SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 - For the quarter ended September 30, 2002
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number 333-100047
KRONOS INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
Delaware 22-2949593
- ---------------------------------------- ---------------------------
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
16825 Northchase Drive, Suite 1200, Houston, Texas 77060-2544
- -------------------------------------------------- --------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (281) 423-3300
-----------------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months, and (2) had been subject to such filing
requirements for the past 90 days.
Yes No X
The Registrant is a wholly owned subsidiary of NL Industries, Inc. (File No.
1-640) and meets the conditions set forth in General Instructions H(1)(a) and
H(1)(b) of Form 10-Q for reduced disclosure format.
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
INDEX
Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
Consolidated Balance Sheets - September 30, 2002
and December 31, 2001 3-4
Consolidated Statements of Income - Three months and nine
months ended September 30, 2002 and 2001 5
Consolidated Statements of Comprehensive Income
- Three months and nine months ended
September 30, 2002 and 2001 6
Consolidated Statement of Redeemable Preferred Stock,
Profit Participation Certificates and Common Stockholder's
Equity (Deficit) - Nine months ended September 30, 2002 7
Consolidated Statements of Cash Flows - Nine
months ended September 30, 2002 and 2001 8-9
Notes to Consolidated Financial Statements 10-19
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 20-30
Item 4. Controls and Procedures 31
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 32
Item 6. Exhibits and Reports on Form 8-K 32
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except per share data)
September 30, December 31,
ASSETS 2002 2001
------------- -------------
Current assets:
Cash and cash equivalents ........................ $ 11,675 $ 30,343
Restricted cash equivalents ...................... 1,467 --
Accounts and notes receivable .................... 101,875 87,422
Receivable from affiliates ....................... 2,503 1,134
Refundable income taxes .......................... 926 1,347
Inventories ...................................... 113,510 121,316
Prepaid expenses ................................. 7,075 1,548
Deferred income taxes ............................ 601 497
-------- --------
Total current assets ......................... 239,632 243,607
-------- --------
Other assets:
Prepaid pension cost ............................. 17,723 14,696
Other ............................................ 12,752 5,615
-------- --------
Total other assets ........................... 30,475 20,311
-------- --------
Property and equipment:
Land ............................................. 23,277 20,996
Buildings ........................................ 107,662 96,874
Machinery and equipment .......................... 502,029 441,216
Mining properties ................................ 58,428 48,167
Construction in progress ......................... 5,364 2,995
-------- --------
696,760 610,248
Less accumulated depreciation and depletion ...... 402,480 341,649
-------- --------
Net property and equipment ................... 294,280 268,599
-------- --------
$564,387 $532,517
======== ========
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONTINUED)
(In thousands, except per share data)
LIABILITIES AND STOCKHOLDER'S EQUITY (DEFICIT) September 30, December 31,
2002 2001
----------- -----------
Current liabilities:
Notes payable ................................. $ -- $ 46,201
Current maturities of long-term debt .......... 1,221 1,033
Accounts payable and accrued liabilities ...... 91,016 78,846
Payable to affiliates ......................... 7,211 7,929
Income taxes .................................. 5,949 6,597
Deferred income taxes ......................... 1,832 1,530
----------- -----------
Total current liabilities ................. 107,229 142,136
----------- -----------
Noncurrent liabilities:
Long-term debt ................................ 306,524 1,465
Notes payable to Kronos, Inc. ................. -- 480,363
Deferred income taxes ......................... 50,063 37,783
Accrued pension cost .......................... 17,599 18,696
Other ......................................... 12,263 11,846
----------- -----------
Total noncurrent liabilities .............. 386,449 550,153
----------- -----------
Minority interest ................................. 340 284
----------- -----------
Redeemable preferred stock and profit
participation certificates ....................... -- 571,119
Accrued dividends ................................. -- 46,290
----------- -----------
Total redeemable preferred stock
and profit participation certificates .... -- 617,409
----------- -----------
Common stockholder's equity (deficit):
Common stock - $100 par value;
100,000 shares authorized;
2,968 and 3,196 shares issued ............... 297 320
Additional paid-in capital .................... 1,944,185 1,870,935
Retained earnings (deficit) ................... (1,725,323) (1,774,150)
Notes receivable from affiliates .............. -- (700,843)
Accumulated other comprehensive loss:
Currency translation adjustment ........... (144,821) (169,758)
Pension liabilities ....................... (3,969) (3,969)
----------- -----------
Total common stockholder's equity (deficit) 70,369 (777,465)
----------- -----------
$ 564,387 $ 532,517
=========== ===========
Commitments and contingencies (Note 14)
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In thousands)
Three months ended Nine months ended
September 30, September 30,
--------------------- -----------------------
2002 2001 2002 2001
-------- ------- -------- ---------
Revenues and other income:
Net sales ......................... $ 154,319 $ 134,675 $ 440,033 $ 434,085
Interest income from affiliates ... 3,597 10,099 22,754 25,990
Insurance recoveries, net ......... -- 3,900 -- 5,829
Other income, net ................. 2,428 12,011 21,358 2,220
--------- --------- --------- ---------
160,344 160,685 484,145 468,124
--------- --------- --------- ---------
Costs and expenses:
Cost of sales ..................... 120,089 95,737 344,757 294,937
Selling, general and administrative 19,243 16,151 52,644 49,881
Interest .......................... 7,606 1,131 9,303 3,363
Interest expense to affiliates .... -- 10,087 18,699 23,962
--------- --------- --------- ---------
146,938 123,106 425,403 372,143
Income before income taxes and
minority interest ........... 13,406 37,579 58,742 95,981
Income tax expense .................... 2,148 6,170 9,880 23,425
--------- --------- --------- ---------
Income before minority interest 11,258 31,409 48,862 72,556
Minority interest ..................... 8 -- 35 9
--------- --------- --------- ---------
Net income .................... 11,250 31,409 48,827 72,547
Dividends and accretion applicable to
redeemable preferred stock and profit
participation certificates .......... (1,228) (19,282) (78,600) (30,771)
--------- --------- --------- ---------
Net income (loss) available to common
stock ............................... $ 10,022 $ 12,127 $ (29,773) $ 41,776
========= ========= ========= =========
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
Three months ended Nine months ended
September 30, September 30,
----------------- ------------------
2002 2001 2002 2001
----------------- ------------------
Net income ............................. $11,250 $31,409 $48,827 $ 72,547
------- ------- ------- --------
Other comprehensive income (loss):
Currency translation adjustment .... 2,283 4,268 24,937 (102)
------- ------- ------- --------
Total other comprehensive income
(loss) ....................... 2,283 4,268 24,937 (102)
------- ------- ------- --------
Comprehensive income ....... $13,533 $35,677 $73,764 $ 72,445
======= ======= ======= ========
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF REDEEMABLE PREFERRED STOCK,
PROFIT PARTICIPATION CERTIFICATES AND
COMMON STOCKHOLDER'S EQUITY (DEFICIT)
Nine months ended September 30, 2002
(In thousands)
Redeemable Common Stockholder's Equity (Deficit)
preferred Accumulated other Total
stock and Notes comprehensive loss common
profit Additional Retained receivable Currency stockholder's
participation Common paid-in earnings from translation Pension equity
certificates stock capital (deficit) affiliates adjustment liabilities (deficit)
--------- ---- ---------- ----------- --------- --------- ------- ----------
Balance at December 31, 2001 .... $ 617,409 $320 $1,870,935 $(1,774,150) $(700,843) $(169,758) $(3,969) $(777,465)
Net income ...................... -- -- -- 48,827 -- -- -- 48,827
Other comprehensive income ...... -- -- -- -- -- 24,937 -- 24,937
Change in notes receivable
from affiliates ................ -- -- -- -- 156,661 -- -- 156,661
Preferred dividends and accretion 78,600 -- (78,600) -- -- -- -- (78,600)
Capital contribution ............ -- -- 217,000 -- (217,000) -- -- --
Recapitalization ................ (696,009) (23) (65,150) -- 761,182 -- -- 696,009
-------- ---- ---------- ----------- --------- --------- ------- ---------
Balance at September 30, 2002 ... $ -- $297 $1,944,185 $(1,725,323) $ -- $(144,821) $(3,969) $ 70,369
======== ==== =========== =========== ========= ========= ======= =========
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine months ended September 30, 2002 and 2001
(In thousands)
2002 2001
--------- -------
Cash flows from operating activities:
Net income ............................................... $ 48,827 $ 72,547
Depreciation, depletion and amortization ................. 20,030 18,201
Noncash currency transaction (gain) loss ................. (13,121) 2,941
Noncash interest income from affiliates .................. (21,849) (22,016)
Noncash interest expense to affiliates ................... 5,521 --
Noncash interest expense ................................. 404 --
Deferred income taxes .................................... 6,443 3,762
Minority interest ........................................ 35 9
Net (gain) loss from disposition of property and equipment (505) 237
Pension, net ............................................. (2,438) (2,040)
Insurance recoveries, net ................................ -- (5,829)
-------- --------
43,347 67,812
Change in assets and liabilities:
Accounts and notes receivable ............................ (15,488) (7,340)
Insurance receivable ..................................... 11,218 (2,508)
Inventories .............................................. 19,520 3,691
Prepaid expenses ......................................... (5,132) (2,667)
Accounts payable and accrued liabilities ................. (2,518) (966)
Income taxes ............................................. (951) 7,673
Accounts with affiliates ................................. (2,427) 8,688
Other noncurrent assets .................................. 3,242 (1,463)
Other noncurrent liabilities ............................. (726) (525)
-------- --------
Net cash provided by operating activities ............ 50,085 72,395
-------- --------
Cash flows from investing activities:
Capital expenditures ..................................... (15,267) (29,648)
Property damaged by fire:
Insurance proceeds ................................... -- 10,500
Other, net ........................................... -- (2,100)
Change in restricted cash equivalents .................... (1,467) --
Proceeds from disposition of property and equipment ...... 839 77
-------- --------
Net cash used by investing activities ................ (15,895) (21,171)
-------- --------
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
Nine months ended September 30, 2002 and 2001
(In thousands)
2002 2001
--------- ---------
Cash flows from financing activities:
Indebtedness:
Borrowings .................................... $ 330,800 $ 1,437
Principal payments ............................ (77,939) (22,132)
Deferred financing costs ...................... (9,963) --
Repayments of loans from affiliates ............... (301,432) --
Capital contribution .............................. -- 3,815
Other capital transactions with affiliates, net ... 2,925 (17,370)
Distribution to minority interest ................. (11) (5)
--------- --------
Net cash used by financing activities ............. (55,620) (34,255)
--------- --------
Cash and cash equivalents:
Net change from:
Operating, investing and financing activities . (21,430) 16,969
Currency translation .......................... 2,762 280
--------- --------
(18,668) 17,249
Balance at beginning of period .................... 30,343 36,731
--------- --------
Balance at end of period .......................... $ 11,675 $ 53,980
========= ========
Supplemental disclosures - cash paid for:
Interest .......................................... $ 20,641 $ 19,884
Income taxes ...................................... 4,388 11,990
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Organization and basis of presentation:
Kronos International, Inc. ("KII") is incorporated in the state of
Delaware, U.S.A., with its seat of management in Leverkusen, Germany. KII is a
wholly owned subsidiary of Kronos, Inc. ("Kronos"), a wholly owned subsidiary of
NL Industries, Inc. ("NL"). NL conducts its titanium dioxide pigments ("TiO2")
operations through Kronos. KII conducts Kronos' European TiO2 operations. At
September 30, 2002, Valhi, Inc. ("Valhi") and Tremont Corporation ("Tremont"),
each affiliates of Contran Corporation ("Contran"), held approximately 62% and
21%, respectively, of NL's outstanding common stock. At September 30, 2002,
Contran and its subsidiaries held approximately 93% of Valhi's outstanding
common stock, and Tremont Group, Inc. ("Tremont Group"), which is 80% owned by
Valhi and 20% owned by NL, held approximately 80% of Tremont's outstanding
common stock. Substantially all of Contran's outstanding voting stock is held by
trusts established for the benefit of certain children and grandchildren of
Harold C. Simmons, of which Mr. Simmons is the sole trustee. Mr. Simmons, the
Chairman of the Board of NL, Chairman of the Board and Chief Executive Officer
of Contran, the Chairman of the Board of Valhi and a director of Tremont, may be
deemed to control each of such companies and KII. See Note 16.
KII's current operations are conducted primarily through its German,
Belgian and Norwegian subsidiaries with three TiO2 plants in Germany, one TiO2
plant in Belgium and one TiO2 plant and an ilmenite ore mining operation in
Norway. KII also operates TiO2 sales and distribution facilities in England,
France, Denmark and the Netherlands. Prior to April 30, 2002, KII also conducted
operations in Canada through Kronos Canada, Inc. ("KC"), its wholly owned
subsidiary. Effective April 30, 2002, in anticipation of a proposed debt
securities offering, KII sold 100% of KC's capital stock to Kronos in exchange
for a promissory note receivable in the amount of $217 million bearing interest
of 7.87% per annum with a maturity date of April 30, 2012. KII has accounted for
the disposition of KC as a change in accounting entity. Accordingly, KII's
consolidated financial statements have been retroactively restated to exclude
the assets, liabilities, results of operations and cash flows of KC for all
periods presented. KII's cash dividends received from KC and cash capital
contributions to KC prior to April 30, 2002 are reflected as part of "other
capital transactions with affiliates, net" in the accompanying consolidated
statement of cash flows.
The consolidated balance sheet of KII and its majority owned subsidiaries
(collectively, the "Company") at December 31, 2001 has been condensed from the
Company's audited consolidated financial statements at that date. Information
included in the consolidated financial statements and related notes to the
Consolidated Financial Statements as of September 30, 2002 and for the interim
periods ended September 30, 2001 and 2002 is unaudited. In the opinion of
management all adjustments, consisting only of normal recurring adjustments,
necessary to present fairly the consolidated financial position, results of
operations and cash flows have been made. The results of operations for the
interim periods are not necessarily indicative of the operating results for a
full year or of future operations. Certain information and footnote disclosures
normally included in financial statements prepared in accordance with generally
accepted accounting principles in the U.S. ("GAAP") have been condensed or
omitted for the interim periods. Certain prior-year amounts have been
reclassified to conform to the current year presentation. The accompanying
consolidated financial statements should be read in conjunction with the
consolidated financial statements included in the Company's Registration
Statement on Form S-4 (Registration No. 333-100047).
The Company adopted Statement of Financial Accounting Standards ("SFAS")
No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets,"
effective January 1, 2002. SFAS No. 144 retains the fundamental provisions of
existing GAAP with respect to the recognition and measurement of long-lived
asset impairment contained in SFAS No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of." However, SFAS
No. 144 provides new guidance intended to address certain significant
implementation issues associated with SFAS No. 121, including expanded guidance
with respect to appropriate cash flows to be used to determine whether
recognition of any long-lived asset impairment is required, and if required how
to measure the amount of the impairment. SFAS No. 144 also requires that any net
assets to be disposed of by sale to be reported at the lower of carrying value
or fair value less cost to sell, and expands the reporting of discontinued
operations to include any component of an entity with operations and cash flows
that can be clearly distinguished from the rest of the entity. The adoption of
SFAS No. 144 effective January 1, 2002 did not have a material effect on the
Company's consolidated financial position, results of operations or liquidity.
The Company adopted SFAS No. 145, "Rescission of FASB Statements No. 4, 44
and 64, Amendment of FASB Statement No. 13 and Technical Corrections" effective
April 1, 2002. SFAS No. 145, among other things, eliminated the prior
requirement that all gains and losses from the early extinguishment of debt were
to be classified as an extraordinary item. Upon adoption of SFAS No. 145, gains
and losses from the early extinguishment of debt are now classified as an
extraordinary item only if they meet the "unusual and infrequent" criteria
contained in Accounting Principles Board Opinion ("APBO") No. 30. In addition,
upon adoption of SFAS No. 145, all gains and losses from the early
extinguishment of debt that had previously been classified as an extraordinary
item are to be reassessed to determine if they would have met the "unusual and
infrequent" criteria of APBO No. 30; any such gain or loss that would not have
met the APBO No. 30 criteria are retroactively reclassified and reported as a
component of income before extraordinary item. As the Company had not previously
recognized any gains and losses from the early extinguishment of debt, there was
no impact on the Company upon adoption. Note 2 - Business segment information:
The Company's operations are conducted in one operating business segment -
the production and sale of TiO2.
Three months ended Nine months ended
September 30, September 30,
---------------------- ----------------------
2002 2001 2002 2001
--------- ---------- --------- ---------
(In thousands)
Net sales .................................... $ 154,319 $ 134,675 $ 440,033 $ 434,085
Other income (loss), excluding corporate ..... 2,428 (40) 5,519 5,161
--------- --------- --------- ---------
156,747 136,635 445,552 439,246
Cost of sales ................................ 120,089 95,737 344,757 294,937
Selling, general and administrative, excluding
corporate .................................. 19,243 16,151 52,644 49,881
--------- --------- --------- ---------
Operating income ..................... 17,415 22,747 48,151 94,428
Insurance recoveries, net .................... -- 3,900 -- 5,829
--------- --------- --------- ---------
Income before corporate items, income
taxes and minority interest ........ 17,415 26,647 48,151 100,257
General corporate income (expense):
Currency transaction gain (loss), net .... -- 12,051 15,839 (2,941)
Interest expense ......................... (7,606) (1,131) (9,303) (3,363)
Interest expense to affiliates ........... -- (10,087) (18,699) (23,962)
Interest income from affiliates .......... 3,597 10,099 22,754 25,990
--------- --------- --------- ---------
Income before income taxes and
minority interest .................. $ 13,406 $ 37,579 $ 58,742 $ 95,981
========= ========= ========= =========
Note 3 - Accounts and notes receivable:
September 30, December 31,
2002 2001
--------- ---------
(In thousands)
Trade receivables ............................. $ 94,949 $ 65,417
Insurance claims receivable ................... 287 11,505
Recoverable VAT and other receivables ......... 8,640 12,126
Allowance for doubtful accounts ............... (2,001) (1,626)
--------- --------
$ 101,875 $ 87,422
========= ========
Note 4 - Inventories:
September 30, December 31,
2002 2001
------------- ------------
(In thousands)
Raw materials ............................ $ 25,006 $ 33,911
Work in process .......................... 8,559 6,421
Finished products ........................ 56,390 61,191
Supplies ................................. 23,555 19,793
-------- --------
$113,510 $121,316
======== ========
Note 5 - Other noncurrent assets:
September 30, December 31,
2002 2001
------- ------
(In thousands)
Deferred financing costs (see Note 7) ............. $ 9,436 $ 12
Other ............................................. 3,316 5,603
------- ------
$12,752 $5,615
======= ======
Note 6 - Accounts payable and accrued liabilities:
September 30, December 31,
2002 2001
------- -------
(In thousands)
Accounts payable ........................... $35,610 $36,974
------- -------
Accrued liabilities:
Employee benefits ...................... 19,452 16,227
Other .................................. 35,954 25,645
------- -------
55,406 41,872
------- -------
$91,016 $78,846
======= =======
Note 7 - Notes payable and long-term debt:
September 30, December 31,
2002 2001
-------- -------
(In thousands)
Notes payable ................................. $ -- $46,201
======== =======
Long-term debt:
8.875% Senior Secured Notes ............... 278,673 --
Revolving credit facility ................. 26,993 --
Other ..................................... 2,079 2,498
-------- -------
307,745 2,498
Less current maturities ....................... 1,221 1,033
-------- -------
$306,524 $ 1,465
======== =======
Notes payable at December 31, 2001, consisted of (euro)27 million ($24.0
million) and NOK 200 million ($22.2 million). Notes payable totaling $53.2
million were repaid on June 28, 2002 with proceeds from the revolving credit
facility and available cash and the agreements were terminated. See description
of revolving credit facility below.
In June 2002 KII issued (euro)285 million ($280 million when issued and
$279 million at September 30, 2002) principal amount of 8.875% Senior Secured
Notes (the "Notes") due 2009. The Notes are collateralized by first priority
liens on 65% of the common stock or other equity interests of certain of KII's
first-tier subsidiaries. The Notes are issued pursuant to an indenture which
contains a number of covenants and restrictions which, among other things,
restricts the ability of KII and its subsidiaries to incur debt, incur liens,
pay dividends or merge or consolidate with, or sell or transfer all or
substantially all of their assets to another entity. In addition, the indenture
contains customary cross-default provisions with respect to other debt and
obligations of KII or its subsidiaries. The Notes are redeemable, at KII's
option, on or after December 30, 2005 at redemption prices ranging from 104.437%
of the principal amount, declining to 100% on or after December 30, 2008. In
addition, on or before June 30, 2005, KII may redeem up to 35% of its Notes with
the net proceeds of a qualified public equity offering at 108.875% of the
principal amount. In the event of a change of control of KII, as defined, KII
would be required to make an offer to purchase its Notes at 101% of the
principal amount. KII would also be required to make an offer to purchase a
specified portion of its Notes at par value in the event KII generates a certain
amount of net proceeds from the sale of assets outside the ordinary course of
business, and such net proceeds are not otherwise used for specified purposes
within a specified time period. At September 30, 2002, KII was in compliance
with all the covenants. The Notes require cash interest payments on June 30 and
December 30, commencing on December 30, 2002. On October 18, 2002, KII commenced
an exchange offer to exchange the Notes for registered publicly traded notes
that have substantially identical terms as the Notes. The exchange offer ends
November 18, 2002 unless extended by KII.
In June 2002 KII's operating subsidiaries in Germany, Belgium and Norway
(the "European Borrowers"), entered into a three-year (euro)80 million secured
revolving credit facility ("European Credit Facility"). The European Credit
Facility is available in multiple currencies, including U.S. dollars, euros and
Norwegian kroner. In addition, the European Credit Facility has a (euro)5.0
million sub limit available for issuance of letters of credit. As of September
30, 2002, (euro)16.7 million ($16.3 million) and NOK 80.0 million ($10.7
million) was outstanding under the European Credit Facility and (euro)1.8
million ($1.7 million) of letters of credit were also outstanding under the
European Credit Facility. At September 30, 2002, approximately (euro)51 million
was available for additional borrowings. Borrowings bear interest at the
applicable interbank market rate plus 1.75%. As of September 30, 2002, the
interest rate was 5.07% and 8.86% on the euro and Norwegian kroner borrowings,
respectively, and the weighted average interest rate was 6.57%.
The European Credit Facility is collateralized by accounts receivable and
inventory of the European Borrowers, plus a limited pledge of certain other
assets of the Belgian borrower. The European Credit Facility contains, among
others, various restrictive covenants, including restrictions on incurring
liens, asset sales, additional financial indebtedness, mergers, investments and
acquisitions, transactions with affiliates and dividends. In addition, the
European Credit Facility contains customary cross-default provisions with
respect to other debt and obligations of the European Borrowers, KII and its
other subsidiaries. The European Borrowers were in compliance with all the
covenants as of September 30, 2002.
Deferred financing costs of $10.0 million for the Notes and the European
Credit Facility are being amortized over the life of the respective agreements
and are included in other noncurrent assets as of September 30, 2002.
Unused lines of credit available for borrowing under the Company's non-U.S.
credit facilities approximated $51 million at September 30, 2002 (including
approximately $50 million under the European Credit Facility of which
approximately $3.3 million is available for letters of credit).
Note 8 - Notes payable to Kronos, Inc.:
September 30, December 31,
2002 2001
-------- --------
(In thousands)
11.75% Second-tier Senior Mirror Note ............ $ -- $194,000
Euro-denominated note ............................ -- 286,363
-------- --------
$ -- $480,363
======== ========
NL had $194 million of 11.75% Senior Secured Notes due 2003 (the "NL
Notes") at December 31, 2001. KII had a Second-Tier Senior Mirror Note (the "KII
Mirror Note") payable to Kronos, which had a First-Tier Senior Mirror Note (the
"Kronos Mirror Note") payable to NL. The terms of the KII Mirror Note and the
Kronos Mirror Note were identical to the terms of the NL Notes with respect to
the maturity dates and interest rates with interest paid semi-annually. The NL
Notes were collateralized by a first priority lien on the common stock, and
redeemable preferred stock and profit participation certificates of KII, the KII
Mirror Note, the Kronos Mirror Note and other collateral pledged by NL and
Kronos.
On March 22, 2002, NL redeemed $25 million principal amount of the NL Notes
at the current call price of 100%, and as a result $25 million principal amount
of the KII Mirror Note was repaid. In addition, immediately following the
closing of the Notes offering (see Note 7), KII effectively loaned to NL
sufficient funds for NL to redeem in full the remaining $169 million principal
amount of the NL Notes. In accordance with the terms of the indenture governing
the NL Notes, on June 28, 2002, NL irrevocably placed on deposit with the
trustee funds in an amount sufficient to pay in full the redemption price plus
all accrued and unpaid interest due on the July 28, 2002 redemption date.
Immediately thereafter, NL was released from its obligations under such
indenture, the indenture was discharged and all collateral was released to NL.
Because NL had been released as being the primary obligor under the indenture as
of June 30, 2002, the NL Notes were derecognized as of that date along with the
funds placed on deposit with the trustee to effect the July 28, 2002 redemption.
KII recognized a loss on the early extinguishment of debt of approximately $1.5
million in the second quarter of 2002, consisting primarily of the interest on
the KII Mirror Note for the period from July 1 to July 28, 2002. Such loss was
recognized as a component of interest expense. The Kronos Mirror Note and the
KII Mirror Note were deemed repaid in accordance with the terms and conditions
of such agreements, and the agreements were canceled.
The euro-denominated note payable to Kronos ((euro)323.9 million at
December 31, 2001) was originally due in 2010 and bore interest at 6% payable
monthly. The euro note payable to Kronos was established in 2001 as a result of
a series of noncash transactions between KII, NL and Kronos. A portion of the
note payable ((euro)217.6 million, including interest of (euro)6.3 million) was
prepaid in April 2002, using as consideration an equivalent amount of KII's
euro-denominated note receivable from NL. See Note 13. The remaining balance of
(euro)113.8 million (including interest) was repaid as of June 28, 2002 with
proceeds from the (euro)285 million Notes offering described in Note 7 and the
note agreement was canceled.
Note 9 - Other noncurrent liabilities:
September 30, December 31,
2002 2001
------- -------
(In thousands)
Insurance claims and expenses .................. $ 615 $ 821
Employee benefits .............................. 3,762 3,476
Environmental costs ............................ 5,912 5,662
Other .......................................... 1,974 1,887
------- -------
$12,263 $11,846
======= =======
Note 10 - Other income, net:
Three months ended Nine months ended
September 30, September 30,
------------------- ------------------
2002 2001 2002 2001
-------- ------- ------- --------
(In thousands)
Currency transaction gain (loss), net $ 13 $ 9,940 $14,936 $(3,765)
Royalty income ...................... 1,496 1,283 4,386 4,386
Trade interest income ............... 713 567 1,250 1,537
Disposition of property and equipment (92) 3 505 (237)
Other, net .......................... 298 218 281 299
-------- ------- ------- -------
$ 2,428 $12,011 $21,358 $ 2,220
======== ======= ======= =======
Included in currency transactions are noncash gains (losses) associated
with the Company's dollar-denominated notes payable to affiliates. See Note 8.
Noncash currency transaction gains totaled $12.1 million in the three months
ended September 30, 2001 and noncash currency transaction losses totaled $2.9
million in the nine months ended September 30, 2001. Noncash currency
transaction gains totaled nil and $13.1 million in the three and nine months
ended September 30, 2002, respectively.
The Company receives royalty income from KC for use of certain of the
Company's intellectual property.
Note 11 - Income taxes:
The difference between the provision for income tax expense attributable to
income before income taxes and minority interest and the amount that would be
expected using the U.S. federal statutory income tax rate of 35% is presented
below.
Nine months ended
September 30,
------------------------
2002 2001
-------- ---------
(In thousands)
Expected tax expense ............................. $ 20,560 $ 33,593
Non-U.S. tax rates ............................... (3,514) (6,108)
Valuation allowance .............................. (1,491) (1,343)
Currency transaction gains and losses
for which no income taxes are provided ......... (4,592) 1,029
Tax contingency reserve adjustments, net ......... (1,083) (3,422)
Other, net ....................................... -- (324)
-------- --------
Income tax expense ....................... $ 9,880 $ 23,425
======== ========
Note 12 - Leverkusen fire and insurance claim:
A fire on March 20, 2001 damaged a section of the Company's Leverkusen,
Germany 35,000 metric ton sulfate-process TiO2 plant ("Sulfate Plant") and, as a
result, production of TiO2 at the Leverkusen facility was halted. The fire did
not enter the Company's adjacent 125,000 metric ton chloride-process TiO2 plant
("Chloride Plant"), but did damage certain support equipment necessary to
operate that plant. The damage to the support equipment resulted in a temporary
shutdown of the Chloride Plant. The Chloride Plant became fully operational in
April 2001 and the Sulfate Plant became approximately 50% operational in
September 2001 and became fully operational in late October 2001.
During the third quarter of 2001, the Company's insurance carriers approved
a partial payment of $8 million ($6.8 million received as of September 30, 2001)
for property damage costs and business interruption losses caused by the
Leverkusen fire. Three million dollars of this payment represented partial
compensation for business interruption losses which was recorded as a reduction
of cost of sales to offset unallocated period costs that resulted from lost
production. The remaining $5 million represented property damage recoveries
against which the Company recorded $1.1 million of expense related to clean-up
costs, resulting in a net gain of $3.9 million. In the first nine months of
2001, the Company's insurance carriers approved payment of $18.5 million ($17.3
million received as of September 30, 2001) for losses caused by the Leverkusen
fire, including the $8 million discussed above. Eight million dollars of this
payment was for business interruption losses and the remaining $10.5 million was
for property damage losses against which the Company recorded $4.7 million of
expenses resulting in a net gain of $5.8 million. The Company settled its
insurance claim involving the Leverkusen fire during the fourth quarter of 2001
for an aggregate of $56.4 million (including amounts previously received by the
Company), of which $27.3 million related to business interruption and $29.1
million related to property damages, clean-up costs and other extra expenses.
The Company recognized $19.3 million of business interruption insurance proceeds
in the fourth quarter of 2001, of which $16.6 million was attributable to
unallocated period costs and lost margin related to the first, second and third
quarters of 2001. No additional insurance recoveries related to the Leverkusen
fire are expected to be received in 2002.
Note 13 - Notes receivable from affiliates:
Long-term notes receivable from affiliates were included as a component of
equity in accordance with GAAP as settlement of the affiliate notes receivable
balances was not currently contemplated within the foreseeable future. The notes
are summarized in the following table.
September 30, December 31,
2002 2001
-------- --------
(In thousands)
Notes receivable from:
NL:
8.7% Fixed rate .............................. $ -- $106,783
6.0% Fixed rate euro-denominated ............. -- 286,363
6.0% Fixed rate .............................. -- --
Variable rate ................................ -- 262,772
Kronos:
7.87% Fixed rate ............................. -- --
7.0% Fixed rate .............................. -- --
Variable rate ................................ -- 44,925
-------- --------
$ -- $700,843
======== ========
In July 2002 KII and Kronos agreed to a recapitalization of the Company as
contemplated in the (euro)285 million Notes offering. See Note 7. In connection
with the recapitalization agreement, KII converted the Series A (738 shares) and
Series B (647 shares) redeemable preferred stock (including liquidation and
redemption preferences and accrued and unpaid dividends) held by Kronos totaling
$411.7 million ($410.5 million at June 30, 2002) into 1,385 shares of KII, $100
par value, common stock. As a result of the conversion, the Series A and B
redeemable preferred stock certificates were canceled. Further, KII redeemed its
profit participation certificates held by Kronos totaling $284.3 million in
exchange for various notes receivable from NL. As a result of the redemption,
the profit participation certificates were canceled. Finally, KII redeemed 1,613
shares of KII common stock held by Kronos in exchange for its remaining notes
receivable from NL and Kronos totaling $479.4 million. As a result of the
recapitalization in July 2002, KII's common stockholder's equity increased a net
$696.0 million.
Note 14 - Commitments and contingencies:
For descriptions of certain legal proceedings, income tax and other
commitments and contingencies related to the Company, reference is made to (i)
Management's Discussion and Analysis of Financial Condition and Results of
Operations, (ii) Part II, Item 1 "Legal Proceedings," and (iii) the Company's
Registration Statement on Form S-4 (Registration No. 333-100047).
Note 15 - Accounting principles not yet adopted:
The Company will adopt SFAS No. 143, Accounting for Asset Retirement
Obligations, no later than January 1, 2003. Under SFAS No. 143, the fair value
of a liability for an asset retirement obligation covered under the scope of
SFAS No. 143 would be recognized in the period in which the liability is
incurred, with an offsetting increase in the carrying amount of the related
long-lived asset. Over time, the liability would be accreted to its present
value, and the capitalized cost would be depreciated over the useful life of the
related asset. Upon settlement of the liability, an entity would either settle
the obligation for its recorded amount or incur a gain or loss upon settlement.
The Company is studying this newly-issued standard to determine, among other
things, whether it has any asset retirement obligations which are covered under
the scope of SFAS No. 143, and the effect, if any, to the Company of adopting
this standard has not yet been determined.
The Company will adopt SFAS No. 146, Accounting for Costs Associated with
Exit or Disposal Activities, no later than January 1, 2003 for exit or disposal
activities initiated on or after the date of adoption. Under SFAS No. 146, costs
associated with exit activities, as defined, that are covered by the scope of
SFAS No. 146 will be recognized and measured initially at fair value, generally
in the period in which the liability is incurred. Costs covered by the scope of
SFAS No. 146 include termination benefits provided to employees, costs to
consolidate facilities or relocate employees, and costs to terminate contracts
(other than a capital lease). Under existing GAAP, a liability for such an exit
cost is recognized at the date an exit plan is adopted, which may or may not be
the date at which the liability has been incurred.
Note 16 - Subsequent event:
In November 2002, Valhi and Tremont and Valhi and Tremont Group entered
into definitive merger agreements pursuant to which stockholders of Tremont,
other than Valhi (but including NL) would receive 3.4 shares of Valhi common
stock for each share of Tremont held (including the shares of Tremont indirectly
owned by NL through its 20% ownership interest in Tremont Group). The merger
between Tremont and Valhi was approved by the board of directors of Tremont
based upon the recommendation of a special committee of the Tremont board
comprised of directors who are not affiliated with Valhi, is subject to
customary closing conditions and will require the approval by the stockholders
of Tremont. Tremont Group, which owns approximately 80% of Tremont, has
indicated that it intends to vote its shares in favor of such merger. Upon
completion of the mergers, NL would receive an aggregate of approximately 3.5
million shares of Valhi common stock in return for its shares of Tremont Group
and Tremont and would account for such Valhi shares in the same manner that it
accounts for the 1.2 million Valhi shares currently held by NL
(available-for-sale marketable securities). NL would recognize gain or loss
equal to the difference between the market value of the shares of Valhi common
stock received and the cost basis of the shares of Tremont Group and Tremont
exchanged.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
RESULTS OF OPERATIONS
Three months ended % Nine months ended %
September 30, Change September 30, Change
------------------ ---- ----------------- ----
2002 2001 2002 2001
------ ------ ------ ------
(In millions, except percentages and metric tons)
Net sales and operating income
Net sales ........................ $154.3 $134.7 +15% $440.0 $434.1 +1%
Operating income ................. $ 17.4 $ 22.7 -23% $ 48.2 $ 94.4 -49%
Operating income margin
percentage ..................... 11% 17% 11% 22%
TiO2 operating statistics
Percent change in average
selling price (in billing
currencies) .................... -7% -13%
Sales volume (metric tons in
thousands) ..................... 75 67 +11% 233 205 +14%
Production volume (metric
tons in thousands) ............. 77 71 +9% 224 207 +8%
The Company's operating income in the third quarter of 2002 decreased $5.3
million or 23% from the third quarter of 2001 due to lower average selling
prices, partially offset by higher sales and production volumes. KII's operating
income in the third quarter of 2001 included $3.0 million of business
interruption insurance proceeds related to the fire at the Company's Leverkusen,
Germany plant in 2001 described below. Compared to the second quarter of 2002,
operating income in the third quarter of 2002 increased 5% due to higher average
selling prices and higher production volume, partially offset by lower sales
volume.
Operating income in the first nine months of 2002 was $48.2 million
compared with $94.4 million in the first nine months of 2001 due to 13% lower
average selling prices, partially offset by 14% higher sales volume and 8%
higher production volume. Operating income in the first nine months of 2001
included $8.0 million of business interruption insurance proceeds.
The Company's average selling price in billing currencies (which excludes
the effects of foreign currency translation) during the third quarter of 2002
was 7% lower than the third quarter of 2001 and was 4% higher than the second
quarter of 2002. Compared with the second quarter of 2002, selling prices in
billing currencies increased in the European and export markets and decreased
slightly in the North American market. The average selling price in billing
currencies in September 2002 was 1% higher than the average selling price for
the third quarter of 2002. The Company expects fourth-quarter prices to be
higher than third quarter prices as previously announced price increases
continue to be implemented, but the extent to which the Company will realize
such price increases will depend on economic and competitive conditions. The
Company expects a lower average selling price for full-year 2002 compared to
full-year 2001.
The Company's third quarter 2002 average selling price expressed in U.S.
dollars (computed using actual foreign currency exchange rates prevailing during
the respective periods) was 2% higher than the third quarter of 2001 and 12%
higher than the second quarter of 2002. September's average selling price
expressed in U.S. dollars was flat compared with the average selling price for
the third quarter. Average selling prices expressed in U.S. dollars decreased
11% in the first nine months of 2002 compared with the first nine months of
2001.
Third-quarter 2002 sales volume increased 11% from the third quarter of
2001 and decreased 4% from the second quarter of 2002. European and North
American volumes each increased over 16% from the third quarter of 2001, while
export volumes decreased 13% from the third quarter of 2001. Compared with the
second quarter of 2002, sales volume decreased 5% and 16% in the European and
export markets, respectively, while North American sales volume increased 25%.
Sales volume in the first nine months of 2002 was 28,000 metric tons higher, or
14%, than the first nine months of 2001. The Company believes that the sales
volume increase in the first nine months of 2002 compared with the first nine
months of 2001 was attributable to improving economic conditions, and customer
restocking inventory levels ahead of previously announced price increases and,
in part, to the effects of the Leverkusen fire in 2001. While the Company
expects sales volume in the fourth quarter of 2002 to be seasonally lower than
the third quarter of 2002, fourth quarter 2002 volumes should significantly
exceed fourth quarter 2001 volumes. The Company's sales volume for full-year
2002 should be higher than full-year 2001, due in part to the Leverkusen fire.
Third-quarter 2002 production volume was 9% higher than the third quarter
of 2001 and increased 4% from the second quarter of 2002 with operating rates
near full capacity in the third quarter of 2002. The increase from the prior
year period was due in part to lost sulfate-process production in 2001 as a
result of the Leverkusen fire. Production volume in the first nine months of
2002 increased 8% compared with the first nine months of 2001. Finished goods
inventory at the end of the third quarter increased 12% from June 2002 levels
and represented approximately two months of sales. The Company anticipates its
production volume for full-year 2002 will be higher than that of full-year 2001,
due in part to the Leverkusen fire.
A fire on March 20, 2001 damaged a section of the Company's Leverkusen,
Germany 35,000 metric ton sulfate-process TiO2 plant ("Sulfate Plant") and, as a
result, production of TiO2 at the Leverkusen facility was halted. The fire did
not enter the Company's adjacent 125,000 metric ton chloride-process TiO2 plant
("Chloride Plant"), but did damage certain support equipment necessary to
operate that plant. The damage to the support equipment resulted in a temporary
shutdown of the Chloride Plant. The Chloride Plant became fully operational in
April 2001 and the Sulfate Plant became approximately 50% operational in
September 2001 and fully operational in late October 2001.
During the third quarter of 2001, the Company's insurance carriers approved
a partial payment of $8 million ($6.8 million received as of September 30, 2001)
for property damage costs and business interruption losses caused by the
Leverkusen fire. Three million dollars of this payment represented partial
compensation for business interruption losses which was recorded as a reduction
of cost of sales to offset unallocated period costs that resulted from lost
production. The remaining $5 million represented property damage recoveries
against which the Company recorded $1.1 million of expense related to clean-up
costs, resulting in a net gain of $3.9 million. In the first nine months of
2001, the Company's insurance carriers approved payment of $18.5 ($17.3 million
received as of September 30, 2001) for losses caused by the Leverkusen fire,
including the $8 million discussed above. Eight million dollars of this payment
was for business interruption losses and the remaining $10.5 million was for
property damage losses against which the Company recorded $4.7 million of
expenses resulting in a net gain of $5.8 million. The Company settled its
insurance claim involving the Leverkusen fire during the fourth quarter of 2001
for an aggregate of $56.4 million (including amounts previously received by the
Company), of which $27.3 million related to business interruption and $29.1
million related to property damages, clean-up costs and other extra expenses.
The Company recognized $19.3 million of business interruption insurance proceeds
in the fourth quarter of 2001, of which $16.6 million was attributable to
unallocated period costs and lost margin related to the first, second and third
quarters of 2001. No additional insurance recoveries related to the Leverkusen
fire are expected to be received in 2002.
The Company believes TiO2 industry demand in the fourth quarter of 2002
should be better than TiO2 industry demand in the fourth quarter of 2001 due to
worldwide economic conditions. Based on stronger than anticipated demand in the
first nine months of 2002, the Company's TiO2 sales volume in 2002 is expected
to exceed the Company's 2002 TiO2 production volume. In January 2002, the
Company announced price increases in all major markets of approximately 5% to 8%
above existing December 2001 prices, a portion of which was realized in the
second and third quarters. In May 2002, the Company announced a second round of
price increases in all major markets of approximately 7% to 11% above June 2002
prices. Assuming demand for TiO2 remains at reasonable levels, the Company
expects to realize a portion of the announced May 2002 price increases during
the fourth quarter of 2002, but the extent to which the Company will realize
price increases will depend on economic and competitive conditions. Since TiO2
prices were declining in 2001 and the first quarter of 2002, the Company
believes that its average 2002 prices will be significantly below its average
2001 prices. Overall, the Company expects its TiO2 operating income in 2002 will
be significantly lower than 2001, primarily due to lower average TiO2 selling
prices. The Company's expectations as to the future prospects of the Company and
the TiO2 industry are based upon a number of factors beyond the Company's
control, including worldwide growth of gross domestic product, competition in
the marketplace, unexpected or earlier-than-expected capacity additions and
technological advances. If actual developments differ from the Company's
expectations, the Company's results of operations could be unfavorably affected.
Compared to the year-earlier periods, cost of sales as a percentage of net
sales increased in both the third quarter and first nine months of 2002
primarily due to lower average selling prices in billing currencies, partially
offset by higher production volume. Excluding the effects of foreign currency
translation, which increased the Company's expenses in the third quarter and
first nine months of 2002 compared to year-earlier periods, the Company's
selling, general and administrative expenses, excluding corporate expenses, in
the third quarter and first nine months of 2002 were slightly higher compared to
the year-earlier periods primarily due to higher distribution expenses
associated with higher sales volume in the 2002 periods.
A majority of the Company's sales and operating costs are denominated in
currencies other than the U.S. dollar. Fluctuations in the value of the U.S.
dollar relative to other currencies, primarily a stronger euro compared to the
U.S. dollar in the third quarter and first nine months of 2002 versus the
year-earlier periods, increased the dollar value of sales in the third quarter
and first nine months of 2002 by a net $14 million and $11 million,
respectively, when compared to the year-earlier periods. Sales to export markets
are typically denominated in U.S. dollars and a weaker U.S. dollar decreases
margins on these sales at the Company's non-U.S. subsidiaries. The effect of the
stronger euro on the Company's operating costs that are not denominated in U.S.
dollars increased operating costs in the third quarter and first nine months of
2002 compared to the year-earlier periods. In addition, the Company revalued
certain export trade receivables and certain monetary assets held by its
subsidiaries whose functional currency is not the U.S. dollar and based on the
weaker U.S. dollar reported a revaluation gain in the third quarter of 2002. As
a result, the net impact of currency exchange rate fluctuations increased
operating income by $2.4 million in the third quarter of 2002 and slightly
decreased operating income in the first nine months of 2002 when compared to the
year-earlier periods.
General corporate
The following table sets forth certain information regarding general
corporate income (expense).
Three months ended Nine months ended
September 30, Difference September 30, Difference
--------------- ---------- -------------- ----------
2002 2001 2002 2001
------ ------ ------ -----
(In millions)
Currency transaction gain
(loss), net ............ $-- $12.1 $(12.1) $15.8 $(2.9) $18.7
Interest expense ......... (7.6) (1.1) (6.5) (9.3) (3.4) (5.9)
Interest expense to
affiliates ............. -- (10.1) 10.1 (18.7) (23.9) 5.2
Interest income from
affiliates ............. 3.6 10.1 (6.5) 22.7 26.0 (3.3)
----- ----- ----- ----- ----- -----
$(4.0) $11.0 $(15.0) $10.5 $(4.2) $14.7
===== ===== ===== ===== ===== =====
The Company had certain loans from affiliates that are denominated in U.S.
dollars. Under GAAP, changes in the euro-equivalent of such indebtedness is
recognized in earnings as a foreign currency transaction gain or loss. The
amount of such currency transaction gain or loss is dependent upon the relative
change in the exchange rate between the euro and the U.S. dollar during each
period, and the amount of such U.S. dollar-denominated indebtedness outstanding.
As more fully described in Note 8 to the Consolidated Financial Statements, such
U.S. dollar-denominated loans from affiliates were repaid in June 2002 using a
portion of the proceeds of the offering of the 8.875% Senior Secured Notes (the
"Notes") due 2009, and accordingly the Company will no longer report such
currency transaction gains or losses related to such loans from affiliates
subsequent to that date.
Interest expense to third parties in the third quarter and first nine
months of 2002 was higher than the comparable periods in 2001 due primarily to
interest expense on the Notes in the third quarter of 2002. Interest expense to
third parties is expected to continue to be higher in the fourth quarter of 2002
compared to the same period in 2001.
As described above and in Note 8, the Company's loans from affiliates were
repaid in June 2002 using a portion of the proceeds of the Notes and accordingly
the Company incurred no interest expense on such loans from affiliates in the
third quarter of 2002.
The Company had certain loans to affiliates, as described in Note 13 to the
Consolidated Financial Statements. Subsequent to completion of the offering of
the Notes, the Company transferred such notes receivable from affiliates to
Kronos in July 2002, and accordingly only incurred approximately one month of
interest income on such loans to affiliates in the third quarter of 2002. The
Company will no longer report interest income on such loans to affiliates.
Provision for income taxes
KII is a member of NL's consolidated U.S. federal income tax group (the "NL
Tax Group"). KII is a party to a U.S. federal income tax sharing agreement (the
"Kronos Tax Agreement"). Effective January 1, 2001, the NL Tax Group, including
KII, is included in the consolidated U.S. federal income tax group of Contran
(the "Contran Tax Group"). As a member of the Contran Tax Group, NL is a party
to a separate tax sharing agreement (the "Contran Tax Agreement"). The Contran
Tax Agreement provides that NL calculate its liability for U.S. income taxes on
a separate-company basis using the tax elections made by Contran. During 2002
the Kronos Tax Agreement was amended (the "Amended Kronos Tax Agreement"). The
Amended Kronos Tax Agreement provides that Kronos calculate KII's liability for
U.S. income taxes on a separate-company basis using tax elections consistent
with Kronos' tax elections. Pursuant to the Amended Kronos Tax Agreement, KII is
to make distributions to or receive contributions from Kronos in the amounts it
would have paid to or received from the U.S. Internal Revenue Service had it not
been a member of the NL Tax Group, but rather a separate taxpayer. Contributions
under the Amended Kronos Tax Agreement are limited to amounts previously
distributed under the agreement. No distributions have yet been made or received
under the Amended Kronos Tax Agreement. KII would not have reported a different
provision for income taxes in 2001 if the provision for income taxes in such
periods had been computed in accordance with the tax allocation policy contained
in the Amended Kronos Tax Agreement.
The Company's operations are conducted in numerous jurisdictions, and the
geographic mix of income can significantly impact the Company's effective income
tax rate. In 2001 and the first nine months of 2002, the Company's effective
income tax rate varied from the normally expected rate primarily due to the
recognition of certain German income tax attributes which previously did not
meet the "more-likely-than-not" recognition criteria. See Note 11 to the
Consolidated Financial Statements. In 2001 no income tax benefit has been
provided on certain currency transaction losses. In the first nine months of
2002, no income taxes were provided on certain currency transaction gains.
Accounting principles not yet adopted
See Note 15 to the Consolidated Financial Statements.
Related party transactions
The Company is a party to certain transactions with related parties.
See Notes 8 and 13 to the Consolidated Financial Statements.
LIQUIDITY AND CAPITAL RESOURCES
The Company's consolidated cash flows from operating, investing and
financing activities for the nine months ended September 30, 2002 and 2001 are
presented below.
Nine months ended
September 30,
--------------------
2002 2001
------- ------
(In millions)
Net cash provided (used) by:
Operating activities:
Before changes in assets and liabilities ......... $43.3 $67.8
Changes in assets and liabilities ................ 6.8 4.6
----- -----
50.1 72.4
Investing activities ................................. (15.9) (21.2)
Financing activities ................................. (55.6) (34.2)
----- -----
Net cash provided (used) by operating,
investing, and financing activities ............... $(21.4) $17.0
===== =====
Operating activities
The TiO2 industry is cyclical and changes in economic conditions
significantly affect the earnings and operating cash flows of the Company. Cash
flow from operations is considered the primary source of liquidity for the
Company. Changes in TiO2 pricing, production volume and customer demand, among
other things, could significantly affect the liquidity of the Company. Cash flow
from operations, before changes in assets and liabilities, in the first nine
months of 2002 decreased from the comparable period in 2001 primarily due to
$46.2 million of lower operating income partially offset by $16.2 million of
lower current tax expense. The net change in the Company's operating assets and
liabilities for the first nine months of 2002 was comparable to the prior-year
period.
Investing activities
Capital expenditures of $15.3 million and $29.6 million in the first nine
months of 2002 and 2001, respectively, included approximately $2.6 million and
$11.7 million, respectively, related to ongoing reconstruction of the
Leverkusen, Germany sulfate plant. The Company expects to complete the
reconstruction by December 31, 2002. In the first nine months of 2001, the
Company received $10.5 million of insurance proceeds for property damage
resulting from the Leverkusen fire and paid $2.1 million of expenses related to
repairs and clean-up costs.
As of September 30, 2002, the Company had $1.5 million in restricted cash
equivalents which was collateralizing certain environmental landfill remediation
obligations of the Company. The Company replaced such restricted cash deposit
with a letter of credit issued under its new revolving credit facility discussed
below in September 2002. The restricted cash deposit was released in October
2002.
Financing activities
In March 2002 the Company repaid $25 million in principal amount of
affiliate indebtedness to Kronos. In June 2002 the Company repaid $169 million
principal amount, plus accrued interest of affiliate indebtedness to Kronos with
proceeds from the notes offering discussed below. Further, in June 2002, the
Company repaid (euro)113.8 million ($111.8 million), including interest, of the
euro-denominated note payable to Kronos with proceeds from the notes offering
discussed below. See Note 8 to the Consolidated Financial Statements.
In June 2002 the Company issued (euro)285 million ($280 million when issued
and $279 million at September 30, 2002) principal amount of Notes due 2009. The
Notes are collateralized by first priority liens on 65% of the common stock or
other equity interests of certain of our first-tier subsidiaries. The Notes are
issued pursuant to an indenture which contains a number of covenants and
restrictions which, among other things, restricts KII's ability and its
subsidiaries to incur debt, incur liens, pay dividends or merge or consolidate
with, or sell or transfer all or substantially all of their assets to, another
entity. See Note 7 to the Consolidated Financial Statements.
In June 2002 the Company's operating subsidiaries in Germany, Belgium and
Norway, entered into a three-year (euro)80 million secured revolving credit
facility ("European Credit Facility"). The European Credit Facility is available
in multiple currencies, including U.S. dollars, euros and Norwegian kroner. As
of June 30, 2002, (euro)13 million ($13 million) and NOK 200 million ($26
million) was borrowed at closing, and along with available cash, was used to
repay and terminate KII's short-term notes payable ($53.2 million when repaid).
In the third quarter of 2002, the Company repaid a net euro-equivalent 12.7
million ($12.4 million when repaid) of the European Credit Facility. See Note 7
to the Consolidated Financial Statements.
Deferred financing costs of $10.0 million for the Notes and the European
Credit Facility are being amortized over the life of the respective agreements
and are included in other noncurrent assets as of September 30, 2002.
Cash flows related to capital contributions and other transactions with
affiliates aggregated a net cash inflow of $2.9 million in the first nine months
of 2002 and a net cash outflow of $17.4 million in the first nine months of
2001. Such amounts relate principally to cash flows related to dividends or
loans KII received from, or capital contributions or loans KII made to
affiliates (such loans being reported as a reduction of our stockholder's
equity, and therefore considered financing cash flows). As discussed in Note 1
of the Consolidated Financial Statements, KII transferred its Canadian
operations to Kronos in April 2002, and accordingly KII will no longer report
any such capital transaction cash flows related to such Canadian operations
subsequent to April 2002. Additionally, settlement of such notes receivable from
affiliates was not currently contemplated in the foreseeable future. In July
2002 KII transferred such notes receivable from affiliates to Kronos in one or
more non-cash transactions, and as a result KII will no longer report cash flows
related to such notes receivable from affiliates.
During the first nine months of 2001, the Company repaid $21.4 million of
its short-term notes payable with cash flow from operations.
Cash, cash equivalents, restricted cash equivalents and borrowing
availability
At September 30, 2002, the Company had cash and cash equivalents
aggregating $11.7 million and an additional $1.5 million of restricted cash
equivalents. Based upon expectations for the TiO2 industry and anticipated
demands on cash resources as discussed herein, the Company expects to have
sufficient liquidity to meet near-term obligations including operations, capital
expenditures and debt service. To the extent that actual developments differ
from expectations, liquidity could be adversely affected.
Certain of the Company's subsidiaries had approximately $51 million
available for borrowing at September 30, 2002 under non-U.S. credit facilities
(including approximately $50 million under the European Credit Facility).
Income tax contingencies
Certain of the Company's tax returns in the U.S. and non-U.S. jurisdictions
are being examined and tax authorities have proposed or may propose tax
deficiencies, including penalties and interest.
The Company has received preliminary tax assessments for the years 1991 to
1997 from the Belgian tax authorities proposing tax deficiencies, including
related interest, of approximately (euro)10.4 million ($10.2 million at
September 30, 2002). The Company has filed protests to the assessments for the
years 1991 to 1997. The Company is in discussions with the Belgian tax
authorities and believes that a significant portion of the assessments is
without merit.
No assurance can be given that the Company's tax matters will be favorably
resolved due to the inherent uncertainties involved in court and tax
proceedings. The Company believes that it has provided adequate accruals for
additional taxes and related interest expense which may ultimately result from
all such examinations and believes that the ultimate disposition of such
examinations should not have a material adverse effect on the Company's
consolidated financial position, results of operations or liquidity.
At September 30, 2002, the Company had net deferred tax liabilities of
$50.3 million. The Company operates in numerous tax jurisdictions, in certain of
which it has temporary differences that net to deferred tax assets (before
valuation allowance). The Company has provided a deferred tax valuation
allowance of $145.5 million at September 30, 2002, related to Germany, partially
offsetting deferred tax assets which the Company believes do not currently meet
the "more-likely-than-not" recognition criteria.
At September 30, 2002, the Company had the equivalent of approximately $371
million of income tax loss carryforwards in Germany with no expiration date.
However, the Company has provided a deferred tax valuation allowance against
substantially all of these income tax loss carryforwards because the Company
currently believes they do not meet the "more-likely-than-not" recognition
criteria. The German federal government has proposed certain changes to its
income tax law, including certain changes that would impose limitations on
utilization of income tax loss carryforwards, that as proposed would become
effective January 1, 2003. Since the Company has provided a deferred income tax
asset valuation allowance against substantially all of these German tax loss
carryforwards, any limitation on the Company's ability to utilize such
carryforwards resulting from enactment of any of these proposals would not have
a material impact on the Company's net deferred income tax liability. However,
if enacted, the proposed changes could have a material impact on the Company's
ability to fully utilize its German income tax loss carryforwards, which would
significantly affect the Company's future income tax expense and future German
income tax payments. The Company does not currently expect any enactment of
these proposals would occur prior to January 1, 2003.
Redeemable preferred stock, profit participation certificates and notes
receivable from affiliates
In July 2002 KII and Kronos agreed to a recapitalization of the Company as
contemplated in the Notes offering. In connection with the recapitalization
agreement, KII converted the Series A (738 shares) and Series B (647 shares)
redeemable preferred stock (including liquidation and redemption preferences and
accrued and unpaid dividends) held by Kronos into 1,385 shares of KII, $100 par
value, common stock. As a result of the conversion, the Series A and B
redeemable preferred stock certificates were canceled. Further, KII redeemed its
profit participation certificates held by Kronos in exchange for various notes
receivable from NL. As a result of the redemption, the profit participation
certificates were canceled. See Notes 7 and 13 to the Consolidated Financial
Statements.
Foreign operations
The Company's operations are located outside the United States for which
the functional currency is not the U.S. dollar. As a result, the reported amount
of the Company's assets and liabilities (and income and expenses) related to its
non-U.S. operations, and therefore the Company's consolidated net assets, will
fluctuate based upon changes in currency exchange rates. At September 30, 2002,
the Company had substantial net assets denominated in the euro, Norwegian kroner
and United Kingdom pound sterling.
Euro currency
Beginning January 1, 1999, certain members of the European Union ("EU"),
including Germany, Belgium, the Netherlands and France, adopted a new European
currency unit (the "euro") as their common legal currency. Following the
introduction of the euro, the participating countries' national currencies
remained legal tender as denominations of the euro from January 1, 1999 through
January 1, 2002, and the exchange rates between the euro and such national
currency units were fixed. Beginning January 1, 2002, national currency units
were exchanged for euros and the euro became the primary legal tender currency.
The Company conducts substantially all of its operations in Europe. As of
January 1, 2001, the functional currency of the Company's German, Belgian, Dutch
and French operations have been converted to the euro from their respective
national currencies.
Environmental, product liability and litigation matters
The Company's operations are governed by various foreign environmental laws
and regulations. Certain of the Company's businesses are and have been engaged
in the handling, manufacture or use of substances or compounds that may be
considered toxic or hazardous within the meaning of applicable environmental
laws. As with other companies engaged in similar businesses, certain past and
current operations and products of the Company have the potential to cause
environmental or other damage. The Company has implemented and continues to
implement various policies and programs in an effort to minimize these risks.
The policy of the Company is to maintain compliance with applicable foreign
environmental laws and regulations at all of its facilities and to strive to
improve its environmental performance. It is possible that future developments,
such as stricter requirements of environmental laws and enforcement policies
thereunder, could adversely affect the Company's production, handling, use,
storage, transportation, sale or disposal of such substances as well as the
Company's consolidated financial position, results of operations or liquidity.
The Company's production facilities operate in an environmental regulatory
framework in which governmental authorities typically are granted broad
discretionary powers which allow them to issue operating permits required for
the plants to operate. The Company believes all of its plants are in substantial
compliance with applicable environmental laws.
Although the laws regulating operations of industrial facilities in Europe
vary from country to country, a common regulatory base is provided by the
European Union (the "EU"). The Company's German and Belgian subsidiaries are
members of the EU and follow its initiatives. The Company's Norwegian
subsidiary, although not a member, generally patterns its environmental
regulatory actions after the EU. The Company believes that it has all required
permits and is in substantial compliance with applicable EU requirements,
including EU Directive 92/112/EEC regarding establishment of procedures for
reduction and eventual elimination of pollution caused by waste from the TiO2
industry.
At all of its plant facilities other than Fredrikstad, Norway, the Company
recycles spent acid wastes either through contracts with third parties or using
its own facilities. The Company has a contract with a third party to treat spent
acid wastes of its German sulfate-process plants. With regard to its Nordenham,
Germany plant, either party may terminate the contract after giving four years
advance notice. Under certain circumstances, the Company may terminate the
contract after giving six months notice, with respect to treatment of effluents
from the Leverkusen, Germany plant.
The Company landfills waste generated at its Nordenham, Germany and
Langerbrugge, Belgium plants, and mine tailings waste generated at its facility
in Norway. The Company maintains reserves, as required under GAAP, to cover the
anticipated cost of closure of these landfills, which were approximately $.4
million as of September 30, 2002. These requirements for landfills are expected
to increase in the future in view of recently adopted EU requirements.
The Company is also responsible for certain closure costs at landfills used
and formerly used by its Leverkusen, Germany TiO2 plants. The Company has a
reserve of approximately $6 million related to such landfills as of September
30, 2002.
The Company is also involved in various other environmental, contractual,
product liability and other claims and disputes incidental to its business.
The Company currently believes the disposition of all claims and disputes,
individually or in the aggregate, should not have a material adverse effect on
the Company's consolidated financial condition, results of operations or
liquidity.
Other
The Company periodically evaluates its liquidity requirements, alternative
uses of capital, capital needs and availability of resources in view of, among
other things, its debt service and capital expenditure requirements and
estimated future operating cash flows. As a result of this process, the Company
in the past has sought, and in the future may seek, to reduce, refinance,
repurchase or restructure indebtedness; raise additional capital; repurchase
shares of its common stock; modify its dividend policy; restructure ownership
interests; sell interests in subsidiaries or other assets; or take a combination
of such steps or other steps to manage its liquidity and capital resources. In
the normal course of its business, the Company may review opportunities for the
acquisition, divestiture, joint venture or other business combinations in the
chemicals or other industries, as well as the acquisition of interests in, and
loans to, related companies. In the event of any acquisition or joint venture
transaction, the Company may consider using available cash, issuing equity
securities or increasing its indebtedness to the extent permitted by the
agreements governing the Company's existing debt.
Disclosure regarding forward-looking statements
The statements contained in these Consolidated Financial Statements
relating to matters that are not historical facts, including, but not limited
to, statements found under the captions "Results of Operations" and "Liquidity
and Capital Resources" above, are forward-looking statements that represent
management's beliefs and assumptions based on currently available information.
Forward-looking statements can be identified by the use of words such as
"believes," "intends," "may," "will," "should," "could," "anticipates,"
"expects," or comparable terminology or by discussions of strategy or trends.
Although the Company believes that the expectations reflected in such
forward-looking statements are reasonable, it cannot give any assurances that
these expectations will prove to be correct. Such statements by their nature
involve risks and uncertainties, including, but not limited to, the cyclicality
of the titanium dioxide industry, global economic and political conditions,
changes in global productive capacity, changes in customer inventory levels,
changes in product pricing, changes in product costing, changes in foreign
currency exchange rates, competitive technology positions, operating
interruptions (including, but not limited to, labor disputes, leaks, fires,
explosions, unscheduled downtime, transportation interruptions, war and
terrorist activities), the outcome of litigation, and other risks and
uncertainties included in this Quarterly Report and in the Company's
Registration Statement on Form S-4 (Registration No. 333-100047), and the
uncertainties set forth from time to time in the Company's filings with the
Securities and Exchange Commission. Should one or more of these risks
materialize (or the consequences of such a development worsen), or should the
underlying assumptions prove incorrect, actual results could differ materially
from those forecasted or expected. The Company disclaims any intention or
obligation to update publicly or revise such statements whether as a result of
new information, future events or otherwise.
CONTROLS AND PROCEDURES
The Company maintains a system of disclosure controls and procedures. The
term "disclosure controls and procedures," as defined by regulations of the
Securities and Exchange Commission ("SEC"), means controls and other procedures
that are designed to ensure that information required to be disclosed in the
reports that the Company files or submits to the SEC under the Securities
Exchange Act of 1934, as amended (the "Act"), is recorded, processed, summarized
and reported, within the time periods specified in the SEC's rules and forms.
Disclosure controls and procedures include, without limitation, controls and
procedures designed to ensure that information required to be disclosed by the
Company in the reports that it files or submits to the SEC under the Act is
accumulated and communicated to the Company's management, including its
principal executive officer and its principal financial officer, as appropriate
to allow timely decisions to be made regarding required disclosure. Each of Dr.
Lawrence A. Wigdor, the Company's Chief Executive Officer, and Robert D. Hardy,
the Company's Chief Financial Officer, have evaluated the Company's disclosure
controls and procedures as of a date within 90 days of the filing date of this
Form 10-Q. Based upon their evaluation, these executive officers have concluded
that the Company's disclosure controls and procedures are effective as of the
date of such evaluation.
The Company also maintains a system of internal controls. The term
"internal controls," as defined by the American Institute of Certified Public
Accountants' Codification of Statement on Auditing Standards, AU Section 319,
means controls and other procedures designed to provide reasonable assurance
regarding the achievement of objectives in the reliability of the Company's
financial reporting, the effectiveness and efficiency of the Company's
operations and the Company's compliance with applicable laws and regulations.
There have been no significant changes in the Company's internal controls or in
other factors that could significantly affect such controls subsequent to the
date of their last evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Reference is made to the Company's Registration Statement on Form S-4
(Registration No. 333-100047) for descriptions of previously reported legal
proceedings.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.1 Agreement between Sachtleben Chemie GmbH and Kronos
Titan-GmbH effective December 30, 1986.
10.2 Supplementary Agreement to the Agreement of December 30,
1986 between Sachtleben Chemie GmbH and Kronos Titan-GmbH
dated May 3, 1996.
10.3 Second Supplementary Agreement to the Contract dated
December 30, 1986 between Sachtleben Chemie GmbH and Kronos
Titan-GmbH dated January 8, 2002.
99.1 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.
99.2 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.
(b) Reports on Form 8-K
There were no Reports on Form 8-K filed during the quarter ended
September 30, 2002 and through the date of this report.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned thereunto duly authorized.
KRONOS INTERNATIONAL, INC.
----------------------------------------
(Registrant)
Date: November 12, 2002 By /s/ Robert D. Hardy
- ------------------------ -------------------------------------------
Robert D. Hardy
Principal Financial and Accounting Officer
CERTIFICATIONS
I, Dr. Lawrence A. Wigdor, the Chief Executive Officer of Kronos International,
Inc., certify that:
1) I have reviewed this quarterly report on Form 10-Q of Kronos International,
Inc.
2) Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3) Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4) The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5) The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6) The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: November 12, 2002
/s/ Dr. Lawrence A. Wigdor
- ---------------------------
Dr. Lawrence A. Wigdor
Chief Executive Officer
CERTIFICATIONS
I, Robert D. Hardy, the Chief Financial Officer of Kronos International, Inc.,
certify that:
1) I have reviewed this quarterly report on Form 10-Q of Kronos International,
Inc.
2) Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3) Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4) The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5) The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6) The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: November 12, 2002
/s/ Robert D. Hardy
- ---------------------------
Robert D. Hardy
Chief Financial Officer