off-site migration of
contaminants. The vast majority of remediation actions taken to date at
properties owned by Solutia relate to contamination that emanated from the
properties prior to Solutia's ownership.
Litigation defense costs and judgments: Since the spin-off, Solutia
has been responsible for bearing the cost associated with various toxic tort
lawsuits related to polychlorinated biphenyls ("PCBs"), premises based
asbestos and other chemical exposures from the conduct of the historic
chemical business of Pharmacia. Currently Solutia is defending approximately
570 asbestos actions (involving an estimated 3,500 to 4,500 plaintiffs)
brought against Pharmacia. In addition, notwithstanding the recent
settlement of cases relating to the Anniston plant site, Solutia is still
defending approximately 30 cases involving alleged exposure from PCB's
manufactured by Pharmacia prior to the spin-off. Solutia also is currently
defending approximately 90 general and product liability claims which have
been brought against Pharmacia.
Outlook
The Company's Integrated Nylon business segment continued to be
challenged by high raw materials and energy costs and relatively weak demand
conditions in the third quarter. While the Company's total liquidity as of
September 30, 2003, after consideration of the impact of the new credit
facility (see Note 11), was on par with the Company's liquidity position as
of June 30, 2003, this result included approximately $65 million of
liquidity assistance provided by Monsanto during the quarter, in the form of
the $40 million letter of credit release related to the Penndot litigation
matter and a $25 million advance payment for goods to be delivered over the
next twelve months.
The holders of the Company's 6.72% debentures have the right to put
$150 million of debentures to the Company for repayment in October 2004.
Payment of this put amount, in part or whole, will also require the Company,
pursuant to the terms of its new credit facility, to make a prepayment on
the new credit facility in an equal amount. In addition, the Company's 6.25%
five-year (euro)200 million euro notes mature in February 2005 and the
Company will be required to make quarterly contributions to its qualified
pension plan during 2005, in an amount currently anticipated to aggregate
approximately $175 million.
The continuing overhang of legacy liabilities will significantly
restrict the Company's ability to address these liquidity requirements.
Furthermore, without a substantial improvement in the operating results of
the business, cash flow from operations would not be a significant source of
liquidity to meet these requirements. As a
9
result, the Company must take action to reduce its current level of debt
and legacy liabilities, and address the projected cash requirements of
its pension plans. The Company may not be successful in satisfying these
future liquidity requirements on favorable terms, if at all. Accordingly,
the Company is considering all available alternatives to address these
matters, including, but not limited to, a potential reorganization under
Chapter 11 of the U.S. bankruptcy code. The financial statements do not
include any adjustments that might result from the outcome of this
uncertainty.
Astaris Joint Venture
In connection with the external financing agreement for Astaris,
a 50 percent owned joint venture, which expires in September of 2005,
Solutia and its equal partner in the venture, FMC Corporation, contractually
agreed to provide Astaris with funding in the event the joint venture fails
to meet certain financial benchmarks. The financial benchmarks were based on
forecasted earnings that were developed when the financing was originated in
September 2000. Astaris' earnings have fallen short of the forecast
underlying its external financing agreement due to numerous factors
including significantly less than planned productivity of its purified wet
acid technology, lower sales volumes and lower average selling prices. As a
result of these earnings shortfalls in comparison to the original
expectations, Solutia and FMC each made additional investments of
$47 million during the nine month period ended September 30, 2003.
As of October 8, 2003, Solutia and Astaris amended its external
financing agreement to release the Astaris lenders' security interests in
certain Solutia assets in exchange for Solutia's posting of a $67 million
letter of credit, representing fifty percent of the Astaris lenders'
outstanding commitments to Astaris as of October 8, 2003. The agreement was
also amended to provide for a dollar for dollar reduction of the Astaris
lenders' commitments with future payments made by Solutia and FMC under
their existing support agreements to Astaris. This additional amendment will
effectively provide a $67 million limitation for each of Solutia and FMC on
future funding in the event the joint venture continues to fail to meet
certain financial benchmarks. Solutia's $67 million letter of credit will
also reduce dollar for dollar as future payments are made by Solutia under
its existing support agreement.
FMC and Solutia also agreed conceptually to allow Astaris to defer
up to $30 million each of obligations to FMC and Solutia arising under
existing operating agreements over the next 24-36 months to provide
liquidity assistance to Astaris as it implements its recently announced
business restructuring. Astaris, FMC and Solutia are currently negotiating
definitive agreements to allow for the deferral of these obligations,
including repayment terms and conditions.
Litigation Update
Solutia's 2002 Annual Report on Form 10-K described two judicial
proceedings, Abernathy v. Monsanto and Tolbert v. Monsanto, in which
plaintiffs claimed to have sustained personal injuries and/or property
damage as a result of the alleged release of PCBs and other materials from
the Anniston, Alabama plant site. On August 20, 2003, a settlement agreement
was reached resolving these matters. Pursuant to the settlement, while
admitting to no wrongdoing, Solutia, Monsanto Company, and Pharmacia agreed
to pay $600 million and provide certain community health programs to settle
these cases. The settlement resolved all outstanding claims including
potential punitive damages that might have been sought by plaintiffs and
their legal counsel. Pursuant to an agreement entered contemporaneously with
the settlement between Solutia, Monsanto, and Pharmacia, it was agreed that
Solutia's portion of the settlement would be $50 million payable in equal
installments over a period of 10 years commencing one year from the date of
the settlement, that Monsanto would fund the remaining $550 million cash
portion of the settlement (a portion of which is expected to be reimbursed
from the companies' commercial insurers), that Pfizer would make available
certain community health programs, that Monsanto would waive any right to
seek indemnification from Solutia to the extent of its contribution to the
settlement, and that Solutia would issue Monsanto warrants to purchase up to
10 million shares of Solutia common stock at an exercise price of $1.10 per
common share. The warrants to be issued pursuant to the settlement are to be
exercisable only if Solutia's common stock reaches an average closing price
target exceeding $10.00 per share for any thirty-day period, or upon a
change-of-control of Solutia.
10
To account for the settlement, Solutia increased its self-insurance
reserves by $41 million, which includes an increase in the existing reserve
levels up to the discounted settlement amount, additional legal expenses and
an increase to account for the change in insurance recovery assumptions
resulting from the exhaustion of certain insurance policies. The $50 million
settlement amount was recorded at a discounted amount of $40 million
utilizing a discount rate of 4.25 percent. The Company has determined the
value of the warrants as of the date of the courts' approval of the
settlement to be $37 million. The warrants were not included within the
"Financing Activities" section of the Statement of Consolidated Cash Flows
for the nine month period ended September 30, 2003, as the agreement to
issue the warrants represents a non-cash transaction.
Solutia is defending an action brought against Pharmacia in the
Commonwealth Court of Pennsylvania relating to low levels of PCBs found in
the Transportation & Safety Building owned by the Commonwealth in
Harrisburg, Pennsylvania (Penndot case). On August 4, 2003, Solutia and
Monsanto entered into an amendment to the Penndot Protocol agreement dated
November 15, 2002. Pursuant to the amendment, Monsanto released Solutia from
its obligation to provide Monsanto with a $39.9 million letter of credit to
secure a portion of Monsanto's obligations with respect to an appeal bond in
the Penndot case. As a result of the amendment on August 4, 2003, Monsanto
assumed control of any settlement decision but agreed to consult with
Solutia and Pharmacia before agreeing to any settlement. Solutia continues
to provide a $20 million letter of credit to secure a portion of Monsanto's
obligations with respect to the appeal bond.
On September 30, 2003, the Company had approximately $30 million
accrued in its self-insurance reserve for PCB litigation unrelated to the
Anniston settlement. The reserve was increased during the third quarter
primarily for the Penndot case and probable future legal expenses. The
Company has increased its accrual to the low end of the range of probable
outcomes for the Penndot case due to Monsanto assuming control of any
settlement decision for this case and initiation of settlement discussions.
8. SEGMENT DATA
Solutia's management is organized around two strategic business
platforms: Performance Products and Services and Integrated Nylon. Solutia's
reportable segments and their major products are as follows:
PERFORMANCE PRODUCTS AND SERVICES INTEGRATED NYLON
--------------------------------- ----------------
SAFLEX(R) plastic interlayer Nylon intermediate "building
block" chemicals
Polyvinyl butyral for KEEPSAFE(R), Merchant polymer and nylon
SAFLEX INSIDE(R) (in Europe only) extrusion polymers, including
and KEEPSAFE MAXIMUM(R) VYDYNE(R) and ASCEND(R)
laminated window glass
LLUMAR(R), VISTA(R) and GILA(R) Carpet fibers, including the
professional and retail window films WEAR-DATED(R) and ULTRON(R) brands
VANCEVA(TM) films Industrial nylon fibers
Conductive and anti-reflective coated ACRILAN(R) acrylic fibers for
films and deep-dyed films apparel, upholstery fabrics,
craft yarns and other applications
Industrial products, including
THERMINOL(R) heat transfer fluids,
DEQUEST(R) water treatment chemicals,
SKYDROL(R) aviation hydraulic fluids,
SKYKLEEN(R) aviation solvents, and
chlorobenzenes
Services for process research and
development, scale-up manufacturing and
small volume licensed production for
the pharmaceutical industry
11
Accounting policies of the segments are the same as those used in
the preparation of Solutia's consolidated financial statements. Solutia
evaluates the profitability of its operating segments based on segment
earnings before interest expense and income taxes, which includes marketing,
administrative, technological, and amortization expenses and other
non-recurring charges such as restructuring and asset impairment charges
that can be directly attributable to the operating segment. Certain expenses
and other items that are managed outside of the segments are excluded. These
unallocated items consist primarily of corporate expenses, equity earnings
(loss) from affiliates, interest expense, other income, net and expense
items, and certain non-recurring items such as gains and losses on asset
dispositions and restructuring charges that are not directly attributable to
the operating segments. Solutia accounts for intersegment sales at agreed
upon transfer prices. Intersegment sales are eliminated in consolidation.
Segment assets consist primarily of customer receivables, raw materials and
finished goods inventories, fixed assets, goodwill and identified intangible
assets directly associated with the production processes of the segment
(direct fixed assets). Segment depreciation and amortization are based upon
direct tangible and intangible assets. Unallocated assets consist primarily
of deferred taxes, certain investments in equity affiliates and indirect
fixed assets.
12
Segment data for the three and nine month periods ended September
30, 2003, and 2002 are as follows:
THREE MONTHS ENDED SEPTEMBER 30,
--------------------------------
2003 2002
---------------- -------------------
NET NET
SALES PROFIT SALES PROFIT
----- ------ ----- ------
SEGMENT:
Performance Products and Services...................... $253 $ 30 $246 $ 27
Integrated Nylon....................................... 325 (19) 328 (3)
---- ---- ---- ----
SEGMENT TOTALS......................................... 578 11 574 24
RECONCILIATION TO CONSOLIDATED TOTALS:
Corporate expenses................................. (158) (21)
Equity earnings (loss) from affiliates,
net of tax....................................... (58) 5
Interest expense................................... (25) (25)
Other income, net.................................. 2 2
CONSOLIDATED TOTALS: ---- ----
NET SALES.......................................... $578 $574
==== ----- ==== ----
LOSS BEFORE INCOME TAXES .......................... $(228) $(15)
===== ====
NINE MONTHS ENDED SEPTEMBER 30,
-------------------------------
2003 2002
---------------- -------------------
NET NET
SALES PROFIT SALES PROFIT
----- ------ ----- ------
SEGMENT:
Performance Products and Services...................... $ 757 $ 73 $ 715 $ 71
Integrated Nylon....................................... 1,028 (50) 964 14
------ ----- ------ -----
SEGMENT TOTALS......................................... 1,785 23 1,679 85
RECONCILIATION TO CONSOLIDATED TOTALS:
Corporate expenses................................. (214) (53)
Equity earnings (loss) from affiliates,
net of tax....................................... (61) 16
Interest expense................................... (73) (60)
Other income, net ................................. 7 8
CONSOLIDATED TOTALS: ------ ------
NET SALES.......................................... $1,785 $1,679
====== ----- ====== ----
LOSS BEFORE INCOME TAXES .......................... $(318) $ (4)
===== ====
9. PENSION
During the third quarter 2003, Solutia recorded a $30 million
pension settlement loss, as required by SFAS No. 88, "Employers' Accounting
for Settlements and Curtailments of Defined Benefit Pension Plans and for
Termination Benefits." The settlement loss resulted from the significant
amount of lump sum distributions from Solutia's domestic pension plans
during 2003, primarily relating to headcount reductions. In order to account
for the settlement, Solutia was required to remeasure its benefit
obligations and fair value of plan assets as of the interim date of
September 30, 2003. The Company's annual measurement date is December 31. As
a result of the decrease in the underfunded status of the domestic pension
plans and in accordance with the remeasurement provisions of SFAS No. 87,
"Employers' Accounting for Pension," Solutia recorded a $59 million decrease
in minimum pension liability; a $12 million reduction in intangible assets;
a $30 million decrease in shareholders' deficit and a $17 million related
deferred tax asset as of September 30, 2003.
13
10. VARIABLE INTEREST ENTITIES
In January 2003, the FASB issued Interpretation No. 46, "Consolidation
of Variable Interest Entities." This Interpretation provides guidance related
to identifying variable interest entities (VIEs) and determining whether
such entities should be consolidated. The Interpretation must be applied
immediately to VIEs created, or interests in VIEs obtained, after January
31, 2003. For those VIEs created, or interests in VIEs obtained, on or
before January 31, 2003, the guidance in the Interpretation must be applied
in the first fiscal year or interim period beginning after December 15,
2003. The Company early adopted the provisions of the Interpretation for
VIEs obtained, on or before January 31, 2003, during the quarter ended
September 30, 2003. There have been no VIEs created, or interests in VIEs
obtained, after January 31, 2003.
The Company has one operating lease related to its corporate
headquarters in St. Louis, Missouri, established in 1999, that qualifies as
a VIE under this Interpretation. Based on the current terms of the lease
agreement and the residual value guarantee the Company provides to the
lessor, the Company concluded it is the primary beneficiary of the VIE. The
residual value guarantee is $35 million as of September 30, 2003. As a
result, the Company consolidated the property, plant and equipment of
$37 million and long-term debt of $43 million held by this VIE, and recorded
minority interest of $1 million and a resulting after tax charge of
$5 million, reported as a cumulative effect of a change in accounting principle,
net of tax, during the quarter ended September 30, 2003. The assets and
liabilities of $37 million and $43 million, respectively, which were
consolidated as part of adoption of this Interpretation, were not included
within the Statement of Consolidated Cash Flows for the nine month period
ended September 30, 2003, as these items represent non-cash transactions
upon adoption of this Interpretation.
11. SUBSEQUENT EVENTS
Credit Facility
As of October 8, 2003, Solutia entered into a new $350 million
credit facility that matures in October 2006. The new credit facility
consists of (i) a $150 million revolving credit component available for
borrowing or for the issuance of letters of credit and (ii) a $200 million
term loan. The revolving credit component is only available when the term
loan is fully drawn. Availability under the revolving credit component is
subject to a working capital borrowing base formula. The proceeds of the
loans made under the new credit facility have been and will be used to
retire the Company's pre-existing bank debt and for general working capital
purposes, including fees and expenses related to the new credit facility.
The credit facility is secured by liens upon substantially all of the
domestic assets of Solutia, including working capital assets, intellectual
property, certain stock of subsidiaries and property, plant and equipment,
but excluding certain substantial manufacturing facilities.
Borrowings under the revolving credit component bear interest at a
rate per annum equal to the greater of (i) the prime rate plus 2.00 percent
or (ii) 6.25 percent. Borrowings under the term loan bear interest at a rate
per annum equal to the greater of (i) the prime rate plus 9.125 percent or
(ii) 13.375 percent. The obligations of Solutia Inc. and Solutia Business
Enterprises, Inc., as borrowers under the credit facility, are guaranteed by
Solutia Systems, Inc., CPFilms, Inc., Monchem International, Inc., Monchem
Inc., Solutia Investments, LLC, and each of Solutia's subsequently acquired
or organized domestic subsidiaries, subject to certain exceptions. In
addition, Solutia Inc. and Solutia Business Enterprises, Inc. are jointly
and severally liable with respect to their obligations under the credit
facility, thus in effect each guaranteeing the other's debt.
On September 29, 2003, the Company and its bank syndicate amended
its previous revolving credit facility to modify the financial covenants
through October 8, 2003. Without the amendment, the Company would not have
been in compliance with certain financial covenants at September 30, 2003.
The amended revolving credit facility was paid off in full by the new
credit facility and has been terminated.
Euro Notes
In recognition of the liquidity requirements disclosed in Note 7,
Solutia disclosed in the fourth quarter 2003 it is attempting to initiate
discussions with bondholders to address the upcoming bond maturities. On
November 14, 2003, the Company and its wholly owned subsidiary, Solutia
Europe SA/NA ("SESA"), commenced the notification process for convening a
meeting pursuant to Article 568 of the Belgian Companies Code of the
holders of (euro)
14
200 million 6.25 percent notes due 2005 issued by SESA (the "Eurobonds").
At the bondholders' meeting, which is scheduled to take place on
December 16, 2003, Solutia and SESA will request that the bondholders
approve amendments to the Eurobonds to effect an adjustment of the interest
rate to a rate to be proposed by the Company and SESA at the meeting,
an extension of the maturity to February 14, 2008 and a removal of the
guarantee by Solutia of SESA's obligations. In order for the proposed
amendments to be approved, at least fifty percent of the bondholders
(by value) must be validly present at the meeting or be represented
by proxy and at least seventy-five percent of the bondholders (by value)
validly present or represented must vote in favor of the proposed
amendments.
12. CONSOLIDATING CONDENSED FINANCIAL STATEMENTS
CPFilms, Inc., Monchem International, Inc., Monchem, Inc., and
Solutia Systems, Inc., wholly-owned subsidiaries of the Company (the
"Guarantors"), have been Guarantors of the 11.25 percent Senior Secured
Notes due 2009 (the "Notes") since their issuance. The Guarantors fully and
unconditionally guarantee the Notes on a joint and several basis. The
following consolidating condensed financial statements present, in separate
columns, financial information for: Solutia Inc. on a parent-only basis
carrying its investment in subsidiaries under the equity method; Guarantors
on a combined, or where appropriate, consolidated basis, carrying
investments in subsidiaries who do not guarantee the debt (the
"Non-Guarantors") under the equity method; Non-Guarantors on a combined, or
where appropriate, consolidated basis; eliminating adjustments; and
consolidated totals as of September 30, 2003 and December 31, 2002, and for
the three and nine months ended September 30, 2003 and 2002. The eliminating
adjustments primarily reflect intercompany transactions, such as interest
income and expense, accounts receivable and payable, advances, short and
long-term debt, royalties and profit in inventory eliminations. The Company
has not presented separate financial statements and other disclosures
concerning the Guarantors as such information is not material and would
substantially duplicate disclosures included elsewhere in this report.
In connection with the completion of the new credit facility as of
October 8, 2003, Solutia Investments, LLC, and Solutia Business Enterprises,
Inc. became additional Guarantors of the Notes. The addition of these
Guarantors would not have had a material impact on the following
consolidating condensed financial statements as of September 30, 2003 and
December 31, 2002, and for the three and nine month periods ended
September 30, 2003 and 2002. These additional Guarantors will be added to
the consolidating condensed financial statements in the Company's future
periodic filings.
15
SOLUTIA INC.
CONSOLIDATING STATEMENT OF INCOME (LOSS)
THREE MONTHS ENDED SEPTEMBER 30, 2003
(DOLLARS IN MILLIONS)
Parent Only Non- Consolidated
Solutia Inc. Guarantors Guarantors Eliminations Solutia Inc.
------------ ---------- ---------- ------------ ------------
NET SALES ................................... $ 434 $41 $182 $(79) $ 578
Cost of goods sold .......................... 543 20 149 (84) 628
---------------------------------------------------------------------
GROSS PROFIT ................................ (109) 21 33 5 (50)
Marketing expenses........................... 26 5 7 -- 38
Administrative expenses...................... 35 1 7 -- 43
Technological expenses....................... 12 1 1 -- 14
Amortization expense......................... -- -- 1 -- 1
---------------------------------------------------------------------
OPERATING INCOME (LOSS) ..................... (182) 14 17 5 (146)
Equity earnings (loss) from affiliates,
net of tax ................................ (20) 9 -- (47) (58)
Interest expense ............................ (37) (1) (13) 26 (25)
Other income, net ........................... 8 15 9 (31) 1
---------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES ........... (231) 37 13 (47) (228)
Income tax expense (benefit) ................ (58) -- 3 -- (55)
---------------------------------------------------------------------
INCOME (LOSS) FROM CONTINUING OPERATIONS (173) 37 10 (47) (173)
Cumulative Effect of Change in Accounting
Principle, net of tax ..................... (5) -- -- -- (5)
---------------------------------------------------------------------
NET INCOME (LOSS) ........................... $(178) $37 $ 10 $(47) $(178)
=====================================================================
CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME (LOSS)
THREE MONTHS ENDED SEPTEMBER 30, 2003
(DOLLARS IN MILLIONS)
Parent Only Non- Consolidated
Solutia Inc. Guarantors Guarantors Eliminations Solutia Inc.
------------ ---------- ---------- ------------ ------------
NET INCOME (LOSS) ........................... $(178) $37 $10 $(47) $(178)
OTHER COMPREHENSIVE INCOME (LOSS):
Currency translation adjustments ............ 5 4 12 (16) 5
Minimum pension liability adjustments,
net of tax ................................ 30 -- -- -- 30
---------------------------------------------------------------------
COMPREHENSIVE INCOME (LOSS) ................. $(143) $41 $22 $(63) $(143)
=====================================================================
16
SOLUTIA INC.
CONSOLIDATING STATEMENT OF INCOME
THREE MONTHS ENDED SEPTEMBER 30, 2002
(DOLLARS IN MILLIONS)
Parent Only Non- Consolidated
Solutia Inc. Guarantors Guarantors Eliminations Solutia Inc.
------------ ---------- ---------- ------------ ------------
NET SALES ................................... $435 $41 $171 $(73) $574
Cost of goods sold .......................... 418 15 133 (78) 488
----------------------------------------------------------------------
GROSS PROFIT ................................ 17 26 38 5 86
Marketing expenses .......................... 28 5 6 -- 39
Administrative expenses ..................... 25 1 6 -- 32
Technological expenses ...................... 11 1 1 -- 13
Amortization expense ........................ -- -- 1 -- 1
----------------------------------------------------------------------
OPERATING INCOME (LOSS) ..................... (47) 19 24 5 1
Equity earnings from affiliates, net of tax.. 69 12 -- (76) 5
Interest expense ............................ (41) (1) (34) 51 (25)
Other income, net ........................... (2) 31 30 (55) 4
----------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES ........... (21) 61 20 (75) (15)
Income tax expense (benefit) ................ (16) -- 7 -- (9)
----------------------------------------------------------------------
INCOME (LOSS) FROM CONTINUING OPERATIONS .... (5) 61 13 (75) (6)
Income from Discontinued Operations,
net of tax ................................ 5 10 11 (20) 6
----------------------------------------------------------------------
NET INCOME .................................. $ -- $71 $ 24 $(95) $ --
======================================================================
CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME (LOSS)
THREE MONTHS ENDED SEPTEMBER 30, 2002
(DOLLARS IN MILLIONS)
Parent Only Non- Consolidated
Solutia Inc. Guarantors Guarantors Eliminations Solutia Inc.
------------ ---------- ---------- ------------ ------------
NET INCOME .................................... $ -- $71 $24 $(95) $ --
OTHER COMPREHENSIVE INCOME (LOSS):
Currency translation adjustments .............. (8) (7) -- 7 (8)
Minimum pension liability adjustments,
net of tax .................................. (123) -- -- -- (123)
Net unrealized gain on derivative instruments,
net of tax .................................. 1 -- -- -- 1
----------------------------------------------------------------------
COMPREHENSIVE INCOME (LOSS) ................... $(130) $64 $24 $(88) $(130)
======================================================================
17
SOLUTIA INC.
CONSOLIDATING STATEMENT OF INCOME (LOSS)
NINE MONTHS ENDED SEPTEMBER 30, 2003
(DOLLARS IN MILLIONS)
Parent Only Non- Consolidated
Solutia Inc. Guarantors Guarantors Eliminations Solutia Inc.
------------ ---------- ---------- ------------ ------------
NET SALES ................................... $1,356 $ 116 $ 558 $(245) $1,785
Cost of goods sold .......................... 1,458 53 466 (260) 1,717
--------------------------------------------------------------------
GROSS PROFIT ................................ (102) 63 92 15 68
Marketing expenses .......................... 80 15 22 -- 117
Administrative expenses ..................... 77 5 24 -- 106
Technological expenses ...................... 33 2 2 -- 37
Amortization expense ........................ -- -- 2 -- 2
--------------------------------------------------------------------
OPERATING INCOME (LOSS) ..................... (292) 41 42 15 (194)
Equity earnings (loss) from affiliates,
net of tax ................................ 79 36 -- (175) (60)
Interest expense ............................ (112) (5) (45) 89 (73)
Other income, net ........................... 14 60 33 (98) 9
--------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES ........... (311) 132 30 (169) (318)
Income tax expense (benefit) ................ (83) -- (9) 2 (90)
--------------------------------------------------------------------
INCOME (LOSS) FROM CONTINUING OPERATIONS .... (228) 132 39 (171) (228)
Loss from Discontinued Operations,
net of tax ................................ (2) (103) (103) 206 (2)
Cumulative Effect of Change in Accounting
Principle, net of tax ..................... (5) -- -- -- (5)
--------------------------------------------------------------------
NET INCOME (LOSS) ........................... $(235) $ 29 $ (64) $ 35 $ (235)
====================================================================
CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME (LOSS)
NINE MONTHS ENDED SEPTEMBER 30, 2003
(DOLLARS IN MILLIONS)
Parent Only Non- Consolidated
Solutia Inc. Guarantors Guarantors Eliminations Solutia Inc.
------------ ---------- ---------- ------------ ------------
NET INCOME (LOSS) ........................... $(235) $29 $(64) $ 35 $(235)
OTHER COMPREHENSIVE INCOME (LOSS):
Minimum pension liability adjustments,
net of tax ................................ 30 -- -- -- 30
Currency translation adjustments ............ 48 48 43 (91) 48
----------------------------------------------------------------------
COMPREHENSIVE INCOME (LOSS) ................. $(157) $77 $(21) $(56) $(157)
======================================================================
18
SOLUTIA INC.
CONSOLIDATING STATEMENT OF INCOME (LOSS)
NINE MONTHS ENDED SEPTEMBER 30, 2002
(DOLLARS IN MILLIONS)
Parent Only Non- Consolidated
Solutia Inc. Guarantors Guarantors Eliminations Solutia Inc.
------------ ---------- ---------- ------------ ------------
NET SALES ................................... $1,290 $124 $ 492 $(227) $1,679
Cost of goods sold .......................... 1,195 52 400 (237) 1,410
--------------------------------------------------------------------
GROSS PROFIT ................................ 95 72 92 10 269
Marketing expenses .......................... 78 14 18 -- 110
Administrative expenses ..................... 72 5 18 -- 95
Technological expenses ...................... 32 2 2 -- 36
Amortization expense ........................ -- -- 2 -- 2
--------------------------------------------------------------------
OPERATING INCOME (LOSS) ..................... (87) 51 52 10 26
Equity earnings (loss) from affiliates,
net of tax ................................ 1 (148) -- 164 17
Interest expense ............................ (107) (5) (90) 142 (60)
Other income, net ........................... 14 83 70 (154) 13
--------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES ........... (179) (19) 32 162 (4)
Income tax expense (benefit) ................ (23) -- 11 (1) (13)
--------------------------------------------------------------------
INCOME (LOSS) FROM CONTINUING OPERATIONS .... (156) (19) 21 163 9
Income from Discontinued Operations,
net of tax ................................ 27 32 33 (64) 28
Cumulative Effect of Change in Accounting
Principle, net of tax ..................... (1) -- (166) -- (167)
--------------------------------------------------------------------
NET INCOME (LOSS) ........................... $ (130) $ 13 $(112) $ 99 $ (130)
======================================================================
CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME (LOSS)
NINE MONTHS ENDED SEPTEMBER 30, 2002
(DOLLARS IN MILLIONS)
Parent Only Non- Consolidated
Solutia Inc. Guarantors Guarantors Eliminations Solutia Inc.
------------ ---------- ---------- ------------ ------------
NET INCOME (LOSS) ............................. $(130) $13 $(112) $ 99 $(130)
OTHER COMPREHENSIVE INCOME (LOSS):
Currency translation adjustments .............. 74 74 13 (87) 74
Minimum pension liability adjustments,
net of tax .................................. (123) -- -- -- (123)
Net unrealized gain on derivative instruments,
net of tax .................................. 1 -- -- -- 1
Net realized loss on derivative instruments,
net of tax .................................. 1 -- -- -- 1
----------------------------------------------------------------------
COMPREHENSIVE INCOME (LOSS) ................... $(177) $87 $ (99) $ 12 $(177)
======================================================================
19
SOLUTIA INC.
CONSOLIDATING BALANCE SHEET
SEPTEMBER 30, 2003
(DOLLARS IN MILLIONS)
Parent Only Non- Consolidated
Solutia Inc. Guarantors Guarantors Eliminations Solutia Inc.
------------ ---------- ---------- ------------ ------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents ................... $ 9 $ 2 $ 44 $ -- $ 55
Trade receivables, net ...................... 11 150 112 -- 273
Intercompany receivables .................... 42 663 94 (799) --
Miscellaneous receivables ................... 92 -- 30 -- 122
Prepaid expenses ............................ 25 -- 3 -- 28
Deferred income tax benefit ................. 114 -- 23 5 142
Inventories ................................. 142 22 98 (15) 247
----------------------------------------------------------------------
TOTAL CURRENT ASSETS ........................ 435 837 404 (809) 867
PROPERTY, PLANT AND EQUIPMENT, NET .......... 715 75 155 -- 945
INVESTMENTS IN AFFILIATES ................... 2,331 129 33 (2,289) 204
GOODWILL .................................... -- 71 76 -- 147
IDENTIFIED INTANGIBLE ASSETS, NET ........... 3 27 37 -- 67
LONG-TERM DEFERRED INCOME TAX BENEFIT ....... 371 1 12 -- 384
INTERCOMPANY ADVANCES ....................... 128 1,292 943 (2,363) --
OTHER ASSETS ................................ 213 -- 27 -- 240
----------------------------------------------------------------------
TOTAL ASSETS ................................ $4,196 $2,432 $1,687 $(5,461) $2,854
======================================================================
LIABILITIES AND SHAREHOLDERS' EQUITY
(DEFICIT)
CURRENT LIABILITIES:
Accounts payable ............................ $ 120 $ 8 $ 33 $ (2) $ 159
Intercompany payables ....................... 536 171 92 (799) --
Accrued liabilities ......................... 267 11 126 -- 404
Postretirement liabilities .................. 105 (1) 1 -- 105
Short-term debt ............................. 86 -- -- -- 86
Intercompany short-term debt ................ 27 67 288 (382) --
----------------------------------------------------------------------
TOTAL CURRENT LIABILITIES ................... 1,141 256 540 (1,183) 754
LONG-TERM DEBT .............................. 677 -- 232 -- 909
INTERCOMPANY LONG-TERM DEBT ................. 1,289 16 676 (1,981) --
POSTRETIREMENT LIABILITIES .................. 1,102 -- 30 -- 1,132
OTHER LIABILITIES ........................... 356 1 71 -- 428
SHAREHOLDERS' EQUITY (DEFICIT):
Common stock ................................ 1 -- -- -- 1
Additional contributed capital .......... 56 -- -- -- 56
Treasury stock .......................... (251) -- -- -- (251)
Net (deficiency) excess of assets at
spin-off and subsidiary capital ...... (113) 2,159 138 (2,297) (113)
Accumulated other comprehensive loss ........ (68) -- -- -- (68)
Reinvested earnings ......................... 6 -- -- -- 6
----------------------------------------------------------------------
TOTAL SHAREHOLDERS' EQUITY (DEFICIT) ........ (369) 2,159 138 (2,297) (369)
----------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY
(DEFICIT) ................................. $4,196 $2,432 $1,687 $(5,461) $2,854
======================================================================
20
SOLUTIA INC.
CONSOLIDATING BALANCE SHEET
DECEMBER 31, 2002
(DOLLARS IN MILLIONS)
Parent Only Non- Consolidated
Solutia Inc. Guarantors Guarantors Eliminations Solutia Inc.
------------ ---------- ---------- ------------ ------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents.................... $ -- $ -- $ 17 $ -- $ 17
Trade receivables, net ...................... 12 146 112 -- 270
Intercompany receivables .................... 28 567 357 (952) --
Miscellaneous receivables ................... 69 -- 28 -- 97
Prepaid expenses ............................ 14 1 2 -- 17
Deferred income tax benefit ................. 82 -- 19 7 108
Inventories ................................. 167 23 92 (20) 262
Current Assets - Discontinued Operations .... 85 10 541 -- 636
----------------------------------------------------------------------
TOTAL CURRENT ASSETS ........................ 457 747 1,168 (965) 1,407
PROPERTY, PLANT AND EQUIPMENT, NET .......... 698 78 154 -- 930
INVESTMENTS IN AFFILIATES ................... 2,990 33 30 (2,821) 232
GOODWILL, NET................................ -- 72 72 -- 144
IDENTIFIED INTANGIBLE ASSETS, NET ........... 3 26 37 -- 66
LONG-TERM DEFERRED INCOME TAX BENEFIT ....... 278 -- 12 -- 290
INTERCOMPANY ADVANCES ....................... 128 2,126 1,461 (3,715) --
OTHER ASSETS ................................ 241 1 31 -- 273
----------------------------------------------------------------------
TOTAL ASSETS ................................ $4,795 $3,083 $2,965 $(7,501) $3,342
======================================================================
LIABILITIES AND SHAREHOLDERS' EQUITY
(DEFICIT)
CURRENT LIABILITIES:
Accounts payable ............................ $ 191 $ 8 $ 35 $ -- $ 234
Intercompany payables ....................... 463 152 337 (952) --
Accrued liabilities ......................... 199 10 147 -- 356
Postretirement liabilities .................. 92 -- 1 -- 93
Short-term debt ............................. 233 -- 125 -- 358
Intercompany short-term debt ................ 201 23 268 (492) --
Current Liabilities - Discontinued Operations 33 -- 132 -- 165
----------------------------------------------------------------------
TOTAL CURRENT LIABILITIES ................... 1,412 193 1,045 (1,444) 1,206
LONG-TERM DEBT .............................. 630 -- 209 -- 839
INTERCOMPANY LONG-TERM DEBT ................. 1,586 98 1,539 (3,223) --
POSTRETIREMENT LIABILITIES .................. 1,137 -- 27 -- 1,164
OTHER LIABILITIES ........................... 279 -- 104 (1) 382
SHAREHOLDERS' EQUITY (DEFICIT):
Common stock ................................ 1 -- -- -- 1
Additional contributed capital ......... 19 -- -- -- 19
Treasury stock .......................... (251) -- -- -- (251)
Net (deficiency) excess of assets at
spin-off and subsidiary capital ....... (113) 2,792 41 (2,833) (113)
Accumulated other comprehensive loss ........ (146) -- -- -- (146)
Reinvested earnings ......................... 241 -- -- -- 241
----------------------------------------------------------------------
TOTAL SHAREHOLDERS' EQUITY (DEFICIT) ........ (249) 2,792 41 (2,833) (249)
----------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY
(DEFICIT) ................................. $4,795 $3,083 $2,965 $(7,501) $3,342
======================================================================
21
SOLUTIA INC.
CONSOLIDATING CONDENSED STATEMENT OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30, 2003
(DOLLARS IN MILLIONS)
Parent Only Non- Consolidated
Solutia Inc. Guarantors Guarantors Eliminations Solutia Inc.
------------ ---------- ---------- ------------ ------------
CASH PROVIDED BY (USED IN) OPERATIONS $(164) $ 98 $ 59 $ -- $ (7)
----------------------------------------------------------------------
INVESTING ACTIVITIES:
Property, plant and equipment purchases ....... (51) (1) (8) -- (60)
Acquisition and investment payments,
net of cash acquired......................... (48) -- -- -- (48)
Property disposals and investment proceeds .... 172 -- 305 -- 477
----------------------------------------------------------------------
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 73 (1) 297 -- 369
----------------------------------------------------------------------
FINANCING ACTIVITIES:
Net change in short-term debt obligations ..... (146) -- (126) -- (272)
Other, net .................................... (52) -- -- -- (52)
Changes in investments and advances from (to)
affiliates .................................. 299 (96) (203) -- --
----------------------------------------------------------------------
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 101 (96) (329) -- (324)
----------------------------------------------------------------------
INCREASE IN CASH AND CASH EQUIVALENTS 10 1 27 -- 38
CASH AND CASH EQUIVALENTS:
BEGINNING OF YEAR ............................. -- -- 17 -- 17
----------------------------------------------------------------------
END OF PERIOD ................................. $ 10 $ 1 $ 44 $ -- $ 55
======================================================================
22
SOLUTIA INC.
CONSOLIDATING CONDENSED STATEMENT OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30, 2002
(DOLLARS IN MILLIONS)
Parent Only Non- Consolidated
Solutia Inc. Guarantors Guarantors Eliminations Solutia Inc.
------------ ---------- ---------- ------------ ------------
CASH PROVIDED BY (USED IN) OPERATIONS.......... $(109) $ 131 $ 65 $ -- $ 87
----------------------------------------------------------------------
INVESTING ACTIVITIES:
Property, plant and equipment purchases ....... (27) (5) (19) -- (51)
Acquisition and investment payments,
net of cash acquired......................... (32) -- -- -- (32)
Property disposals and investment proceeds .... 108 -- (1) -- 107
----------------------------------------------------------------------
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 49 (5) (20) -- 24
----------------------------------------------------------------------
FINANCING ACTIVITIES:
Net change in short-term debt obligations ..... (106) -- (1) -- (107)
Proceeds from issuance of long-term debt
obligations ................................. 57 -- 125 -- 182
Restricted cash for repayment of October 2002
maturities .................................. (150) -- -- -- (150)
Issuance of stock warrants .................... 19 -- -- -- 19
Common stock issued under employee stock plans 2 -- -- -- 2
Deferred debt issuance costs .................. (46) -- -- -- (46)
Other, net .................................... (15) -- -- -- (15)
Changes in investments and advances from (to)
affiliates .................................. 299 (127) (172) -- --
----------------------------------------------------------------------
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 60 (127) (48) -- (115)
----------------------------------------------------------------------
DECREASE IN CASH AND CASH EQUIVALENTS ......... -- (1) (3) -- (4)
CASH AND CASH EQUIVALENTS:
BEGINNING OF YEAR ............................. 3 1 19 -- 23
----------------------------------------------------------------------
END OF PERIOD ................................. $ 3 $ -- $ 16 $ -- $ 19
======================================================================
23
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
This section includes forward-looking statements within the meaning
of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934. These forward-looking statements include
all statements regarding expected future financial position, results of
operations, profitability, cash flows and liquidity, as well as
forward-looking statements regarding other matters. Important factors that
could cause actual results to differ materially from the expectations
reflected in the forward-looking statements herein include, among others,
general economic, business and market conditions, customer acceptance of new
products, raw material and energy costs or shortages, limited access to
capital resources, currency and interest rate fluctuations, increased
competitive and/or customer pressure, gain or loss of significant customers,
compression of credit terms with suppliers, exposure to product liability
and other litigation, environmental remediation costs, changes in accounting
principles generally accepted in the United States of America, ability to
implement cost reduction initiatives in a timely manner, geopolitical
instability, and changes in pension assumptions.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
A summary of our critical accounting policies and estimates is
presented on page 14 of our 2002 Annual Report on Form 10-K filed with the
Securities and Exchange Commission on March 6, 2003.
RESULTS OF OPERATIONS--THREE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED WITH
THREE MONTHS ENDED SEPTEMBER 30, 2002
Performance Products and Services
Performance Products and Services net sales for the third quarter
2003 were $253 million compared with $246 million for the third quarter
2002. The sales increase resulted from favorable currency exchange rate
fluctuations of approximately 4 percent and volume gains of approximately
2 percent, partially offset by lower average selling prices of approximately
3 percent. Net sales were positively affected by the strengthening euro and
Australian dollar in relation to the U.S. dollar. Sales volume increases in
SAFLEX(R) plastic interlayer products and DEQUEST(R) water treatment
chemicals were partially offset by sales volume decreases in chlorobenzenes.
Lower average selling prices experienced in SAFLEX(R) plastic interlayer
products were partially offset by moderate increases of average selling
prices experienced in chlorobenzenes.
Segment profit was $30 million for the third quarter of 2003 in
comparison to $27 million for the prior year quarter. Segment profit
increased $3 million or 11 percent, due to favorable manufacturing
operations resulting primarily from cost reduction activities completed in
the current year, and lower marketing, administrative and technological
expenses, partially offset by increased raw material costs.
In the fourth quarter 2003, our pharmaceutical services business
line initiated a strategic review of the business. This review is expected
to be completed in the fourth quarter 2003 and could result in a
restructuring of the business and a significant charge to the Statement of
Income (Loss).
Integrated Nylon
The Integrated Nylon segment had net sales of $325 million for the
third quarter 2003 compared with $328 million for the same period of the
prior year. The sales decrease resulted from lower sales volumes of
approximately 4 percent, partially offset by higher average selling prices
of approximately 3 percent. Lower acrylic fiber volumes reflect the
continuing erosion of the U.S. textile market, partially offset by moderate
volume improvements in carpet fibers. Price increases occurred in nylon
intermediate chemicals, as it benefited from formula-based sales contracts
tied to raw material costs and modestly higher pricing across most other
product lines.
The Integrated Nylon segment experienced a loss of $19 million in
the third quarter 2003 compared to a segment loss of $3 million in the prior
year quarter. Segment profit declined due to higher raw material and energy
24
costs of approximately $15 million and higher manufacturing costs resulting
from the extended maintenance downtime at the Company's acrylonitrile
facility in Alvin, Texas, partially offset by benefits resulting from cost
containment activities completed in the current year.
Corporate Expenses
Corporate expenses were $158 million for the third quarter 2003
compared to $21 million in the third quarter 2002. Included in corporate
expenses in the third quarter 2003 is a charge of $99 million to recognize
the Company's share of the Anniston PCB litigation settlement and to
increase certain other litigation accruals. The current year quarter also
includes a pension settlement charge of $30 million compared to a similar
charge of $13 million for the prior year quarter. The pension settlement
charge is required by SFAS No. 88, "Employers' Accounting for Settlements
and Curtailments of Defined Benefit Pension Plans and for Termination
Benefits," and resulted from the significant amount of lump sum
distributions from Solutia's domestic pension plans during 2003 and 2002,
respectively. Corporate expenses in the third quarter 2003 also reflected
higher professional fees for advisory services, higher pension expense in
accordance with SFAS No. 87, "Employers' Accounting for Pensions," and
higher legacy related environmental remediation expense.
Operating Income (Loss)
- ----------------------------------------------------------------------------------------------
THREE MONTHS
ENDED SEPTEMBER 30,
-------------------
(dollars in millions) 2003 2002
---- ----
Performance Products and Services Segment Profit .............. $ 30 $ 27
Integrated Nylon Segment Loss ................................. (19) (3)
Corporate Expenses ............................................ (158) (21)
Less: Equity Earnings from Affiliates included in
Segment Profit (Loss) .............................. -- --
Less: Other Income items included in Segment Profit
(Loss) ............................................. 1 (2)
----- ----
Operating Income (Loss) ....................................... $(146) $ 1
===== ====
- ----------------------------------------------------------------------------------------------
Solutia had an operating loss of $146 million in the third quarter
2003 compared with operating income of $1 million in the third quarter 2002.
The decrease in operating income was primarily driven by the increased
litigation and pension expense, higher raw material and energy costs, higher
manufacturing costs and lower sales volumes, partially offset by favorable
currency exchange rate fluctuations and benefits resulting from cost
containment activities completed in the current year.
Equity Earnings (Loss) from Affiliates
- ----------------------------------------------------------------------------------------------
THREE MONTHS
ENDED SEPTEMBER 30,
-------------------
(dollars in millions) 2003 2002
---- ----
Equity Earnings (Loss) from Affiliates ........................ $(58) $ 5
==== ====
Equity Earnings from Affiliates included in Segment
Profit (Loss)............................................ $ -- $ --
---- ----
- ----------------------------------------------------------------------------------------------
Solutia records equity earnings (loss) from affiliates net of
income taxes. The Company recorded an equity loss from affiliates of
$58 million for the three months ended September 30, 2003, compared to equity
earnings from affiliates of $5 million for the comparable quarter of 2002.
Equity losses from affiliates in the three months ended September 30, 2003
were negatively affected by $57 million of restructuring charges at the
Astaris joint venture. The restructuring charges at Astaris include
25
production asset and selective product rationalizations, including the
Conda, Idaho, purified wet acid facility, which has performed
significantly below expectations. In addition to the restructuring
charges, Astaris' earnings decreased as a result of lower sales volumes,
lower selling prices and absence of revenue from electricity sales in
2003. Flexsys', a 50 percent owned joint venture, earnings were negatively
impacted by lower selling prices and higher raw material costs.
On October 16, 2003, Flexsys announced its intention to close its
Nitro, West Virginia facility by the end of March, 2004. Consistent with the
terms and conditions of the Flexsys joint venture agreement, responsibility
for the site after shutdown will revert to Solutia, which will establish and
maintain any operations required to meet state and federal mandates. This
shutdown will result in Solutia recognizing a charge currently estimated in
the range of approximately $25-$30 million during the fourth quarter 2003,
primarily due to environmental remediation activities.
Income Tax Benefit
Solutia's income tax benefit was $55 million for the third
quarter 2003 compared to $9 million for the third quarter 2002. The increase
in income tax benefit is due to the significant increase in losses on a
year-over-year basis. This significant increase in losses on a
year-over-year basis and certain non-deductible expenses reduced Solutia's
overall effective tax benefit rate for the third quarter 2003 compared to
the third quarter 2002. These reductions were partially offset by the
utilization of deferred tax liabilities for income taxes on distributed
foreign earnings.
Restructuring Activities
During the third quarter 2003, Solutia recorded a restructuring
charge of $1 million to cost of goods sold for costs associated with
workforce reductions. The restructuring was part of an enterprise-wide cost
reduction program. As a result of these actions, Solutia reduced its
workforce by 11 positions. Cash outlays associated with the restructuring
actions were funded from operations.
Cumulative Effect of Change in Accounting Principle
In January 2003, the FASB issued Interpretation No. 46,
"Consolidation of Variable Interest Entities." This Interpretation provides
guidance related to identifying variable interest entities (VIEs) and
determining whether such entities should be consolidated. The Interpretation
must be applied immediately to VIEs created, or interests in VIEs obtained,
after January 31, 2003. For those VIEs created, or interests in VIEs
obtained, on or before January 31, 2003, the guidance in the Interpretation
must be applied in the first fiscal year or interim period beginning after
December 15, 2003. The Company early adopted the provisions of the
Interpretation for VIEs obtained, on or before January 31, 2003, during the
quarter ended September 30, 2003. There have been no VIEs created, or
interests in VIEs obtained, after January 31, 2003.
The Company has one operating lease related to its corporate
headquarters in St. Louis, Missouri, established in 1999, that qualifies as
a VIE under this Interpretation. Based on the current terms of the lease
agreement and the residual value guarantee the Company provides to the
lessor, the Company concluded it is the primary beneficiary of the VIE. The
residual value guarantee is $35 million as of September 30, 2003. As a
result, the Company consolidated the property, plant and equipment of
$37 million and long-term debt of $43 million held by this VIE, and recorded
minority interest of $1 million and a resulting after tax charge of
$5 million, reported as a cumulative effect of a change in accounting principle,
net of tax, during the quarter ended September 30, 2003.
26
RESULTS OF OPERATIONS--NINE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED WITH
NINE MONTHS ENDED SEPTEMBER 30, 2002
Performance Products and Services
Performance Products and Services net sales for the first nine
months of 2003 were $757 million compared with $715 million for the first
nine months of 2002. The sales increase of 6 percent resulted principally
due to the strengthening of the euro and Australian dollar in relation to
the U.S. dollar and modest volume increases, partially offset by a modest
decrease in average selling prices. Moderate volume increases experienced in
SAFLEX(R) plastic interlayer products were partially offset by volume
decreases experienced in CPFilms window film and precision coated products.
Decreases of average selling prices experienced in SAFLEX(R) plastic
interlayer products were partially offset by moderate increases of average
selling prices experienced in chlorobenzenes.
Segment profit was $73 million for the first nine months of 2003 in
comparison to $71 million for the first nine months of 2002. Segment profit
increased $2 million or 3 percent, primarily due to higher net sales, lower
marketing, administrative and technological expenses, and favorable
manufacturing operations resulting primarily from cost reduction activities
completed in the current year, partially offset by increased raw material
costs and severance charges associated with workforce reductions.
Integrated Nylon
The Integrated Nylon segment had net sales of $1,028 million for
the nine-month period ended September 30, 2003 compared with $964 million
for the same period of the prior year. The sales increase of 7 percent
resulted principally from higher average selling prices of approximately
9 percent, partially offset by sales volume declines of approximately
2 percent and an unfavorable change in the mix of carpet fiber volumes. Price
increases occurred in intermediate chemicals, as it benefited from
formula-based sales contracts tied to raw material costs and higher pricing
in the merchant acrylonitrile market. In addition, modest gains in average
selling prices were experienced in the remaining businesses. Acrylic fiber
sales volumes declined due to weak U.S. demand in the textiles segment.
Carpet fibers volumes increased although there was an unfavorable change in
mix, as demand for commodity products increased compared to the prior year
period. Nylon plastics and polymers experienced increased volumes, which
benefited from reintegrated marketing responsibilities for the nylon molding
resins business that were previously performed under a marketing alliance
with Dow Plastics, a business unit of Dow Chemical.
The Integrated Nylon segment experienced a loss of $50 million in
the first nine months of 2003 compared to segment profit of $14 million in
the first nine months of 2002. Segment profit declined because of higher raw
material and energy costs of approximately $125 million, higher marketing,
administrative and technological expenses and severance charges associated
with workforce reductions, partially offset by higher net sales and modestly
lower manufacturing costs. Raw material and energy costs were higher because
of uncertain geopolitical factors and the declaration of force majeure for
supply of propylene, a key raw material. Manufacturing operations were
modestly favorable as a result of benefits resulting from cost containment
activities completed in the current year, partially offset by increased
costs resulting from the extended maintenance downtime at the Company's
acrylonitrile facility in Alvin, Texas.
Corporate Expenses
Corporate expenses were $214 million for the first nine months of
2003 compared to $53 million in the first nine months of 2002. Included in
corporate expenses in the first nine months of 2003 is a charge of
$99 million to recognize the Company's share of the Anniston PCB litigation
settlement and to increase certain other litigation accruals, and an
environmental charge of $27 million to recognize the Company's obligation
under a partial consent decree approved on August 4, 2003, related to
remediation at Anniston, Alabama. Also included in the first nine months of
2003 is a pension settlement charge of $30 million compared to a similar
charge of $13 million for the
27
prior year period. The pension settlement charge resulted from the
significant amount of lump sum distributions from the Company's domestic
pension plans during 2003 and 2002, respectively. Corporate expenses in the
first nine months of 2003 also reflected higher professional fees for
advisory services, higher pension expense and higher legacy related
environmental remediation expense.
Operating Income (Loss)
- -------------------------------------------------------------------------------------------------------
NINE MONTHS ENDED
SEPTEMBER 30,
-------------
(dollars in millions) 2003 2002
---- ----
Performance Products and Services Segment Profit ........................... $ 73 $ 71
Integrated Nylon Segment Profit (Loss) ..................................... (50) 14
Corporate Expenses ......................................................... (214) (53)
Less: Equity Earnings from Affiliates included in Segment Profit (Loss) (1) (1)
Less: Other Income items included in Segment Profit (Loss) ............ (2) (5)
----- ----
Operating Income (Loss) .................................................... $(194) $ 26
===== ====
- -------------------------------------------------------------------------------------------------------
Solutia had an operating loss of $194 million in the first nine
months of 2003 compared with operating income of $26 million in the first
nine months of 2002. The decrease in operating income was primarily driven
by higher raw material and energy costs, increased litigation and pension
expense, higher environmental remediation costs, lower sales volumes and
higher severance costs associated with workforce reductions, partially
offset by improvements in average selling prices, favorable currency
exchange rate fluctuations and favorable manufacturing operations.
Equity Earnings (Loss) from Affiliates
- -------------------------------------------------------------------------------------------------------
NINE MONTHS ENDED
SEPTEMBER 30,
-------------
(dollars in millions) 2003 2002
---- ----
Equity Earnings (Loss) from Affiliates ........................................ $(60) $17
==== ===
Equity Earnings from Affiliates included in Reportable Segment Profit (Loss) $ 1 $ 1
==== ===
- -------------------------------------------------------------------------------------------------------
Solutia records equity earnings (loss) from affiliates net of
income taxes. Equity loss from affiliates was $60 million for the nine month
period ended September 30, 2003, compared to equity earnings from affiliates
of $17 million for the comparable period in 2002. Equity loss from
affiliates in 2003 was negatively affected by $64 million of restructuring
charges resulting from (i) the Astaris joint venture for production asset
and selective product rationalizations, including the Conda, Idaho, purified
wet acid facility, which has performed significantly below expectations;
(ii) restructuring charges related to asset impairments at the Flexsys joint
venture; and (iii) severance charges at both the Flexsys and Astaris joint
ventures. In addition to the restructuring charges, Astaris' earnings
decreased as a result of lower sales volumes, lower selling prices and
absence of revenue from electricity sales in 2003. Flexsys' earnings were
negatively impacted by lower selling prices and higher raw material costs.
Equity earnings from affiliates for the nine months ended September 30,
2002, included $2 million of earnings from the Advanced Elastomer Systems
joint venture, which was sold during the first quarter of 2002.
28
Other Income, net
- -------------------------------------------------------------------------------------------------------
NINE MONTHS ENDED
SEPTEMBER 30,
-------------
(dollars in millions) 2003 2002
---- ----
Other Income, net .......................................................... $9 $13
== ===
Other Income, net included in Reportable Segment Profit (Loss).......... $2 $ 5
== ===
- -------------------------------------------------------------------------------------------------------
Other income, net for the nine month period ended September 30,
2003 was $9 million, compared to other income, net of $13 million for the
comparable period in 2002. During the first nine months of 2003, Solutia
realized a benefit of $4 million related to the recovery of certain
receivables, established prior to 1997, which had previously been written
off. During the first nine months of 2002, Solutia sold its 50 percent
interest in the Advanced Elastomer Systems joint venture resulting in a gain
of $5 million.
Income Tax Benefit
Solutia's income tax benefit was $90 million for the first nine
months of 2003 compared to $13 million for the first nine months of 2002.
The increase in income tax benefit is due to the significant increase in
losses on a year-over-year basis. This significant increase in losses on a
year-over-year basis and certain non-deductible expenses reduced Solutia's
overall effective tax benefit rate for the third quarter of 2003 compared to
the third quarter of 2002. These reductions were partially offset by the
utilization of deferred tax liabilities for income taxes on distributed
foreign earnings.
Cumulative Effect of Change in Accounting Principle
Effective January 1, 2002, Solutia adopted SFAS No. 142, "Goodwill
and Other Intangible Assets," and accordingly discontinued the amortization
of goodwill and identifiable intangible assets that have indefinite useful
lives. This Statement also required certain intangible assets that did not
meet the criteria for recognition apart from goodwill, to be subsumed into
goodwill. During the quarter ended March 31, 2002, Solutia subsumed into
goodwill $1 million of intangible assets net of related deferred tax
liabilities representing assembled workforce that did not meet the
separability criteria under SFAS No. 141, "Business Combinations."
Fair value measurements of the reporting units were estimated by a
third-party specialist utilizing both an income and market multiple
approach. Based on this analysis, Solutia recorded an impairment loss of
$167 million during the first quarter of 2002 for the resins and additives
business (which is presented as discontinued operations) due to declining
estimates of future results given current economic and market conditions.
The goodwill impairment charge is non-deductible for tax purposes and is
reflected as the cumulative effect of change in accounting principle in the
accompanying Statement of Consolidated Income (Loss).
In January 2003, the FASB issued Interpretation No. 46,
"Consolidation of Variable Interest Entities." This Interpretation provides
guidance related to identifying variable interest entities (VIEs) and
determining whether such entities should be consolidated. The Interpretation
must be applied immediately to VIEs created, or interests in VIEs obtained,
after January 31, 2003. For those VIEs created, or interests in VIEs
obtained, on or before January 31, 2003, the guidance in the Interpretation
must be applied in the first fiscal year or interim period beginning after
December 15, 2003. The Company early adopted the provisions of the
Interpretation for VIEs obtained, on or before January 31, 2003, during the
quarter ended September 30, 2003. There have been no VIEs created, or
interests in VIEs obtained, after January 31, 2003.
The Company has one operating lease related to its corporate
headquarters in St. Louis, Missouri, established in 1999, that qualifies as
a VIE under this Interpretation. Based on the current terms of the lease
agreement and the residual value guarantee the Company provides to the
lessor, the Company concluded it is the
29
primary beneficiary of the VIE. The residual value guarantee is $35 million
as of September 30, 2003. As a result, the Company consolidated the
property, plant and equipment of $37 million and long-term debt of $43
million held by this VIE, and recorded minority interest of $1 million and a
resulting after tax charge of $5 million reported as a cumulative effect of
a change in accounting principle, net of tax, during the quarter ended
September 30, 2003.
Restructuring Activities
During the first nine months of 2003, Solutia recorded
restructuring charges of $21 million. These charges included $11 million to
cost of goods sold and $9 million to marketing, administrative and
technological expenses for costs associated with workforce reductions and
$1 million to cost of goods sold for costs primarily associated with contract
terminations of leased administrative facilities. The restructuring was part
of an enterprise-wide cost reduction program associated with the sale of the
resins, additives and adhesives businesses and other ongoing cost reduction
initiatives. As a result of these actions, Solutia reduced its workforce by
approximately 460 positions. Cash outlays associated with the restructuring
actions were funded from operations. Approximately 90 percent of the
workforce reductions affected North American business and manufacturing
operations, and approximately 10 percent affected European, Asian and Latin
American operations. Management positions represented approximately
30 percent of the workforce reductions.
Summary of Events Affecting Comparability
Charges and gains recorded in the nine months ended September 30,
2003 and 2002, and other events affecting comparability have been summarized
in the tables below (dollars in millions).
2003
--------------------------------------------------------------
PERFORMANCE
-----------
PRODUCTS AND INTEGRATED CORPORATE/
------------ ---------- ----------
INCREASE/(DECREASE) SERVICES NYLON OTHER CONSOLIDATED
- ---------------------------------------------- -------- ----- ----- ------------
IMPACT ON:
==============================================---------------------------------------------------------------
Cost of goods sold ....................... $ 7 $ 5 $ $ 12 (a)
27 27 (b)
22 22 (e)
99 99 (f)
--------------------------------------------------------------
Total cost of goods sold ................. 7 5 148 160
Marketing ................................ 2 2 (a)
2 2 (e)
Administrative ........................... 2 4 6 (a)
3 3 (e)
Technological ............................ 1 1 (a)
3 3 (e)
--------------------------------------------------------------
OPERATING INCOME (LOSS) IMPACT....... (12) (5) (160) (177)
Equity earnings (loss) from affiliates,
net of tax ............................. (64) (64) (c)
Other income (expense) ................... 4 4 (d)
--------------------------------------------------------------
PRETAX INCOME STATEMENT IMPACT....... $(12) $(5) $(220) (237)
===============================================
Income tax benefit impact ................ (52)
--------------
AFTER-TAX INCOME STATEMENT IMPACT.... $(185)
==============
2003 EVENTS
- -----------
a) Restructuring charges for workforce reductions of approximately
460 positions across all world areas and functions of the Company and
contract termination costs ($21 million).
b) Environmental charges for the partial consent decree approved on
August 4, 2003 related to remediation at Anniston, Alabama
($27 million).
30
c) The Flexsys and Astaris joint ventures incurred restructuring charges
during the first nine months of 2003 related to asset impairments and
severance charges ($64 million).
d) The Company recovered certain receivables, established prior to
1997, which had previously been written off ($4 million).
e) Pension settlement loss as required by SFAS No. 88 ($30 million).
f) Charge related to Company's share of the Anniston PCB litigation
settlement and to increase certain other litigation
accruals ($99 million).
2002
--------------------------------------------------------------
PERFORMANCE
-----------
PRODUCTS AND INTEGRATED CORPORATE/
------------ ---------- ----------
INCREASE/(DECREASE) SERVICES NYLON OTHER CONSOLIDATED
- ---------------------------------------------- -------- ----- ----- ------------
IMPACT ON:
Cost of goods sold................. $ $ 5 $ $ 5 (g)
10 10 (h)
------------------------------------------------------------------
Total cost of goods sold........... -- 5 10 15
Marketing.......................... 1 1 (h)
Administrative..................... 1 1 (h)
Technological...................... 1 1 (h)
------------------------------------------------------------------
OPERATING INCOME (LOSS) IMPACT.. -- (5) (13) (18)
Equity earnings (loss) from
affiliates, net of tax........... --
Other income (expense)............. 5 5 (i)
------------------------------------------------------------------
PRETAX INCOME STATEMENT IMPACT.. $-- $(5) $ (8) (13)
==================================================================
Income tax benefit impact.......... (5)
----------------
AFTER-TAX INCOME STATEMENT
IMPACT........................ $ (8)
================
2002 EVENTS
- -----------
g) Charge resulting from the resolution of a construction dispute with
the contractor of the acrylonitrile plant in Alvin, Texas
($5 million).
h) Pension settlement loss as required by SFAS No. 88, "Employers'
Accounting for Settlements and Curtailments of Defined Benefit
Pension Plans and for Termination Benefits" ($13 million).
i) Gain resulting from the sale of the Company's 50 percent interest
in the Advanced Elastomer Systems joint venture ($5 million).
FINANCIAL CONDITION AND LIQUIDITY
Recent Events
On December 2, 2002, Solutia signed a definitive agreement to sell
its resins, additives and adhesives businesses to UCB S.A. for $500 million
in cash, plus an upfront payment of $10 million for a period of exclusivity.
On January 31, 2003, the sale was completed. Proceeds from the divestiture
were used to pay down all of the borrowings under the amended credit
facility, provide $39 million cash collateral for certain outstanding
letters of credit and the required purchase of the co-generation facility at
Pensacola, Florida for $32 million in accordance with bank agreements. The
Company retained certain liabilities of the divested businesses, primarily
tax related, for which some portion may come due and payable during the
fourth quarter 2003.
On August 20, 2003, a settlement agreement was reached resolving
the Abernathy v. Monsanto and Tolbert v. Monsanto cases. Pursuant to the
settlement, while admitting to no wrongdoing, Solutia, Monsanto Company, and
Pharmacia Corporation agreed to pay $600 million and provide certain
community health programs to settle these
31
cases. The settlement resolves all outstanding claims including potential
punitive damages that might have been sought by plaintiffs and their legal
counsel. Pursuant to an agreement entered contemporaneously with the
settlement between Solutia, Monsanto, and Pharmacia, it was agreed that
Solutia's portion of the settlement would be $50 million payable in equal
installments over a period of 10 years commencing one year from the date of
the settlement.
In recognition of the Company's liquidity requirements, Solutia
disclosed in the fourth quarter 2003 it is attempting to initiate discussions
with bondholders to address the upcoming bond maturities. On November 14,
2003, the Company and its wholly owned subsidiary, Solutia Europe SA/NA
("SESA"), commenced the notification process for convening a meeting pursuant
to Article 568 of the Belgian Companies Code of the holders of (euro) 200
million 6.25% notes due 2005 issued by SESA (the "Eurobonds"). At the
bondholders' meeting, which is scheduled to take place on December 16,
2003, Solutia and SESA will request that the bondholders approve
amendments to the Eurobonds to effect an adjustment of the interest
rate to a rate to be proposed by the Company and SESA at the meeting,
an extension of the maturity to February 14, 2008 and a removal of the
guarantee by Solutia of SESA's obligations. In order for the proposed
amendments to be approved, at least fifty percent of the bondholders
(by value) must be validly present at the meeting or be represented by
proxy and at least seventy-five percent of the bondholders (by value)
validly present or represented must vote in favor of the proposed
amendments.
Financial Analysis
Divestiture proceeds and borrowings from the Company's amended
credit facility provided the primary source of funds to finance operating
needs and capital expenditures during the first nine months of 2003. Cash
provided by continuing operations was $4 million during the first nine
months of 2003 compared to cash provided by continuing operations of
$57 million for the comparable period of 2002. The decrease was primarily
attributable to a $60 million income tax refund received during the first
quarter 2002, lower dividends from equity affiliates and lower consolidated
earnings, partially offset by a $25 million advance payment received from
Monsanto during the third quarter 2003 for goods to be shipped over the next
twelve months. In exchange for the advance payment received from Monsanto,
Solutia agreed to a modification of an existing supply contract.
Capital spending was $59 million in the first nine months of 2003,
compared to $44 million in the first nine months of 2002. The increase
resulted from the purchase of the co-generation facility in Pensacola,
Florida, for approximately $32 million. The remaining expenditures were used
to fund various minor capital improvements, as well as certain cost
reduction projects.
During the first nine months of 2003, proceeds from the sale of the
resins, additives and adhesives businesses were included in cash provided by
discontinued operations. Proceeds generated in the first nine months of 2002
included the sale of the Company's 50 percent interest in the Advanced
Elastomer Systems joint venture to ExxonMobil Chemical Company, a subsidiary
of Exxon Mobil Corporation, for approximately $102 million.
Total debt decreased by $202 million to $995 million at
September 30, 2003, compared to $1,197 million at December 31, 2002, and
consisted of borrowings under the Company's amended credit facility, notes
and debentures. The decrease was driven by the use of divestiture proceeds
to pay down outstanding borrowings, partially offset by the addition of
$43 million of long-term debt resulting from the adoption of FASB
Interpretation No. 46 during the quarter ended September 30, 2003.
Solutia's working capital from continuing operations increased by
$383 million to $113 million at September 30, 2003, compared to negative
$270 million at December 31, 2002. The increase in the working capital
position primarily resulted from lower short-term debt of $272 million,
lower accounts payable of $75 million, and an increase in current assets of
$96 million. The Company used divestiture proceeds to pay down short-term
debt and accounts payable declined due to tightening of payment terms by
certain key vendors. The increase in current assets is primarily due to
higher cash and cash equivalents.
Solutia had a shareholders' deficit of $369 million at September 30,
2003 compared to a deficit of $249 million at December 31, 2002.
Shareholders' deficit increased principally due to 2003 losses of
$235 million, partially offset by favorable currency translation
adjustments, principally related to the increase in value of the euro in
relation to the U.S. dollar, and the warrants valued at $37 million that
Solutia agreed to issue to Monsanto relating to the Anniston litigation
settlement.
32
The Company's primary sources of liquidity have been and will
continue to be cash from operations, divestiture proceeds, borrowings from
its revolving credit facility and other external financing sources. At
September 30, 2003, after consideration of $77 million of letters of credit
outstanding under the credit facility, the Company had capacity to borrow up
to $137 million. The Company also had $55 million of cash and cash
equivalents available for general corporate purposes and debt repayment. As
of October 31, 2003, the Company's availability under its credit facility
and cash and cash equivalents was approximately $110 million. The decrease
from September 30, 2003 was primarily due to the impact of the new credit
facility, as more fully described below, interest payments made during
October on the 7.375%, Oct. 2027 and 6.72%, 2037 debentures and the timing
of certain accounts receivable collections and vendor payments.
On September 29, 2003 the Company and its bank syndicate amended
its previous revolving credit facility to modify the financial covenants
through October 8, 2003. Without the amendment, the Company would not have
been in compliance with certain financial covenants at September 30, 2003.
The amended revolving credit facility was paid off in full from the new
credit facility and has been terminated.
The weighted average interest rate on Solutia's total debt
outstanding at September 30, 2003, was approximately 7.8 percent compared to
7.7 percent at September 30, 2002. Interest expense was $73 million in the
first nine months of 2003 compared to $60 million in the comparable period
in 2002. The increase resulted from amortization of deferred debt issuance
costs incurred during the second half of 2002 and higher interest rates
associated with the credit facility and the senior secured notes.
On July 31, 2003, Standard & Poor's Ratings Services lowered its
corporate credit rating on Solutia to B- from BB-. On August 8, 2003,
Moody's Investors Service lowered its senior implied credit rating on
Solutia to B3 from Ba3. On October 17, 2003, Standard & Poor's Ratings
Services lowered its corporate credit rating on Solutia to CCC from B-. On
Oct. 22, Moody's Investors Service lowered its senior implied rating on
Solutia to Caa3 from B3.
Credit Facility
As of October 8, 2003, Solutia entered into a new $350 million
credit facility. The new credit facility consists of (i) a $150 million
revolving credit component available for borrowing or for the issuance of
letters of credit and (ii) a $200 million term loan. The revolving credit
component is only available when the term loan is fully drawn. Availability
under the revolving credit component is subject to a working capital
borrowing base formula. The proceeds of the loans made under the new credit
facility have been and will be used to retire the Company's pre-existing
bank debt and for general working capital purposes, including fees and
expenses related to the new credit facility.
The new credit facility matures in October, 2006. However, a
component of the term loan amortizes at the rate of $833,333 per month
starting in April 2004. Additionally, the credit facility is subject to
various mandatory commitment reductions and prepayments in connection with
asset sales, equity issuances, receipt of extraordinary proceeds and certain
other events. In particular, the credit facility significantly limits the
Company's ability to use divesture proceeds for any purpose other than the
permanent reduction of the credit facility.
Certain of the Company's substantial manufacturing facilities which
formerly secured among other things, Solutia's bank debt, its keepwell
obligations with respect to the Astaris credit agreement and obligations of
Solutia relative to various public bonds are not included as collateral for
the new credit facility. The release of the liens upon these properties
resulted in three series of Solutia debt instruments reverting from secured
debt to unsecured debt: its 6.72%, 2037 debentures which are puttable in
Oct. 2004 ($150 million outstanding); its 6.25%, Feb. 2005 euro notes
((euro)200 million outstanding); and its 7.375%, Oct. 2027 debentures
($300 million outstanding). These debt instruments were unsecured when
issued but, as a result of "equal and ratable" clauses in their indentures,
became secured in 2002 when liens on certain principal properties securing
debt in an amount greater than 15 percent of Solutia's consolidated net
tangible assets were granted to Solutia's bank group and to the Astaris
lenders. Upon completion of the new credit facility, the above debt
instruments which aggregate approximately $680 million reverted to unsecured
status.
33
The Company's liquidity position as of September 30, 2003 was
approximately $190 million. The new credit facility completed as of October 8,
2003 provided an additional $50 million of borrowing availability in
comparison to the current former revolving facility. Offsetting this
additional availability is the requirement to provide a $67 million letter
of credit to the Astaris bank group and the incurrence of approximately
$25 million of transaction related expenses. Therefore, the Company's liquidity
position as of September 30, 2003, after consideration of the new credit
facility, would be approximately $150 million.
Collateral
----------
The facility is secured by a lien on substantially all of the
Company's domestic assets, including (i) accounts receivable and inventory;
(ii) certain intellectual property; (iii) pledges of stock of certain
domestic subsidiaries; (iv) pledges of 65 percent of the outstanding stock
of certain foreign subsidiaries; (v) liens on intercompany notes receivable
held by parties to the loan; (vi) liens on property, plant and equipment
located at St. Louis, Missouri, Columbia, Tennessee and Foley, Alabama; and
(vii) liens on property, plant and equipment located at Martinsville,
Virginia, Springfield, Massachusetts, Trenton, Michigan, and Alvin, Texas.
The liens of the new credit facility in the properties in (vii), as well as
certain other assets, are limited in amount to 15 percent of Solutia's
consolidated net tangible assets.
Interest
--------
Borrowings under the revolving credit component bear interest at a
rate per annum equal to the greater of (i) the prime rate plus 2.00 percent
or (ii) 6.25 percent. Borrowings under the term loan bear interest at a rate
per annum equal to the greater of (i) the prime rate plus 9.125 percent or
(ii) 13.375 percent.
Guarantees
----------
The obligations of Solutia Inc. and Solutia Business Enterprises,
Inc., as borrowers under the credit facility, are guaranteed by Solutia
Systems, Inc., CPFilms, Inc., Monchem International, Inc., Monchem Inc.,
Solutia Investments, LLC, and each of Solutia's subsequently acquired or
organized domestic subsidiaries, subject to certain exceptions. In addition,
Solutia Inc. and Solutia Business Enterprises, Inc. are jointly and
severally liable with respect to their obligations under the credit
facility, thus in effect each guaranteeing the other's debt.
Covenants and Other Restrictions
--------------------------------
The credit facility requires the Company to meet certain financial
covenants, including but not limited to, minimum EBITDA targets, on a
consolidated basis and for certain operating units, and a fixed charge
coverage ratio. In addition, the credit facility contains certain covenants
which, among other things, limit the incurrence of additional debt,
aggregate capital expenditures, additional operating leases, issuance of
capital stock, issuance of guarantees, liens, investments, asset sales,
dividends, certain payments, acquisitions, mergers, consolidations and
dissolutions, change of business, transactions with affiliates, prepayments
of debt, repurchases of stock and redemptions of certain other indebtedness
and other matters customarily restricted in such agreements. In addition,
the holders of the Company's 6.72% debentures have the right to put
$150 million of debentures to the Company for repayment in October 2004.
Payment of this put amount, in part or whole, will also require the Company,
pursuant to the terms of its new credit facility, to make a prepayment on
the credit facility in an equal amount.
The credit facility contains customary and other events of default,
including, among others, payment defaults, breaches of representations and
warranties, covenant defaults, cross-defaults to certain other debt, certain
events of bankruptcy and insolvency, a going concern or scope qualification
within the annual audit opinion, failure of guaranties or security
documentation to be effective, judgment defaults, ERISA defaults, Solutia
Inc. change of control, material adverse effect default, and a default
predicated upon the holders of the 6.72%, 2037 debentures having a right, on
or after August 15, 2004, to put such debentures to Solutia Inc. on a date
prior to a date acceptable to the Collateral Agent under the new facility.
34
Contingencies
Legacy Liabilities
------------------
At the time Solutia was spun-off from former Monsanto Company (now
known as Pharmacia Corporation, a wholly-owned subsidiary of Pfizer, Inc.)
in September 1997, the Company was required to contractually assume certain
liabilities from Pharmacia. Due to the prolonged economic slow down, coupled
with the prevalence of energy and raw material cost above historic levels,
the financial burden of servicing these liabilities has become relatively
more significant to the Company. These legacy liabilities consist primarily
of the following:
Retiree healthcare, life insurance costs and disability benefits:
Since the spin-off, Solutia has been required to provide retiree healthcare
and life insurance benefits to retirees who retired from Pharmacia prior to
the spin-off and who never worked for Solutia, as well as disability
benefits to individuals who became disabled while working for Pharmacia
prior to the spin-off. Currently Solutia provides retiree and disability
benefits to approximately 20,000 pre-spin retirees and disabled individuals,
their dependents and surviving spouses, roughly five times the number of
Solutia retirees, dependents and surviving spouses. Approximately
$475 million of the postretirement liabilities reflected on Solutia's
Statement of Consolidated Financial Position as of September 30, 2003, under
current and long-term liabilities, are attributable to the provision of
benefits to pre-spin retirees and disabled individuals, their dependents and
surviving spouses. Since the spin-off, Solutia has incurred an average cash
cost of approximately $60 million per year to provide these benefits. The
Company anticipates the average annual cash cost to service these
liabilities for the foreseeable future will be approximately $55 million
per year.
Environmental compliance and remediation costs: Since the spin-off,
Solutia has been required to bear the costs of environmental remediation and
associated compliance obligations relating to Pharmacia's historic chemical
business under applicable federal, state and local environmental laws. In
virtually all instances these obligations arise from activities conducted by
Pharmacia prior to the spin-off and fall into two broad categories:
(a) obligations related to properties that are not currently owned by
Solutia, and (b) obligations related to properties currently owned by
Solutia, including clean-up obligations for off-site migration of
contaminants. The vast majority of remediation actions taken to date at
properties owned by Solutia relate to contamination that emanated from the
properties prior to Solutia's ownership. As of September 30, 2003,
approximately $150 million related to these liabilities was recorded within
the accrued liabilities and other long-term liabilities accounts reflected
in the Company's Statement of Consolidated Financial Position. Since the
spin-off, Solutia has incurred an average cash cost of approximately
$25 million per year to perform environmental remediation and compliance
activities related to the historic chemical business of Pharmacia.
Consistent with the Company's critical accounting policies as set
forth in its Annual Report on Form 10-K for the year ended December 31,
2002, there are a number of assumptions that have been made in order to
estimate future environmental expenditures relating to the historic chemical
business of Pharmacia. These assumptions are critical because the Company
must forecast remediation activity into the future which is highly uncertain
and requires a large degree of judgment. Therefore, the ultimate actual
liability for environmental remediation related to the historic chemical
business of Pharmacia may materially differ from our reserve if our
assumptions prove to be inaccurate. Uncertainties related to these
liabilities include changing governmental policy and regulations, judicial
proceedings, the method and extent of remediation and future changes in
technology. In addition, various scenarios, including operational changes,
including, but not limited to, the potential future closure of facilities,
could result in material changes in the magnitude of these liabilities and
future annual cash flows.
Litigation defense costs and judgments: Since the spin-off, Solutia
has been responsible for bearing the cost associated with various toxic tort
lawsuits related to PCBs, premises based asbestos and other chemical
exposures from the conduct of the historic chemical business of Pharmacia.
Currently Solutia is defending approximately 570 asbestos actions (involving
an estimated 3,500 to 4,500 plaintiffs) brought against Pharmacia. In
addition, notwithstanding the recent settlement of cases relating to the
Anniston plant site, Solutia is still defending approximately 30 cases
involving alleged exposure from PCB's manufactured by Pharmacia prior to the
spin-off. Solutia also is currently defending approximately 90 general and
product liability claims which have been brought against Pharmacia. As of
September 30, 2003, Solutia has approximately $130 million recorded within
its self-insurance account, reflected in the Company's Statement of
Consolidated Financial Position, for legal fees, expenses and settlements or
judgments for these cases and anticipated future claims. The Company
anticipates for the foreseeable future the average annual cash costs related
to the defense of these claims will be approximately $20 million per year.
35
Since the spin-off, the Company has spent, on average,
approximately $100 million annually to service these legacy liabilities. As
a result of the Anniston PCB settlement payments, the reduction in future
insurance recoveries for legacy litigation matters, and the increased
environmental remediation actions from the previously disclosed Anniston
consent decree, the cash cost of servicing these liabilities is expected to
increase modestly over historical spending levels for the foreseeable
future.
Astaris Joint Venture
---------------------
In connection with the external financing agreement for Astaris,
which expires in September of 2005, Solutia and its equal partner in the
venture, FMC Corporation, contractually agreed to provide Astaris with
funding in the event the joint venture fails to meet certain financial
benchmarks. The financial benchmarks were based on forecasted earnings that
were developed when the financing was originated in September 2000. Astaris'
earnings have fallen short of the forecast underlying its external financing
agreement due to numerous factors including significantly less than planned
productivity of its purified wet acid technology, lower sales volumes and
lower average selling prices. As a result of these earnings shortfalls in
comparison to the original expectations, Solutia and FMC each made
additional investments of $47 million during the nine month period ended
September 30, 2003.
As of October 8, 2003, Solutia and Astaris amended its external
financing agreement to release the Astaris lenders' security interests in
certain Solutia assets in exchange for Solutia's posting of a $67 million
letter of credit, representing fifty percent of the Astaris lenders'
outstanding commitments to Astaris as of October 8, 2003. The agreement was
also amended to provide for a dollar for dollar reduction of the Astaris
lenders' commitments with future payments made by Solutia and FMC under
their existing support agreements to Astaris. This additional amendment will
effectively provide a $67 million limitation for each of Solutia and FMC on
future funding in the event the joint venture continues to fail to meet
certain financial benchmarks. Solutia's $67 million letter of credit will
also reduce dollar for dollar as future payments are made by Solutia under
its existing support agreement.
FMC and Solutia also agreed conceptually to allow Astaris to defer
up to $30 million each of obligations to FMC and Solutia arising under
existing operating agreements over the next 24-36 months to provide
liquidity assistance to Astaris as it implements its recently announced
business restructuring. Astaris, FMC and Solutia are currently negotiating
definitive agreements to allow for the deferral of these obligations,
including repayment terms and conditions.
Outlook
-------
The Company's Integrated Nylon business segment continued to be
challenged by high raw materials and energy costs and relatively weak demand
conditions in the third quarter. While the Company's total liquidity as of
September 30, 2003, after consideration of the impact of the new credit
facility, was on par with the Company's liquidity position as of June 30,
2003, this result included approximately $65 million of liquidity assistance
provided by Monsanto during the quarter, in the form of the $40 million
letter of credit release related to the Penndot litigation matter and a
$25 million advance payment for goods to be delivered over the next twelve
months. Given the recent rise and continued volatility in energy costs,
relatively weak consumer confidence levels and persistent weak demand
conditions, the Company does not expect a meaningful improvement in
operating results for the fourth quarter 2003 or first quarter 2004.
The holders of the Company's 6.72% debentures have the right to put
$150 million of debentures to the Company for repayment in October 2004.
Payment of this put amount, in part or whole, will also require the Company,
pursuant to the terms of its new credit facility, to make a prepayment on
the new credit facility in an equal amount. In addition, the Company's 6.25%
five-year (euro)200 million euro notes mature in February 2005 and the
Company will also be required to make quarterly contributions to its
qualified pension plan during 2005, in an amount currently anticipated to
aggregate approximately $175 million.
The continuing overhang of legacy liabilities will significantly
restrict the Company's ability to address these liquidity requirements.
Furthermore, without a substantial improvement in the operating results of
the business, cash flow from operations would not be a significant source of
liquidity to meet these requirements. As a result, the Company must take
action to reduce its current level of debt and legacy liabilities, and
address the projected cash requirements of its pension plans. The Company
may not be successful in satisfying these future
36
liquidity requirements on favorable terms, if at all. Accordingly, the
Company is considering all available alternatives to address these matters,
including, but not limited to, a potential reorganization under Chapter 11
of the U.S. bankruptcy code. The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK FACTORS
There have been no material changes in market risk exposures during
the first nine months of 2003 that affect the disclosures presented in the
information appearing under "Derivative Financial Instruments" on pages 31
and 32 of Solutia's Annual Report on Form 10-K for the year ended
December 31, 2002.
ITEM 4. CONTROLS AND PROCEDURES
Solutia carried out an evaluation, under the supervision and with
the participation of Solutia's management, including its Chief Executive
Officer and Chief Financial Officer, of the effectiveness of the design and
operation of Solutia's disclosure controls and procedures as of the end of
the third quarter. Based upon that evaluation, the Chief Executive Officer
and Chief Financial Officer concluded that Solutia's disclosure controls and
procedures are effective in timely alerting them to material information
relating to Solutia and its consolidated subsidiaries that is required to be
included in Solutia's periodic SEC filings. There were no significant
changes in the Company's internal control over financial reporting that
occurred during the quarter ended September 30, 2003, that have materially
affected, or are reasonably likely to materially affect, the Company's
internal controls over financial reporting.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Abernathy v. Monsanto and Tolbert v. Monsanto: Solutia's Report on
Form 10-K for the year ended December 31, 2002 ("2002 Form 10-K"), and its
subsequent Reports on Form 10-Q described a number of lawsuits pending in
state and federal court relating to the alleged release of polychlorinated
biphenyls ("PCBs") and other materials from the Anniston, Alabama plant
site, which Solutia now owns and operates and at which Pharmacia formally
produced PCBs. On August 20, 2003, the parties reached a Global Settlement
Agreement in principle to resolve these cases. The Global Settlement
Agreement provides for cash payments of $600 million, of which Solutia's
share is $50 million to be paid in ten equal annual installments beginning
August 24, 2004. Approximately $160 million of the cash settlement is
expected to be provided through commercial insurance. The remaining
approximately $390 million will be provided by Monsanto Company. In
addition, as part of the Global Settlement, Solutia arranged for Pfizer Inc.
(the parent of Pharmacia) to undertake a broad array of community health
initiatives for low-income residents of Anniston and Calhoun County. The
Global Settlement Agreement also contains mutually dependent Settlement
Agreements for the Abernathy and Tolbert cases. On September 10, 2003, the
Abernathy trial court gave preliminary approval to the Global Settlement
Agreement and to the Settlement Agreement in the Abernathy case. On
September 9, 2003, the Tolbert trial court gave preliminary approval to the
Global Settlement Agreement and to the Settlement Agreement in the Tolbert
case. In connection with the Global Settlement Agreement, Solutia has agreed
to issue to Monsanto Company warrants to purchase 10 million shares of
Solutia common stock. The warrants are exercisable if Solutia's common stock
reaches an average closing price target exceeding $10 per share for any
thirty-day period, or upon a change-of-control of Solutia.
Payton v. Monsanto: The parties have reached a tentative agreement
to settle this case for a cash payment of $5 million and an equitable
component that has yet to be determined.
Other Anniston Cases: Claims made by five plaintiffs in two cases
pending in Circuit Court for Jefferson County, by seven plaintiffs in one
case pending in Circuit Court for Calhoun County and by one plaintiff in one
case pending in U.S. District Court for the Northern District of Alabama
have been resolved in the Global Settlement of
37
the Abernathy and Tolbert cases, described above. In addition claims of
property damage made by one plaintiff in one case pending in Circuit Court
for Calhoun County have been settled for a nominal sum. On October 27, 2003,
the plaintiffs in the matter Owens v. Monsanto (United States District Court
for the Northern District of Alabama), filed a motion purporting to seek
enforcement of the settlement agreement that was previously entered into in
that case on April 26, 2001. Plaintiffs claim that as a result of the global
settlement of Abernathy and Tolbert, as discussed above, additional monies
are owed to them due to a "most favored nations" provision in the settlement
agreement. The Company and the other defendants do not believe additional
monies are due and intend to defend the matter vigorously.
Solutia's 2002 Form 10-K and its subsequent Reports on Form 10-Q
described a case filed in the Commonwealth Court of Pennsylvania seeking
damages allegedly resulting from PCBs found in the Transportation and Safety
Building in Harrisburg, Pennsylvania, which was owned by the Commonwealth of
Pennsylvania. Solutia appealed the judgment in this case to the Pennsylvania
Supreme Court. Oral argument on Solutia's appeal is scheduled for December
3, 2003.
Solutia's Report on Form 10-Q for the quarter ended March 31,
2003, described a wrongful death action, Johnson et al. v. Ashland Inc.
et al., filed in the Circuit Court of Hinds County, Mississippi, on behalf of
the family of a deceased worker at a shipbuilding facility in Pascagoula,
Mississippi. Defendants had this case removed to the U.S. District Court for
the Southern District of Mississippi. Plaintiffs are seeking to have this
case remanded to state court.
Solutia's 2002 Form 10-K summarily described a number of pending
PCB cases, including one filed in federal court in Pennsylvania. On June 23,
2003, Solutia's motion for summary judgment was granted in United States v.
Union Corp.
Solutia's 2002 Form 10-K and its subsequent Reports on Form 10-Q
described (a) an investigation by authorities in the United States, Europe
and Canada of past commercial practices in the rubber chemicals industry,
and (b) a number of purported class actions filed against producers of
rubber chemicals including Flexsys, our 50/50 joint venture with Akzo Nobel
N.V., each seeking actual and treble damages under state law on behalf of
all retail purchasers of tires in the relevant state since 1994.
Additionally Solutia's Reports on Form 10-Q for the first and second
quarters of 2003 described seven purported class actions filed in the United
States District Court for the Northern District of California on behalf of
all individuals and entities that had purchased rubber chemicals in the
United States during the period January 1, 1995 until October 10, 2002,
against Solutia, Flexsys and a number of other corporations producing rubber
chemicals. Each of these federal suits alleges price fixing and seeks treble
damages and injunctive relief on behalf of the plaintiffs. Since the last
report, the seven federal suits have all been consolidated into a single
action called In Re Rubber Chemicals Antitrust Litigation, in the United
States District Court for the Northern District of California.
Solutia's Report on Form 10-Q for the quarter ended June 30,
2003, also described, a purported shareholder class action, Brazin v.
Solutia Inc. et. al., filed in the United States District Court for the
Northern District of California against Solutia, its chief executive
officer, and its chief financial officer. The complaint alleges that from
December 16, 1998, to October 10, 2002, Solutia's accounting practices
regarding incorporation of Flexsys' results into Solutia's financial reports
violated federal securities laws by misleading investors as to Solutia's
actual results and causing inflated prices to be paid by purchasers of
Solutia's publicly traded securities during the period. The plaintiffs seek
damages and any equitable relief that the court deems proper. Four
additional purported class actions, Brewer v. Solutia et. al, Walker v.
Solutia, et. al., Briner v. Solutia et. al. and Gulley v. Solutia et. al.,
have now been filed in the same court alleging essentially the same claims
against, and each asking for essentially the same relief from, Solutia and
the same individual defendants with one of the suits, Gulley, also including
Solutia's prior chief executive officer as a defendant and stating that the
purported period is August 7, 1998 to October 10, 2002. We anticipate that
these cases will all be consolidated into one action.
In addition, two purported shareholder derivative suits, Messick
v. Hunter et. al. and Turner v. Hunter et. al., have been filed in the
Missouri Circuit Court for the Twenty-First Judicial Circuit of St. Louis
County against Solutia's current and past directors, chief executive
officers, chief financial officer and former vice chairman. Solutia is
included as a nominal defendant. The plaintiffs seek damages on behalf of
Solutia for the individual defendants'
38
alleged breaches of fiduciary duty, abuse of control, gross mismanagement,
waste of corporate assets, and unjust enrichment, arising out of Flexsys'
alleged participation in the price-fixing of rubber chemicals and Solutia's
incorporation of Flexsys' purportedly inflated financial results arising
from the alleged price-fixing into Solutia's financial statements. We expect
that these two shareholder derivative suits will be consolidated into a
single action.
ITEM 2: CHANGES IN SECURITIES AND USE OF PROCEEDS
As noted under "Credit Facility" on page 33 above, on October 8,
2003, Solutia retired its existing $300 million revolving credit facility
with proceeds from a new $350 million credit facility. In connection with
this new facility, liens on certain principal properties securing debt in an
amount greater than 15 percent of consolidated net tangible assets were
released, resulting in Solutia's 7.375%, Oct. 2027 debentures, the Company's
6.72%, 2037 debentures which are puttable in October 2004, and the Company's
6.25%, Feb. 2005 euro notes, reverting to their original unsecured status.
In addition, the security underlying the Company's 11.25%, Feb 2009 Senior
Secured Notes was modified to release certain collateral that was previously
shared with Solutia's other outstanding public indebtedness. The Company's
11.25%, Feb 2009 Senior Secured Notes continue to be secured, on a
second-priority basis, by liens on all of Solutia's assets for which a first
priority lien has been granted to the lenders under its revolving credit
facility, other than certain property, plant and equipment.
As noted in the "Contingencies" note to the financial statements on
page 9 above, on August 20, 2003, an agreement to settle the Abernathy and
Tolbert PCB litigation was reached. In partial consideration for Monsanto's
agreement to enter into the settlement, Solutia agreed to issue Monsanto
Company warrants to purchase up to 10 million shares of Solutia common stock
at an exercise price of $1.10 per share. The warrants will be exercisable
only (a) if the average closing price of Solutia's common stock for any
thirty-day period is in excess of $10 per share, or (b) upon a change of
control of Solutia as defined in the 2009 Note Indenture. The warrants will
expire on the earlier of (a) the date that is ten years after the date of
issuance of the warrants, and (b) the date that is seven days after a change
of control as defined in the 2009 Note Indenture. The Monsanto warrants will
be issued by Solutia pursuant to the exception from the registration
requirements of the Securities Act of 1933 provided by Section 4(2) thereof.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits--See the Exhibit Index at page 41 of this report.
(b) Reports on Form 8-K during the quarter ended September 30, 2003:
On July 3, 2003, we furnished a Form 8-K to the SEC. Under Items
9 and 12, we furnished our press release updating Solutia's
second quarter financial results and providing a litigation
outlook.*
On July 30, 2003, we furnished a Form 8-K to the SEC. Under Item 12,
we furnished our press release reporting our financial results for
the quarter ended June 30, 2003*.
On August 6, 2003, we furnished a Form 8-K to the SEC. Under Item
12, we furnished our press release reporting the partial consent
decree among Solutia, Pharmacia Corporation, the U.S.
Environmental Protection Agency and the U.S. Department of
Justice in the action captioned United States of America v.
Pharmacia Corporation (p/k/a Monsanto Company) and Solutia and
its impact on our financial results for the quarter and six
months ended June 30, 2003.*
On August 21, 2003, we filed a Form 8-K. Under Item 5, we
reported the settlement of the Alabama PCB litigation.
On September 12, 2003, we filed a Form 8-K. Under Item 5, we
reported court approval of final agreements implementing the
settlement of the Alabama PCB litigation against the Company.
* We are not incorporating by reference such report into this filing or any
filing under the Securities Act of 1933.
39
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
SOLUTIA INC.
--------------------------
(Registrant)
/s/ JAMES M. SULLIVAN
--------------------------
(Vice President and Controller)
(On behalf of the Registrant and as
Principal Accounting Officer)
Date: November 14, 2003
40
EXHIBIT INDEX
These Exhibits are numbered in accordance with the Exhibit Table of Item 601
of Regulation S-K.
EXHIBIT
NUMBER DESCRIPTION
- ------ -----------
4 (a) Amended, Restated and Novated Junior Intercreditor Agreement,
dated as of October 8, 2003, among Solutia Inc., Solutia Business
Enterprises, Inc., each of the subsidiary guarantors named
therein, Ableco Finance LLC and HSBC Bank USA
4 (b) Amended, Restated and Novated Junior Security Agreement, dated as
of October 8, 2003, among Solutia Inc., Solutia Business
Enterprises, Inc., each of the subsidiary guarantors named
therein, Ableco Finance LLC and HSBC Bank USA
4 (c) Third Supplemental Indenture, dated as of October 8, 2003, among
Solutia Inc., the subsidiary guarantors named therein and HSBC
Bank USA.
10 (a) Financing Agreement, dated as of October 8, 2003, by and among
Solutia Inc. and Solutia Business Enterprises, Inc., as Borrowers,
certain subsidiaries of Solutia Inc. listed as a guarantor on the
signature pages thereto, as Guarantors, the lenders from time to
time party thereto, as Lenders, Ableco Finance LLC, as Collateral
Agent, Wells Fargo Foothill, Inc., as Administrative Agent and
Congress Financial Corporation (Central), as Documentation Agent
10 (b) Amendment No. 1 and Waiver, dated as of October 27, 2003, to
Financing Agreement dated as of October 8, 2003
10 (c) Security Agreement, dated October 8, 2003, made by Solutia Inc.,
Solutia Business Enterprises, Inc., and each of the subsidiary
guarantors named therein in favor of Ableco Finance LLC, as
Collateral Agent.
10 (d) Pledge and Security Agreement, dated October 8, 2003, made by
Solutia Inc., Solutia Business Enterprises, Inc., and each of the
subsidiary guarantors named therein in favor of Ableco Finance
LLC, as Collateral Agent.
10 (e) Amendment No. 4, dated as of September 29, 2003, to Second
Amended and Restated Credit Agreement dated as of July 25, 2002,
between Solutia Inc., as Borrower, the initial lenders named
therein, Bank of America, N.A., as Syndication Agent and Citibank,
N.A., as Administrative Agent
11 Omitted--Inapplicable; see "Statement of Consolidated Income (Loss)"
on page 1.
31 (a) Certification of Chief Executive Officer Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
31 (b) Certification of Chief Financial Officer Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
32 (a) Certification of Chief Executive Officer Pursuant to 18 U.S.C.
Section 1350 as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
32 (b) Certification of Chief Financial Officer Pursuant to 18 U.S.C.
Section 1350 as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
99 Computation of the Ratio of Earnings to Fixed Charges
41
Exhibit 31(a)
Certification of Chief Executive Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
I, John C. Hunter III, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Solutia Inc.;
2. Based on my knowledge, this 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 report;
3. Based on my knowledge, the financial statements, and other financial
information included in this 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 report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, 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 report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls and
procedures, as of the end of the period covered by this report
based on such evaluations; and
c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the
registrant's most recent fiscal quarter (the registrant's fourth
fiscal quarter in the case of an annual report) that has materially
affected or is reasonably likely to materially affect, the
registrant's internal control over financial reporting and;
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of registrant's board of
directors (or persons performing the equivalent functions):
a) All significant deficiencies and material weaknesses in the
design or operation of internal control over financial reporting
which are reasonably likely to adversely affect the registrant's
ability to record, process, summarize and report financial
information; and
b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting.
Date: November 14, 2003
/s/ John C. Hunter III
-----------------------
John C. Hunter III
Chairman, President and Chief Executive Officer
Exhibit 31(b)
Certification of Chief Financial Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
I, Robert A. Clausen, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Solutia Inc.;
2. Based on my knowledge, this 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 report;
3. Based on my knowledge, the financial statements, and other financial
information included in this 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 report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, 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 report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls and
procedures, as of the end of the period covered by this report
based on such evaluations; and
c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the
registrant's most recent fiscal quarter (the registrant's fourth
fiscal quarter in the case of an annual report) that has materially
affected or is reasonably likely to materially affect, the
registrant's internal control over financial reporting and;
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of registrant's board of
directors (or persons performing the equivalent functions):
a) All significant deficiencies and material weaknesses in the
design or operation of internal control over financial reporting
which are reasonably likely to adversely affect the registrant's
ability to record, process, summarize and report financial
information; and
b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting.
Date: November 14, 2003
/s/ Robert A. Clausen
-----------------------
Robert A. Clausen
Vice Chairman, Chief Financial Officer and Chief Administrative Officer
Exhibit 32(a)
CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO 18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
I, John C. Hunter III, Chief Executive Officer of Solutia Inc. (the
"Company"), certify, pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, that to the best of my knowledge:
(1) the Quarterly Report on Form 10-Q of the Company for the
quarterly period ended September 30, 2003, (the "Report")
fully complies with the requirements of Section 13(a) or
15(d) of the Securities Exchange Act of 1934; and
(2) the information contained in the Report fairly presents,
in all material respects, the financial condition and
results of operations of the Company.
Dated: November 14, 2003
/s/ John C. Hunter III
-------------------------------------
John C. Hunter III
Chief Executive Officer
A signed original of this written statement required by Section 906, or
other document authenticating, acknowledging, or otherwise adopting the
signature that appears in typed form within the electronic version of this
written statement required by Section 906, has been provided to Solutia Inc.
and will be retained by Solutia Inc. and furnished to the Securities and
Exchange Commission or its staff upon request.
Exhibit 32(b)
CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO 18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
I, Robert A. Clausen, Chief Financial Officer of Solutia Inc. (the
"Company"), certify, pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, that to the best of my knowledge:
(1) the Quarterly Report on Form 10-Q of the Company for the
quarterly period ended September 30, 2003, (the "Report")
fully complies with the requirements of Section 13(a) or
15(d) of the Securities Exchange Act of 1934; and
(2) the information contained in the Report fairly presents,
in all material respects, the financial condition and
results of operations of the Company.
Dated: November 14, 2003
/s/ Robert A. Clausen
-------------------------------
Robert A. Clausen
Chief Financial Officer
A signed original of this written statement required by Section 906, or
other document authenticating, acknowledging, or otherwise adopting the
signature that appears in typed form within the electronic version of this
written statement required by Section 906, has been provided to Solutia Inc.
and will be retained by Solutia Inc. and furnished to the Securities and
Exchange Commission or its staff upon request.
Exhibit 99
SOLUTIA INC.
COMPUTATION OF THE RATIO OF EARNINGS (LOSS) TO FIXED CHARGES
(DOLLARS IN MILLIONS)
NINE MONTHS
ENDED
SEPTEMBER 30,
1998 1999 2000 2001 2002 2003
---- ---- ---- ---- ---- -------------
Income (loss) from continuing operations,
before income taxes and equity
earnings (loss) from affiliates(1)......... $ 352 $ 262 $ (5) $(111) $ (32) $ (258)
Add:
Fixed charges............................ 58 62 85 83 98 84
Amortization of capitalized interest..... 7 7 7 7 7 5
Dividends from affiliated companies...... 37 60 45 30 25 --
Less:
Interest capitalized..................... (6) (13) (17) (2) (1) (1)
----- ----- ----- ----- ----- ------
Income (loss) as adjusted............ $ 448 $ 378 $ 115 $ 7 $ 97 $ (171)
===== ===== ===== ===== ===== ======
Fixed charges
Interest expensed and capitalized........ 49 53 73 72 85 74
Estimate of interest within rental
expense................................ 9 9 12 11 13 10
----- ----- ----- ----- ----- ------
Fixed charges........................ $ 58 $ 62 $ 85 $ 83 $ 98 $ 84
===== ===== ===== ===== ===== ======
Ratio of Earnings (Loss) to Fixed Charges(2). 7.72 6.10 1.35 0.08 0.99 (2.04)
(1) Includes restructuring and other items of $173 million for the nine months
ended September 30, 2003, $17 million for the year ended December 31, 2002,
$86 million for the year ended December 31, 2001, $107 million for the
year ended December 31, 2000 and $61 million for the year ended
December 31, 1999.
(2) Earnings (loss) for the nine months ended September 30, 2003, and the years
ended December 31, 2002, and 2001, would have to be $255 million,
$1 million and $76 million higher, respectively, in order to achieve a
one-to-one ratio.