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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 - For the fiscal year ended December 31, 2004
Commission file number 333-100047
KRONOS INTERNATIONAL, INC.
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(Exact name of Registrant as specified in its charter)
Delaware 22-2949593
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(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
5430 LBJ Freeway, Suite 1700, Dallas, Texas 75240-2697
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (972)233-1700
Securities registered pursuant to Section 12(b) of the Act:
None.
Securities registered pursuant to Section 12(g) of the Act:
None.
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) has been subject to such filing requirements for
the past 90 days. Yes X No __
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act). Yes No X
No common stock was held by nonaffiliates of the Registrant as of June 30, 2004
(the last business day of the Registrant's most recently-completed second fiscal
quarter).
As of February 28, 2005, 2,968 shares of the Registrant's common stock were
outstanding.
The Registrant is a wholly-owned subsidiary of Kronos Worldwide, Inc. (File
No. 1-31763) and meets the conditions set forth in General Instructions I(1) (a)
and (b) and is therefore filing this Form 10-K with the reduced disclosure
format.
Documents incorporated by reference
None.
PART I
ITEM 1. BUSINESS
Kronos International, Inc., ("KII" or "the Company") is incorporated in the
State of Delaware, U.S.A., and is registered in the Commercial Register of the
Federal Republic of Germany. KII's principal place of business is in Leverkusen,
Germany. KII is a wholly-owned subsidiary of Kronos Worldwide, Inc. ("Kronos")
(NYSE: KRO). KII conducts Kronos' European value-added titanium dioxide pigments
("TiO2") operations.
At December 31, 2004, (i) Valhi, Inc. (NYSE: VHI) and a wholly-owned
subsidiary of Valhi held approximately 57% of Kronos' common stock and NL
Industries, Inc. (NYSE: NL) held an additional 37% of Kronos' common stock, (ii)
Valhi and such wholly-owned subsidiary of Valhi held 83% of NL's outstanding
common stock and (iii) Contran Corporation and its subsidiaries held
approximately 91% of Valhi'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 sole trustee, or is held by Mr. Simmons or persons or other entities related
to Mr. Simmons. Consequently, Mr. Simmons may be deemed to control each of such
companies.
As provided by the safe harbor provisions of the Private Securities
Litigation Reform Act of 1995, the Company cautions that the statements in this
Annual Report on Form 10-K relating to matters that are not historical facts,
including, but not limited to, statements found in this Item 1 - "Business,"
Item 3 - "Legal Proceedings," Item 7 - "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and Item 7A - "Quantitative and
Qualitative Disclosures About Market Risk," 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," "should," "could," "anticipates,"
"expected" or comparable terminology, or by discussions of strategies 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 substantial risks and uncertainties that could significantly impact
expected results, and actual future results could differ materially from those
described in such forward-looking statements. While it is not possible to
identify all factors, the Company continues to face many risks and
uncertainties. Among the factors that could cause actual future results to
differ materially are the risks and uncertainties discussed in this Annual
Report and those described from time to time in the Company's other filings with
the SEC including, but not limited to, the following:
o Future supply and demand for the Company's products,
o The extent of the dependence of certain of the Company's businesses on
certain market sectors,
o The cyclicality of the Company's businesses,
o Customer inventory levels (such as the extent to which the Company's
customers may, from time to time, accelerate purchases of TiO2 in advance
of anticipated price increases or defer purchases of TiO2 in advance of
anticipated price decreases),
o Changes in raw material and other operating costs (such as energy costs),
o The possibility of labor disruptions,
o General global economic and political conditions (such as changes in the
level of gross domestic product in various regions of the world and the
impact of such changes on demand for TiO2),
o Competitive products and substitute products,
o Customer and competitor strategies,
o The impact of pricing and production decisions,
o Competitive technology positions,
o The introduction of trade barriers,
o Fluctuations in currency exchange rates (such as changes in the exchange
rate between the U.S. dollar and each of the euro and the Norwegian
kroner),
o Operating interruptions (including, but not limited to, labor disputes,
leaks, fires, explosions, unscheduled or unplanned downtime and
transportation interruptions),
o The ability of the Company to renew or refinance credit facilities,
o The ultimate outcome of income tax audits, tax settlement initiatives or
other tax matters,
o The ultimate ability to utilize income tax attributes, the benefit of which
has been recognized under the "more-likely-than-not" recognition criteria,
o Environmental matters (such as those requiring emission and discharge
standards for existing and new facilities),
o Government laws and regulations and possible changes therein,
o The ultimate resolution of pending litigation, and
o Possible future litigation.
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 or revise any
forward-looking statement whether as a result of changes in information, future
events or otherwise.
Industry. Titanium dioxide pigments are inorganic chemical products used
for imparting whiteness, brightness and opacity to a diverse range of customer
applications and end-use markets, including coatings, plastics, paper and other
industrial and consumer "quality-of-life" products. TiO2 is considered a
"quality-of-life" product with demand affected by gross domestic product in
various regions of the world. TiO2, the largest commercially used whitening
pigment by volume, derives its value from its whitening properties and
opacifying ability (commonly referred to as hiding power). As a result of TiO2's
high refractive index rating, it can provide more hiding power than any other
commercially produced white pigment. In addition, TiO2 demonstrates excellent
resistance to chemical attack, good thermal stability and resistance to
ultraviolet degradation. TiO2 is supplied to customers in either a powder or
slurry form.
Per capita consumption of TiO2 in the United States and Western Europe far
exceeds that in other areas of the world and these regions are expected to
continue to be the largest consumers of TiO2. Significant regions for TiO2
consumption could emerge in Eastern Europe, the Far East or China as the
economies in these regions develop to the point that quality-of-life products,
including TiO2, experience greater demand. Geographic information is contained
in Note 2 to the Consolidated Financial Statements.
Products and operations. TiO2 is produced in two crystalline forms: rutile
and anatase. Both the chloride and sulfate production processes (discussed
below) produce rutile TiO2. Chloride process rutile is preferred for the
majority of customer applications. From a technical standpoint, chloride process
rutile has a bluer undertone and higher durability than sulfate process rutile
TiO2. Although many end-use applications can use either form of TiO2, chloride
process rutile TiO2 is the preferred form for use in coatings and plastics, the
two largest end-use markets. Anatase TiO2, which is produced only through the
sulfate production process, represents a much smaller percentage of annual
global TiO2 production and is preferred for use in selected paper, ceramics,
rubber tires, man-made fibers, food and cosmetics.
The Company believes that there are no effective substitutes for TiO2.
Extenders, such as kaolin clays, calcium carbonate and polymeric opacifiers, are
used in a number of end-used markets as white pigments, however the opacity in
these products is not able to duplicate the performance characteristics of TiO2,
and the Company believes these products are unlikely to replace TiO2.
The Company currently produces over 40 different TiO2 grades, sold under
the Kronos trademark, which provide a variety of performance properties to meet
customers' specific requirements. The Company's major customers include domestic
and international paint, plastics and paper manufacturers.
The Company and its distributors and agents sell and provide technical
services for its products to over 4,000 customers in over 100 countries with the
majority of sales in Europe. TiO2 is distributed by rail, truck and ocean
carrier in either dry or slurry form. Kronos, the Company and its predecessors
have produced and marketed TiO2 in North America and Europe for over 80 years,
and Kronos is the only leading TiO2 producer committed to producing TiO2 and
related products as its sole business. The Company believes that it has
developed considerable expertise and efficiency in the manufacture, sale,
shipment and service of its products.
Sales of TiO2 represented about 90% of the Company's total sales in 2004.
Sales of other products, complementary to the Company's TiO2 business, comprise
the following:
o The Company operates an ilmenite mine in Norway pursuant to a governmental
concession with an unlimited term. Ilmenite is a raw material used directly
as a feedstock by some sulfate-process TiO2 plants, including all of the
Company's European sulfate-process plants. The mine has estimated reserves
that are expected to last at least 20 years. Ilmenite sales to
third-parties represented approximately 6% of the Company's consolidated
net sales in 2004.
o The Company manufactures and sells iron-based chemicals, which are
by-products and processed by-products of the TiO2 pigment production
process. These co-product chemicals are marketed through the Company's
Ecochem division, and are used primarily as treatment and conditioning
agents for industrial effluents and municipal wastewater as well as in the
manufacture of ore pigments, cement and agricultural products. Sales of
iron-based chemical products were about 5% of sales in 2004.
o The Company manufactures and sells certain titanium chemical products
(titanium oxychloride and titanyl sulfate), which are side-stream products
from the production of TiO2. Titanium oxychloride is used in specialty
applications in the formulation of pearlescent pigments, production of
electroceramic capacitors for cell phones and other electronic devices.
Titanyl sulfate products are used primarily in pearlescent pigments. Sales
of these products were about 1% of sales in 2004.
Manufacturing process and raw materials. TiO2 is manufactured by the
Company using both the chloride process and the sulfate process. Approximately
65% of the Company's current production capacity is based on the chloride
process. The chloride process is a continuous process in which chlorine is used
to extract rutile TiO2. The chloride process typically has lower manufacturing
costs than the sulfate process due to higher yield and production of less waste
and lower energy requirements and labor costs. Because much of the chlorine is
recycled and feedstock bearing a higher titanium content is used, the chloride
process produces less waste than the sulfate process. The sulfate process is a
batch chemical process that uses sulfuric acid to extract TiO2. Sulfate
technology can produce either anatase or rutile pigment. Once an intermediate
TiO2 pigment has been produced by either the chloride or sulfate process, it is
'finished' into products with specific performance characteristics for
particular end-use applications through proprietary processes involving various
chemical surface treatments and intensive milling and micronizing. Due to
environmental factors and customer considerations, the proportion of TiO2
industry sales represented by chloride-process pigments has increased relative
to sulfate-process pigments.
The Company produced a Company record 328,000 metric tons of TiO2 in 2004,
compared to 320,000 metric tons produced in 2003 and 293,000 metric tons in
2002. The Company's average production capacity utilization rate in 2004 was
near capacity, up from 98% in 2003. The production rates in 2003 and 2004 were
higher than 2002 due in part to debottlenecking activities, with only moderate
capital expenditures. The Company believes its current annual attainable
production capacity for 2005 is approximately 334,000 metric tons, with some
slight additional capacity available in 2006 through Kronos' continuing
debottlenecking efforts.
The primary raw materials used in the TiO2 chloride production process are
titanium-containing feedstock, chlorine and coke. Chlorine and coke are
available from a number of suppliers. Titanium-containing feedstock suitable for
use in the chloride process is available from a limited but increasing number of
suppliers around the world, principally in Australia, South Africa, Canada,
India and the United States. The Company purchased approximately 250,000 metric
tons of chloride feedstock in 2004, of which the vast majority was slag.
Through Kronos (US), Inc. ("KUS"), a wholly-owned subsidiary of Kronos, the
Company purchased chloride process grade slag in 2004 from a subsidiary of Rio
Tinto plc UK - Richards Bay Iron and Titanium Limited South Africa under a
long-term supply contract that expires at the end of 2007. Natural rutile ore is
purchased primarily from Iluka Resources, Limited (Australia), a company formed
through the merger of Westralian Sands Limited (Australia) and RGC Mineral
Sands, Ltd., under a long-term supply contract that expires at the end of 2007.
The Company and KUS do not expect to encounter difficulties obtaining long-term
extensions to existing supply contracts prior to the expiration of the
contracts. Raw materials purchased under these contracts and extensions thereof
are expected to meet the Company's chloride feedstock requirements over the next
several years.
The primary raw materials used in the TiO2 sulfate production process are
titanium-containing feedstock derived primarily from rock and sand ilmenite and
sulfuric acid. Sulfuric acid is available from a number of suppliers.
Titanium-containing feedstock suitable for use in the sulfate process is
available from a limited number of suppliers around the world. Currently, the
principal active sources are located in Norway, Canada, Australia, India and
South Africa. As one of the few vertically integrated producers of
sulfate-process pigments, the Company operates a rock ilmenite mine in Norway,
which provided all of the Company's feedstock for its sulfate-process pigment
plants in 2004. The Company produced approximately 856,000 metric tons of
ilmenite in 2004 of which approximately 311,000 metric tons were used
internally, with the remainder sold to third parties.
The number of sources of, and availability of, certain raw materials is
specific to the particular geographic region in which a facility is located. As
noted above, through KUS the Company purchases titanium-bearing ore from two
different suppliers in different countries under multiple-year contracts.
Political and economic instability in certain countries from which the Company
purchases its raw material supplies could adversely affect the availability of
such feedstock. Should the Company's vendors not be able to meet their
contractual obligations or should the Company be otherwise unable to obtain
necessary raw materials, the Company may incur higher costs for raw materials or
may be required to reduce production levels, which may have a material adverse
effect on the Company's consolidated financial position, results of operations
or liquidity.
Competition. The TiO2 industry is highly competitive. The Company competes
primarily on the basis of price, product quality and technical service, and the
availability of high performance pigment grades. Although certain TiO2 grades
are considered specialty pigments, the majority of the Company's grades and
substantially all of the Company's production are considered commodity pigments
with price generally being the most significant competitive factor. During 2004
the Company had an estimated 8% share of worldwide TiO2 sales volume, and
believes that it is the leading seller of TiO2 in Germany and is among the
leading marketers in the Benelux and Scandinavian markets.
The Company's (along with KUS and Kronos Canada Inc., a wholly-owned
subsidiary of Kronos), principal competitors are E.I. du Pont de Nemours & Co.
("DuPont"); Millennium Chemicals, Inc.; Huntsman International Holdings LLC;
Kerr-McGee Corporation; and Ishihara Sangyo Kaisha, Ltd. The Company's five
largest competitors have estimated individual shares of TiO2 production capacity
ranging from 24% to 4%, and an estimated aggregate 70% share of worldwide TiO2
production volume.
Worldwide capacity additions in the TiO2 market resulting from construction
of greenfield plants require significant capital expenditures and substantial
lead time (typically three to five years in the Company's experience). No
greenfield plants are currently under construction in North America or Europe.
The Company does expect that industry capacity will increase as the Company and
its competitors continue to debottleneck their existing facilities. In addition
to the potential capacity additions through debottlenecking, certain competitors
have recently either idled or shut down facilities. In the past year, certain
competitors have announced the idling or shut down of an aggregate of
approximately 135,000 metric tons of sulfate production capacity by early 2005.
Based on the factors described above, the Company expects that the average
annual increase in industry capacity from announced debottlenecking projects
will be less than the average annual demand growth for TiO2 during the next
three to five years. However, no assurance can be given that future increases in
the TiO2 industry production capacity and future average annual demand growth
rates for TiO2 will conform to the Company's expectations. If actual
developments differ from the Company's expectations, the Company and the TiO2
industry's performances could be unfavorably affected.
Research and development. The Company's expenditures for research and
development and certain technical support programs were approximately $6 million
in 2002, $7 million in 2003 and $8 million in 2004. Research and development
activities are conducted principally at the Leverkusen, Germany facility. Such
activities are directed primarily toward improving both the chloride and sulfate
production processes, improving product quality and strengthening the Company's
competitive position by developing new pigment applications.
The Company continually seeks to improve the quality of its grades, and has
been successful at developing new grades for existing and new applications to
meet the needs of customers and increase product life cycle. Over the last five
years, ten new grades have been added for plastics, coatings, fiber and paper
laminate applications.
Patents and trademarks. Patents held for products and production processes
are believed to be important to the Company and its continuing business
activities. The Company seeks patent protection for its technical developments,
principally in the United States, Canada and Europe, and from time to time
enters into licensing arrangements with third parties. The Company's existing
patents generally have a term of 20 years from the date of filing, and have
remaining terms ranging from one to 19 years. The Company seeks to protect its
intellectual property rights, including its patent rights, and from time to time
the Company is engaged in disputes relating to the protection and use of
intellectual property relating to its products.
The Company's major trademarks, including Kronos, are protected by
registration in the United States and elsewhere with respect to those products
it manufactures and sells. The Company also relies on unpatented proprietary
know-how and continuing technological innovation and other trade secrets to
develop and maintain its competitive position. The Company's proprietary
chloride production process is an important part of the Company's technology,
and the Company's business could be harmed if the Company should fail to
maintain confidentiality of its trade secrets used in this technology.
Foreign operations. The Company's chemical businesses have operated in the
European markets since the 1920s. The Company's current production capacity is
located in Europe with its net property and equipment aggregating approximately
$396 million at December 31, 2004. The Company's operations include production
facilities in Germany, Belgium and Norway and sales and distribution facilities
in England, France, Denmark and the Netherlands. Approximately $666 million of
the Company's 2004 consolidated sales were to European customers and
approximately $142 million were to customers in areas other than Europe,
including approximately $42 million of sales to customers in the U.S. through
affiliates. Foreign operations are subject to, among other things, currency
exchange rate fluctuations and the Company's results of operations have, in the
past, been both favorably and unfavorably affected by fluctuations in currency
exchange rates. Effects of fluctuations in currency exchange rates on the
Company's results of operations are discussed in Item 7. "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
Item 7A. "Quantitative and Qualitative Disclosures about Market Risk."
Political and economic uncertainties in certain of the countries in which
the Company operates may expose it to risk of loss. The Company does not believe
that there is currently any likelihood of material loss through political or
economic instability, seizure, nationalization or similar event. The Company
cannot predict, however, whether events of this type in the future could have a
material effect on its operations. The Company's manufacturing and mining
operations are also subject to extensive and diverse environmental regulation in
each of the foreign countries in which they operate. See "Regulatory and
Environmental Matters."
Customer base and annual seasonality. The Company believes that neither its
aggregate sales nor those of any of its principal product groups are
concentrated in or materially dependent upon any single customer or small group
of customers. The Company's largest ten TiO2 pigment customers, excluding sales
to Kronos and affiliates, accounted for approximately 21% of net sales in 2004.
Neither the Company's business as a whole nor that of any of its principal
product groups is seasonal to any significant extent. Due in part to the
increase in paint production in the spring to meet the spring and summer
painting season demand, TiO2 sales are generally higher in the first half of the
year than in the second half of the year.
Employees. As of December 31, 2004, the Company employed approximately
1,950 persons. Hourly employees in European production facilities are
represented by a variety of labor unions, with labor agreements having various
expiration dates. The Company's union employees are covered by master collective
bargaining agreements in the chemicals industry that are renewed annually. The
Company believes its labor relations are good.
Regulatory and environmental matters. The Company's operations are governed
by various environmental laws and regulations. Certain of the Company's
businesses are, or 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 Company's policy is to maintain compliance
with applicable environmental laws and regulations at all its facilities and to
strive to improve its environmental performance. It is possible that future
developments such as stricter requirements in 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.
While the laws regulating operations of industrial facilities in Europe
vary from country to country, a common regulatory framework is provided by the
European Union (the "EU"). Germany and Belgium are members of the EU and follow
its initiatives. Norway, although not a member, generally patterns its
environmental regulatory actions after the EU. The Company believes that it has
obtained all required permits and is in substantial compliance with applicable
EU requirements.
At its sulfate plant facilities in Germany, the Company recycles weak
sulfuric acid either through contracts with third parties or using its own
facilities. At the Company's Fredrikstad, Norway plant, the Company ships its
spent acid to a third party location where it is treated and disposed. The
Company has a contract with a third party to treat certain sulfate-process
effluents at its German sulfate plant. Either party may terminate the contract
after giving four years advance notice with regard to the Company's Nordenham,
Germany plant.
The Company is also involved in various other environmental, contractual,
product liability and other claims and disputes incidental to its business.
From time to time, the Company's facilities may be subject to environmental
regulatory enforcement under various non-U.S. statutes. Resolution of such
matters typically involves the establishment of compliance programs.
Occasionally, resolution may result in the payment of penalties, but to date
such penalties have not involved amounts having a material adverse effect on the
Company's consolidated financial position, results of operations or liquidity.
The Company believes that all of its plants are in substantial compliance with
applicable environmental laws.
The Company's capital expenditures related to its ongoing environmental
protection and improvement programs in 2004 were approximately $5 million, and
are currently expected to be approximately $4 million in 2005.
Website and other available information. The Company does not maintain a
website on the Internet. However, Kronos maintains a website on the Internet
with the address of www.kronostio2.com. Copies of this Annual Report on Form
10-K for the year ended December 31, 2004 and copies of the Company's Quarterly
Reports on Form 10-Q for 2003 and 2004 and any Current Reports on Form 8-K for
2003 and 2004, and any amendments thereto, are or will be available free of
charge at such website as soon as reasonably practical after they are filed with
the SEC. Information contained on Kronos' website is not part of this report.
The general public may read and copy any materials the Company files with
the SEC at the SEC's Public Reference Room at 450 Fifth Street, N.W.,
Washington, D.C. 20549. The public may obtain information on the operation of
the Public Reference Room by calling the SEC at 1-800-SEC-0330. The Company is
an electronic filer, and the SEC maintains an Internet website that contains
reports, proxy and information statements, and other information regarding
issuers that file electronically with the SEC, including the Company. The
Internet address of the SEC's website is www.sec.gov.
ITEM 2. PROPERTIES
During 2004, the Company operated four TiO2 plants (one in Leverkusen,
Germany; one in Nordenham, Germany; one in Langerbrugge, Belgium; and one in
Fredrikstad, Norway). The Company also operates an ilmenite ore mine in Hauge i
Dalane, Norway pursuant to a governmental concession with an unlimited term.
TiO2 is produced using the chloride process at the Leverkusen and Langerbrugge
facilities and is manufactured using the sulfate process in Nordenham,
Leverkusen and Fredrikstad. The Company's co-products are produced at its
Norwegian and Belgian facilities and its titanium chemicals are produced at its
Belgian facility.
The Company owns all of its principal production facilities described
above, except for the land under the Leverkusen and Fredrikstad facilities. The
Norwegian plant is located on public land and is leased until 2013, with an
option to extend the lease for an additional 50 years. The Company's principal
German operating subsidiary leases the land under its Leverkusen TiO2 production
facility pursuant to a lease expiring in 2050. The Leverkusen facility, with
about 50% of the Company's current TiO2 production capacity, is located within
an extensive manufacturing complex owned by Bayer AG. Rent for the Leverkusen
facility is periodically established by agreement with Bayer AG for periods of
at least two years at a time. Under a separate supplies and services agreement
expiring in 2011, Bayer provides some raw materials, including chlorine and
certain amounts of sulfuric acid, auxiliary and operating materials and
utilities services necessary to operate the Leverkusen facility. The lease and
the supplies and services agreement have certain restrictions regarding
ownership and use of the Leverkusen facility.
The Company has under lease various corporate and administrative offices
located in Leverkusen, Germany and Brussels, Belgium and various sales offices
located in France, the Netherlands, Denmark and the United Kingdom.
ITEM 3. LEGAL PROCEEDINGS
The Company is involved in various environmental, contractual, product
liability and other claims and disputes incidental to its business. Certain
information called for by this Item is included in Note 12 to the Consolidated
Financial Statements, which information is incorporated herein by reference.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Omitted pursuant to the General Instruction I of Form 10-K.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
All of KII's common stock is held by Kronos. There is no established public
trading market for KII's common stock. The indenture governing KII's 8.875%
Senior Notes Due 2009 limits the ability of the Company to pay dividends or make
other restricted payments, as defined. The aggregate amount of dividends and
other restricted payments since June 2002 may not exceed 75% of the aggregate
consolidated net income, as defined in the indenture, plus $25 million. KII
currently expects to pay dividends or make other restricted payments as
permitted by the indenture; however declaration and payment of future dividends
and the amount thereof is dependent upon the Company's results of operations,
financial condition, contractual limitations, cash requirements for its
businesses and other factors deemed relevant by the Company's Board of
Directors. See Note 6 to the Consolidated Financial Statements. At December 31,
2004, $49 million was available for dividends or other restricted payments, as
defined.
In 2004, the Company paid $60 million in dividends to Kronos. The
declaration and payment of future dividends is discretionary, and the amount, if
any, will be dependent upon the Company's results of operations, financial
condition, contractual restrictions and other factors deemed relevant by the
Company's Board of Directors.
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data should be read in conjunction with
the Company's Consolidated Financial Statements and Item 7 - "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
Certain amounts have been reclassified to conform with the current year's
Consolidated Financial Statements.
Years ended December 31,
------------------------------------------------------------
2000 2001 2002 2003 2004
---- ---- ---- ---- ----
(In millions)
STATEMENTS OF OPERATIONS DATA:
Net sales $ 620.5 $ 554.6 $ 579.7 $ 715.9 $ 808.0
Net income 80.1 113.7 52.3 81.8 326.0
BALANCE SHEET DATA (at year end):
Total assets 530.1 532.5 611.3 750.5 985.2
Long-term debt including current maturities 196.1 482.9 325.9 356.7 533.2
Redeemable preferred stock and profit
participation certificates 504.9 617.4 - - -
Stockholder's equity (deficit) (427.7) (777.5) 76.8 111.6 206.5
TiO2 OPERATING STATISTICS:
Sales volume* 294 265 297 310 336
Production volume* 297 269 293 320 328
Production rate as a percentage of capacity Full 87% 93% Full Full
__________________________________
* Metric tons in thousands
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Critical accounting policies and estimates
The accompanying "Management's Discussion and Analysis of Financial
Condition and Results of Operations" are based upon the Company's consolidated
financial statements, which have been prepared in accordance with accounting
principles generally accepted in the United States of America ("GAAP"). The
preparation of these financial statements requires the Company to make estimates
and judgments that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amount of revenues and expenses during the reported
period. On an on-going basis, the Company evaluates its estimates, including
those related to bad debts, inventory reserves, impairments of investments in
marketable securities and investments accounted for by the equity method, the
recoverability of other long-lived assets (including goodwill and other
intangible assets), pension benefit obligations and the underlying actuarial
assumptions related thereto, the realization of deferred income tax assets and
accruals for, litigation, income tax and other contingencies. The Company bases
its estimates on historical experience and on various other assumptions that it
believes to be reasonable under the circumstances, the results of which form the
basis for making judgments about the reported amounts of assets, liabilities,
revenues and expenses. Actual results may differ from previously-estimated
amounts under different assumptions or conditions.
The Company believes the following critical accounting policies affect its
more significant judgments and estimates used in the preparation of its
consolidated financial statements:
o The Company maintains allowances for doubtful accounts for estimated losses
resulting from the inability of its customers to make required payments and
other factors. The Company takes into consideration the current financial
condition of its customers, the age of the outstanding balance and the
current economic environment when assessing the adequacy of the allowance.
If the financial condition of the Company's customers were to deteriorate,
resulting in an impairment of their ability to make payments, additional
allowances may be required. During 2002, 2003 and 2004, the net amount
written off against the allowance for doubtful accounts as a percentage of
the balance of the allowance for doubtful accounts as of the beginning of
the year ranged from 15% to 24%.
o The Company provides reserves for estimated obsolescence or unmarketable
inventories equal to the difference between the cost of inventory and the
estimated net realizable value using assumptions about future demand for
its products and market conditions. If actual market conditions are less
favorable than those projected by management, additional inventory reserves
may be required. The Company also provides reserves for tools and supplies
inventory based generally on both historical and expected future usage
requirements.
o The Company recognizes an impairment charge associated with its long-lived
assets, including property and equipment, whenever it determines that
recovery of such long-lived asset is not probable. Such determination is
made in accordance with the applicable GAAP requirements associated with
the long-lived asset, and is based upon, among other things, estimates of
the amount of future net cash flows to be generated by the long-lived asset
and estimates of the current fair value of the asset. Adverse changes in
such estimates of future net cash flows or estimates of fair value could
result in an inability to recover the carrying value of the long-lived
asset, thereby possibly requiring an impairment charge to be recognized in
the future.
Under applicable GAAP (SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets"), property and equipment is not assessed for
impairment unless certain impairment indicators, as defined, are present.
During 2004, no such impairment indicators, as defined, were present.
o The Company maintains various defined benefit pension plans. The amounts
recognized as defined benefit pension expenses, and the reported amounts of
prepaid and accrued pension costs, are actuarially determined based on
several assumptions, including discount rates, expected rates of returns on
plan assets and expected health care trend rates. Variances from these
actuarially assumed rates will result in increases or decreases, as
applicable, in the recognized pension obligations, pension expenses and
funding requirements. These assumptions are more fully described below
under "Assumptions on defined benefit pension plans."
o The Company records a valuation allowance to reduce its deferred income tax
assets to the amount that is believed to be realized under the
"more-likely-than-not" recognition criteria. While the Company has
considered future taxable income and ongoing prudent and feasible tax
planning strategies in assessing the need for a valuation allowance, it is
possible that in the future the Company may change its estimate of the
amount of the deferred income tax assets that would "more-likely-than-not"
be realized in the future, resulting in an adjustment to the deferred
income tax asset valuation allowance that would either increase or
decrease, as applicable, reported net income in the period such change in
estimate was made. For example, during 2004 the Company concluded that the
more-likely-than-not recognition criteria had been met with respect to the
income tax benefit associated with its German net operating loss
carryforwards. The Company has substantial net operating loss carryforwards
in Germany (the equivalent of $671 million for German corporate purposes
and $232 million for German trade tax purposes at December 31, 2004). Prior
to the complete utilization of such carryforwards, it is possible that the
Company might conclude in the future that the benefit of such carryforwards
would no longer meet the more-likely-than-not recognition criteria, at
which point the Company would be required to recognize a valuation
allowance against the then-remaining tax benefit associated with the
carryforwards.
o The Company records accruals for legal, income tax and other contingencies
when estimated future expenditures associated with such contingencies
become probable, and the amounts can be reasonably estimated. However, new
information may become available, or circumstances (such as applicable laws
and regulations) may change, thereby resulting in an increase or decrease
in the amount required to be accrued for such matters (and therefore a
decrease or increase in reported net income in the period of such change).
Income from operations are impacted by certain of these significant
judgments and estimates, such as allowance for doubtful accounts, reserves for
obsolete or unmarketable inventories, impairment of equity method investees,
goodwill and other long-lived assets, defined benefit pension plans and loss
accruals. In addition, other income (expense) is impacted by the significant
judgments and estimates for deferred income tax asset valuation allowances and
loss accruals.
Executive summary
The Company reported net income of $326.0 million in 2004. Net income in
2004 includes a second quarter income tax benefit related to the reversal of the
Company's deferred income tax asset valuation allowance in Germany of $277.3
million. Net income in 2003 includes an income tax benefit relating to the
refund of prior year German income taxes of $24.6 million. Net income in 2002
includes (i) an income tax benefit related to the reduction in the Belgian
corporate income tax rate of $2.3 million and (ii) income of $1.8 million
related to KII's foreign currency transaction gain resulting from the
extinguishment of certain intercompany indebtedness. Each of these items is more
fully discussed below and/or in the notes to the Consolidated Financial
Statements.
The Company currently expects income from operations will be higher in 2005
compared to 2004, but this increase will not offset the decline in income tax
benefits in 2005 as compared to 2004.
Relative changes in the Company's TiO2 sales and operating income during
the past three years are primarily due to (i) relative changes in TiO2 sales and
production volumes, (ii) relative changes in TiO2 average selling prices and
(iii) relative changes in foreign currency exchange rates.
Selling prices (in billing currencies) for TiO2, the Company's principal
product, were generally: decreasing during the first quarter of 2002, flat
during the second quarter of 2002, increasing during the second half of 2002 and
the first quarter of 2003, flat during the second quarter of 2003, decreasing
during the second half of 2003 and the first half of 2004 and increasing during
the second half of 2004.
Results of operations
Years ended December 31, % Change
---------------------------------------- ---------------------
2002 2003 2004 2002-03 2003-04
---- ---- ---- ------- -------
(In millions, except selling price data)
Net sales $ 579.7 $ 715.9 $ 808.0 +23% +13%
Cost of sales 454.2 516.9 609.6 +14% +18%
------- ------- -------
Gross margin 125.5 199.0 198.4 +59% **
Selling, general and administrative
expense (72.0) (87.0) (104.1) +21% +20%
Currency transaction gains (losses), net 12.4 (3.7) (2.2)
Royalty income 5.8 6.1 6.0
Other operating income (expense), net (.2) - (.5)
------- ------- -------
Income from operations $ 71.5 $ 114.4 $ 97.6 +60% -15%
====== ======= =======
TiO2 operating statistics:
Percent change in average selling
prices:
Using actual foreign currency
exchange rates +20% + 4%
Impact of changes in foreign
currency exchange rates -20% - 7%
---- ----
In billing currencies **% - 3%
==== ====
Sales volumes* 297 310 336 + 4% + 8%
Production volumes* 293 320 328 + 9% + 3%
Production rate as
percent of capacity 93% Full Full
____________________________
* Thousands of metric tons
** less that 1%
Year ended December 31, 2004 compared to year ended December 31, 2003
The Company's sales increased $92.1 million (13%) in 2004 as compared to
2003 as higher sales volumes and the favorable effect of fluctuations in foreign
currency exchange rates, which increased sales by approximately $56 million as
further discussed below, more than offset the impact of lower average TiO2
selling prices. Excluding the effect of fluctuations in the value of the U.S.
dollar relative to other currencies, the Company's average TiO2 selling prices
in billing currencies were 3% lower in 2004 as compared to 2003. When translated
from billing currencies into U.S. dollars using actual foreign currency exchange
rates prevailing during the respective periods, the Company's average TiO2
selling prices in 2004 increased 4% as compared to 2003. See " - Effects of
foreign currency exchange rates" below for a discussion of the impact of
relative changes in currency exchange rates on the Company's operations.
The Company's TiO2 sales volumes in 2004 increased 8% compared to 2003, due
to higher sales volumes in Europe and export markets. By volume, approximately
77% of the Company's 2004 TiO2 sales were attributable to markets in Europe,
with 14% attributable to export markets and the balance to North America. Demand
for TiO2 has remained strong throughout 2004, and while the Company believes
that the strong demand is largely attributable to the end-use demand of its
customers, it is possible that some portion of the strong demand resulted from
customers increasing their inventory levels of TiO2 in advance of implementation
of announced or anticipated price increases. The Company's operating income
comparisons were also favorably impacted by higher production levels, which
increased 3%. The Company's operating rates were near full capacity in both
periods, and the Company's sales and production volumes in 2004 were both new
records for the Company, setting new volume records for the Company for the
third consecutive year.
The Company's cost of sales increased $92.7 million (18%) in 2004 compared
to 2003 due to higher raw material and maintenance costs as well as higher sales
volumes and related effects of translating foreign currencies into the U.S.
dollar. The Company's cost of sales, as a percentage of net sales, increased
from 72% in 2003 to 75% in 2004 due primarily to the effects of lower average
selling prices and higher costs.
The Company's gross margins decreased $.6 million (less than 1%) from 2003
to 2004 due to the net effects of the aforementioned changes in sales and cost
of sales during such periods.
As a percentage of net sales, selling, general and administrative expenses
were relatively consistent from 2003 to 2004, increasing marginally from 12% to
13%, and increasing proportionately with the increased sales and production
volume.
The Company's income from operations decreased $16.8 million (15%) in 2004
as compared to 2003, as the effect of lower average TiO2 selling prices and
higher raw material and maintenance costs more than offset the impact of higher
sales and production volumes. See also " - Effects of foreign currency exchange
rates" below for a discussion of the impact of relative changes in currency
exchange rates on the Company's operations.
Year ended December 31, 2003 compared to year ended December 31, 2002
The Company's sales increased $136.2 million (23%) in 2003 compared to 2002
due to higher average selling prices along with higher sales volumes in 2003 and
the positive effects of currency exchange rates, specifically the weaker U.S.
dollar as compared to the euro. Excluding the effect of fluctuations in the
value of the U.S. dollar relative to other currencies, the Company's average
TiO2 selling price in 2003 was consistent with 2002. When translated from
billing currencies to U.S. dollars using actual foreign currency exchange rates
prevailing during the respective periods, the Company's average TiO2 selling
prices in 2003 increased 20% compared to 2002. See " - Effects of foreign
currency exchange rates" below for a discussion of the impact of relative
changes in currency exchange rates on the Company's operations.
The Company's TiO2 sales volumes in 2003 set a new record, increasing 4%
from the previous record achieved in 2002, with higher volumes in European and
North American markets more than offsetting a decline in volumes to other
regions. By volume, approximately 75% of the Company's 2002 and 2003 TiO2 sales
volumes were attributable to markets in Europe, with approximately 10%
attributable to North America and the balance to other regions. The Company's
operating income comparisons were also favorably impacted by higher production
levels, which increased 9%. Operating rates were near full capacity during most
of 2003, setting a new Company production record.
The Company's cost of sales increased $62.7 million (14%) in 2003 compared
to 2002 due to the higher sales volumes. The Company's cost of sales, as a
percentage of net sales, decreased from 78% in 2002 to 72% in 2003 due primarily
to the effects of continued cost reduction efforts combined with the impact of
higher production volumes and higher average selling prices.
The Company's gross margins increased $73.5 million (59%) from 2002 to 2003
due to the net effects of the aforementioned changes in sales and cost of sales
during such periods.
As a percentage of net sales, selling general and administrative expenses
remained consistent at 12%, increasing proportionately with the increased sales
and production volume.
The Company's income from operations increased $42.9 million (60%) in 2003
compared to 2002 due primarily to higher average TiO2 selling prices and higher
TiO2 sales and production volumes. See also " - Effects of foreign currency
exchange rates" below for a discussion of the impact of relative changes in
currency exchange rates on Kronos' operations.
Effects of foreign currency exchange rates
The Company's sales are denominated in various currencies, including the
the euro and other major European currencies. The disclosure of the percentage
change in the Company's average TiO2 selling prices in billing currencies (which
excludes the effects of fluctuations in the value of the U.S. dollar relative to
other currencies) is considered a "non-GAAP" financial measure under regulations
of the SEC. The disclosure of the percentage change in the Company's average
TiO2 selling prices using actual foreign currency exchange rates prevailing
during the respective periods is considered the most directly comparable
financial measure presented in accordance with GAAP ("GAAP measure"). The
Company discloses percentage changes in its average TiO2 prices in billing
currencies because the Company believes such disclosure provides useful
information to investors to allow them to analyze such changes without the
impact of changes in foreign currency exchange rates, thereby facilitating
period-to-period comparisons of the relative changes in average selling prices
in the actual various billing currencies. Generally, when the U.S. dollar either
strengthens or weakens against other currencies, the percentage change in
average selling prices in billing currencies will be higher or lower,
respectively, than such percentage changes would be using actual exchange rates
prevailing during the respective periods. The difference between the 20% and 4%
increases in the Company's average TiO2 selling prices during 2003 and 2004,
respectively, as compared to the respective prior year using actual foreign
currency exchange rates prevailing during the respective periods (the GAAP
measure), and the minimal percentage change and 3% decrease in the Company's
average TiO2 selling prices in billing currencies (the non-GAAP measure) during
such periods is due to the effect of changes in foreign currency exchange rates.
The above table presents (i) the percentage change in the Company's average TiO2
selling prices using actual foreign currency exchange rates prevailing during
the respective periods (the GAAP measure), (ii) the percentage change in the
Company's average TiO2 selling prices in billing currencies (the non-GAAP
measure) and (iii) the percentage change due to changes in foreign currency
exchange rates (or the reconciling item between the non-GAAP measure and the
GAAP measure).
The Company's operations and assets located outside the United States
(primarily in Germany, Belgium and Norway). A significant amount of the
Company's sales generated from its operations are denominated in currencies
other than the U.S. dollar, principally the euro and other major European
currencies. A portion of the Company's sales generated from its operations are
denominated in the U.S. dollar. Certain raw materials, primarily
titanium-containing feedstocks, are purchased in U.S. dollars, while labor and
other production costs are denominated primarily in local currencies.
Consequently, the translated U.S. dollar value of the Company's foreign sales
and operating results are subject to currency exchange rate fluctuations which
may favorably or adversely impact reported earnings and may affect the
comparability of period-to-period operating results. Overall, fluctuations in
the value of the U.S. dollar relative to other currencies, primarily the euro,
increased TiO2 sales by a net $56 million in 2004 as compared to 2003, and
increased sales by a net $89 million in 2003 as compared to 2002. Fluctuations
in the value of the U.S. dollar relative to other currencies similarly impacted
the Company's foreign currency-denominated operating expenses. The Company's
operating costs that are not denominated in the U.S. dollar, when translated
into U.S. dollars, were higher in 2004 and 2003 compared to the same periods of
the respective prior years. Overall, currency exchange rate fluctuations
resulted in a net $9 million increase in the Company's operating income in 2004
as compared to 2003, and resulted in a net increase in the Company's operating
income in 2003 of approximately $5 million as compared to 2002.
Outlook
Reflecting the impact of partial implementation of prior price increase
announcements, the Company's average TiO2 selling prices in billing currencies
in the fourth quarter of 2004 were 2% higher than the third quarter of 2004. In
2005, the Company expects income from operations will be higher than 2004,
primarily due to higher expected selling prices in 2005. The anticipated higher
selling prices in 2005 reflects the expected continued implementation of price
increase announcements, including the Company's latest price increases announced
in March 2005. The extent to which any of such price increases which have
previously been announced, and any additional price increases which may be
announced subsequently in 2005, will be realized will depend on, among other
things, economic factors.
The Company's efforts to debottleneck its production facilities to meet
long-term demand continue to prove successful. The Company's production capacity
has increased by approximately 30% over the past ten years due to
debottlenecking programs, with only moderate capital investment. The Company
believes its annual attainable production capacity for 2005 is approximately
334,000 metric tons, with some slight additional capacity available in 2006
through the Company's continued debottlenecking efforts.
The Company expects its TiO2 production volumes in 2005 will be slightly
higher than its 2004 volumes, with sales volumes comparable to or slightly lower
in 2005 as compared to 2004. The Company's average TiO2 selling prices, which
started to increase during the second half of 2004, are expected to continue to
increase during 2005, and consequently the Company currently expects its average
TiO2 selling prices, in billing currencies, will be higher in 2005 as compared
to 2004. Overall, the Company expects its income from operations in 2005 will be
higher than 2004, due primarily to higher expected selling prices. The Company's
expectations as to the future prospects of KII 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 KII's expectations, the Company's results of operations
could be unfavorably affected.
Other income (expense)
The following table sets forth certain information regarding other income
and expense items.
Years ended December 31, Change
------------------------------------- -------------------------
2002 2003 2004 2002-03 2003-04
---- ---- ---- ------- -------
(In millions)
Currency transaction gains $ 2.7 $ - $ - $ (2.7) $ -
Interest income from affiliates 22.8 - 2.8 (22.8) 2.8
Trade interest income 1.6 .7 1.1 (.9) .4
Interest expense to affiliates (18.7) (.1) - 18.6 .1
Interest expense (16.7) (32.5) (36.7) (15.8) (4.2)
------ ------ ------ ------ ------
$ (8.3) $(31.9) $(32.8) $(23.6) $ (.9)
====== ====== ====== ====== ======
Interest income fluctuates in part based upon the amount of funds invested
and yields thereon. Aggregate interest income increased $3.2 million in 2004
compared to 2003 due primarily to interest on KII's notes receivable from Kronos
entered into during the fourth quarter of 2004. Aggregate interest income
declined $23.7 million in 2003 compared to 2002 primarily due to lower average
yields on invested funds and lower average levels of funds available for
investment. The Company expects interest income will be higher in 2005 than 2004
due to the Company's notes receivable from Kronos which are expected to be
outstanding during the full year.
The Company has a significant amount of indebtedness denominated in the
euro, including the Company's euro-denominated Senior Secured Notes.
Accordingly, the reported amount of interest expense will vary depending on
relative changes in foreign currency exchange rates. Interest expense in 2004
was higher than 2003 due primarily to relative changes in foreign currency
exchange rates, which increased the U.S. dollar equivalent of interest expense
on the euro 285 million principal amount of KII Senior Secured Notes outstanding
during both years by approximately $3 million as compared to the respective
prior year. In addition, KII issued an additional euro 90 million principal
amount of KII Senior Secured Notes in November 2004, and the interest expense
associated with these additional Senior Secured Notes was $1 million in 2004.
Interest expense decreased $2.8 million in 2003 as compared to 2002 due
primarily to the net effects of lower average levels of indebtedness, associated
currency effects and lower average interest rates on the Company's indebtedness.
Assuming interest rates and foreign currency exchange rates do not increase
significantly from current levels, interest expense in 2005 is expected to be
higher than 2004 due primarily to the effect of the issuance of an additional
euro 90 million principal amount of KII Senior Secured Notes in November 2004.
At December 31, 2004, approximately $519.2 million of consolidated
indebtedness, principally KII's Senior Secured Notes, bears interest at fixed
interest rates averaging 8.4% (2003 - $356 million with a weighted average
interest rate of 8.9%; 2002 - $297 million with a weighted average fixed
interest rate of 8.9%). The weighted average interest rate on $14 million of
outstanding variable rate borrowings at December 31, 2004 was 3.9% (2003 - none
outstanding; 2002 - $27 million outstanding at 6.5%). See Note 6 to the
Consolidated Financial Statements.
The Company had certain loans to affiliates that were outstanding during
2002. The Company transferred such notes receivable from affiliates to Kronos in
July 2002, and accordingly no longer reports interest income on such loans to
affiliates after that date.
As noted above, KII has a certain amount of indebtedness denominated in
currencies other than the U.S. dollar. See Item 7A, "Quantitative and
Qualitative Disclosures About Market Risk."
Provision for income taxes. The principal reasons for the difference
between the Company's effective income tax rates and the U.S. federal statutory
income tax rates are explained in Note 9 to the Consolidated Financial
Statements. Income tax rates vary by jurisdiction (country and/or state), and
relative changes in the geographic mix of the Company's pre-tax earnings can
result in fluctuations in the effective income tax rate.
At December 31, 2004, the Company had the equivalent of $671 million and
$232 million of income tax loss carryforwards for German corporate and trade tax
purposes, respectively, all of which have no expiration date. As more fully
described in Note 9 to the Consolidated Financial Statements, the Company had
previously provided a deferred income tax asset valuation allowance against
substantially all of these tax loss carryforwards and other deductible temporary
differences in Germany because the Company did not believe they met the
"more-likely-than-not" recognition criteria. During the first six months of
2004, the Company reduced its deferred income tax asset valuation allowance by
approximately $8.7 million, primarily as a result of utilization of these German
net operating loss carryforwards, the benefit of which had not previously been
recognized. At June 30, 2004, after considering all available evidence, the
Company concluded that these German tax loss carryforwards and other deductible
temporary differences now met the "more-likely-than-not" recognition criteria.
Under applicable GAAP related to accounting for income taxes at interim periods,
a change in estimate at an interim period resulting in a decrease in the
valuation allowance is segregated into two components, the portion related to
the remaining interim periods of the current year and the portion related to all
future years. The portion of the valuation allowance reversal related to the
former is recognized over the remaining interim periods of the current year, and
the portion of the valuation allowance related to the latter is recognized at
the time the change in estimate is made. Accordingly, as of June 30, 2004, the
Company reversed $268.6 million of the valuation allowance (the portion related
to future years), and KII reversed the remaining $3.4 million during the last
six months of 2004. Because the benefit of such net operating loss carryforwards
and other deductible temporary differences in Germany has now been recognized,
the Company's effective income tax rate in 2005 is expected to be higher than
what it would have otherwise been, although its future cash income tax rate will
not be affected by the reversal of the valuation allowance. Prior to the
complete utilization of such carryforwards, it is possible that the Company
might conclude in the future that the benefit of such carryforwards would no
longer meet the "more-likely-than-not" recognition criteria, at which point the
Company would be required to recognize a valuation allowance against the
then-remaining tax benefit associated with the carryforwards.
In January 2004, the German federal government enacted new tax law
amendments that limit the annual utilization of income tax loss carryforwards
effective January 1, 2004 to 60% of taxable income after the first euro 1
million of taxable income. The new law will have a significant effect on the
Company's cash tax payments in Germany going forward, the extent of which will
be dependent upon the level of taxable income earned in Germany.
During 2003, the Company reduced its deferred income tax asset valuation
allowance by an aggregate of approximately $6.7 million, primarily as a result
of utilization of certain income tax attributes for which the benefit had not
previously been recognized. In addition, the Company recognized a $38.0 million
income tax benefit related to the net refund of certain prior year German income
taxes.
During 2002, the Company reduced its deferred income tax asset valuation
allowance by an aggregate of approximately $2.8 million, primarily as a result
of utilization of certain income tax attributes for which the benefit had not
previously been recognized. The provision for income taxes in 2002 also includes
a $2.3 million deferred income tax benefit related to certain changes in the
Belgian tax law.
In October 2004, the American Jobs Creation Act of 2004 was enacted into
law. The new law contains several provisions that could impact the Company.
These provisions provide for, among other things, a special deduction from U.S.
taxable income equal to a stipulated percentage of qualified income from
domestic production activities (as defined) beginning in 2005, and a special 85%
dividends received deduction for certain dividends received from controlled
foreign corporations. Both of these provisions are complex and subject to
numerous limitations. See Note 9 to the Consolidated Financial Statements.
Related party transactions. The Company is a party to certain transactions
with related parties. See Note 11 to the Consolidated Financial Statements.
Accounting principles newly adopted in 2002, 2003 and 2004. See Note 14 to
the Consolidated Financial Statements.
Accounting principles not yet adopted: See Note 15 to Consolidated
Financial Statements.
Defined benefit pension plans. The Company maintains various defined
benefit pension plans in Europe. See Note 10 to the Consolidated Financial
Statements.
The Company accounts for its defined benefit pension plans using SFAS No.
87, "Employer's Accounting for Pensions." Under SFAS No. 87, defined benefit
pension plan expense and prepaid and accrued pension costs are each recognized
based on certain actuarial assumptions, principally the assumed discount rate,
the assumed long-term rate of return on plan assets and the assumed increase in
future compensation levels. The Company recognized consolidated defined benefit
pension plan expense of $5.7 million in 2002, $5.8 million in 2003 and $10.4
million in 2004. The amount of funding requirements for these defined benefit
pension plans is generally based upon applicable regulations (such as ERISA in
the U.S.), and will generally differ from pension expense recognized under SFAS
No. 87 for financial reporting purposes. Contributions made by the Company to
all of its plans aggregated $7.8 million in 2002, $10.2 million in 2003 and
$11.7 million in 2004.
The discount rates the Company utilizes for determining defined benefit
pension expense and the related pension obligations are based on current
interest rates earned on long-term bonds that receive one of the two highest
ratings given by recognized rating agencies in the applicable country where the
defined benefit pension benefits are being paid. In addition, the Company
receives advice about appropriate discount rates from the Company's third-party
actuaries, who may in some cases utilize their own market indices. The discount
rates are adjusted as of each valuation date (September 30th) to reflect
then-current interest rates on such long-term bonds. Such discount rates are
used to determine the actuarial present value of the pension obligations as of
December 31st of that year, and such discount rates are also used to determine
the interest component of defined benefit pension expense for the following
year.
At December 31, 2004, approximately 76% and 20% of the projected benefit
obligation related to Company plans in Germany and Norway, respectively. The
Company uses several different discount rate assumptions in determining its
consolidated defined benefit pension plan obligations and expense because the
Company maintains defined benefit pension plans in several different countries
in Europe and the interest rate environment differs from country to country.
The Company used the following discount rates for its defined benefit
pension plans:
Discount rates used for:
----------------------------------------------------------------------------------------------------
----------------------------------------------------------------------------------------------------
Obligations at Obligations at Obligations at
December 31, 2002 December 31, 2003 December 31, 2004
and expense in 2003 and expense in 2004 and expense in 2005
----------------------------------- -------------------------------- -----------------------------
Germany 5.5% 5.3% 5.0%
Norway 6.0% 5.5% 5.0%
The assumed long-term rate of return on plan assets represents the
estimated average rate of earnings expected to be earned on the funds invested
or to be invested in the plans' assets provided to fund the benefit payments
inherent in the projected benefit obligations. Unlike the discount rate, which
is adjusted each year based on changes in current long-term interest rates, the
assumed long-term rate of return on plan assets will not necessarily change
based upon the actual, short-term performance of the plan assets in any given
year. Defined benefit pension expense each year is based upon the assumed
long-term rate of return on plan assets for each plan and the actual fair value
of the plan assets as of the beginning of the year. Differences between the
expected return on plan assets for a given year and the actual return are
deferred and amortized over future periods based either upon the expected
average remaining service life of the active plan participants (for plans for
which benefits are still being earned by active employees) or the average
remaining life expectancy of the inactive participants (for plans for which
benefits are not still being earned by active employees).
At December 31, 2004, approximately 70% and 26% of the plan assets related
to the Company's plans in Germany and Norway, respectively. The Company uses
several different long-term rates of return on plan asset assumptions in
determining its consolidated defined benefit pension plan expense because the
Company maintains defined benefit pension plans in several different countries
in Europe, the plan assets in different countries are invested in a different
mix of investments and the long-term rates of return for different investments
differ from country to country.
In determining the expected long-term rate of return on plan asset
assumptions, the Company considers the long-term asset mix (e.g. equity vs.
fixed income) for the assets for each of its plans and the expected long-term
rates of return for such asset components. In addition, the Company receives
advice about appropriate long-term rates of return from the Company's
third-party actuaries. Such assumed asset mixes are summarized below:
o In Germany, the composition of the Company's plan assets is established to
satisfy the requirements of the German insurance commissioner. The current
plan asset allocation at December 31, 2004 was 23% to equity managers, 48%
to fixed income managers and 29% to real estate.
o In Norway, the Company currently has a plan asset target allocation of 14%
to equity managers, 62% to fixed income managers and the remainder
primarily to cash and liquid investments. The expected long-term rate of
return for such investments is approximately 8%, 4.5% to 6.5% and 2.5%,
respectively. The plan asset allocation at December 31, 2004 was 16% to
equity managers, 64% to fixed income managers and the remainder primarily
to cash and liquid investments.
The Company regularly reviews its actual asset allocation for each of its
plans and will periodically rebalance the investments in each plan to more
accurately reflect the targeted allocation when considered appropriate.
The Company's assumed long-term rates of return on plan assets for 2002,
2003 and 2004 were as follows:
2002 2003 2004
------ ------ ------
Germany 6.8% 6.5% 6.0%
Norway 7.0% 6.0% 6.0%
The Company currently expects to utilize the same long-term rate of return
on plan asset assumptions in 2005 as it used in 2004 for purposes of determining
the 2005 defined benefit pension plan expense.
To the extent that a plan's particular pension benefit formula calculates
the pension benefit in whole or in part based upon future compensation levels,
the projected benefit obligations and the pension expense will be based in part
upon expected increases in future compensation levels. For all of the Company's
plans for which the benefit formula is so calculated, the Company generally
bases the assumed expected increase in future compensation levels upon average
long-term inflation rates for the applicable country.
In addition to the actuarial assumptions discussed above, because the
Company maintains its defined benefit pension plans outside the U.S., the amount
of recognized defined benefit pension expense and the amount of prepaid and
accrued pension costs will vary based upon relative changes in foreign currency
exchange rates.
Based on the actuarial assumptions described above and the Company's
current expectation for what actual average foreign currency exchange rates will
be during 2005, the Company expects its defined benefit pension expense will
approximate $11 million in 2005. In comparison, the Company expects to be
required to make approximately $4 million of contributions to such plans during
2005.
As noted above, defined benefit pension expense and the amounts recognized
as prepaid and accrued pension costs are based upon the actuarial assumptions
discussed above. The Company believes all of the actuarial assumptions used are
reasonable and appropriate. If the Company had lowered the assumed discount rate
by 25 basis points for all of its plans as of December 31, 2004, the Company's
aggregate projected benefit obligations would have increased by approximately
$11.1 million at that date, and the Company's defined benefit pension expense
would be expected to increase by approximately $1.4 million during 2005.
Similarly, if the Company lowered the assumed long-term rate of return on plan
assets by 25 basis points for all of its plans, the Company's defined benefit
pension expense would be expected to increase by approximately $500,000 during
2005.
Foreign operations
The Company's operations are located in Europe where the functional
currency is not the U.S. dollar. As a result, the reported amount of the
Company's assets and liabilities, and therefore the Company's consolidated net
assets, will fluctuate based upon changes in currency exchange rates. At
December 31, 2004, the Company had substantial net assets denominated in the
euro, Norwegian kroner and United Kingdom pound sterling.
LIQUIDITY AND CAPITAL RESOURCES
Consolidated cash flows
The Company's consolidated cash flows for each of the past three years are
presented below:
Years ended December 31,
----------------------------------
2002 2003 2004
---- ---- ----
(In millions)
Operating activities $ 68.2 $ 104.8 $ 142.2
Investing activities (29.7) (31.7) (34.2)
Financing activities (57.5) (54.9) (129.9)
------- ------- -------
Net cash provided (used) by operating,
investing and financing activities $ (19.0) $ 18.2 $ (21.9)
======= ======= =======
Operating activities. Trends in cash flows from operating activities
(excluding the impact of significant asset dispositions and relative changes in
assets and liabilities) are generally similar to trends in the Company's
earnings. However, certain items included in the determination of net income are
non-cash, and therefore such items have no impact on cash flows from operating
activities. Non-cash items included in the determination of net income include
depreciation and amortization expense, non-cash interest expense and asset
impairment charges. Non-cash interest expense relates to amortization of
original issue discount or premium on certain indebtedness and amortization of
deferred financing costs.
Certain other items included in the determination of net income may have an
impact on cash flows from operating activities, but the impact of such items on
cash flows from operating activities will differ from their impact on net
income. For example, the amount of periodic defined benefit pension plan expense
depends upon a number of factors, including certain actuarial assumptions, and
changes in such actuarial assumptions will result in a change in the reported
expense. In addition, the amount of such periodic expense generally differs from
the outflows of cash required to be currently paid for such benefits.
Certain other items included in the determination of net income have no
impact on cash flows from operating activities, but such items do impact cash
flows from investing activities (although their impact on such cash flows
differs from their impact on net income). For example, realized gains and losses
from the disposal long-lived assets are included in the determination of net
income, although the proceeds from any such disposal are shown as part of cash
flows from investing activities.
Changes in product pricing, production volumes and customer demand, among
other things, can significantly affect the liquidity of the Company. Relative
changes in assets and liabilities generally result from the timing of
production, sales, purchases and income tax payments. Such relative changes can
significantly impact the comparability of cash flow from operations from period
to period, as the income statement impact of such items may occur in a different
period from when the underlying cash transaction occurs. For example, raw
materials may be purchased in one period, but the payment for such raw materials
may occur in a subsequent period. Similarly, inventory may be sold in one
period, but the cash collection of the receivable may occur in a subsequent
period. Relative changes in accounts receivable are affected by, among other
things, the timing of sales and the collection of the resulting receivable.
Relative changes in inventories, accounts payable and accrued liabilities are
affected by, among other things, the timing of raw material purchases and the
payment for such purchases and the relative difference between production
volumes and sales volumes.
Cash flows provided from operating activities increased from $104.8 million
in 2003 to $142.2 million in 2004. This $37.4 million increase was due primarily
to the net effect of (i) higher net income of $244.2 million, (ii) a larger
deferred income tax benefit of $312.7 million, (iii) higher depreciation and
amortization expense of $4.1 million, (iv) a higher amount of net cash provided
from changes in the Company's inventories, receivables, payables, accruals and
accounts with affiliates of $34.5 million and (v) higher cash received for
income taxes of $12.3 million.
Cash flows from operating activities increased from $68.2 million in 2002
to $104.8 million in 2003. This $36.6 million increase was due primarily to the
effect of (i) higher net income of $29.5 million, (ii) higher depreciation
expense of $6.5 million, (iii) a lower amount of net cash generated from
relative changes in the Company's inventories, receivables, payables and
accruals and accounts with affiliates of $22.6 million in 2003 as compared to
2002 and (iv) lower cash paid for income taxes of $18.3 million. Relative
changes in accounts receivable are affected by, among other things, the timing
of sales and the collection of the resulting receivable. Relative changes in
inventories and accounts payable and accrued liabilities are affected by, among
other things, the timing of raw material purchases and the payment for such
purchases and the relative difference between production volume and sales
volume.
Investing cash flows. The Company's capital expenditures were $27.6
million, $31.5 million and $33.7 million in 2002, 2003 and 2004, respectively.
Capital expenditures in 2002 included an aggregate of $3.1 million for the
rebuilding of the Company's Leverkusen, Germany sulfate plant.
The Company's capital expenditures during the past three years include an
aggregate of approximately $14 million ($5.1 million in 2004) for the Company's
ongoing environmental protection and compliance programs. The Company's
estimated 2005 capital expenditures are $37 million and include approximately $4
million in the area of environmental protection and compliance.
Financing cash flows. During 2004, (i) KII issued an additional euro 90
million principal amount of it Senior Secured Notes at 107% of par (equivalent
to $130 million when issued) and (ii) KII's operating subsidiaries in Germany,
Belgium and Norway borrowed an aggregate of euro 90 million ($112 million when
borrowed) of borrowings under its three-year euro 80 million secured revolving
credit facility ("European Credit Facility"), of which euro 80 million ($100
million) were subsequently repaid. See Note 6 to the Consolidated Financial
Statements.
In the fourth quarter of 2004, KII transferred an aggregate euro 163.1
million ($209.5 million) to Kronos in return for two promissory notes. Interest
on both notes is payable to KII on a quarterly basis at an annual rate of 9.25%.
Due to the long-term investment nature of these notes, settlement of the
intercompany notes receivable is not contemplated within the foreseeable future
and as such have been presented as a separate component of the Company's
stockholder's equity.
In March 2003, the Company's operating subsidiaries in Germany, Belgium and
Norway borrowed euro 15 million ($16.1 million when borrowed), in April 2003,
repaid NOK 80 million ($11.0 million when repaid) and in the third quarter of
2003, repaid euro 30.0 million ($33.9 million when repaid) under the European
Credit Facility.
In March 2002 the Company repaid $25 million 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 June 2002 issuance of the euro 285 million principal amount of the KII
8.875% Senior Secured Notes ($280 million when issued) (the "Notes"). Further,
in June 2002, the Company repaid euro 113.8 million ($111.8 million), including
interest, of a euro-denominated note payable to Kronos with proceeds from the
Notes offering.
Also in June 2002, the Company's operating subsidiaries in Germany, Belgium
and Norway borrowed euro 13 million ($13 million) and NOK 200 million ($26
million) which, along with available cash, was used to repay and terminate KII's
short term notes payable ($53.2 million when repaid). In 2002, the Company
repaid a net euro-equivalent 12.7 million ($12.4 million when repaid) and 1.7
million ($1.6 million when repaid), respectively, of the European Credit
Facility.
Deferred financing costs paid of $10.0 million in 2002 and $2.0 million in
2004 for the Notes and the European Credit Facility are being amortized over the
lives of the respective agreements and are included in other noncurrent assets
as of December 31, 2004.
Cash dividends paid during 2003 and 2004 totaled $25.0 million and $60.0
million, respectively. (No dividends were paid in 2002). The declaration and
payment of future dividends is discretionary, and the amount, if any, will be
dependent upon the Company's results of operations, financial condition,
contractual restrictions and other factors deemed relevant by the Company's
Board of Directors.
Cash flows related to capital contributions and other transactions with
affiliates aggregated a net cash inflow of $2.9 million in 2002. Such amounts
related principally to dividends or loans KII received from, or capital
contributions or loans KII made to affiliates (such notes receivable from
affiliates being reported as reductions to the Company's stockholder's equity,
and therefore considered financing cash flows). KII transferred its Canadian
operations to Kronos in April 2002, and accordingly KII no longer reports any
such capital transaction cash flows related to such Canadian operations
subsequent to April 2002. Additionally, settlement of the above-mentioned notes
receivable from affiliates was not then 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
no longer reports cash flows related to such notes receivable from affiliates.
Provisions contained in certain of our credit agreements could result in
the acceleration of the applicable indebtedness prior to its stated maturity.
For example, certain credit agreements allow the lender to accelerate the
maturity of the indebtedness upon a change of control (as defined) of the
borrower. In addition, certain credit agreements could result in the
acceleration of all or a portion of the indebtedness following a sale of assets
outside the ordinary course of business. Other than operating lease commitments
disclosed in Note 12 to the Consolidated Financial Statements, the Company is
not party to any material off-balance sheet financing arrangements.
Cash, cash equivalents, restricted cash and restricted marketable debt
securities and borrowing availability. At December 31, 2004, the Company had
current cash and cash equivalents aggregating $17.5 million, had current
restricted cash equivalents of $1.5 million and noncurrent restricted marketable
debt securities of $2.9 million. At December 31, 2004, certain of the Company's
subsidiaries had approximately $93 million available for borrowing under the
European Credit Facility (based on borrowing availability). The European Credit
Facility matures in June 2005, and the Company expects to seek renewal of the
facility in the first half of 2005. At December 31, 2004, the Company had
approximately $49 million available for payment of dividends and other
restricted payments as defined in the Notes indenture.
Based upon the Company's expectations for the TiO2 industry and anticipated
demands on the Company's cash resources as discussed herein, the Company expects
to have sufficient liquidity to meet its obligations including operations,
capital expenditures, debt service and current dividend policy. To the extent
that actual developments differ from the Company's expectations, the Company's
liquidity could be adversely affected.
Legal proceedings and environmental matters. See Note 12 to the
Consolidated Financial Statements for certain legal proceedings and
environmental matters with respect to the Company.
Foreign operations. As discussed above, 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 related to its operations, and therefore the Company's consolidated
net assets, will fluctuate based upon changes in currency exchange rates. At
December 31, 2004, the Company had substantial net assets denominated in the
euro, Norwegian kroner and United Kingdom pound sterling.
Redeemable preferred stock, profit participation certificates and notes
receivable from affiliates. The Company had issued and outstanding Series A and
Series B redeemable preferred stock and profit participation certificates
totaling $694.8 million and $617.4 million at June 30, 2002 and December 31,
2001, respectively, including cumulative and unpaid dividends. The Series A
redeemable preferred stock was issued to Kronos in February 1999 as a result of
a capital contribution to the Company through the reduction of the Company's
affiliate notes payable to NL and Kronos. The Series B redeemable preferred
stock was issued to Kronos in February 1999 as a result of a contribution of
intellectual property by Kronos to the Company. The intellectual property was
contributed to the Company at Kronos' carryover basis of zero due to common
control of the Company and Kronos. The profit participation certificates were
issued to Kronos in December 1999 as part of a recapitalization. The Company had
$753.0 million and $700.8 million of outstanding notes receivable from
affiliates at June 30, 2002 and December 31, 2001, respectively. Settlement of
such notes receivable was not currently contemplated in the then foreseeable
future, and consequently such notes receivable from affiliates were reported in
the Company's consolidated balance sheet as a reduction of the Company's
stockholder's equity in accordance with GAAP. These notes arose between the
Company, NL and Kronos through a series of transactions with affiliates, a
substantial portion of which were noncash in nature. The Company periodically
converted accrued interest receivable from affiliates to notes receivable from
affiliates. See Note 8 to the Consolidated Financial Statements for the effect
of the recapitalization in July 2002 on the Company.
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 dividend policy, 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; issue additional securities; restructure ownership interests; modify
its dividend policy; 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 related companies. In the event of any such 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. See Note 6 to the Consolidated
Financial Statements.
Summary of debt and other contractual commitments
As more fully described in the notes to the Consolidated Financial
Statements, the Company is a party to various debt, lease and other agreements
which contractually and unconditionally commit the Company to pay certain
amounts in the future. See Notes 6 and 12 to the Consolidated Financial
Statements. The following table summarizes such contractual commitments of the
Company and its consolidated subsidiaries as of December 31, 2004 by the type
and date of payment.
Payment due date
------------------------------------------------------------------
2010 and
Contractual commitment 2005 2006/2007 2008/2009 after Total
---------------------- ---- --------- --------- -------- -----
(In millions)
Third-party indebtedness $ 13.8 $ .2 $ 519.2 $ - $ 533.2
Interest payments on
third-party indebtedness 45.0 89.4 44.7 - 179.1
Operating leases 3.4 4.0 3.0 20.9 31.3
Fixed asset acquisitions 5.5 - - - 5.5
Estimated tax obligations 17.1 - - - 17.1
------- ------- ------- ------- -------
$ 84.8 $ 93.6 $ 566.9 $ 20.9 $ 766.2
======= ======= ======= ======= =======
The timing and amount shown for the Company's commitments related to
indebtedness (principal and interest), operating leases, fixed asset
acquisitions, long-term supply contracts are based upon the contractual payment
amount and the contractual payment date for such commitments. With respect to
revolving credit facilities, the amount shown for indebtedness is based upon the
actual amount outstanding at December 31, 2004, and the amount shown for
interest for any outstanding variable-rate indebtedness is based upon the
December 31, 2004 interest rate and assumes that such variable-rate indebtedness
remains outstanding until the maturity of the facility. The amount shown for
income taxes is the consolidated amount of income taxes payable at December 31,
2004, which is assumed to be paid during 2005. A significant portion of the
amount shown for indebtedness relates to KII's Senior Secured Notes ($519.2
million at December 31, 2004). Such indebtedness is denominated in euro. See
Item 7A - "Quantative and Qualitative Disclosures About Market Risk" and Note 6
to the Consolidated Financial Statements.
The above table does not reflect any amounts that the Company might pay to
fund its defined benefit pension plans, as the timing and amount of any such
future fundings are unknown and dependent on, among other things, the future
performance of defined benefit pension plan assets, interest rate assumptions
and actual future retiree medical costs. Such defined benefit pension plans are
discussed above in greater detail. The above table also does not reflect any
amounts that the Company might pay related to its asset retirement obligations,
as the terms and amounts of such future fundings are unknown. See Notes 10 and
14 to the Consolidated Financial Statements.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
General. The Company is exposed to market risk from changes in foreign
currency exchange rates, interest rates and equity security prices. In the past,
the Company has periodically entered into currency forward contracts, interest
rate swaps or other types of contracts in order to manage a portion of its
interest rate market risk. Otherwise, the Company does not generally enter into
forward or option contracts to manage such market risks, nor does the Company
enter into any such contract or other type of derivative instrument for trading
or speculative purposes. Other than as described below, the Company was not a
party to any material forward or derivative option contract related to foreign
exchange rates, interest rates or equity security prices at December 31, 2003
and 2004. See Notes 1 and 13 to the Consolidated Financial Statements.
Interest rates. The Company is exposed to market risk from changes in
interest rates, primarily related to indebtedness. At December 31, 2003 and
2004, substantially all of the Company's aggregate indebtedness was comprised of
fixed-rate instruments. The large percentage of fixed-rate debt instruments
minimizes earnings volatility that would result from changes in interest rates.
The following table presents principal amounts and weighted average interest
rates for the Company's aggregate outstanding indebtedness at December 31, 2004.
At December 31, 2003 and 2004, all outstanding fixed-rate indebtedness was
denominated in euros, and the outstanding variable rate borrowings were
denominated in euros. Information shown below for such foreign currency
denominated indebtedness is presented in its U.S. dollar equivalent at December
31, 2004 using exchange rates of 1.36 U.S. dollars per euro. Certain Norwegian
kroner denominated capital leases totaling $300,000 in 2004 have been excluded
from the table below.
Amount
-----------------------
Carrying Fair Interest Maturity
Indebtedness value value rate date
------------ -------- ------ -------- ----------
(In millions)
Fixed-rate indebtedness -
euro-denominated
Senior Secured Notes $ 519.2 $ 549.1 8.9% 2009
======= =======
Variable rate indebtedness -
European Credit Facility $ 13.6 $ 13.6 3.9% 2005
======= =======
At December 31, 2003, euro-denominated fixed rate indebtedness aggregated
$356.1 million (fair value - $356.1 million) with a weighted-average interest
rate of 8.9%.
Foreign currency exchange rates. The Company is exposed to market risk
arising from changes in foreign currency exchange rates as a result of
manufacturing and selling its products worldwide. Earnings are primarily
affected by fluctuations in the value of the U.S. dollar relative to the euro,
the Norwegian kroner and the United Kingdom pound sterling.
As described above, at December 31, 2004, the Company had the equivalent of
$532.8 million of outstanding euro-denominated indebtedness (2003 - the
equivalent of $356.1 million of euro-denominated indebtedness). The potential
increase in the U.S. dollar equivalent of the principal amount outstanding
resulting from a hypothetical 10% adverse change in exchange rates at such date
would be approximately $52.4 million at December 31, 2004 (2003 - $35.6
million).
At December 31, 2003, the Company had entered into a short-term currency
contract maturing on January 2, 2004 to exchange an aggregate of euro 40 million
into U.S. dollars at an exchange rate of U.S. $1.25 per euro. Such contract was
entered into in conjunction with the January 2004 payment of an intercompany
dividend from one of the Company's European subsidiaries. At December 31, 2003,
the actual exchange rate was U.S. $1.25 per euro. The estimated fair value of
such foreign currency forward contract was not material at December 31, 2003.
Other. The Company believes there may be a certain amount of incompleteness
in the sensitivity analysis presented above. For example, the hypothetical
effect of changes in exchange rates discussed above ignores the potential effect
on other variables which affect the Company's results of operations and cash
flows, such as demand for the Company's products, sales volumes and selling
prices and operating expenses. Accordingly, the amounts presented above are not
necessarily an accurate reflection of the potential losses the Company would
incur assuming the hypothetical changes in exchange rates were actually to
occur.
The above discussion and estimated sensitivity analysis amounts include
forward-looking statements of market risk which assume hypothetical changes in
currency exchange rates. Actual future market conditions will likely differ
materially from such assumptions. Accordingly, such forward-looking statements
should not be considered to be projections by the Company of future events,
gains or losses.
Non-GAAP financial measures. In an effort to provide investors with
additional information regarding the Company's results as determined by GAAP,
the Company has disclosed certain non-GAAP information which the Company
believes provides useful information to financial statement users. As discussed
above, the Company discloses percentage changes in its average TiO2 prices in
billing currencies, which excludes the effects of foreign currency translation.
Such disclosure of the percentage change in the Company's average TiO2 selling
price in billing currencies is considered a "non-GAAP" financial measure under
regulations of the SEC. The disclosure of the percentage change in the Company's
average TiO2 selling prices using actual foreign currency exchange rates
prevailing during the respective periods is considered the most directly
comparable GAAP measure. The Company discloses percentage changes in its average
TiO2 prices in billing currencies because the Company believes such disclosure
provides useful information to financial statement users to allow them to
analyze such changes without the impact of changes in foreign currency exchange
rates, thereby facilitating period-to-period comparisons of the relative changes
in average selling prices in the actual various billing currencies. Generally,
when the U.S. dollar either strengthens or weakens against other currencies, the
percentage change in average selling prices in billing currencies will be higher
or lower, respectively, than such percentage changes using actual exchange rates
prevailing during the respective periods.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The information called for by this Item is contained in a separate section
of this Annual Report. See "Index of Financial Statements and Schedules" (page
F-1).
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
Evaluation of Disclosure 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 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, or persons
performing similar functions, as appropriate to allow timely decisions to be
made regarding required disclosure. Each of Harold C. Simmons, the Company's
Chief Executive Officer, and Gregory M. Swalwell, the Company's Vice President,
Finance and Chief Financial Officer, have evaluated the Company's disclosure
controls and procedures as of December 31, 2004. 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.
Internal Control Over Financial Reporting. The Company also maintains a
system of internal controls over financial reporting. The term "internal control
over financial reporting," as defined by regulations of the SEC, means a process
designed by, or under the supervision of, the Company's principal executive and
principal financial officers, or persons performing similar functions, and
effected by the Company's board of directors, management and other personnel, to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with GAAP, and includes those policies and procedures that:
o Pertain to the maintenance of records that in reasonable detail accurately
and fairly reflect the transactions and dispositions of the assets of the
Company,
o Provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with GAAP, and
that receipts and expenditures of the Company are being made only in
accordance with authorizations of management and directors of the Company,
and
o Provide reasonable assurance regarding prevention or timely detection of
unauthorized acquisition, use or disposition of the Company's assets that
could have a material effect on the Company's Consolidated Financial
Statements.
There has been no change to the Company's internal control over financial
reporting during the quarter ended December 31, 2004 that has materially
affected, or is reasonably likely to materially affect, the Company's internal
control over financial reporting.
The Company currently expects that Section 404 of the Sarbanes-Oxley Act of
2002 will require the Company to annually include a management report on
internal control over financial reporting starting with the Company's Annual
Report on Form 10-K for the year ended December 31, 2006. The Company's
independent registered public accounting firm will also be required to annually
audit the Company's internal control over financial reporting. In order to
achieve compliance with Section 404, the Company has been documenting, testing
and evaluating its internal control over financial reporting since 2004, using a
combination of internal and external resources. The process of documenting,
testing and evaluating the Company's internal control over financial reporting
under the applicable guidelines is complex and time consuming, and available
internal and external resources necessary to assist the Company in the
documentation and testing required to comply with Section 404 are limited. While
the Company currently believes it has dedicated the appropriate resources, that
it will be able to fully comply with Section 404 in its Annual Report on Form
10-K for the year ended December 31, 2006 and be in a position to conclude that
the Company's internal control over financial reporting is effective as of
December 31, 2006, because the applicable requirements are complex and time
consuming, and because currently unforeseen events or circumstances beyond the
Company's control could arise, there can be no assurance that the Company will
ultimately be able to fully comply with Section 404 in its Annual Report on Form
10-K for the year ended December 31, 2006 or whether it will be able to conclude
that the Company's internal control over financial reporting is effective as of
December 31, 2006.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Omitted pursuant to the General Instruction I of Form 10-K.
ITEM 11. EXECUTIVE COMPENSATION
Omitted pursuant to the General Instruction I of Form 10-K.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Omitted pursuant to the General Instruction I of Form 10-K.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Omitted pursuant to the General Instruction I of Form 10-K.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
The following table shows the aggregate fees PricewaterhouseCoopers LLP,
the Company's independent registered public accounting firm ("PwC"), has billed
or is expected to bill to the Company and its subsidiaries for services rendered
for 2003 and 2004. No fees were billed or expected to be billed by PwC to the
Company for services performed in 2003 and 2004 for financial information
systems design and implementation.
December 31,
--------------
2003 2004
---- ----
(In thousands)
Audit(1) $ 668 $1,149
Audit related(2) 26 8
Tax(3) 32 12
----- ------
Total $ 726 $1,169
===== ======
1) Fees for the following services:
a) audits of the Company's consolidated year-end financials statements
for each year and audits of internal controls over financial reporting
in 2004;
b) reviews of the unaudited quarterly financial statements appearing in
the Company's Forms 10-Q for each of the first three quarters of each
year; c) consents and assistance with registration statements filed
with the Commission;
d) normally provided statutory or regulatory filings or engagements for
each year; and
e) the estimated out-of-pocket costs PwC incurred in providing all of
such services for which the Company reimburses PwC.
2) Fees for assurance and related services reasonably related to the audit or
review of the Company's financial statements for each year. These services
include employee benefit plan audits, accounting consultations and attest
services concerning financial accounting and reporting standards and advice
concerning internal controls.
3) Fees for tax compliance, tax advice and tax planning services.
See Appendix B to Kronos' proxy statement dated April 16, 2004 for the
Kronos audit committee's policies and procedures.
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) and (d) Financial Statements and Schedules
The Registrant
The consolidated financial statements and schedules of the
Registrant listed on the accompanying Index of Financial
Statements and Schedules (see page F-1) are filed as part of this
Annual Report.
Financial Statements of Guarantors
The consolidated financial statements of Kronos Titan GmbH and
Kronos Denmark ApS listed on the accompanying Index of Financial
Statements and Schedules (see page F-1) are filed as part of this
Annual Report pursuant to Rule 3-16 of Regulation S-X. The
Registrant is not required to provide any other financial
statements pursuant to Rule 3-16 of Regulation S-X.
(b) Reports on Form 8-K
Reports on Form 8-K filed for the quarter ended December 31,
2004.
November 24, 2004 - Reported Item 1.01, Item 2.03 and Item
9.01.
(c) Exhibits
Included as exhibits are the items listed in the Exhibit Index.
the Company will furnish a copy of any of the exhibits listed
below upon payment of $4.00 per exhibit to cover the costs to the
Company of furnishing the exhibits. Pursuant to Item
601(b)(4)(iii) of Regulation S-K, any instrument defining the
rights of holders of long-term debt issues and other agreements
related to indebtedness which do not exceed 10% of consolidated
total assets as of December 31, 2004 will be furnished to the
Commission upon request.
Item No. Exhibit Index
3.1 Certificate of Incorporation of the Registrant - incorporated by
reference to Exhibit 3.1 to the Registrant's Registration Statement on
Form S-4 (File No. 333-100047).
3.2 Certificate of Amendment to Certificate of Incorporation of the
Registrant, dated March 15, 1989 - incorporated by reference to
Exhibit 3.2 to the Registrant's Registration Statement on Form S-4
(File No. 333-100047).
3.3 Certificate of Amendment to Certificate of Incorporation of the
Registrant, dated January 1, 1999 - incorporated by reference to
Exhibit 3.3 to the Registrant's Registration Statement on Form S-4
(File No. 333-100047).
3.4 Certificate of Amendment to Certificate of Incorporation of the
Registrant, dated February 8, 1999 - incorporated by reference to
Exhibit 3.4 to the Registrant's Registration Statement on Form S-4
(File No. 333-100047).
3.5 Certificate of Amendment to Certificate of Incorporation of the
Registrant, dated December 15, 1999 - incorporated by reference to
Exhibit 3.5 to the Registrant's Registration Statement on Form S-4
(File No. 333-100047).
3.6 Amended and Restated Bylaws of the Registrant - incorporated by
reference to Exhibit 3.6 to the Registrant's Registration Statement on
Form S-4 (File No. 333-100047).
4.1 Indenture governing the 8.875% Senior Secured Notes due 2009, dated as
of June 28, 2002, between the Registrant and The Bank of New York, as
trustee - incorporated by reference to Exhibit 4.1 to the Quarterly
Report on Form 10-Q of NL Industries, Inc. for the quarter ended June
30, 2002.
4.2 Form of certificate of 8.875% Senior Secured Note due 2009 (included
as Exhibit A to Exhibit 4.1) - incorporated by reference to Exhibit
4.2 to the Registrant's Registration Statement on Form S-4 (File No.
333-100047).
4.3 Form of certificate of 8.875% Senior Secured Note due 2009 (included
as Exhibit B to Exhibit 4.1) - incorporated by reference to Exhibit
4.3 to the Registrant's Registration Statement on Form S-4 (File No.
333-100047).
4.4 Purchase Agreement, dated as of June 19, 2002, among the Registrant,
Deutsche Bank AG London, Dresdner Bank AG, London Branch, and
Commerzbank Aktiengesellschaft, London Branch - incorporated by
reference to Exhibit 4.4 to the Quarterly Report on Form 10-Q of NL
Industries, Inc. for the quarter ended June 30, 2002.
4.5 Purchase Agreement dated November 18, 2004 between Kronos
International, Inc. and Deutsche Bank AG London - incorporated by
reference to Exhibit 4.4 to the Current Report on Form 8-K of the
Registrant dated November 24, 2004.
4.6 Form of Registration Rights Agreement as of November 26, 2004 between
Kronos International, Inc. and Deutsche Bank AG London - incorporated
by reference to Exhibit 4.5 to the Current Report on Form 8-K of the
Registrant dated November 24, 2004.
4.7 Collateral Agency Agreement, dated as of June 28, 2002, among The Bank
of New York, U.S. Bank, N.A. and the Registrant (filed herewith only
with respect to Sections 2, 5, 6 and 8 thereof) - incorporated by
reference to Exhibit 4.6 to the Quarterly Report on Form 10-Q of NL
Industries, Inc. for the quarter ended June 30, 2002.
4.8 Security Over Shares Agreement (shares of Kronos Limited), dated June
28, 2002, between the Registrant and The Bank of New York, U.S., as
trustee - incorporated by reference to Exhibit 4.7 to the Quarterly
Report on Form 10-Q of NL Industries, Inc. for the quarter ended June
30, 2002.
4.9 Pledge of Shares (shares of Kronos Denmark ApS), dated June 28, 2002,
between the Registrant and U.S. Bank, N.A., as collateral agent -
incorporated by reference to Exhibit 4.8 to the Quarterly Report on
Form 10-Q of NL Industries, Inc. for the quarter ended June 30, 2002.
4.10 Pledge Agreement (pledge of shares of Societe Industrielle du Titane,
S.A.), dated June 28, 2002, between the Registrant and U.S. Bank,
N.A., as collateral agent - incorporated by reference to Exhibit 4.9
to the Quarterly Report on Form 10-Q of NL Industries, Inc. for the
quarter ended June 30, 2002.
4.11 Partnership Interest Pledge Agreement (pledge of fixed capital
contribution in Kronos Titan GmbH & Co. OHG), dated June 28, 2002,
between the Registrant and U.S. Bank, N.A., as collateral agent -
incorporated by reference to Exhibit 4.10 to the Quarterly Report on
Form 10-Q of NL Industries, Inc. for the quarter ended June 30, 2002.
4.12 Recapitalization Agreement, dated as of June 5, 2002, between the
Registrant and Kronos, Inc. - incorporated by reference to Exhibit
4.12 to the Registrant's Registration Statement on Form S-4 (File No.
333-100047).
4.13 Redemption Agreement, dated as of June 6, 2002, between the Registrant
and NL Industries, Inc. - incorporated by reference to Exhibit 4.13 to
the Registrant's Registration Statement on Form S-4 (File No.
333-100047).
4.14 Form of Profit Participation Certificate (English translation from
German language document) - incorporated by reference to Exhibit 4.14
to the Registrant's Registration Statement on Form S-4 (File No.
333-100047).
10.1 Euro 80,000,000 Facility Agreement, dated June 25, 2002, among Kronos
Titan GmbH & Co. OHG, Kronos Europe S.A./N.V., Kronos Titan A/S and
Titania A/S, as borrowers, Kronos Titan GmbH & Co. OHG, Kronos Europe
S.A./N.V. and Kronos Norge AS, as guarantors, Kronos Denmark ApS, as
security provider, Deutsche Bank AG, as mandated lead arranger,
Deutsche Bank Luxembourg S.A., as agent and security agent, and KBC
Bank NV, as fronting bank, and the financial institutions listed in
Schedule 1 thereto, as lenders - incorporated by reference to Exhibit
10.1 to the Quarterly Report on Form 10-Q of NL Industries, Inc. for
the quarter ended June 30, 2002.
10.2 First Amendment Agreement, dated September 3, 2004, Relating to a
Facility Agreement dated June 25, 2002 among Kronos Titan GmbH, Kronos
Europe S.A./N.V., Kronos Titan AS and Titania A/S, as borrowers,
Kronos Titan GmbH, Kronos Europe S.A./N.V. and Kronos Norge AS, as
guarantors, Kronos Denmark ApS, as security provider, with Deutsche
Bank Luxembourg S.A., acting as agent - incorporated by reference to
Exhibit 10.8 to the Registration Statement on Form S-1 of Kronos
Worldwide, Inc. (File No. 333-119639).
10.3 Lease Contract, dated June 21, 1952, between Farbenfabriken Bayer
Aktiengesellschaft and Titangesellschaft mit beschrankter Haftung
(German language version and English translation thereof) -
incorporated by reference to Exhibit 10.14 to the Annual Report on
Form 10-K of NL Industries, Inc. for the year ended December 31, 1985.
10.4 Contract on Supplies and Services, dated as of June 30, 1995, among
Bayer AG, Kronos Titan-GmbH & Co. OHG and the Registrant (English
translation from German language document) - incorporated by reference
to Exhibit 10.1 to Quarterly Report on Form 10-Q of NL Industries,
Inc. for the quarter ended September 30, 1995.
10.5 Amendment dated August 11, 2003 to the Contract on Supplies and
Services among Bayer AG, Kronos Titan-GmbH & Co. OHG and Kronos
International (English translation of German language document) -
incorporated by reference to Exhibit 10.32 of the Registration
statement on Form 10 of the Registrant (File No. 001-31763).
10.6 Master Technology Exchange Agreement, dated as of October 18, 1993,
among Kronos, Inc., Kronos Louisiana, Inc., the Registrant, Tioxide
Group Limited and Tioxide Group Services Limited - incorporated by
reference to Exhibit 10.8 to the Quarterly Report on Form 10-Q of NL
Industries, Inc. for the quarter ended September 30, 1993.
10.7 Intercorporate Services Agreement, dated as of January 1, 2005, among
Kronos Worldwide, Inc., Kronos (US), Inc., Kronos International, Inc.
and Kronos Canada, Inc.
10.8 Tax Agreement, dated as of May 28, 2002, between Kronos, Inc. and the
Registrant - incorporated by reference to Exhibit 10.7 to the
Registrant's Registration Statement on Form S-4 (File No. 333-100047).
10.9 Services Agreement, dated as of January 1, 2004, among Kronos
International, Inc., Kronos Europe S.A./N.V., Kronos (US), Inc.,
Kronos Titan GmbH, Kronos Denmark ApS, Kronos Canada, Inc., Kronos
Limited, Societe Industrielle Du Titane, S.A., Kronos B.V., Kronos
Titan AS and Titania AS.
10.10 Form of Assignment and Assumption Agreement, dated as of January 1,
1999, between Kronos, Inc. (formerly known as Kronos (USA), Inc.) and
the Registrant - incorporated by reference to Exhibit 10.9 to the
Registrant's Registration Statement on Form S-4 (File No. 333-100047).
10.11 Form of Cross License Agreement, effective as of January 1, 1999,
between Kronos Inc. (formerly known as Kronos (USA), Inc.) and the
Registrant - incorporated by reference to Exhibit 10.10 to the
Registrant's Registration Statement on Form S-4 (File No. 333-100047).
10.12** NL Industries, Inc. 1998 Long-Term Incentive Plan - incorporated by
reference to Appendix A to the Proxy Statement on Schedule 14A of NL
Industries, Inc. for the annual meeting of shareholders held on May 6,
1998.
10.13** Form of Kronos Worldwide, Inc. Long-Term Incentive Plan -
incorporated by reference to Exhibit 10.4 of Kronos Worldwide, Inc.'s
Registration Statement on Form 10 (File No. 001-31763).
10.14** Form of Indemnity Agreement between the Registrant and the officers
and directors of the Registrant - incorporated by reference to Exhibit
10.12 to the Registrant's Registration Statement on Form S-4 (File No.
333-100047).
10.15* Richards Bay Slag Sales Agreement, dated May 1, 1995, between
Richards Bay Iron and Titanium (Proprietary) Limited and Kronos, Inc.
- incorporated by reference to Exhibit 10.17 to the Annual Report on
Form 10-K for NL Industries, Inc. for the year ended December 31,
1995.
10.16* Amendment to Richards Bay Slag Sales Agreement, dated May 1, 1999,
between Richards Bay Iron and Titanium (Proprietary) Limited and
Kronos, Inc. - incorporated by reference to Exhibit 10.4 to the Annual
Report on Form 10-K for NL Industries, Inc. for the year ended
December 31, 1999.
10.17* Amendment to Richards Bay Slag Sales Agreement, dated June 1, 2001,
between Richards Bay Iron and Titanium (Proprietary) Limited and
Kronos, Inc. - incorporated by reference to Exhibit 10.5 to the Annual
Report on Form 10-K for NL Industries, Inc. for the year ended
December 31, 2001.
10.18* Amendment to Richards Bay Slag Sales Agreement dated December 20,
2002 between Richards Bay Iron and Titanium (Proprietary) Limited and
Kronos, Inc. - incorporated by reference to Exhibit 10.7 to the Annual
Report on Form 10-K for NL Industries, Inc. for the year ended
December 31, 2002.
10.19* Amendment to Richards Bay Slag Sales Agreement dated October 31,
2003 between Richards Bay Iron and Titanium (Proprietary) Limited and
Kronos, Inc - incorporated by reference to Exhibit 10.17 to Kronos
Worldwide, Inc.'s Annual Report on Form 10-K for the year ended
December 31, 2003.
10.20 Agreement between Sachtleben Chemie GmbH and Kronos Titan-GmbH
effective December 30, 1986 - incorporated by reference to Exhibit
10.1 of the Registrant's Quarterly Report on Form 10-Q for the quarter
ended September 30, 2002.
10.21 Supplementary Agreement to the Agreement of December 30, 1986 between
Sachtleben Chemie GmbH and Kronos Titan-GmbH dated May 3, 1996 -
incorporated by reference to Exhibit 10.2 of the Registrant's
Quarterly Report on Form 10-Q for the quarter ended September 30,
2002.
10.22 Second Supplementary Agreement to the Contract dated December 30, 1986
between Sachtleben Chemie GmbH and Kronos Titan-GmbH dated January 8,
2002 - incorporated by reference to Exhibit 10.3 of the Registrant's
Quarterly Report on Form 10-Q for the quarter ended September 30,
2002.
10.23** Summary of Consulting Arrangement, beginning on August 1, 2003,
between Lawrence A. Wigdor and Kronos Worldwide, Inc. - incorporated
by reference to Exhibit 10.50 to NL Industries, Inc.'s Annual Report
on Form 10-K for the year ended December 31, 2004.
10.24 Agency Agreement, dated as of January 1, 2004, among Kronos
International, Inc., Kronos Titan GmbH, Kronos Europe S.A./N.V.,
Kronos Canada, Inc., Kronos Titan AS and Societe Indutrielle Du
Titane, S.A.
10.25 Titanium Dioxide Products and Titanium Chemicals Distribution
Agreement, dated as of January 1, 2005, among Kronos Titan GmbH,
Kronos Europe S.A./N.V., Kronos Canada, Inc., Kronos Titan AS, Kronos
(US), Inc., Kronos Denmark ApS, Kronos Titan GmbH, Kronos Limited,
Societe Industrielle Du Titane, S.A. and Kronos B.V.
10.26 Raw Material Purchase and Sale Agreement, dated as of January 1,
2004, among Kronos (US), Inc., Kronos Titan GmbH, Kronos Europe
S.A./N.V. and Kronos Canada, Inc.
10.27 Promissory note in the amount of euro 65,000,000, dated as of October
12, 2004 between the Registrant and Kronos Worldwide, Inc.
10.28 Promissory note in the amount of euro 98,094,875, dated as of
November 26, 2004 between the Registrant and Kronos Worldwide, Inc.
31.1 Certification.
31.2 Certification.
32.1 Certification.
___________________________________
* Portions of the exhibit have been omitted pursuant to a request for
confidential treatment.
** Management contract, compensatory plan or arrangement
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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)
By:/s/ Harold C. Simmons
----------------------------
Harold C. Simmons
March 30, 2005
(Chief Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated:
/s/ Dr. Henry Basson /s/ Gregory M. Swalwell
- -------------------------------- ----------------------------------
Dr. Henry Basson , March 30, 2005 Gregory M. Swalwell, March 30, 2005
(Director) (Vice President, Finance;
Principal Financial Officer)
/s/ Andrew Kasprowiak /s/ Volker Roth
- -------------------------------- ----------------------------------
Andrew Kasprowiak, March 30, 2005 Volker Roth, March 30, 2005
(Director) (Director)
/s/ Dr. Ulfert Fiand /s/ James W. Brown
- -------------------------------- ----------------------------------
Dr. Ulfert Fiand, March 30, 2005 James W. Brown, March 30, 2005
(Director) (Vice President, Controller;
Principal Accounting Officer)
KRONOS INTERNATIONAL, INC.
Annual Report on Form 10-K
Items 8, 15(a) and 15(d)
Index of Financial Statements and Schedules
Financial Statements Page
Report of Independent Registered Public Accounting Firm F-2
Consolidated Balance Sheets - December 31, 2003 and 2004 F-3
Consolidated Statements of Income -
Years ended December 31, 2002, 2003 and 2004 F-5
Consolidated Statements of Comprehensive Income -
Years ended December 31, 2002, 2003 and 2004 F-6
Consolidated Statements of Stockholder's Equity -
Years ended December 31, 2002, 2003 and 2004 F-7
Consolidated Statements of Cash Flows -
Years ended December 31, 2002, 2003 and 2004 F-8
Notes to Consolidated Financial Statements F-10
Financial Statement Schedules
Report of Independent Registered Public Accounting Firm S-1
Schedule I - Condensed Financial Information of Registrant S-2
Schedule II - Valuation and Qualifying Accounts S-7
Schedules III and IV are omitted because they are not applicable.
Other Financial Statements filed pursuant to Rule 3-16 of Regulation S-X
Financial Statements of Kronos Titan GmbH FA-1
Financial Statements of Kronos Denmark ApS FB-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholder and Board of Directors of Kronos International, Inc.:
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of income, comprehensive income, stockholder's
equity and cash flows present fairly, in all material respects, the financial
position of Kronos International, Inc. and Subsidiaries as of December 31, 2003
and 2004, and the results of their operations and their cash flows for each of
the three years in the period ended December 31, 2004, in conformity with
accounting principles generally accepted in the United States of America. These
financial statements are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with the
standards of the Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
PricewaterhouseCoopers LLP
Dallas, Texas
March 30, 2005
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 2003 and 2004
(In thousands, except share data)
ASSETS
2003 2004
---- ----
Current assets:
Cash and cash equivalents $ 37,121 $ 17,505
Restricted cash 1,313 1,529
Accounts and other receivables 112,797 130,729
Receivables from affiliates 1,884 2,517
Refundable income taxes 35,150 2,586
Inventories 168,131 170,261
Prepaid expenses 3,349 3,141
Deferred income taxes 943 -
-------- --------
Total current assets 360,688 328,268
-------- --------
Other assets:
Deferred financing costs, net 9,761 10,404
Restricted marketable debt securities 2,586 2,877
Unrecognized net pension obligation 7,812 7,524
Deferred income taxes - 238,284
Other 1,266 1,591
-------- --------
Total other assets 21,425 260,680
-------- --------
Property and equipment:
Land 31,106 34,164
Buildings 139,665 153,442
Equipment 644,733 724,904
Mining properties 63,701 71,980
Construction in progress 7,565 13,560
-------- --------
886,770 998,050
Less accumulated depreciation and
amortization 518,383 601,815
-------- --------
Net property and equipment 368,387 396,235
-------- --------
$750,500 $985,183
======== ========
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONTINUED)
December 31, 2003 and 2004
(In thousands, except share data)
LIABILITIES AND STOCKHOLDER'S EQUITY
2003 2004
---- ----
Current liabilities:
Current maturities of long-term debt $ 288 $ 13,792
Accounts payable and accrued liabilities 103,804 126,949
Payable to affiliates 8,697 11,042
Income taxes 12,007 17,080
Deferred income taxes 3,436 2,722
---------- ----------
Total current liabilities 128,232 171,585
---------- ----------
Noncurrent liabilities:
Long-term debt 356,451 519,403
Deferred income taxes 86,622 22,358
Accrued pension cost 53,010 48,441
Other 14,098 16,840
---------- ----------
Total noncurrent liabilities 510,181 607,042
---------- ----------
Minority interest 525 76
---------- ----------
Stockholder's equity:
Common stock, $100 par value; 100,000 shares
authorized; 2,968 shares issued 297 297
Additional paid-in capital 1,944,185 1,944,185
Retained deficit (1,665,098) (1,399,118)
Notes receivable from affiliate - (209,526)
Accumulated other comprehensive loss:
Currency translation (133,425) (99,764)
Pension liabilities (34,397) (29,594)
---------- ----------
Total stockholder's equity 111,562 206,480
---------- ----------
$ 750,500 $ 985,183
========== ==========
Commitments and contingencies (Notes 9 and 12)
See accompanying notes to consolidated financial statements.
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Net sales $579,665 $715,906 $807,970
Cost of sales 454,154 516,864 609,559
-------- -------- --------
Gross margin 125,511 199,042 198,411
Selling, general and administrative expense 72,008 86,965 104,110
Other operating income (expense):
Currency transaction gains (losses), net 12,439 (3,721) (2,243)
Disposition of property and equipment (534) (394) (895)
Royalty income 5,779 6,122 6,034
Other income 458 489 426
Other expense (169) (130) (72)
-------- -------- --------
Income from operations 71,476 114,443 97,551
Other income (expense):
Currency transaction gain 2,718 - -
Interest income from affiliates 22,754 30 2,767
Trade interest income 1,597 700 1,147
Interest expense to affiliates (18,698) (81) (4)
Other interest expense (16,696) (32,529) (36,688)
-------- -------- --------
Income before income taxes and minority interest 63,151 82,563 64,773
Provision (benefit) for income taxes 10,805 730 (261,260)
Minority interest 55 72 53
-------- -------- --------
Net income 52,291 81,761 325,980
Dividends and accretion applicable to redeemable
preferred stock and profit participation
certificates (78,600) - -
-------- -------- --------
Net income (loss) available to
common stock $(26,309) $ 81,761 $325,980
======== ======== ========
See accompanying notes to consolidated financial statements.
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Net income $ 52,291 $ 81,761 $ 325,980
-------- -------- ---------
Other comprehensive (loss) income, net of tax:
Minimum pension liabilities adjustment (2,781) (27,647) 4,803
Currency translation adjustment 30,733 5,600 33,661
-------- -------- ---------
Total other comprehensive income (loss) 27,952 (22,047) 38,464
-------- -------- ---------
Comprehensive income $ 80,243 $ 59,714 $ 364,444
======== ======== =========
See accompanying notes to consolidated financial statements.
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY
Years ended December 31, 2002, 2003 and 2004
(In thousands)
Common stockholder's equity (deficit)
---------------------------------------------------------------------------------------
Redeemable Accumulated other
preferred comprehensive Total
stock and Notes income (loss) common
profit Additional Retained receivable ------------------------ stockholder's
participation Common paid-in earnings from Currency Pension equity
certificates stock capital (deficit) affiliates translation 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 - - - 52,291 - - - 52,291
Other comprehensive income
(loss), net of tax - - - - - 30,733 (2,781) 27,952
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 December 31, 2002 - 297 1,944,185 (1,721,859) - (139,025) (6,750) 76,848
Net income - - - 81,761 - - - 81,761
Other comprehensive income
(loss), net of tax - - - - 5,600 (27,647) (22,047)
Cash dividends - - - (25,000) - - - (25,000)
---------- ----- ---------- ---------- --------- --------- -------- ---------
Balance at December 31, 2003 - 297 1,944,185 (1,665,098) - (133,425) (34,397) 111,562
Net income - - - 325,980 - - - 325,980
Other comprehensive income
(loss), net of tax - - - - - 33,661 4,803 38,464
Change in notes receivable
from affiliates - - - - (209,526) - - (209,526)
Cash dividends - - - (60,000) - - - (60,000)
---------- ----- ---------- ---------- --------- --------- -------- ---------
Balance at December 31, 2004 $ - $ 297 $1,944,185 $(1,399,118) $(209,526) $ (99,764) $(29,594) $ 206,480
========== ===== ========== =========== ========= ========= ======== =========
See accompanying notes to consolidated financial statements.
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Cash flows from operating activities:
Net income $ 52,291 $ 81,761 $ 325,980
Depreciation and amortization 27,144 33,634 37,726
Noncash currency transaction gain (13,121) - -
Noncash interest expense to affiliates 5,521 - -
Noncash interest income from affiliates (21,849) - -
Noncash interest expense 860 1,944 2,044
Deferred income taxes 5,514 38,690 (273,985)
Minority interest 55 72 53
Net loss from disposition of property and equipment 534 394 895
Pension cost, net (2,118) (3,805) (800)
Other, net 351 250 987
Change in assets and liabilities:
Accounts and other receivables 10,726 1,104 (6,227)
Inventories (1,907) 232 11,582
Prepaid expenses 903 1,345 (233)
Accounts payable and accrued liabilities (6,135) 5,495 27,922
Income taxes (2,114) (37,231) 25,557
Accounts with affiliates 12,189 (14,424) (6,103)
Other noncurrent assets 162 (3,779) 1,981
Other noncurrent liabilities (788) (894) (5,124)
--------- -------- ---------
Net cash provided by operating activities 68,218 104,788 142,255
--------- -------- ---------
Cash flows from investing activities:
Capital expenditures (27,632) (31,518) (33,679)
Purchase of interest in subsidiary - - (575)
Change in restricted cash equivalents and restricted
marketable debt securities, net (2,891) (554) (70)
Proceeds from disposition of property and equipment 864 383 99
--------- -------- ---------
Net cash used by investing activities (29,659) (31,689) (34,225)
--------- -------- ---------
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Cash flows from financing activities:
Indebtedness:
Borrowings $335,768 $ 16,106 $ 241,648
Principal payments (84,814) (46,006) (100,073)
Deferred financing fees (9,963) - (1,989)
Repayments on loans from affiliates (301,432) - -
Loans to affiliates - - (209,524)
Other capital transactions with affiliates, net 2,925 - -
Dividends paid - (25,000) (60,000)
Distributions to minority interests (11) (14) -
-------- --------- ---------
Net cash used by financing activities (57,527) (54,914) (129,938)
-------- --------- ---------
Cash and cash equivalents - net change from:
Operating, investing and financing activities (18,968) 18,185 (21,908)
Currency translation 3,648 3,913 2,292
-------- --------- ---------
(15,320) 22,098 (19,616)
Balance at beginning of year 30,343 15,023 37,121
-------- --------- ---------
Balance at end of year $ 15,023 $ 37,121 $ 17,505
======== ========= =========
Supplemental disclosures - cash paid (received) for:
Interest $ 34,061 28,147 $ 33,425
Income taxes 6,748 (11,480) (23,776)
KORNOS INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Summary of significant accounting policies:
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 or the Company is a wholly-owned subsidiary of Kronos
Worldwide, Inc. ("Kronos") (NYSE:KRO). At December 31, 2004, (i) Valhi, Inc.
(NYSE:VHI) and a wholly-owned subsidiary of Valhi held approximately 57% of
Kronos' outstanding common stock and NL Industries, Inc. (NYSE:NL) held an
additional 37% of Kronos' common stock, (ii) Valhi and such wholly-owned
subsidiary of Valhi owned approximately 83% of NL's outstanding common stock and
(iii) Contran Corporation and its subsidiaries held approximately 91% of Valhi'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 sole trustee, or is
held by Mr. Simmons or persons or other entities related to Mr. Simmons.
Consequently, Mr. Simmons may be deemed to control each of such companies.
Management's estimates. The preparation of financial statements in
conformity with accounting principles generally accepted in the United States of
America ("GAAP") 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
the reported amount of revenues and expenses during the reporting period. Actual
results may differ from previously-estimated amounts under different assumptions
or conditions.
Principles of consolidation. The consolidated financial statements include
the accounts of KII and its wholly-owned and majority-owned subsidiaries. All
material intercompany accounts and balances have been eliminated. Minority
interest relates to the Company's majority-owned subsidiary in France, which
conducts the Company's marketing and sales activities in that country. During
2004, the Company increased its ownership interest by approximately 5% to 99% in
such subsidiary by acquiring shares previously held by certain of its other
stockholders for an aggregate of $575,000.
Translation of foreign currencies. Assets and liabilities of subsidiaries
whose functional currency is other than the U.S. dollar are translated at
year-end rates of exchange and revenues and expenses are translated at average
exchange rates prevailing during the year. Resulting translation adjustments are
accumulated in stockholder's equity as part of accumulated other comprehensive
income (loss), net of related deferred income taxes and minority interest.
Currency transaction gains and losses are recognized in income currently. In
2002, the Company recognized a $2.7 million currency transaction gain related to
the extinguishments of certain intercompany indebtedness.
In 2002, a $2.7 million currency transaction gain is classified as a
component of other income (expense) in the accompanying Consolidated Statement
of Income. Such gain related to the extinguishment of certain intercompany
loans. Prior to June 28, 2002, KII had certain intercompany indebtedness payable
to Kronos, a portion of which was denominated in U.S. dollars, and a portion of
which was denominated in euro. Through June 19, 2002, such intercompany
indebtedness was deemed to be of a long-term nature for which settlement was not
planned or anticipated in the foreseeable future, and in accordance with GAAP,
the foreign currency transaction gains and losses related to such intercompany
indebtedness were not recognized in net income, but instead were reported as
part of accumulated other comprehensive income. On June 19, 2002, when the
purchase agreement was entered into in connection with KII's 2002 issuance of
the KII Senior Secured Notes discussed in Note 6, the expectation that such
intercompany indebtedness was of a long-term nature was no longer applicable, as
KII had stated that it intended to use a portion of the net proceeds of such
offering to repay such intercompany indebtedness owed to Kronos. Accordingly,
from the time period of June 19, 2002 (the date the purchase agreement related
to KII Senior Secured Notes was executed) until June 28, 2002 (the closing date
for the 2002 issuance of the KII Senior Secured Note offering, and the date such
intercompany indebtedness was repaid), the foreign currency transaction gains
and losses related to such intercompany indebtedness during such time period was
recognized in net income in accordance with GAAP.
Derivatives and hedging activities. Derivatives are recognized as either
assets or liabilities and measured at fair value in accordance with SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities," as amended.
The accounting for changes in fair value of derivatives depends upon the
intended use of the derivative, and such changes are recognized either in net
income or other comprehensive income. As permitted by the transition
requirements of SFAS No. 133, the Company has exempted from the scope of SFAS
No. 133 all host contracts containing embedded derivatives that were issued or
acquired prior to January 1, 1999.
Cash and cash equivalents. Cash equivalents include bank deposits with
original maturities of three months or less.
Restricted marketable debt securities. Restricted marketable debt
securities are primarily invested in corporate debt securities and include
amounts restricted in accordance with applicable Norwegian law regarding certain
requirements of the Company's Norwegian defined benefit pension plans ($2.6
million and $2.9 million at December 31, 2003 and 2004, respectively). The
restricted marketable debt securities are generally classified as either a
current or noncurrent asset depending upon the maturity date of each such debt
security and are carried at market which approximates cost.
Accounts receivable. The Company provides an allowance for doubtful
accounts for known and estimated potential losses arising from sales to
customers based on a periodic review of these accounts.
Property and equipment and depreciation. Property and equipment are stated
at cost. The Company has a governmental concession with an unlimited term to
operate an ilmenite mine in Norway. Mining properties consist of buildings and
equipment used in the Company's Norwegian ilmenite mining operations. The
Company does not own the ilmenite reserves associated with the mine.
Depreciation of property and equipment for financial reporting purposes
(including mining properties) is computed principally by the straight-line
method over the estimated useful lives of ten to 40 years for buildings and
three to 20 years for equipment. Accelerated depreciation methods are used for
income tax purposes, as permitted. Upon sale or retirement of an asset, the
related cost and accumulated depreciation are removed from the accounts and any
gain or loss is recognized in income currently.
Expenditures for maintenance, repairs and minor renewals are expensed;
expenditures for major improvements are capitalized. The Company performs
planned major maintenance activities during the year. Repair and maintenance
costs estimated to be incurred in connection with planned major maintenance
activities are accrued in advance and are included in cost of sales. Accrued
repair and maintenance costs, included in other current liabilities and
consisting primarily of materials and supplies, was $4.5 million and $3.9
million at December 31, 2003 and 2004, respectively.
Interest costs related to major long-term capital projects and renewals are
capitalized as a component of construction costs. Interest costs capitalized
were not significant in 2002, 2003 or 2004.
When events or changes in circumstances indicate that assets may be
impaired, an evaluation is performed to determine if an impairment exists. Such
events or changes in circumstances include, among other things, (i) significant
current and prior periods or current and projected periods with operating
losses, (ii) a significant decrease in the market value of an asset or (iii) a
significant change in the extent or manner in which an asset is used. All
relevant factors are considered. The test for impairment is performed by
comparing the estimated future undiscounted cash flows (exclusive of interest
expense) associated with the asset to the asset's net carrying value to
determine if a write-down to market value or discounted cash flow value is
required. Effective January 1, 2002, the Company commenced assessing impairment
of other long-lived assets (such as property and equipment and mining
properties) in accordance with SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets," which among other things provided certain
implementation guidance in relation to prior GAAP. See Note 14.
Long-term debt. Long-term debt is stated net of any unamortized original
issue premium or discount. Amortization of deferred financing costs and any
premium or discount associated with the issuance of indebtedness, all included
in interest expense, is computed by the interest method over the term of the
applicable issue.
Employee benefit plans. Accounting and funding policies for retirement
plans are described in Note 10.
Income taxes. Prior to December 2003, KII, Kronos and its qualifying
subsidiaries were members of NL's consolidated U.S. federal income tax group
(the "NL Tax Group"). As a member of the NL Tax Group, the Company was a party
to a tax sharing agreement (the "NL Tax Agreement"). The NL Tax Group, including
KII, is included in the consolidated U.S. federal tax return 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 and its qualifying subsidiaries, including KII,
compute provisions for U.S. income taxes on a separate-company basis using the
tax elections made by Contran. Pursuant to the Kronos Tax Sharing Agreement and
using the tax elections made by Contran, KII made payments to or received
payments from Kronos in amounts it would have paid to or received from the U.S.
Internal Revenue Service had it not been a member of NL's consolidated tax group
but instead was a separate taxpayer. Refunds are limited to amounts previously
paid under the NL Tax Sharing Agreement.
Effective December 2003, following NL's distribution of 48.8% of the
outstanding shares of Kronos common stock to NL stockholders, Kronos and its
qualifying subsidiaries, including KII, ceased being members of the NL Tax
Group, but remained as members of the Contran Tax Group. Kronos entered into a
new tax sharing agreement with Valhi and Contran, which contains similar terms
to the NL Tax Agreement. Kronos and its consolidating subsidiaries, including
KII, are also included in Contran's consolidated unitary state income tax
returns in certain qualifying U.S. jurisdictions. The terms of the Contran Tax
Agreement also apply to state provisions in these jurisdictions.
Deferred income tax assets and liabilities are recognized for the expected
future tax consequences of temporary differences between the income tax and
financial reporting carrying amounts of assets and liabilities, including
investments in the Company's subsidiaries and affiliates who are not members of
the Contran Tax Group and undistributed earnings of foreign subsidiaries which
are not deemed to be permanently reinvested. Earnings of foreign subsidiaries
deemed to be permanently reinvested aggregated $496.8 million at December 31,
2003 and $526.5 million at December 31, 2004. The Company periodically evaluates
its deferred tax assets in the various taxing jurisdictions in which it operates
and adjusts any related valuation allowance based on the estimate of the amount
of such deferred tax assets that the Company believes does not meet the
"more-likely-than-not" recognition criteria.
Net sales. Sales are recorded when products are shipped and title and other
risks and rewards of ownership have passed to the customer, or when services are
performed. Shipping terms of products shipped are generally FOB shipping point,
although in some instances shipping terms are FOB destination point (for which
sales are not recognized until the product is received by the customer). Amounts
charged to customers for shipping and handling are included in net sales. Sales
are stated net of price, early payment and distributor discounts and volume
rebates.
Inventories and cost of sales. Inventories are stated at the lower of cost
(principally average cost) or market, net of allowance for slow-moving
inventories. Amounts are removed from inventories at average cost. Cost of sales
includes costs for materials, packing and finishing, utilities, salary and
benefits, maintenance and depreciation.
Selling, general and administrative expenses; shipping and handling costs.
Selling, general and administrative expenses include costs related to marketing,
sales, distribution, shipping and handling, research and development, legal and
administrative functions such as accounting, treasury and finance, and includes
costs for salaries and benefits, travel and entertainment, promotional materials
and professional fees. Shipping and handling costs are included in selling,
general and administrative expense and were $33 million in 2002, $43 million in
2003 and $49 million in 2004. Advertising costs are expensed as incurred and
were $1 million in each of 2002, 2003 and 2004. Research, development and
certain sales technical support costs are expensed as incurred and approximated
$6 million in 2002, $7 million in 2003 and $8 million in 2004.
Stock options. The Company has not issued any stock options. However,
certain employees of the Company have been granted options by NL to purchase NL
common stock. The Company has elected the disclosure alternative prescribed by
SFAS No. 123, "Accounting for Stock-Based Compensation," as amended, and to
account for its stock-based employee compensation related to stock options in
accordance with Accounting Principles Board Opinion ("APBO") No. 25, "Accounting
for Stock Issued to Employees," and its various interpretations. Under APBO No.
25, no compensation cost is generally recognized for fixed stock options in
which the exercise price is not less than the market price on the grant date.
During 2002, and following NL's cash settlement of options to purchase NL common
stock held by certain individuals, NL and the Company commenced accounting for
its stock options using the variable accounting method because NL could not
overcome the presumption that it would not similarly cash settle its remaining
stock options. Under the variable accounting method, the intrinsic value of all
unexercised stock options (including those with an exercise price at least equal
to the market price on the date of grant) are accrued as an expense over their
vesting period, with subsequent increases (decreases) in NL's market price
resulting in additional compensation expense (income). Upon exercise of such
options to purchase NL common stock held by employees of the Company, the
Company pays NL an amount equal to the difference between the market price of
NL's common stock on the date of exercise and the exercise price of such stock
option. Aggregate compensation expense related to NL stock options held by
employees of the Company was $400,000 in 2002, $300,000 in 2003 and $1.0 million
in 2004.
The following table presents what the Company's consolidated net income,
and related per share amounts, would have been in 2002, 2003 and 2004 if the
Company had applied the fair value-based recognition provisions of SFAS No. 123,
for all awards granted subsequent to January 1, 1995.
Years ended December 31,
-----------------------------------------
2002 2003 2004
---- ---- ----
(In millions)
Net income (loss) as reported $(26.3) $ 81.8 $ 326.0
Adjustments, net of applicable income
tax effects and minority interest:
Stock-based employee compensation expense
determined under APBO No. 25 .3 .1 .6
Stock-based employee compensation expense
determined under SFAS No. 123 (.3) (.1) -
------ ------- -------
Pro forma net income (loss) $(26.3) $ 81.8 $ 326.6
====== ======= =======
Note 2 - Geographic information:
The Company's operations are associated with the production and sale of
TiO2. Titanium dioxide pigments are used to impart whiteness, brightness and
opacity to a wide variety of products, including paints, plastics, paper, fibers
and ceramics. All of the Company's net assets are located in Europe.
For geographic information, net sales are attributed to the place of
manufacture (point of origin) and the location of the customer (point of
destination); property and equipment are attributed to their physical location.
Years ended December 31,
-----------------------------------------
2002 2003 2004
---- ---- ----
(In thousands)
Geographic areas
Net sales - point of origin:
Germany $ 404,299 $ 510,105 $ 576,138
Belgium 123,760 150,728 186,445
Norway 111,811 131,457 144,492
Other 89,560 110,358 124,784
Eliminations (149,765) (186,742) (223,889)
--------- --------- ---------
$ 579,665 $ 715,906 $ 807,970
========= ========= =========
Years ended December 31,
-----------------------------------------
2002 2003 2004
---- ---- ----
(In thousands)
Net sales - point of destination:
Europe $ 456,299 $ 567,630 $ 666,271
United States 39,104 58,293 42,015
Latin America 12,808 12,258 20,684
Asia 39,832 42,974 43,842
Other 31,622 34,751 35,158
--------- --------- ---------
$ 579,665 $ 715,906 $ 807,970
========= ========= =========
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Identifiable assets -
net property and equipment:
Germany $ 252,411 $ 269,922
Belgium 64,895 68,314
Norway 50,811 57,808
Other 270 191
--------- ---------
$ 368,387 $ 396,235
========= =========
Note 3 - Accounts and other receivables:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Trade receivables $ 106,246 $120,969
Insurance claims 58 32
Recoverable VAT and other receivables 8,715 11,388
Allowance for doubtful accounts (2,222) (1,660)
--------- ---------
$ 112,797 $ 130,729
========= =========
Note 4 - Inventories
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Raw materials $ 30,261 $ 34,303
Work in process 15,623 13,044
Finished products 92,009 90,083
Supplies 30,238 32,831
--------- ---------
$ 168,131 $ 170,261
========= =========
Note 5 - Accounts payable and accrued liabilities:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Accounts payable $ 50,626 $ 67,463
Employee benefits 23,592 27,863
Other 29,586 31,623
--------- ---------
$ 103,804 $ 126,949
========= =========
Note 6 - Long-term debt:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Long-term debt:
8.875% Senior Secured Notes $ 356,136 $ 519,225
Bank credit facility - 13,622
Other 603 348
--------- ---------
356,739 533,195
Less current maturities 288 13,792
--------- ---------
$ 356,451 $ 519,403
========= =========
In June 2002, KII issued at par value euro 285 million principal amount
($280 million when issued) of its 8.875% Senior Secured Notes due 2009, and in
November 2004 KII issued at 107% of par an additional euro 90 million principal
amount ($130 million when issued) of the KII Senior Secured Notes (collectively,
the "Notes"). The Notes are collateralized by a pledge of 65% of the common
stock or other ownership interests of certain of KII's first-tier operating
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. 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 the 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 December 31, 2004, KII was in compliance with all the
covenants, and the quoted market price of the Notes was approximately euro 1,075
per euro 1,000 principal amount (2003 - euro 1,000 per euro 1,000 principal
amount). At December 31, 2004, the carrying amount of the Notes includes euro
6.2 million ($8.4 million) of unamortized premium associated with the November
2004 issuance.
Also in June 2002, KII's operating subsidiaries in Germany, Belgium and
Norway (collectively, the "Borrowers") entered into a euro 80 million secured
revolving bank credit facility that matures in June 2005 ("European Credit
Facility"). Borrowings may be denominated in euros, Norwegian kroners or U.S.
dollars, and bear interest at the applicable interbank market rate plus 1.75%.
The facility also provides for the issuance of letters of credit up to euro 5
million. The European Credit Facility is collateralized by the accounts
receivable and inventories of the borrowers, plus a limited pledge of all of the
other assets of the Belgian borrower. The European Credit Facility contains
certain restrictive covenants which, among other things, restricts the ability
of the borrowers 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 European Credit Facility contains customary
cross-default provisions with respect to other debt and obligations of
Borrowers, KII and its other subsidiaries. At December 31, 2004, euro 10 million
($13.6 million) was outstanding under the European Credit Facility at an
interest rate of 3.85%, and the equivalent of $92.6 million was available for
additional borrowing by the subsidiaries.
Under the cross-default provisions of the Notes, the Notes may be
accelerated prior to their stated maturity if KII or any of KII's subsidiaries
default under any other indebtedness in excess of $20 million due to a failure
to pay such other indebtedness at its due date (including any due date that
arises prior to the stated maturity as a result of a default under such other
indebtedness). Under the cross-default provisions of the European Credit
Facility, any outstanding borrowings under the European Credit Facility may be
accelerated prior to their stated maturity if the Borrowers or KII default under
any other indebtedness in excess of euro 5 million due to a failure to pay such
other indebtedness at its due date (including any due date that arises prior to
the stated maturity as a result of a default under such other indebtedness). The
European Credit Facility contains provisions that allow the lender to accelerate
the maturity of the applicable facility in the event of a change of control, as
defined, of the applicable borrower. In the event the cross-default provisions
of either the Notes or the European Credit Facility become applicable, and such
indebtedness is accelerated, the Company would be required to repay such
indebtedness prior to their stated maturity.
Aggregate maturities of long-term debt at December 31, 2004 are shown in
the table below.
Years ending December 31, Amount
------------------------- --------------
(In thousands)
2005 $ 13,792
2006 159
2007 19
2008 -
2009 519,225
2010 and thereafter -
--------
$533,195
========
Restrictions. Certain of the credit facilities described above require the
respective borrower to maintain minimum levels of equity, require the
maintenance of certain financial ratios, limit dividends and additional
indebtedness and contain other provisions and restrictive covenants customary in
lending transactions of this type. At December 31, 2004, the restricted net
assets of consolidated subsidiaries approximated $158 million.
Note 7 - Other noncurrent liabilities:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Insurance claims and expenses $ 1,222 $ 1,505
Employee benefits 4,849 5,107
Asset retirement obligations 766 958
Other 7,261 9,270
--------- ---------
$ 14,098 $ 16,840
========= =========
The asset retirement obligations are discussed in Note 14.
Note 8 - Common stock and notes receivable from affiliates:
NL common stock options held by employees of the Company. At December 31,
2004, employees of the Company held options to purchase approximately 85,000
shares of NL common stock, of which 49,000 were granted in 2001 and are
exercisable at various dates through 2011 at an exercise price of $11.49 per
share. The remaining exercisable options are exercisable at various dates
through 2010 at an exercise price ranging from $2.66 to $9.34 per share.
The pro forma information required by SFAS No. 123 is based on an
estimation of the fair value of options issued subsequent to January 1, 1995.
See Note 1. No options were granted in 2002, 2003 or 2004. For purposes of pro
forma disclosures, the estimated fair value of the options is amortized to
expense over the options' vesting periods.
Common stock dividends. KII paid $25.0 million in cash dividends to Kronos
during 2003 and $60.0 million during 2004.
Preferred stock. In July 2002, KII and Kronos agreed to a recapitalization
of the Company as contemplated in the euro 285 million Notes offering. See Note
6. 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 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.
Notes receivable from affiliates - contra equity. The Company periodically
converted interest receivable from affiliates to notes receivable from
affiliates. For the year ended 2002 the interest transferred to notes receivable
from affiliates totaled $12.6 million (nil for 2003 and 2004).
In the fourth quarter of 2004, KII loaned an aggregate euro 163.1 million
($209.5 million) to Kronos in return for two promissory notes. Interest on both
notes is payable to KII on a quarterly basis at an annual rate of 9.25%. Due to
the long-term investment nature of these notes, settlement of the intercompany
notes receivable is not contemplated within the foreseeable future and as such
have been presented as a separate component of the Company's stockholder's
equity.
Cash flows related to principal amounts on such loans made to affiliates
included in contra equity are reflected in financing activities in the
accompanying Consolidated Statements of Cash Flows.
Note 9 - Income taxes:
Years ended December 31,
-------------------------------------
2002 2003 2004
---- ---- ----
(In millions)
Pre-tax income (loss):
Germany $ 46.8 $ 45.8 $ 30.2
Non-U.S. 16.4 36.8 34.6
------ ------ -------
$ 63.2 $ 82.6 $ 64.8
====== ====== =======
Expected tax expense (benefit), at U.S.
federal statutory income tax rate of 35% $ 22.1 $ 28.9 $ 22.7
Non-U.S. tax rates (5.2) (.9) .3
Nondeductible expenses 2.8 2.7 4.2
Change in deferred income tax valuation
allowance, net
(2.8) (6.7) (280.7)
Currency transaction gains and losses
for which no income taxes are provided (4.6) - -
Change in Belgian income tax law (2.3) - -
NL tax contingency reserve adjustment, net .1 13.4 (4.6)
Refund of prior year income taxes - (38.0) (2.6)
Other, net .7 1.3 (.6)
------ ------ -------
$ 10.8 $ .7 $(261.3)
====== ====== =======
Components of income tax expense (benefit):
Currently payable (refundable):
Germany $ (1.2) $(56.9) $ (.2)
Other non - U.S. 6.5 18.9 12.9
------ ------ -------
5.3 (38.0) 12.7
------ ------ -------
Deferred income taxes (benefit):
Germany 7.9 44.4 (270.5)
Other non - U.S. (2.4) (5.7) (3.5)
------ ------ -------
5.5 38.7 (274.0)
------ ------ -------
$ 10.8 $ .7 $(261.3)
====== ====== =======
Comprehensive provision for
income taxes (benefit) allocable to:
Net income $ 10.8 $ .7 $(261.3)
Other comprehensive income -
pension liabilities (.7) (9.5) (8.1)
------ ------ -------
$ 10.1 $ (8.8) $(269.4)
====== ====== =======
The components of the net deferred tax liability at December 31, 2003 and
2004, and changes in the deferred income tax valuation allowance during the past
three years, are summarized in the following tables.
December 31,
--------------------------------------------------
2003 2004
------------------------ -----------------------
Assets Liabilities Assets Liabilities
------- ------------ ------ -----------
(In millions)
Tax effect of temporary differences
related to:
Inventories $ .9 $ (3.4) $ 1.5 $ (4.4)
Property and equipment 46.0 (21.6) 37.8 (22.9)
Accrued (prepaid) pension cost 11.3 (33.5) 19.4 (40.4)
Other accrued liabilities and
deductible differences 3.8 - 46.1 -
Other taxable differences - (67.2) - (43.5)
Investment in subsidiaries/
affiliates not in tax group - - 1.9 -
Tax loss and tax credit carryforwards 137.3 - 217.8 -
Valuation allowance (162.7) - - -
------ ------- ------ --------
Adjusted gross deferred tax assets 324.5
(liabilities) 36.6 (125.7) (111.2)
Netting of items by tax jurisdiction (35.7) 35.7 (86.2) 86.2
------ ------- ------ --------
.9 (90.0) 238.3 (25.0)
Less net current deferred tax
asset (liability) .9 (3.4) - (2.7)
------ ------- ------ --------
Net noncurrent deferred tax asset
(liability) $ - $ (86.6) $238.3 $ (22.3)
====== ======= ====== =======
Years ended December 31,
-------------------------------------
2002 2003 2004
---- ---- ----
(In millions)
Increase (decrease) in valuation allowance:
Recognition of certain deductible tax
attributes for which the benefit had not
previously been recognized under the
"more-likely-than-not" recognition criteria $(2.8) $ (6.7) $ (280.7)
Foreign currency translation 21.6 28.2 (3.0)
Offset to the change in gross deferred
income tax assets due principally to
redeterminations of certain tax attributes
and implementation of certain tax
planning strategies 13.2 (12.5) 121.0
----- ------ --------
$32.0 $ 9.0 $ (162.7)
===== ====== ========
A reduction in the Belgian income tax rate from 40% to 34% was enacted in
December 2002 and became effective in January 2003. This reduction in the
Belgian income tax rate resulted in a $2.3 million decrease in the Company's
income tax expense in 2002 because the Company had previously recognized a net
deferred income tax liability with respect to Belgian temporary differences.
In the first quarter of 2003, the Company was notified by the German
Federal Fiscal Court (the "Court") that the Court had ruled in the Company's
favor concerning a claim for refund suit in which the Company sought refunds of
prior taxes paid during the periods 1990 through 1997. KII and the Company's
German operating subsidiary were required to file amended tax returns with the
German tax authorities in order to receive its refunds for such years, and all
of such amended returns were filed during 2003. Such amended returns reflected
an aggregate refund of taxes and related interest to KII and its German
operating subsidiary of euro 26.9 million ($32.1 million), and the Company
recognized the benefit for these net funds in its 2003 results of operations.
For the year ended December 31, 2004, the Company recognized a net refund of
euro 2.5 million ($3.1 million) related to additional net interest which has
accrued on the outstanding refund amount. Through December 2004, KII and its
German operating subsidiary had received net refunds of euro 35.6 million ($44.7
million when received). All refunds relating to the periods 1990 to 1997 were
received by December 31, 2004. In addition to the refunds for the 1990 to 1997
periods, the court ruling also resulted in a refund of 1999 income taxes and
interest, and the Company received euro 21.5 million ($24.6 million) in 2003.
Certain of the Company's non-U.S. tax returns are being examined and tax
authorities have or may propose tax deficiencies, including non-income related
items and interest. For example:
o The Company has received a preliminary tax assessment related to 1993 from
the Belgian tax authorities proposing tax deficiencies, including interest,
of approximately euro 6 million ($8 million at December 31, 2004). The
Company has filed a protest to this assessment and believes that a
significant portion of the assessment is without merit. The Belgian tax
authorities have filed a lien on the fixed assets of the Company's Belgian
TiO2 operations in connection with this assessment. In April 2003, the
Company received a notification from the Belgian tax authorities of their
intent to assess a tax deficiency related to 1999 that, including interest,
is expected to be approximately euro 9 million ($13 million). The Company
believes the proposed assessment is substantially without merit, and the
Company has filed a written response.
o The Norwegian tax authorities have notified the Company of their intent to
assess tax deficiencies of approximately kroner 12 million ($2 million at
December 31, 2004) relating to the years 1998 to 2000. The Company has
objected to this proposed assessment.
No assurance can be given that these tax matters will be resolved in the
Company's favor in view of the inherent uncertainties involved in settlement
initiatives, 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 its consolidated financial position, results of operations or
liquidity.
At December 31, 2003, Kronos had a significant amount of net operating loss
carryforwards for German corporate and trade tax purposes, all of which have no
expiration date. These net operating loss carryforwards were generated by KII, a
wholly-owned subsidiary of Kronos, principally during the 1990s when KII had a
significantly higher level of outstanding indebtedness than is currently
outstanding. For financial reporting purposes, however, the benefit of such net
operating loss carryforwards had not previously been recognized because Kronos
did not believe they met the "more-likely-than-not" recognition criteria, and
accordingly Kronos had a deferred income tax asset valuation allowance
offsetting the benefit of such net operating loss carryforwards and Kronos'
other tax attributes in Germany. KII had generated positive taxable income in
Germany for both German corporate and trade tax purposes since 2000, and
starting with the quarter ended December 31, 2002 and for each quarter
thereafter, KII had cumulative taxable income in Germany for the most recent
twelve quarters. However, offsetting this positive evidence was the fact that
prior to the end of 2003, Kronos believed there was significant uncertainty
regarding its ability to utilize such net operating loss carryforwards under
German tax law and, principally because of the uncertainty caused by this
negative evidence, Kronos had concluded the benefit of the net operating loss
carryforwards did not meet the "more-likely-than-not" criteria. By the end of
2003, and primarily as a result of a favorable German court ruling in 2003 and
the procedures Kronos had completed during 2003 with respect to the filing of
certain amended German tax returns (as discussed below), Kronos had concluded
that the significant uncertainty regarding its ability to utilize such net
operating loss carryforwards under German tax law had been eliminated. However,
at the end of 2003, Kronos believed at that time that it would generate a
taxable loss in Germany during 2004. Such expectation was based primarily upon
then-current levels of prices for TiO2, and the fact that Kronos was
experiencing a downward trend in its TiO2 selling prices and Kronos did not have
any positive evidence to indicate that the downward trend would improve. If the
price trend continued downward throughout all of 2004 (which was a possibility
given Kronos' prior experience), Kronos would likely have a taxable loss in
Germany for 2004. If the downward trend in prices had abated, ceased, or
reversed at some point during 2004, then Kronos would likely have taxable income
in Germany during 2004. Accordingly, Kronos continued to conclude at the end of
2003 that the benefit of the German net operating loss carryforwards did not
meet the "more-likely-than-not" criteria and that it would not be appropriate to
reverse the deferred income tax asset valuation allowance, given the likelihood
that Kronos would generate a taxable loss in Germany during 2004. The
expectation for a taxable loss in Germany continued through the end of the first
quarter of 2004. By the end of the second quarter of 2004, however, Kronos' TiO2
selling prices had started to increase, and Kronos believed its selling prices
would continue to increase during the second half of 2004 after Kronos and its
major competitors announced an additional round of price increases. The fact
that Kronos' selling prices started to increase during the second quarter of
2004, combined with the fact that Kronos and its competitors had announced
additional price increases (which based on past experience indicated to Kronos
that some portion of the additional price increases would be realized in the
marketplace), provided additional positive evidence that was not present at
December 31, 2003. Consequently, Kronos' revised projections now reflected
taxable income for Germany in 2004 as well as 2005. Accordingly, based on all
available evidence, including the fact that (i) KII had generated positive
taxable income in Germany since 2000, and starting with the quarter ended
December 31, 2002 and for each quarter thereafter, KII had cumulative taxable
income in Germany for the most recent twelve quarters, (ii) Kronos was now
projecting positive taxable income in Germany for 2004 and 2005 and (iii) the
German net operating loss carryforwards have no expiration date, Kronos
concluded that the benefit of the net operating loss carryforwards and other
German tax attributes now met the "more-likely-than-not" recognition criteria,
and that reversal of the deferred income tax asset valuation allowance related
to Germany was appropriate. Given the magnitude of the German net operating loss
carryforwards and the fact that current provisions of German law limit the
annual utilization of net operating loss carryforwards to 60% of taxable income
after the first euro 1 million of taxable income, Kronos believes it will take
several years to fully utilize the benefit of such loss carryforwards. However,
given the number of years for which Kronos has now generated positive taxable
income in Germany, combined with the fact that the net operating loss
carryforwards were generated during a time when KII had a significantly higher
level of outstanding indebtedness than it currently has outstanding, and the
fact that the net operating loss carryforwards have no expiration date, Kronos
concluded it was now appropriate to reverse all of the valuation allowance
related to the net operating loss carryforwards because the benefit of such
operating loss carryforwards now meet the "more-likely-than-not" recognition
criteria. Under applicable GAAP related to accounting for income taxes at
interim periods, a change in estimate at an interim period resulting in a
decrease in the valuation allowance is segregated into two components, the
portion related to the remaining interim periods of the current year and the
portion related to all future years. The portion of the valuation allowance
reversal related to the former is recognized over the remaining interim periods
of the current year, and the portion of the valuation allowance related to the
latter is recognized at the time the change in estimate is made. Accordingly,
Kronos has recognized a $280.7 million income tax benefit in 2004 related to the
complete reversal of such deferred income tax asset valuation allowance
attributable to Kronos' income tax attributes in Germany (principally the net
operating loss carryforwards). Of such $280.7 million, (i) $8.7 million relates
primarily to the utilization of the German net operating loss carryforwards
during the first six months of 2004, the benefit of which had previously not met
the "more-likely-than-not" recognition criteria, (ii) $268.6 million relates to
the valuation allowance reversal recognized as of June 30, 2004 and (iii) $3.4
million relates to the valuation allowance reversal recognized during the last
six months of 2004. At December 31, 2004, the net operating loss carryforwards
for German corporate and trade tax purposes aggregated the equivalent of $671
million and $232 million, respectively, all of which have no expiration date.
In October 2004, the American Jobs Creation Act of 2004 was enacted into
law. The new law contains several provisions that could impact the Company.
These provisions provide for, among other things, a special deduction from U.S.
taxable income equal to a stipulated percentage of qualified income from
domestic production activities (as defined) beginning in 2005, and a special 85%
dividends received deduction for certain dividends received from controlled
foreign corporations. Both of these provisions are complex and subject to
numerous limitations. The Company is still studying the new law, including the
technical provisions related to the two complex provisions noted above. The
effect on the Company of the new law, if any, has not yet been determined, in
part because the Company has not definitively determined whether its operations
qualify for the special deduction or whether it would benefit from the special
dividends received deduction. If the Company determines it qualifies for the
special deduction, the tax benefit of such special deduction would be recognized
in the period earned. With respect to the special dividends received deduction
for certain dividends received from controlled foreign corporations, the Company
will likely not be able to complete its evaluation of whether it would benefit
from the special dividends received deduction until sometime after the U.S.
government has issued clarifying regulations regarding this provision of the
Act, the timing for the issuance of which is not known. The aggregate amount of
unremitted earnings that is potentially subject to the special dividends
received deduction is approximately $527 million at December 31, 2004. The
Company is unable to reasonably estimate a range of income tax effects if such
unremitted earnings would be repatriated and become eligible for the special
dividends received deduction, as the calculation would be extremely complex.
Note 10 - Employee benefit plans:
Defined benefit plans. The Company maintains various defined benefit
pension plans. Employees are covered by plans in their respective countries.
Variances from actuarially assumed rates will result in increases or decreases
in accumulated pension obligations, pension expense and funding requirements in
future periods. At December 31, 2004, the Company currently expects to
contribute the equivalent of approximately $4 million to all of its defined
benefit pension plans during 2005.
The funded status of the Company's defined benefit pension plans, the
components of net periodic defined benefit pension cost related to the Company's
consolidated business segments and charged to continuing operations and the
rates used in determining the actuarial present value of benefit obligations are
presented in the tables below. The Company uses a September 30th measurement
date for their defined benefit pension plans.
Years ended December 31,
-------------------------
2003 2004
---- ----
(In thousands)
Change in projected benefit obligations ("PBO"):
Benefit obligations at beginning of the year $ 213,183 $ 272,204
Service cost 4,060 5,398
Interest cost 12,378 14,132
Participant contributions 1,295 1,362
Plan amendments 3,200 -
Actuarial (gains) losses 17,337 3,134
Change in foreign exchange rates 36,547 26,588
Benefits paid (15,796) (15,236)
--------- ---------
Benefit obligations at end of the year $ 272,204 $ 307,582
========= =========
Change in plan assets:
Fair value of plan assets at beginning of the year $ 160,860 $ 167,302
Actual return on plan assets (12,559) 14,175
Employer contributions 10,240 11,726
Participant contributions 1,295 1,362
Change in foreign exchange rates 23,262 17,244
Benefits paid (15,796) (15,236)
--------- ---------
Fair value of plan assets at end of year $ 167,302 $ 196,573
========= =========
Funded status at end of the year:
Plan assets less than PBO $(104,902) $(111,009)
Unrecognized actuarial losses 98,368 107,581
Unrecognized prior service cost 6,678 6,829
Unrecognized net transition obligations 1,228 952
--------- ---------
$ 1,372 $ 4,353
========= =========
Amounts recognized in the balance sheet:
Unrecognized net pension obligations $ 7,812 $ 7,524
Accrued pension costs:
Current (7,877) (8,587)
Noncurrent (53,010) (48,441)
Accumulated other comprehensive income 54,447 53,857
--------- ---------
$ 1,372 $ 4,353
========= =========
Years ended December 31,
-------------------------------------
2002 2003 2004
---- ---- ----
(In thousands
Net periodic pension cost:
Service cost benefits $ 3,395 $ 4,060 $ 5,398
Interest cost on PBO 10,965 12,378 14,132
Expected return on plan assets (10,294) (12,264) (12,318)
Amortization of prior service cost 223 255 463
Amortization of net transition
obligations 332 527 368
Recognized actuarial losses 1,029 827 2,335
-------- -------- --------
$ 5,650 $ 5,783 $ 10,378
======== ======== ========
In determining the expected long-term rate of return on plan asset
assumptions, the Company considers the long-term asset mix (e.g. equity vs.
fixed income) for the assets for each of its plans and the expected long-term
rates of return for such asset components. In addition, the Company receives
advice about appropriate long-term rates of return from the Company's
third-party actuaries. Such assumed asset mixes are summarized below:
o In Germany, the composition of the Company's plan assets is established to
satisfy the requirements of the German insurance commissioner. The current
plan asset allocation at December 31, 2004 was 23% to equity managers, 48%
to fixed income managers and 29% to real estate.
o In Norway, the Company currently has a plan asset target allocation of 14%
to equity managers, 62% to fixed income managers and the remainder
primarily to liquid investments and cash. The expected long-term rate of
return for such investments is approximately 8% and 4.5% to 6.5% and 2.5%,
respectively. The current plan asset allocation at December 31, 2004 was
16% to equity managers, 64% to fixed income managers and the remainder
primarily to cash and liquid investments.
The Company regularly reviews its actual asset allocation for each of its
plans, and will periodically rebalance the investments in each plan to more
accurately reflect the targeted allocation when considered appropriate.
The weighted-average rate assumptions used in determining the actuarial
present value of benefit obligations as of December 31, 2003 and 2004 are
presented in the table below. Such weighted-average rates were determined using
the projected benefit obligations at each date.
December 31,
------------------------
2003 2004
---- ----
Discount rate 5.4% 5.0%
Increase in future compensation levels 2.8% 2.8%
The weighted-average rate assumptions used in determining the net periodic
pension cost for 2002, 2003 and 2004 are presented in the table below. The
weighted-average discount rate and the weighted-average increase in future
compensation levels were determined using the projected benefit obligations as
of the beginning of each year, and the weighted-average long-term return on plan
assets was determined using the fair value of plan assets as of the beginning of
each year.
December 31,
----------------------------------------
2002 2003 2004
---- ---- ----
Discount rate 6.0% 5.8% 5.3%
Increase in future compensation levels 2.8% 2.6% 2.8%
Long-term return on plan assets 7.3% 6.9% 6.4%
Selected information related to the Company's defined benefit pension plans
that have accumulated benefit obligations in excess of fair value of plan assets
is presented below. At December 31, 2002 and 2003, 100% of the projected benefit
obligations of such plans relate to non-U.S. plans.
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Projected benefit obligation $272,204 $307,582
Accumulated benefit obligation 230,893 257,308
Fair value of plan assets 167,302 196,573
The Company expects future benefits paid from all defined benefit pension
plans to be as follows:
Amount
Years ending December 31, (In thousands)
- ------------------------- --------------
2005 $ 15,592
2006 16,974
2007 15,978
2008 17,729
2009 16,497
2010 to 2014 89,950
Note 11 - Related party transactions:
The Company may be deemed to be controlled by Harold C. Simmons. See Note
1. Corporations that may be deemed to be controlled by or affiliated with Mr.
Simmons sometimes engage in (a) intercorporate transactions such as guarantees,
management and expense sharing arrangements, shared fee arrangements, joint
ventures, partnerships, loans, options, advances of funds on open account, and
sales, leases and exchanges of assets, including securities issued by both
related and unrelated parties and (b) common investment and acquisition
strategies, business combinations, reorganizations, recapitalizations,
securities repurchases, and purchases and sales (and other acquisitions and
dispositions) of subsidiaries, divisions or other business units, which
transactions have involved both related and unrelated parties and have included
transactions which resulted in the acquisition by one related party of a
publicly-held minority equity interest in another related party. While no
transactions of the type described above are planned or proposed with respect to
the Company other than as set forth in these financial statements, the Company
continuously considers, reviews and evaluates, and understands that Contran and
related entities consider, review and evaluate such transactions. Depending upon
the business, tax and other objectives then relevant, it is possible that the
Company might be a party to one or more such transactions in the future.
It is the policy of the Company to engage in transactions with related
parties on terms, in the opinion of the Company, no less favorable to the
Company than could be obtained from unrelated parties.
Under the terms of various intercorporate services agreements ("ISAs")
entered into between the Company and various related parties, employees of one
company will provide certain management, tax planning, financial and
administrative services to the other company on a fee basis. Such charges are
based upon estimates of the time devoted by the employees of the provider of the
services to the affairs of the recipient, and the compensation and associated
expenses of such persons. Because of the large number of companies affiliated
with Contran, Kronos and NL, the Company believes it benefits from cost savings
and economies of scale gained by not having certain management, financial and
administrative staffs duplicated at each entity, thus allowing certain
individuals to provide services to multiple companies but only be compensated by
one entity. These ISA agreements are reviewed and approved by the applicable
independent directors of the companies that are parties to the agreements. The
net ISA fee charged to the Company was $1.1 million in 2002, $1.5 million in
2003 and $2.8 million in 2004.
Sales of TiO2 to Kronos (US), Inc. ("KUS"), an affiliate, were $38.5
million in 2002, $57.8 million in 2003 and $41.9 million in 2004. Sales of TiO2
to Kronos Canada, Inc. ("KC") were $7.7 million in 2002, $10.9 million in 2003
and $8.9 million in 2004.
KUS purchases the rutile and slag feedstock used as a raw material in all
of the Company's chloride process TiO2 facilities. The Company purchases such
feedstock from KUS for use in its facilities for an amount equal to the amount
paid by KUS to the third-party supplier plus a 2.5% administrative fee. Such
feedstock purchases were $102.5 million in 2002, $93.3 million in 2003 and
$106.2 million in 2004.
Purchases of TiO2 from KUS were $2.6 million in 2002, $100,000 in 2003 and
$3.5 million in 2004. Purchases of TiO2 from KC were $500,000 in each of 2002
and 2003 and $700,000 in 2004.
Royalty income received from KC for use of certain of the Company's
intellectual property was $5.8 million in 2002, $6.1 million in 2003 and $6.0
million in 2004.
The Company is party to master global NL insurance coverage policies with
regard to property, business interruption, excess liability and other coverages.
The costs associated with these policies aggregated $7.0 million, $5.2 million
and $5.3 million in 2002, 2003 and 2004, respectively.
Contran and certain of its subsidiaries and affiliates, including the
Company, purchase certain of their insurance policies as a group, with the costs
of the jointly-owned policies being apportioned among the participating
companies. With respect to certain of such policies, it is possible that
unusually large losses incurred by one or more insureds during a given policy
period could leave the other participating companies without adequate coverage
under that policy for the balance of the policy period. As a result, Contran and
certain of its subsidiaries and its affiliates, including the Company, have
entered into a loss sharing agreement under which any uninsured loss is shared
by those entities who have submitted claims under the relevant policy. The
Company believes the benefits in the form of reduced premiums and broader
coverage associated with the group coverage for such policies justifies the risk
associated with the potential for uninsured loss.
Net amounts between the Company and KUS were generally related to product
sales and raw material purchases. Net amounts between the Company and KC were
generally related to product sales and royalties. See Note 8 for discussion of
notes receivable from affiliates.
Current receivables from and payables to affiliates are summarized in the
table below.
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Current receivables from affiliates:
KC $ 1,877 $ 2,516
Other 7 1
------- -------
$ 1,884 $ 2,517
======= =======
Current payables to affiliates:
KUS $ 8,697 $11,033
NL - 9
------- -------
$ 8,697 $11,042
======= =======
Interest income on all loans to related parties was $22.8 million in 2002,
less than $50,000 in 2003 and $2.8 million in 2004. Interest expense on all
loans from related parties was $18.7 million in 2002, less than $100,000 in 2003
and nil in 2004.
In July 2002, all outstanding Series A shares and Series B shares (with
aggregate values of $219.0 million and $192.7 million, respectively, at the time
of conversion) were converted into 1,385 shares of KII, $100 par value, common
stock. As a result of the conversion, the Series A and B shares were canceled.
See Note 8.
Profit Participation Certificates ("PPCs") - PPCs with DM100 par value:
5,500,000 shares authorized, issued and outstanding are designated nonvoting
cumulative preferred PPCs and yielded an annual dividend of 4% per share based
on earnings of the Company and before any common stock dividends to Kronos.
Kronos waived its right to dividend distributions for all periods presented and
through December 2002. The PPCs were issued to Kronos ($284.3 million) in
December 1999 as part of a recapitalization of the Company. In July 2002 all
outstanding PPCs (with an aggregate value of $284.3 million at the time of
redemption) were redeemed in exchange for various notes receivable from NL. As a
result of the redemption, the PPCs were canceled.
Note 12 - Commitments and contingencies:
Environmental matters. The Company's operations are governed by various
environmental laws and regulations. Certain of the Company's businesses are, or
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 Company's policy is to maintain compliance with
applicable environmental laws and regulations at all its facilities and to
strive to improve its environmental performance. From time to time, the Company
may be subject to environmental regulatory enforcement under various statutes,
resolution of which typically involves the establishment of compliance programs.
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. The Company believes all its plants are in
substantial compliance with applicable environmental laws.
Litigation matters. The Company's Belgian subsidiary and certain of its
employees are the subject of civil and criminal proceedings relating to an
accident that resulted in two fatalities at the Company's Belgian facility in
2000. In May 2004, the court ruled and, among other things, imposed a fine of
euro 200,000 against the Company and fines aggregating less than euro 40,000
against various Company employees. The Company and the individual employees have
appealed the ruling.
In addition to the litigation described above, the Company and its
affiliates are also involved in various other environmental, contractual,
product liability, patent (or intellectual property), employment and other
claims and disputes incidental to its present and former businesses.
The Company currently believes the disposition of all claims and disputes,
individually or in the aggregate, should not have a material adverse effect on
its consolidated financial condition, results of operations or liquidity.
Concentrations of credit risk. Sales of TiO2 accounted for more than 90% of
net sales from continuing operations during each of the past three years. The
remaining sales result from the mining and sale of ilmenite ore (a raw material
used in the sulfate pigment production process), and the manufacture and sale of
iron-based water treatment chemicals (derived from co-products of the TiO2
production processes). TiO2 is generally sold to the paint, plastics and paper
industries. Such markets are generally considered "quality-of-life" markets
whose demand for TiO2 is influenced by the relative economic well-being of the
various geographic regions. TiO2 is sold to over 4,000 customers, with the top
ten customers approximating 21%, 20% and 21%, respectively of net sales in 2002,
2003 and 2004. Approximately 73% of the Company's TiO2 sales by volume were to
Europe in each of 2002 and 2003 and approximately 77% of the Company's TiO2
sales were to Europe in 2004. Approximately 13% of sales by volume were
attributable to North America in 2002 and 2003 and 9% attributable to North
America in 2004.
Capital expenditures. At December 31, 2004 the estimated cost to complete
capital projects in process approximated $5.5 million.
Long-term contracts. KUS has long-term supply contracts that provide for
certain of its affiliates', including the Company's, TiO2 feedstock requirements
through 2009. The agreements require KUS to purchase certain minimum quantities
of feedstock with minimum annual purchase commitments aggregating approximately
$525 million at December 31. 2004. The agreements require that the Company and
certain of its affiliates purchase chloride feedstock underlying these long-term
supply contracts from KUS.
Operating leases. The Company's principal German operating subsidiary
leases the land under its Leverkusen TiO2 production facility pursuant to a
lease expiring in 2050. The Leverkusen facility, with approximately one-half of
the Company's current TiO2 production capacity, is located within the lessor's
extensive manufacturing complex. Rent for the Leverkusen facility is
periodically established by agreement with the lessor for periods of at least
two years at a time. Under a separate supplies and services agreement expiring
in 2011, the lessor provides some raw materials, auxiliary and operating
materials and utilities services necessary to operate the Leverkusen facility.
Both the lease and the supplies and services agreements restrict ownership and
use of the Leverkusen facility.
The Company also leases various other manufacturing facilities and
equipment. Some of the leases contain purchase and/or various term renewal
options at fair market and fair rental values, respectively. In most cases the
Company expects that, in the normal course of business, such leases will be
renewed or replaced by other leases. Net rent expense approximated $7 million in
2002, $9 million in 2003 and $8 million in 2004. At December 31, 2004, future
minimum payments under noncancellable operating leases having an initial or
remaining term of more than one year were as follows:
Years ending December 31, Amount
------------------------- ------
(In thousands)
2005 $ 3,357
2006 2,130
2007 1,896
2008 1,698
2009 1,290
2010 and thereafter 20,895
-------
$31,266
=======
Approximately $25.3 million of the $31.3 million aggregate future minimum
rental commitments at December 31, 2004 relates to the Company's Leverkusen
facility lease discussed above. The minimum commitment amounts for such lease
included in the table above for each year through the 2050 expiration of the
lease are based upon the current annual rental rate as of December 31, 2004.
Note 13 - Financial instruments:
Summarized below is the estimated fair value and related net carrying value
of the Company's financial instruments.
December 31, December 31,
2003 2004
-------------------------- -------------------------
Carrying Fair Carrying Fair
amount value amount value
---------- ---------- ---------- ----------
(In millions)
Cash, cash equivalents, restricted
cash and current and noncurrent
restricted marketable debt securities $ 41.0 $ 41.0 $ 21.9 $ 21.9
Long-term debt:
Fixed rate with market quotes -
8.875% Senior Secured Notes $ 356.1 $ 356.1 $519.2 $ 549.1
Variable rate debt - - 13.6 13.6
Other fixed rate debt .6 .6 .4 .4
Fair value of the Company's noncurrent restricted marketable debt
securities and 8.875% Senior Secured Notes are based upon quoted market prices
at each balance sheet date.
At December 31, 2003, the Company had entered into a short-term currency
forward contract maturing January 2, 2004 to exchange an aggregate of euro 40
million for an equivalent amount of U.S. dollars at an exchange rate of U.S.
$1.25 per euro. Such contract was entered into in conjunction with the January
2004 payment of an intercompany dividend from one of the Company's European
subsidiaries. At December 31, 2003, the actual exchange rate was U.S. $1.25 per
euro. The estimated fair value of such foreign currency contract was not
material at December 31, 2003. The Company held no other significant derivative
financial instruments at December 31, 2003 or 2004. See Note 1.
Note 14 - Accounting principles newly adopted in 2002, 2003 and 2004:
Impairment of long-lived assets. The Company adopted 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 prior 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 Lived-Lived Assets to be Disposed Of." However, SFAS No. 144 provides
new guidance intended to address certain 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 net assets to be disposed of by sale are 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. Adoption of SFAS No. 144 did not have a significant effect
on the Company.
Asset retirement obligations. The Company adopted SFAS No. 143, "Accounting
for Asset Retirement Obligations," on 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 is 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 is depreciated over the useful life of the
related asset. Upon settlement of the liability, an entity either settles the
obligation for its recorded amount or incurs a gain or loss upon settlement.
Under the transition provisions of SFAS No. 143, at the date of adoption on
January 1, 2003 the Company recognized (i) an asset retirement cost capitalized
as an increase to the carrying value of its property, plant and equipment, (ii)
accumulated depreciation on such capitalized cost and (iii) a liability for the
asset retirement obligation. Amounts resulting from the initial application of
SFAS No. 143 are measured using information, assumptions and interest rates all
as of January 1, 2003. The amount recognized as the asset retirement cost is
measured as of the date the asset retirement obligation was incurred. Cumulative
accretion on the asset retirement obligation, and accumulated depreciation on
the asset retirement cost, is recognized for the time period from the date the
asset retirement cost and liability would have been recognized had the
provisions of SFAS No. 143 been in effect at the date the liability was
incurred, through January 1, 2003. The difference, if any, between the amounts
to be recognized as described above and any associated amounts recognized in the
Company's balance sheet as of December 31, 2002 is recognized as a cumulative
effect of a change in accounting principles as of the date of adoption. The
effect of adopting SFAS No. 143 as of January 1, 2003 was not material, as
summarized in the table below, and is not separately recognized in the
accompanying Statement of Income.
Amount
--------
(in millions)
Increase in carrying value of net property, plant and equipment:
Cost $ .4
Accumulated depreciation (.1)
Decrease in carrying value of previously-accrued closure and
post-closure activities .3
Asset retirement obligation recognized (.6)
----
Net impact $ -
====
The increase in the asset retirement obligations from January 1, 2003
($600,000) to December 31, 2003 ($800,000) and to December 31, 2004 ($1 million)
is primarily due to accretion expense and the effects of currency translation.
Accretion expense, which is reported as a component of cost of goods sold in the
accompanying Consolidated Statement of Operations, approximated $100,000 for
each of the years ended December 31, 2003 and 2004.
Estimates of the ultimate cost to be incurred to settle the Company's asset
retirement obligations require a number of assumptions, are inherently difficult
to develop and the ultimate outcome may differ from current estimates. As
additional information becomes available, cost estimates will be adjusted as
necessary. It is possible that technological, regulatory or enforcement
developments, the results of studies or other factors could necessitate the
recording of additional liabilities.
Costs associated with exit or disposal activities. The Company adopted SFAS
No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," on
January 1, 2003 for exit or disposal activities initiated on or after that date.
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 prior 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. The effect
of adopting SFAS No. 146 as of January 1, 2003 was not material as the Company
was not involved in any exit or disposal activities covered by the scope of the
new standard as of such date.
Variable interest entities. The Company complied with the consolidation
requirements of FASB Interpretation ("FIN") No. 46R, "Consolidation of Variable
Interest Entities, an interpretation of ARB No. 51," as amended, as of March 31,
2004. The Company does not have any involvement with any variable interest
entity (as that term is defined in FIN No. 46R) covered by the scope of FIN No.
46R that would require the Company to consolidate such entity under FIN No. 46R
which had not already been consolidated under prior applicable GAAP, and
therefore the impact to the Company of adopting the consolidation requirements
of FIN No. 46R was not material.
Note 15 - Accounting principles not yet adopted:
Inventory costs. The Company will adopt SFAS No. 151, "Inventory Costs, an
amendment of ARB No. 43, Chapter 4," for inventory costs incurred on or after
January 1, 2006. SFAS No. 151 requires that the allocation of fixed production
overhead costs to inventory shall be based on normal capacity. Normal capacity
is not defined as a fixed amount; rather, normal capacity refers to a range of
production levels expected to be achieved over a number of periods under normal
circumstances, taking into account the loss of capacity resulting from planned
maintenance shutdowns. The amount of fixed overhead allocated to each unit of
production is not increased as a consequence of idle plant or production levels
below the low end of normal capacity, but instead a portion of fixed overhead
costs are charged to expense as incurred. Alternatively, in periods of
production above the high end of normal capacity, the amount of fixed overhead
costs allocated to each unit of production is decreased so that inventories are
not measured above cost. SFAS No. 151 also clarifies existing GAAP to require
that abnormal freight and wasted materials (spoilage) are to be expensed as
incurred. The Company believes its production cost accounting already complies
with the requirements of SFAS No. 151, and the Company does not expect adoption
of SFAS No. 151 will have a material effect on its consolidated financial
statements.
Stock options. The Company will adopt SFAS No. 123R, "Share-Based Payment,"
as of July 1, 2005. SFAS No. 123R, among other things, eliminates the
alternative in existing GAAP to use the intrinsic value method of accounting for
stock-based employee compensation under APBO No. 25. Upon adoption of SFAS No.
123R, the Company will generally be required to recognize the cost of employee
services received in exchange for an award of equity instruments based on the
grant-date fair value of the award, with the cost recognized over the period
during which an employee is required to provide services in exchange for the
award (generally, the vesting period of the award). No compensation cost will be
recognized in the aggregate for equity instruments for which the employee does
not render the requisite service (generally, the instrument is forfeited before
it has vested). The grant-date fair value will be estimated using option-pricing
models (e.g. Black-Scholes or a lattice model). Under the transition
alternatives permitted under SFAS No. 123R, the Company will apply the new
standard to all new awards granted on or after July 1, 2005, and to all awards
existing as of June 30, 2005 which are subsequently modified, repurchased or
cancelled. Additionally, as of July 1, 2005, the Company will be required to
recognize compensation cost for the portion of any non-vested award existing as
of June 30, 2005 over the remaining vesting period. Because the Company has not
granted any options to purchase its common stock and is not expected to grant
any options prior to July 1, 2005 and because the number of non-vested awards as
of June 30, 2005 with respect to options granted by NL to employees of the
Company is not expected to be material, the effect of adopting SFAS No. 123R is
not expected to be significant in so far as it relates to existing stock
options. Should the Company, however, grant a significant number of options in
the future, the effect on the Company's consolidated financial statements could
be material.
Note 16 - Quarterly results of operations (unaudited):
Quarter ended
------------------------------------------------------
March 31 June 30 Sept. 30 Dec. 31
-------- ------- -------- -------
(In millions, except per share data)
Year ended December 31, 2003
Net sales $ 178.2 $ 182.9 $ 173.4 $ 181.4
Cost of sales 130.8 134.2 124.2 127.7
Net income $ 14.8 $ 36.7 $ 14.2 $ 16.1
Year ended December 31, 2004
Net sales $ 192.2 $ 208.1 $ 203.4 $ 204.3
Cost of sales 142.6 156.3 156.1 154.6
Net income $ 13.2 $ 290.5 $ 9.1 $ 13.2
During the fourth quarter of 2004, the Company determined that it should
have recognized an additional $26.8 million net deferred income tax benefit
during the second quarter of 2004, related to the amount of the valuation
allowance related to the Company's German operations which should have been
reversed. While the additional tax benefit is not material to the Company's
second quarter 2004 results, the quarterly results of operations for 2004, as
presented above, reflects this additional tax benefit. Accordingly, income from
continuing operations for the second quarter of 2004 of $290.5 million, as
reflected above, differs from the $263.7 million previously reported by the
Company due to such $26.8 million deferred income tax benefit.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
ON FINANCIAL STATEMENT SCHEDULES
To the Board of Directors of Kronos International, Inc.:
Our audits of the consolidated financial statements referred to in our
report dated March 30, 2005, appearing on page F-2 in this 2004 Annual Report on
Form 10-K of Kronos International, Inc., also included an audit of the financial
statement schedules listed in the index on page F-1 of this Form 10-K. In our
opinion, these financial statement schedules present fairly, in all material
respects, the information set forth therein when read in conjunction with the
related consolidated financial statements.
PricewaterhouseCoopers LLP
Dallas, Texas
March 30, 2005
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
Condensed Balance Sheets
December 31, 2003 and 2004
(In thousands)
2003 2004
---- ----
Current assets:
Cash and cash equivalents $ 548 $ 6,283
Accounts and notes receivable 7,553 8,838
Receivable from affiliates 5,605 20,214
Deferred income taxes - 206
Other 21 48
-------- --------
Total current assets 13,727 35,589
-------- --------
Other assets:
Notes receivable from subsidiary 89,710 -
Investment in subsidiaries 563,171 493,532
Deferred income taxes - 222,643
Other 9,190 10,508
Property and equipment, net 6,454 6,917
-------- --------
Total other assets 668,525 733,600
-------- --------
$682,252 $769,189
======== ========
Current liabilities:
Payable to affiliates $ 32,218 $ 25,621
Accounts payable and accrued liabilities 5,305 6,072
Income taxes 95,293 10,638
Deferred income taxes - 15
-------- --------
Total current liabilities 132,816 42,346
-------- --------
Noncurrent liabilities:
Long-term debt 356,136 519,225
Deferred income taxes 80,741 -
Other 997 1,138
-------- --------
Total noncurrent liabilities 437,874 520,363
-------- --------
Stockholder's equity 111,562 206,480
-------- --------
$682,252 $769,189
======== ========
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT (CONTINUED)
Condensed Statements of Income
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Revenues and other income:
Net sales $ 28,326 $ 35,601 $ 40,038
Equity in earnings of subsidiaries 34,308 293,623 66,049
Interest income from affiliates 28,405 50 2,782
Royalty income 14,370 16,568 18,508
Currency translation gains (losses), net 14,656 (599) (575)
Other income, net 753 (38) 71
-------- -------- --------
120,818 345,205 126,873
-------- -------- --------
Costs and expenses:
Cost of sales 13,903 18,306 21,371
General and administrative 16,814 21,209 28,351
Interest 13,948 29,847 33,772
Interest expense to affiliates 20,530 - 5,754
-------- -------- --------
65,195 69,362 89,248
-------- -------- --------
Income before income taxes 55,623 275,843 37,625
Provision (benefit) for income taxes 3,332 194,082 (288,355)
-------- -------- --------
Net income 52,291 81,761 325,980
Dividends and accretion applicable
to redeemable preferred stock and
profit participation certificates (78,600) - -
-------- -------- --------
Net income (loss) available to common stock $(26,309) $ 81,761 $325,980
======== ======== ========
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT (CONTINUED)
Condensed Statements of Cash Flows
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Cash flows from operating activities:
Net income $ 52,291 $ 81,761 $325,980
Cash distributions from subsidiaries 26,249 402 50,902
Noncash currency transaction (gain) loss (13,121) - -
Noncash interest income (21,849) - -
Noncash interest expense 6,174 1,472 1,487
Deferred income taxes 5,037 238,814 (276,806)
Equity in earnings of subsidiaries (34,308) (293,623) (66,049)
Other, net 451 (3,570) (637)
-------- --------- --------
20,924 25,256 34,877
Net change in assets and liabilities 1,220 115 25,963
-------- --------- --------
Net cash provided by operating activities
22,144 25,371 60,840
-------- --------- --------
Cash flows from investing activities:
Capital expenditures (1,730) (2,406) (1,544)
Collection of loans to affiliates 12,090 - 88,656
Purchase of interest in subsidiaries - - (575)
Other, net 13 9 -
-------- --------- --------
Net cash provided (used) by investing activities 10,373 (2,397) 86,537
-------- --------- --------
Cash flows from financing activities:
Indebtedness:
Borrowings 280,041 - 129,524
Principal payments (26,697) - -
Deferred financing fees (8,600) - (1,989)
Repayments of loans from affiliates (301,432) - -
Loans to affiliates - - (209,524)
Dividends paid - (25,000) (60,000)
Other capital transactions with affiliates, net 2,925 - -
-------- --------- --------
Net cash used by financing activities (53,763) (25,000) (141,989)
-------- --------- --------
Net change during the year from operating investing and
financing activities (21,246) (2,026) 5,388
Currency translation 2,013 129 347
Balance at beginning of year 21,678 2,445 548
-------- --------- --------
Balance at end of year $ 2,445 $ 548 $ 6,283
======== ========= ========
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT (CONTINUED)
Notes to Condensed Financial Information
Note 1 - Basis of presentation:
The Consolidated Financial Statements of Kronos International, Inc. and the
related Notes to Consolidated Financial Statements are incorporated herein by
reference.
Note 2 - Investment in and advances to subsidiaries:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Current:
Receivable from:
Kronos Titan GmbH ("TG") - income taxes $ - $ 14,386
Kronos Titan A/S 1,567 1,667
Kronos Europe S.A./N.V 1,641 2,168
Kronos Canada 1,354 1,482
Kronos Denmark ApS ("KDK") 635 -
Titania A/S 360 432
Other 48 79
------- -------
$ 5,605 $20,214
======= =======
Payable to:
TG 31,974 25,032
Kronos (US), Inc. 48 145
Kronos Chemie GmbH 150 255
Other 46 189
------- -------
$32,218 $25,621
======= =======
Noncurrent:
Notes receivable from TG $89,710 $ -
======= =======
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Investment in:
TG $440,844 $322,434
KDK 109,010 147,904
Other 13,317 23,194
-------- --------
$563,171 $493,532
======== ========
Years ended December 31,
------------------------------------
2002 2003 2004
---- ---- ----
(In thousands)
Equity in income from continuing
operations of subsidiaries:
TG $ 22,430 $270,541 $ 40,951
KDK 11,344 26,892 23,816
Other 534 (3,810) 1,282
-------- -------- --------
$ 34,308 $293,623 $ 66,049
======== ======== ========
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
(In thousands)
Additions
Balance at charged to Balance
beginning costs and Net Currency at end
Description of year expenses deductions translation Other of year
- ----------------------------------- ---------- ----------- ---------- ----------- ------- ---------
Year ended December 31, 2002:
Allowance for doubtful accounts $ 1,626 $ 381 $ (397) $ 297 $ - $ 1,907
======= ======= ======= ======= ====== =======
Accrual for planned major
maintenance activities $ 2,534 $ 1,616 $(1,374) $ 483 $ - $ 3,259
======= ======= ======= ======= ====== =======
Year ended December 31, 2003:
Allowance for doubtful accounts $ 1,907 $ 233 $ (281) $ 363 $ - $ 2,222
======= ======= ======= ======= ====== =======
Accrual for planned major
maintenance activities $ 3,259 $ 1,432 $ (915) $ 684 $ - $ 4,460
======= ======= ======= ======= ====== =======
Year ended December 31, 2004:
Allowance for doubtful accounts $ 2,222 $ (169) $ (540) $ 147 $ - $ 1,660
======= ======= ======= ======= ====== =======
Accrual for planned major
maintenance activities $ 4,460 $ 3,563 $(4,479) $ 310 $ - $ 3,854
======= ======= ======= ======= ====== =======
Note - Certain information has been omitted from this Schedule because it is
disclosed in the notes to the Consolidated Financial Statements.
KRONOS TITAN GMBH AND SUBSIDIARY
Index of Consolidated Financial Statements
Financial Statements Pages
Report of Independent Registered Public Accounting Firm FA-2
Consolidated Balance Sheets - December 31, 2003 and 2004 FA-3
Consolidated Statements of Income - Years ended
December 31, 2002, 2003 and 2004 FA-5
Consolidated Statements of Comprehensive Income - Years ended
December 31, 2002, 2003 and 2004 FA-6
Consolidated Statements of Partners' Capital/Owners'
Equity - Years ended December 31, 2002, 2003 and 2004 FA-7
Consolidated Statements of Cash Flows - Years ended
December 31, 2002, 2003 and 2004 FA-8
Notes to Consolidated Financial Statements FA-10
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Owner of Kronos Titan GmbH:
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of income, comprehensive income, owners' equity
and cash flows present fairly, in all material respects, the financial position
of Kronos Titan GmbH and Subsidiary at December 31, 2003 and 2004, and the
results of their operations and their cash flows for each of the three years in
the period ended December 31, 2004 in conformity with accounting principles
generally accepted in the United States of America. These financial statements
are the responsibility of the Company's management; our responsibility is to
express an opinion on these financial statements based on our audits. We
conducted our audits of these statements in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
PricewaterhouseCoopers LLP
Dallas, Texas
March 30, 2005
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
December 31, 2003 and 2004
(In thousands)
2003 2004
---- ----
ASSETS
Current assets:
Cash and cash equivalents $ 30,859 $ 6,444
Accounts and notes receivable 66,565 76,732
Receivable from affiliates 82,166 32,355
Refundable income taxes 128,956 59
Inventories 100,133 101,850
Prepaid expenses 2,389 2,078
-------- --------
Total current assets 411,068 219,518
-------- --------
Other assets:
Note receivable from Kronos Titan A/S - 5,449
Unrecognized net pension obligations 3,636 3,672
Deferred income taxes 19,832 18,077
Other 1,211 1,201
-------- --------
Total other assets 24,679 28,399
-------- --------
Property and equipment:
Land 13,539 14,929
Buildings 101,819 111,349
Machinery and equipment 442,838 496,428
Construction in progress 6,624 10,022
-------- --------
564,820 632,728
Less accumulated depreciation and depletion 323,313 373,938
-------- --------
Net property and equipment 241,507 258,790
-------- --------
$677,254 $506,707
======== ========
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS (CONTINUED)
December 31, 2003 and 2004
(In thousands)
2003 2004
---- ----
LIABILITIES AND OWNERS' EQUITY
Current liabilities:
Accounts payable and accrued liabilities $ 61,252 $ 76,952
Payable to affiliates 21,685 35,260
Deferred income taxes 1,407 1,912
-------- --------
Total current liabilities 84,344 114,124
-------- --------
Noncurrent liabilities:
Note payable to affiliate 89,710 12,941
Accrued pension cost 50,826 45,015
Other 11,530 12,193
-------- --------
Total noncurrent liabilities 152,066 70,149
-------- --------
Owners' equity:
Subscribed capital 12,496 12,496
Paid in capital 376,634 227,037
Retained deficit - (9,685)
Accumulated other comprehensive income (loss):
Currency translation 75,524 111,996
Pension liabilities (23,810) (19,410)
-------- --------
Total owners' equity 440,844 322,434
-------- --------
$677,254 $506,707
======== ========
Commitments and contingencies (Notes 6, 10 and 13)
See accompanying notes to consolidated financial statements.
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Net sales $384,361 $487,337 $552,216
Cost of sales 323,306 379,187 451,888
-------- --------- --------
Gross margin 61,055 108,150 100,328
Selling, general and administrative expense 34,633 42,925 47,824
Other operating income (expense):
Currency transaction gains (losses), net 93 (3,519) (2,533)
Disposition of property and equipment (300) (390) (293)
-------- --------- --------
Income from operations 26,215 61,316 49,678
Other income (expense):
Trade interest income 518 447 949
Interest and other expense to affiliates (4,493) (442) (304)
Interest and other income from affiliates 3,694 3,918 8,813
Interest expense (198) (368) (651)
-------- --------- --------
Income before income taxes 25,736 64,871 58,485
Income tax provision (benefit) 3,306 (205,670) 17,507
-------- --------- --------
Net income $ 22,430 $ 270,541 $ 40,978
======== ========= ========
See accompanying notes to consolidated financial statements.
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Net income $ 22,430 $ 270,541 $ 40,978
-------- --------- --------
Other comprehensive income (loss), net of tax:
Minimum pension liabilities adjustment (2,915) (17,946) 4,400
Currency translation adjustment 22,892 37,674 36,472
-------- --------- --------
Total other comprehensive income 19,977 19,728 40,872
-------- --------- --------
Comprehensive income $42,407 $ 290,269 $ 81,850
======== ========= ========
See accompanying notes to consolidated financial statements.
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF PARTNERS' CAPITAL / OWNERS' EQUITY
Years ended December 31, 2002, 2003 and 2004
(In thousands)
Accumulated other
comprehensive
Owners' Equity income (loss)
Partners' -------------------------- Retained -----------------------------
capital Subscribed Paid-in earnings Currency Pension
(deficit) capital capital (deficit) translation liabilities Total
---------- ---------- -------- ---------- ----------- ----------- -----
Balance at December 31, 2001 $108,865 $ - $ - $ - $ 14,958 $ (2,949) $120,874
Net income 22,430 - - - - - 22,430
Other comprehensive income
(loss), net of tax - - - - 22,892 (2,915) 19,977
Cash contribution (12,706) - - - - - (12,706)
-------- -------- -------- -------- -------- -------- --------
Balance at December 31, 2002 118,589 - - - 37,850 (5,864) 150,575
Net income 270,541 - - - - - 270,541
Other comprehensive income
(loss), net of tax - - - - 37,674 (17,946) 19,728
Partnership conversion (389,130) 12,496 376,634 - - - -
-------- -------- -------- -------- -------- -------- --------
Balance at December 31, 2003 - 12,496 376,634 - 75,524 (23,810) 440,844
Net income - - - 40,978 - - 40,978
Dividends declared - - - (50,663) - - (50,663)
Other comprehensive income,
net of tax - - - - 36,472 4,400 40,872
Noncash capital transaction - - (149,597) - - - (149,597)
-------- -------- -------- -------- -------- -------- --------
Balance at December 31, 2004 $ - $ 12,496 $227,037 $ (9,685) $111,996 $(19,410) $322,434
======== ======== ======== ======== ======== ======== ========
See accompanying notes to consolidated financial statements.
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Cash flows from operating activities:
Net income $ 22,430 $ 270,541 $ 40,978
Depreciation, depletion and amortization 16,387 20,452 23,583
Noncash interest expense 57 140 200
Deferred income taxes 2,875 (39,770) 6,178
Net loss from disposition of property and equipment 300 390 293
Pension, net (2,745) (5,021) (4,540)
Other, net 25 12 167
Change in assets and liabilities:
Accounts and notes receivable (27,322) 1,827 (3,205)
Inventories (2,678) 1,830 5,837
Prepaid expenses 25 1,107 559
Accounts payable and accrued liabilities (4,677) 3,542 13,683
Income taxes (1,164) (130,136) 126,599
Accounts with affiliates 25,616 (85,431) (82,855)
Accrued environmental costs 259 (905) -
Other noncurrent assets (222) 481 (146)
Other noncurrent liabilities (1,018) (555) (5,334)
-------- --------- --------
Net cash provided by operating activities 28,148 38,504 121,997
-------- --------- --------
Cash flows from investing activities:
Capital expenditures (15,818) (18,715) (20,396)
Loans to affiliates - collections 18,097 - -
Proceeds from disposition of property and equipment 3 4 -
-------- --------- --------
Net cash provided (used) by investing activities 2,282 (18,711) (20,396)
-------- --------- --------
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Cash flows from financing activities:
Indebtedness:
Borrowings $ - $ - $ 49,984
Principal payments - - (49,984)
Loans from affiliates:
Loans - - 11,597
Repayments (12,090) - (88,656)
Cash distributions (12,706) - (50,663)
Deferred financing fees (410) - -
-------- --------- --------
Net cash used by financing activities (25,206) - (127,722)
-------- --------- --------
Cash and cash equivalents - net change from:
Operating, investing and financing
activities 5,224 19,793 (26,121)
Currency translation 924 3,241 1,706
Balance at beginning of year 1,677 7,825 30,859
-------- --------- --------
Balance at end of year $ 7,825 $ 30,859 $ 6,444
======== ========= ========
Supplemental disclosures:
Cash paid (received) for:
Interest $ 4,463 $ 674 $ 626
Income taxes 938 (166) (132,629)
See accompanying notes to consolidated financial statements.
KRONOS TITAN GMBH AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Organization and basis of presentation:
Kronos Titan GmbH ("TG") is a wholly-owned subsidiary of Kronos
International, Inc. ("KII"). KII is a wholly-owned subsidiary of Kronos
Worldwide, Inc. (NYSE:KRO) ("Kronos"). At December 31, 2004, (i) Valhi, Inc.
(NYSE: VHI) and a wholly-owned subsidiary of Valhi held approximately 57% of
Kronos' common stock and NL Industries, Inc. (NYSE: NL) held an additional 37%
of the outstanding common stock of Kronos, (ii) Valhi and its wholly-owned
subsidiary owned 83% of NL's outstanding common stock and (iii) Contran
Corporation and its subsidiaries held approximately 91% of Valhi'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 sole trustee, or is held by Mr.
Simmons or persons or other entities related to Mr. Simmons. Consequently, Mr.
Simmons may be deemed to control each of such companies.
The accompanying consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States of
America ("GAAP"), with the U.S. dollar as the reporting currency. TG also
prepares financial statements on other bases, as required in Germany.
Effective December 31, 2003, Kronos Titan GmbH & Co. OHG was converted from
a partnership into a limited liability company under German law, and was renamed
TG. The conversion resulted in a reclassification of partner's capital
aggregating $389 million at the date of conversion into other capital accounts
(subscribed capital and paid-in capital) and had no material effect on TG's
consolidated financial statements, other than with respect to deferred income
taxes. See Note 10. In 2004, the Company forgave a $150 million receivable from
KII which is reflected as a noncash capital transaction in the accompanying
Consolidated Statement of Partners' Capital/Owners' Equity.
TG is not a registrant with the U.S. Securities and Exchange Commission
("SEC") and therefore is not subject to the SEC's periodic reporting
requirements, except as may be required by Rule 3-16 of Regulation S-X.
Note 2 - Summary of significant accounting policies:
Principles of consolidation and management's estimates The accompanying
consolidated financial statements include the accounts of TG and its
wholly-owned subsidiary (collectively, the "Company"). All material intercompany
accounts and balances have been eliminated. The preparation of financial
statements in conformity with GAAP 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 the reported amount of revenues and expenses during the
reporting period. Actual results may differ from previously estimated amounts
under different assumptions or conditions. The Company has no involvement with
any variable interest entity covered by the scope of FASB Interpretation ("FIN")
No. 46R, "Consolidation of Variable Interest Entities, an interpretation of ARB
No. 51," as amended as of March 31, 2004.
Translation of foreign currencies. The functional currency of the Company
is the euro. Assets and liabilities of the Company are translated to U.S.
dollars at year-end rates of exchange and revenues and expenses are translated
at weighted average exchange rates prevailing during the year. Resulting
translation adjustments are included in other comprehensive income (loss), net
of related income taxes, if applicable. Currency transaction gains and losses
are recognized in income currently.
Derivatives and hedging activities. Derivative instruments are recognized
as either assets or liabilities and measured at fair value in accordance with
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," as
amended. The accounting for changes in fair value of derivatives is dependent
upon the intended use of the derivative, and such changes are recognized either
in net income or other comprehensive income. As permitted by the transition
requirements of SFAS No. 133, as amended, the Company exempted from the scope of
SFAS No. 133 all host contracts containing embedded derivatives which were
issued or acquired prior to January 1, 1999. See Note 14.
Cash equivalents. Cash equivalents include bank deposits with original
maturities of three months or less.
Accounts receivable. The Company provides an allowance for doubtful
accounts for known and estimated potential losses arising from sales to
customers based on a periodic review of the accounts.
Inventories and cost of sales. Inventories are stated at the lower of cost
(principally average cost) or market, net of allowance for obsolete or
slow-moving inventories. Amounts are removed from inventories at average cost.
Cost of sales includes costs for materials, packaging and finishing, utilities,
salary and benefits, maintenance and depreciation.
Property, equipment, depreciation and depletion. Property and equipment are
stated at cost. Interest costs related to major, long-term capital projects are
capitalized as a component of construction costs. Expenditures for maintenance,
repairs and minor renewals are expensed; expenditures for major improvements are
capitalized. The Company performs planned major maintenance activities
throughout the year. Repair and maintenance costs estimated to be incurred in
connection with planned major maintenance activities, consisting primarily of
materials and supplies, are accrued in advance and are included in cost of goods
sold. At December 31, 2004, accrued repair and maintenance costs, included in
other current liabilities, was $3.2 million (2003 - $3.3 million).
Depreciation is computed principally by the straight-line method over the
estimated useful lives of ten to forty years for buildings and three to twenty
years for machinery and equipment.
When events or changes in circumstances indicate that assets may be
impaired, an evaluation is performed to determine if an impairment exists. Such
events or changes in circumstances include, among other things, (i) significant
current and prior periods or current and projected periods with operating
losses, (ii) a significant decrease in the market value of an asset or (iii) a
significant change in the extent or manner in which an asset is used. All
relevant factors are considered. The test for impairment is performed by
comparing the estimated future undiscounted cash flows (exclusive of interest
expense) associated with the asset to the asset's net carrying value to
determine if a write-down to market value or discounted cash flow value is
required. The Company accounts for the impairment of its property and equipment
in accordance with Statement of Financial Accounting Standards ("SFAS") No. 144.
Deferred financing costs. Deferred financing costs are amortized over the
term of the applicable issue by the interest method.
Employee benefit plans. Accounting and funding policies for retirement
plans are described in Note 8.
The Company has not issued any stock options. However, certain employees of
the Company have been granted options by NL to purchase NL common stock. The
Company has elected the disclosure alternative prescribed by SFAS No. 123,
"Accounting for Stock-Based Compensation," as amended, and to account for its
stock-based employee compensation related to stock options in accordance with
Accounting Principles Board Opinion ("APBO") No. 25, "Accounting for Stock
Issued to Employees," and its various interpretations. Under APBO No. 25, no
compensation cost is generally recognized for fixed stock options in which the
exercise price is not less than the market price on the grant date. During 2002,
and following NL's cash settlement of options to purchase NL common stock held
by certain individuals, NL and the Company, commenced accounting for its stock
options using the variable accounting method because NL could not overcome the
presumption that it would not similarly cash settle its remaining stock options.
Under the variable accounting method, the intrinsic value of all unexercised
stock options (including those with an exercise price at least equal to the
market price on the date of grant) are accrued as an expense over their vesting
period, with subsequent increases (decreases) in NL's market price resulting in
additional compensation expense (income). Upon exercise of such options to
purchase NL common stock held by employees of the Company, the Company pays NL
an amount equal to the difference between the market price of NL's common stock
on the date of exercise and the exercise price of such stock option. Aggregate
compensation expense related to NL stock options held by employees of the
Company was $25,000 in 2002, $12,000 in 2003 and $167,000 in 2004.
The following table illustrates the effect on net income if the Company had
applied the fair value recognition provisions of SFAS No. 123 to stock-based
employee compensation.
Years ended December 31,
-------------------------------------------
2002 2003 2004
---- ---- ----
(In thousands)
Net income - as reported $22,430 $270,541 $ 40,978
Adjustments, net of applicable income
tax effects:
Stock-based employee compensation
expense determined under APBO No. 25 21 10 102
Stock-based employee compensation
expense determined under SFAS No. 123 (21) (9) (4)
------- -------- --------
Pro forma net income $22,430 $270,542 $ 41,076
======= ======== ========
Environmental remediation costs. Environmental remediation costs are
accrued when estimated future expenditures are probable and reasonably
estimable. The estimated future expenditures are generally not discounted to
present value. Recoveries of remediation costs from other parties, if any, are
reported as receivables when their receipt is deemed probable. At December 31,
2003 and 2004, no receivables for recoveries have been recognized.
Net sales. Sales are recorded when products are shipped and title and other
risks and rewards of ownership have passed to the customer, or when services are
performed. Shipping terms of products shipped are generally FOB shipping point.
Amounts charged to customers for shipping and handling are included in net
sales. Sales are stated net of price, early payment and distributor discounts
and volume rebates.
Selling, general and administrative expenses; shipping and handling costs.
Selling, general and administrative expenses include costs related to marketing,
sales, distribution, shipping and handling, research and development, legal and
administrative functions, such as accounting, treasury and finance, and includes
costs for salary and benefits, travel and entertainment, promotional materials
and professional fees. Shipping and handling costs are included in selling,
general and administrative expense and were $15.1 million in 2002, $19.8 million
in 2003 and $22.3 million in 2004.
Income taxes. As a partnership under German law during 2002 and 2003, TG
was not subject to corporate income taxes, but was subject to trade income
taxes. Deferred trade income tax assets and liabilities were recognized for the
expected future tax consequences of temporary differences between the trade
income tax and financial reporting carrying amounts of assets and liabilities.
Effective December 31, 2003, the Company was converted from a partnership to a
limited liability company. See Note 10. Subsequent to that date, the Company is
subject to the German corporation tax, with a statutory rate of 25%, in addition
to solidarity-surcharge of 5.5% of corporate income tax and trade income taxes.
The Company periodically evaluates its deferred trade income tax assets and
adjusts any related valuation allowance.
Note 3 - Accounts and notes receivable:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Trade receivables $ 62,225 $ 71,914
Insurance claims receivable 9 12
Recoverable VAT and other receivables 5,800 6,046
Allowance for doubtful accounts (1,469) (1,240)
--------- ---------
$ 66,565 $ 76,732
========= =========
Note 4 - Inventories:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Raw materials $ 13,424 $ 20,379
Work in process 14,169 10,173
Finished products 57,267 55,349
Supplies 15,273 15,949
--------- ---------
$ 100,133 $ 101,850
========= =========
Note 5 - Accounts payable and accrued liabilities:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Accounts payable $ 29,886 $ 39,732
Accrued liabilities:
Employee benefits 13,180 15,957
Waste acid recovery 8,187 9,598
Other 9,999 11,665
--------- ---------
$ 61,252 $ 76,952
========= =========
Note 6 - Long-term debt:
In June 2002 the Company and KII's operating subsidiaries in Belgium and
Norway (Kronos Europe S.A./N.V.-"KEU", Kronos Titan A/S - "TAS" and Titania A/S
- - "TIA"), referred to as the "Borrowers", entered into a three-year euro 80
million secured revolving credit facility ("Credit Facility"). During 2004,
Kronos Norge A/S, the parent company of TAS and TIA, and Kronos Denmark ApS, the
parent company of both Kronos Norge and KEU, were added as Borrowers under the
Credit Facility. Borrowings may be denominated in multiple currencies, including
U.S. dollars, euros and Norwegian kroner, and bear interest at the applicable
interbank market rate plus 1.75%. As of December 31, 2004, the Company had no
amounts outstanding under the Credit Facility. However at December 31, 2004, KEU
had borrowed a net euro 10 million ($13.6 million) under the Credit Facility. At
December 31, 2004, euro 68 million ($92.6 million) was available for borrowing
by the Borrowers.
The Credit Facility is collateralized by accounts receivable and inventory
of certain of the Borrowers, plus a limited pledge of certain other assets of
the Belgian operating subsidiary. The 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. The Company, KEU and Kronos Denmark
are unconditionally jointly and severally liable for any and all outstanding
borrowings under the Credit Facility. TAS, TIA and Kronos Norge A/S are jointly
and severally liable for any and all outstanding borrowings under the Credit
Facility to the extent permitted by Norwegian law. The Borrowers have a euro 5
million sub-limit for issuing letters of credit with euro 2 million ($3 million)
letters of credit issued at December 31, 2004. The Borrowers were in compliance
with all the covenants as of December 31, 2004.
Deferred financing costs of $1.4 million for the Credit Facility ($.4
million paid by the Company, with the remaining $1.0 million paid by KII's
Belgian and Norwegian operating subsidiaries) are being amortized over the life
of the Credit Facility and are included in other noncurrent assets as of
December 31, 2004.
In January 2004, the Company borrowed euro 40 million ($50 million, when
borrowed) under the Credit Facility at an interest rate of 3.86% and used the
proceeds to fund a $60 million dividend to KII. In February 2004, the Company
repaid the euro 40 million borrowing from proceeds collected from KEU and TAS in
settlement of outstanding intercompany balances. KEU and TAS utilized funds
borrowed under the Credit Facility, euro 26 million ($32 million when borrowed)
borrowed by KEU and euro 14 million ($18 million when borrowed) borrowed by TAS,
to settle the outstanding intercompany balances. Such amounts were repaid in the
second quarter of 2004.
In June 2002, KII issued at par value euro 285 million principal amount
($280 million when issued) of its 8.875% Senior Secured Notes due 2009 and in
November 2004 KII issued at 107% of par an additional euro 90 million principal
amount ($130 million when issued) of the KII senior secured notes (collectively
the "Notes"). The Notes are collateralized by a pledge of 65% of the common
stock or other ownership interests of certain of KII's first-tier operating
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, or merge or
consolidate with, or sell or transfer all or substantially all of their assets
to, another entity. 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 the 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.
Note 7 - Other noncurrent liabilities:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Employee benefits $ 3,962 $ 4,111
Insurance claims expense 1,112 1,362
Other 6,456 6,720
--------- ---------
$ 11,530 $ 12,193
========= =========
Note 8 - Employee benefit plans:
Company-sponsored pension plans. The Company maintains a defined benefit
pension plan and certain other benefits covering substantially all employees.
Certain actuarial assumptions used in measuring the defined benefit pension
assets, liabilities and expenses are presented below. The Company uses a
September 30th measurement date for their defined benefit pension plans.
The weighted-average rate assumptions used in determining the actuarial
present value of benefit obligations as of December 31, 2003 and 2004 are
presented in the table below. Such weighted-average rates were determined using
the projected benefit obligations at each date.
December 31,
------------------------
Rate 2003 2004
---- ---- ----
Discount rate 5.3% 5.0%
Increase in future compensation levels 2.8% 2.8%
The weighted-average rate assumptions used in determining the net periodic
pension cost for 2002, 2003 and 2004 are presented in the table below. The
weighted-average discount rate and the weighted-average increase in future
compensation levels were determined using the projected benefit obligations at
the beginning of each year, and the weighted-average long-term return on plan
assets was determined using the fair value of plan assets at the beginning of
each year.
Years ended December 31,
2002 2003 2004
---- ---- ----
Rate
----
Discount rate 5.5% 5.3% 5.3%
Increase in future compensation levels 2.5% 2.8% 2.8%
Long-term return on plan assets 6.8% 6.5% 6.5%
Plan assets are comprised primarily of investments in corporate equity and
debt securities, short-term investments, mutual funds and group annuity
contracts.
SFAS No. 87, "Employers' Accounting for Pension Costs" requires that an
additional pension liability be recognized when the unfunded accumulated pension
benefit obligation exceeds the unfunded accrued pension liability. The
accumulated benefit obligation of the Company's defined benefit pension plan was
$193.6 million at December 31, 2004 (2003 - $177.3 million). Variances from
actuarially assumed rates will change the actuarial valuation of accrued pension
liabilities, pension expense and funding requirements in future periods.
The components of the net periodic defined benefit pension cost are set
forth below.
Years ended December 31,
2002 2003 2004
---- ---- ----
(In thousands)
Net periodic pension cost:
Service cost benefits $ 2,120 $ 2,621 $ 3,289
Interest cost on projected benefit
obligation ("PBO") 8,353 9,354 10,558
Expected return on plan assets (8,210) (8,831) (9,448)
Amortization of prior service cost - - 196
Amortization of net transition obligation 210 251 69
Recognized actuarial losses 329 20 782
------- ------- -------
$ 2,802 $ 3,415 $ 5,446
======= ======= =======
The funded status of the Company's defined benefit pension plan is set
forth below.
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Change in PBO:
Beginning of year $ 160,871 $ 205,440
Service cost 2,621 3,289
Interest 9,354 10,558
Participant contributions 1,156 1,206
Plan amendments 3,200 -
Actuarial losses 6,398 4,968
Benefits paid (10,947) (12,442)
Change in currency exchange rates 32,787 19,289
--------- ---------
End of year $ 205,440 $ 232,308
--------- ---------
Change in fair value of plan assets:
Beginning of year $ 112,674 $ 116,275
Actual return on plan assets (15,643) 10,026
Employer contributions 8,919 10,432
Participant contributions 1,156 1,206
Benefits paid (10,947) (12,442)
Change in currency exchange rates 20,116 11,422
--------- ---------
End of year $ 116,275 $ 136,919
--------- ---------
Funded status at year end:
Plan assets less than PBO $ (89,165) $ (95,389)
Unrecognized actuarial loss 68,627 79,381
Unrecognized prior service cost 3,566 3,672
Unrecognized net transition obligation 70 -
--------- ---------
$ (16,902) $ (12,336)
========= =========
Amounts recognized in the balance sheet:
Accrued pension cost:
Current $ (7,878) $ (8,587)
Noncurrent (50,826) (45,015)
Unrecognized net pension obligations 3,636 3,672
Accumulated other comprehensive loss 38,166 37,594
--------- ---------
$ (16,902) $ (12,336)
========= =========
In determining the expected long-term rate of return on plan asset
assumptions, the Company considers the long-term asset mix (e.g. equity vs.
fixed income) for the assets for each of its plans and the expected long-term
rates of return for such asset components. In addition, the Company receives
advice about appropriate long-term rates of return from the Company's
third-party actuaries. The composition of the Company's plan assets is
established to satisfy the requirements of the German insurance commissioner.
The current plan asset allocation at December 31, 2004 was 23% to equity
managers, 48% to fixed income managers and 29% to real estate. The Company
regularly reviews its actual asset allocation for each of its plans, and will
periodically rebalance the investments in each plan to more accurately reflect
the targeted allocation when considered appropriate.
At December 31, 2004, the Company expects to contribute the equivalent of
approximately $3 million to its defined benefit pension plan during 2005.
The Company expects total defined benefit pension plan expense to be
approximately $7 million in 2005. The Company expects future benefits paid from
all defined benefit pension plans to be as follows:
Amount
--------
Years ending December 31, (In thousands)
2005 $12,700
2006 12,838
2007 12,963
2008 13,088
2009 13,213
2010 to 2014 67,938
Note 9 - Other items:
Advertising costs are expensed as incurred and were $.3 million in each of
2002, 2003 and 2004.
Interest capitalized in connection with long-term capital projects was nil
in each of 2002, 2003 and 2004.
Note 10 - Income taxes:
The components of (i) the difference between the provision for income taxes
attributable to pretax income and the amounts that would be expected using the
German statutory corporation tax rate of 25% in 2002 and 2003 and 26.4% in 2004,
(ii) the provision for income taxes and (iii) the comprehensive tax provision
are presented below.
Years ended December 31,
2002 2003 2004
---- ---- ----
(In thousands)
Pretax income $ 25,736 $ 64,871 $ 58,485
======== ========= ========
Expected tax expense $ 6,434 $ 16,218 $ 15,440
Trade income tax 2,561 11,365 7,773
German tax refund - (123,033) (2,508)
Change in deferred income tax
valuation allowance, net - - (3,146)
Organschaft adjustment - (94,079) -
No corporation tax provision
due to partnership structure (6,434) (16,218) -
Other, net 745 77 (52)
-------- --------- --------
Income tax expense (benefit) $ 3,306 $(205,670) $ 17,507
======== ========= ========
Provision for income taxes:
Current income tax expense (benefit) $ 431 (165,900) 11,329
Deferred income tax expense (benefit) 2,875 (39,770) 6,178
-------- --------- --------
$ 3,306 $(205,670) $ 17,507
======== ========= ========
Comprehensive provision (benefit) for income
taxes allocable to:
Pretax income $ 3,306 $(205,670) $ 17,507
Other comprehensive loss - pension
liabilities (732) (5,331) (8,081)
-------- --------- --------
$ 2,574 $(211,001) $ 9,426
======== ========= ========
The components of the net deferred tax liability are summarized below.
December 31,
--------------------------------------------------
2003 2004
------------------------ -----------------------
Assets Liabilities Assets Liabilities
------- ------------ ------ -----------
(In millions)
Tax effect of temporary differences
relating to:
Inventories $ - $ (1,407) $ - $ (1,816)
Property and equipment 38,400 - 38,327 -
Accrued (prepaid) pension cost 6,690 (22,716) 14,770 (27,598)
Other taxable differences - (2,880) - (7,518)
Tax loss and tax credit carryforwards 338 - - -
-------- --------- -------- --------
Gross deferred tax assets (liabilities) 45,428 (27,003) 53,097 (36,932)
Reclassification, principally netting by
tax jurisdiction (25,596) 25,596 (35,020) 35,020
-------- --------- -------- --------
Net total deferred tax liabilities 19,832 (1,407) 18,077 (1,912)
Net current deferred tax liabilities - (1,407) - (1,912)
-------- --------- -------- --------
Net noncurrent deferred tax liabilities $ 19,832 $ - $ 18,077 $ -
======== ========= ======== ========
The Company's has no deferred income tax valuation allowance as of December
31, 2003 and 2004.
Certain of the Company's tax returns are being examined and the German tax
authorities may propose tax deficiencies, including penalties and interest.
No assurance can be given that the Company's tax matters will be favorably
resolved due to the inherent uncertainties involved in settlement initiatives,
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.
During 2002 and 2003, the Company's legal form was as a partnership. As a
partnership, the Company was not subject to corporation tax, although the
Company was subject to trade income tax. Effective December 31, 2003, the
Company was converted to a limited liability company and will also be subject to
the German corporation tax in years following 2003. As a result of the
conversion of the Company from a partnership, the Company recognized net
deferred income tax assets of approximately $52 million related to the expected
future tax consequences of temporary differences between the corporate income
tax and financial reporting carrying amounts of its assets and liabilities.
In the first quarter of 2003, the Company was notified by the German
Federal Fiscal Court (the "Court") that the Court had ruled in the Company's
favor concerning a claim for refund suit in which the Company sought refunds of
prior taxes paid during the periods 1990 through 1997. The Company was required
to file amended tax returns with the German tax authorities in order to receive
its refunds for such years, and all of such amended returns were filed during
2003. Such amended returns reflected an aggregate refund of taxes and related
interest to the Company of euro 103.2 million ($123.0 million) and the Company
recognized the benefit for these net funds in its 2003 results of operations.
For the year ended December 31, 2004, the Company recognized a refund of euro
4.0 million ($5.3 million) related to additional net interest which has accrued
on the outstanding refund amount. Through December 2004, TG had received net
refunds of euro 107.2 million ($135.4 million when received). All refunds
relating from the periods 1990 to 1997 were received by December 31, 2004. In
addition to the refunds for the 1990 to 1997 periods, the court ruling also
resulted in a refund of 1999 income taxes and interest, and the Company received
euro 21.5 million ($24.6 million) in 2003.
Pursuant to the Company's conversion to a limited liability company
effective December 31, 2003, the Company is included in KII's Organschaft
effective January 1, 2004.
Note 11 - Related party transactions:
The Company may be deemed to be controlled by Harold C. Simmons. See Note
1. Corporations that may be deemed to be controlled by or affiliated with Mr.
Simmons sometimes engage in (a) intercorporate transactions such as guarantees,
management and expense sharing arrangements, shared fee arrangements, tax
sharing agreements, joint ventures, partnerships, loans, options, advances of
funds on open account, and sales, leases and exchanges of assets, including
securities issued by both related and unrelated parties and (b) common
investment and acquisition strategies, business combinations, reorganizations,
recapitalizations, securities repurchases, and purchases and sales (and other
acquisitions and dispositions) of subsidiaries, divisions or other business
units, which transactions have involved both related and unrelated parties and
have included transactions which resulted in the acquisition by one related
party of a publicly held minority equity interest in another related party.
While no transactions of the type described above are planned or proposed with
respect to the Company other than as set forth in these financial statements,
the Company from time to time considers, reviews and evaluates such transactions
and understands that Contran, Valhi, NL, Kronos, KII and related entities
consider, review and evaluate, such transactions. Depending upon the business,
tax and other objectives then relevant, and restrictions under the KII
indenture, the Credit Facility and other agreements, it is possible that the
Company might be a party to one or more such transactions in the future.
The Company is a party to services and cost sharing agreements among
several affiliates of the Company whereby Kronos, KII, KEU and other affiliates
provide certain management, financial, insurance and administrative services to
the Company on a fee basis. The Company's expense was approximately $5.7 million
in 2002, $7.1 million in 2003 and $7.8 million in 2004 related to these services
and costs.
The Company charges affiliates for certain management, financial and
administrative services costs, which totaled approximately $3.4 million, $4.3
million, and $4.4 million in 2002, 2003 and 2004, respectively. These charges to
affiliates were reflected primarily as a reduction of selling, general and
administrative expense.
The Company is also party to master global insurance coverage policies with
NL with regard to property, business interruption, excess liability, and other
coverages. Tall Pines, Valmont Insurance Company (which merged into Tall Pines
in December 2004, with Tall Pines surviving the merger) and EWI RE, Inc. ("EWI")
provide for or broker certain insurance policies for Contran and certain of its
subsidiaries and affiliates, including KII, Kronos and the Company. Tall Pines
is wholly owned by a subsidiary of Valhi, and EWI is a wholly-owned subsidiary
of NL. Consistent with insurance industry practices, Tall Pines, Valmont and EWI
receive commissions from the insurance and reinsurance underwriters for the
policies that they provide or broker. The costs associated with these policies
aggregated $5.6 million, $4.1 million and $4.0 million in 2002, 2003 and 2004,
respectively.
Contran and certain of its subsidiaries and affiliates, including the
Company, purchase certain of their insurance policies as a group, with the costs
of the jointly-owned policies being apportioned among the participating
companies. With respect to certain of such policies, it is possible that
unusually large losses incurred by one or more insureds during a given policy
period could leave the other participating companies without adequate coverage
under that policy for the balance of the policy period. As a result, Contran and
certain of its subsidiaries and its affiliates, including Kronos, have entered
into a loss sharing agreement under which any uninsured loss is shared by those
entities who have submitted claims under the relevant policy. The Company
believes the benefits in the form of reduced premiums and broader coverage
associated with the group coverage for such policies justifies the risk
associated with the potential for uninsured loss.
The Company purchases from and sells to its affiliates a significant amount
of titanium dioxide pigments ("TiO2"). Intercompany sales to (purchases from)
affiliates of TiO2 are summarized in the following table.
Years ended December 31,
------------------------------
2002 2003 2004
---- ---- ----
(In thousands)
Sales to:
Kronos (US), Inc. ("KUS") $ 24,511 $ 37,550 $ 21,448
Societe Industrielle du Titane, S.A. ("SIT") 23,681 32,969 39,091
KEU 19,141 22,417 23,872
Kronos Limited ("KUK") 16,864 22,151 18,677
Kronos Canada, Inc. ("KC") 4,494 5,026 5,414
Other affiliates 10,564 29,200 41,052
-------- -------- --------
$ 99,255 $149,313 $149,554
======== ======== ========
Purchases from:
KEU $ 26,868 $ 33,061 $ 42,836
TAS 3,209 5,722 10,796
KC - - 271
-------- -------- --------
$ 30,077 $ 38,783 $ 53,903
======== ======== ========
KUS purchases the rutile and slag feedstock used as a raw material in the
Company's chloride process TiO2 facility. The Company purchases such feedstock
from KUS for use in its facility for an amount equal to the amount paid by KUS
to the third-party supplier plus a 2.5% administrative fee. Such feedstock
purchases were $64.3 million in 2002, $56.2 million in 2003 and $66.7 million in
2004.
The Company sells water treatment chemicals (derived from co-products of
the TiO2 production processes) to KII. Such water treatment chemical sales were
$8.4 million in 2002, $12.8 million in 2003 and $15.9 million in 2004.
The Company purchases ilmenite (sulfate feedstock) from TIA on a
year-to-year basis. Such feedstock purchases were $13.4 million in 2002, $15.5
million in 2003 and $17.4 million in 2004.
At January 1, 2002, the Company was party to an accounts receivable
factoring agreement with KII pursuant to which the Company factored its export
accounts receivable without recourse to KII for a fee of 0.85%. KII, upon
non-recourse transfer from the Company, assumed all risk pertaining to the
factored receivables, including, but not limited to, exchange control risks,
risks pertaining to the bankruptcy of a customer and risks related to late
payments. Effective June 2002, this factoring agreement was terminated, and
certain European affiliates of the Company commenced factoring their export
accounts receivables to the Company on similar terms. Export receivables sold to
KII during 2002 aggregated $59 million, and export receivables purchased by the
Company during 2003 and 2004 aggregated $108 million and $129 million,
respectively.
Net amounts currently receivable from (payable to) affiliates are
summarized in the following table.
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Receivable from:
KUK $ 886 $ 862
TAS 15,533 -
SIT - 1,632
KEU 32,342 -
Kronos B.V. - 2,055
KII 31,974 25,032
KC 92 1,496
Other affiliates 1,339 1,278
-------- --------
$ 82,166 $ 32,355
======== ========
Current payable to:
KII - income taxes $ - $ 14,386
KUS 5,856 5,390
TIA 6,631 8,817
Kronos B.V. 8,609 -
KEU - 4,456
TAS - 2,139
Other affiliates 589 72
-------- --------
$ 21,685 $ 35,260
======== ========
Noncurrent receivable from TAS $ - $ 5,449
======== ========
Noncurrent payables to:
KII $ 89,710 $ -
KDK - 12,941
-------- --------
$ 89,710 $ 12,941
======== ========
Such amounts receivable from affiliates were generally related to product
sales (including water treatment chemical sales to KII) and services rendered.
Amounts payable to affiliates, net were related primarily to raw material
purchases, accounts receivable factoring and services received.
The noncurrent euro-denominated note payable to KII was established prior
to 2002 during a recapitalization of the Company. The note payable (euro 71.8
million, or $89.7 million and nil, at December 31, 2003 and 2004, respectively)
bore interest through 2002 at EURIBOR plus 1% (4.30% at December 31, 2002). This
note was fully repaid in October 2004.
The Company borrowed euro 9.5 million from KDK in October 2004 ($12.9
million at December 31, 2004). This note bears an interest rate of 2.675% and is
due on June 30, 2005, with an option to renew.
The Company loaned TAS euro 4 million ($5.4 million) all of which was
outstanding at December 31, 2004. This note receivable bears interest at 3.1%
and is due on March 31, 2005.
Interest expense to affiliates related to the note payable to KII was $3.7
million in 2002, and nil in 2003 and 2004. Interest income from affiliates
related to a note receivable from KEU, repaid in June 2002, $.6 million in 2002.
Included in other affiliate income and other affiliate expense was other
affiliate interest income/expense, factoring fees and service fees.
Note 12 - NL common stock options held by employees of the Company:
At December 31, 2004, employees of the Company held options to purchase
approximately 14,000 shares of NL common stock, of which 5,000 were granted in
2000 and are exercisable at various dates through 2010 at an exercise price of
$5.63 per share, and 9,000 were granted in 2001 and are exercisable at various
dates through 2011 at an exercise price of $11.49 per share.
The pro forma information required by SFAS No. 123 is based on an
estimation of the fair value of options issued subsequent to January 1, 1995.
See Notes 2 and 15. No options were granted during 2002, 2003 or 2004. For
purposes of pro forma disclosures, the estimated fair value of the options is
amortized to expense over the options' vesting period.
Note 13 - Commitments and contingencies:
Operating leases. The Company leases, pursuant to operating leases, various
manufacturing facilities and equipment. Most of the leases contain purchase
and/or various term renewal options at fair market and fair rental values,
respectively. In most cases management expects that, in the normal course of
business, leases will be renewed or replaced by other leases.
The Company leases the land under its Leverkusen TiO2 production facility
pursuant to a lease expiring in 2050. The Leverkusen facility, with
approximately two-thirds of the Company's current TiO2 production capacity, is
located within the lessor's extensive manufacturing complex. Rent for the
Leverkusen facility is periodically established by agreement with the lessor for
periods of at least two years at a time. Under a separate supplies and services
agreement expiring in 2011, the lessor provides some raw materials, auxiliary
and operating materials and utilities services necessary to operate the
Leverkusen facility. Both the lease and the supplies and services agreements
restrict ownership and use of the Leverkusen facility.
Net rent expense aggregated $4 million in 2002, $5 million in 2003 and $4
million in 2004. At December 31, 2004, minimum rental commitments under the
terms of noncancellable operating leases were as follows:
Amount
-------------------
(in thousands)
Years ending December 31,
2005 $ 2,173
2006 1,357
2007 1,259
2008 1,150
2009 1,093
2010 and thereafter 20,736
-------
$27,768
=======
Approximately $25.3 million of the $27.8 million aggregate future minimum
rental commitments at December 31, 2004 relates to the Company's Leverkusen
facility lease discussed above. The minimum commitment amounts for such lease
included in the table above for each year through the 2050 expiration of the
lease are based upon the current annual rental rate as of December 31, 2004.
Capital expenditures. At December 31, 2004 the estimated cost to complete
capital projects in process approximated $3.9 million.
Purchase commitments. KUS has long-term supply contracts that provide for
certain affiliates' chloride feedstock requirements through 2009. The Company
purchases chloride feedstock underlying these long-term supply contracts from
KUS. The agreements require KUS to purchase certain minimum quantities of
feedstock with minimum purchase commitments aggregating approximately $525
million at December 31, 2004.
Environmental, product liability and litigation matters. The Company's
operations are governed by various environmental laws and regulations. Certain
of the Company's operations 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 Company's policy is to
maintain compliance with applicable 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. The Company believes all of its plants are in
substantial compliance with applicable environmental laws.
Concentrations of credit risk. Sales of TiO2 accounted for more than 97% of
net sales during each of 2002, 2003 and 2004. The remaining sales result from
the manufacture and sale of iron-based water treatment chemicals (derived from
co-products of the TiO2 production processes). TiO2 is generally sold to the
paint, plastics and paper, as well as fibers, rubber, ceramics, inks and
cosmetics markets. Such markets are generally considered "quality-of-life"
markets whose demand for TiO2 is influenced by the relative economic well-being
of the various geographic regions. TiO2 is sold to over 1,000 customers, with
the top ten external customers approximating 20% of net sales in each of 2002
and 2003 and 22% of net sales in 2004. Approximately 75% of the Company's TiO2
sales by volume were to Europe in 2002, 68% in 2003 and 78% in 2004.
Approximately 8% in 2002, 12% in 2003 and 7% in 2004 of sales by volume were to
North America.
Note 14 - Financial instruments:
Summarized below is the estimated fair value and related net carrying value
of the Company's financial instruments.
December 31,
-------------------------------------------------------
2003 2004
------------------------ ---------------------------
Carrying Fair Carrying Fair
amount value amount value
-------- ------ -------- ------
(In millions)
Cash and cash equivalents $30.9 $30.9 $ 6.4 $ 6.4
Note payable to affiliate 89.7 89.7 12.9 12.9
The Company periodically uses currency forward contracts to manage foreign
exchange rate risk associated with anticipated transactions denominated in a
currency other than the euro. The Company has not entered into these contracts
for trading or speculative purposes in the past, nor does the Company currently
anticipate entering into such contracts for trading or speculative purposes in
the future. To manage such exchange rate risk, at December 31, 2003 the Company
held a contract maturing on January 2, 2004 to exchange an aggregate of euro 40
million for an equivalent amount of U.S. dollars at an exchange rate of $1.2496
U.S. dollars per euro. At December 31, 2003, the actual exchange rate was equal
to the contract rate. The contract was closed on January 2, 2004 at an
immaterial loss.
The Company periodically uses interest rate swaps, currency swaps and other
types of contracts to manage interest rate and foreign exchange risk with
respect to financial assets or liabilities. The Company has not entered into
these contracts for trading or speculative purposes in the past, nor does it
currently anticipate doing so in the future. The Company was not a party to any
such contracts during 2002, 2003 and 2004.
Other than as described above, the Company was not a party to any material
derivative financial instruments during 2002, 2003 or 2004. There was no impact
on the Company's financial statements from adopting SFAS No. 133.
Note 15- Accounting principles not yet adopted:
Inventory costs. The Company will adopt SFAS No. 151, "Inventory Costs, an
amendment of ARB No. 43, Chapter 4," for inventory costs incurred on or after
January 1, 2006. SFAS No. 151 requires that the allocation of fixed production
overhead costs to inventory shall be based on normal capacity. Normal capacity
is not defined as a fixed amount; rather, normal capacity refers to a range of
production levels expected to be achieved over a number of periods under normal
circumstances, taking into account the loss of capacity resulting from planned
maintenance shutdowns. The amount of fixed overhead allocated to each unit of
production is not increased as a consequence of idle plant or production levels
below the low end of normal capacity, but instead a portion of fixed overhead
costs are charged to expense as incurred. Alternatively, in periods of
production above the high end of normal capacity, the amount of fixed overhead
costs allocated to each unit of production is decreased so that inventories are
not measured above cost. SFAS No. 151 also clarifies existing GAAP to require
that abnormal freight and wasted materials (spoilage) are to be expensed as
incurred. The Company believes its production cost accounting already complies
with the requirements of SFAS No. 151, and the Company does not expect adoption
of SFAS No. 151 will have a material effect on its consolidated financial
statements.
Stock options. The Company will adopt SFAS No. 123R, "Share-Based Payment",
as of July 1, 2005. SFAS No. 123R, among other things, eliminates the
alternative in existing GAAP to use the intrinsic value method of accounting for
stock-based employee compensation under APBO No. 25. Upon adoption of SFAS No.
123R, the Company will generally be required to recognize the cost of employee
services received in exchange for an award of equity instruments based on the
grant-date fair value of the award, with the cost recognized over the period
during which an employee is required to provide services in exchange for the
award (generally, the vesting period of the award). No compensation cost will be
recognized in the aggregate for equity instruments for which the employee does
not render the requisite service (generally, the instrument is forfeited before
it has vested). The grant-date fair value will be estimated using option-pricing
models (e.g. Black-Scholes or a lattice model). Under the transition
alternatives permitted under SFAS No. 123R, the Company will apply the new
standard to all new awards granted on or after July 1, 2005, and to all awards
existing as of June 30, 2005 which are subsequently modified, repurchased or
cancelled. Additionally, as of July 1, 2005, the Company will be required to
recognize compensation cost for the portion of any non-vested award existing as
of June 30, 2005 over the remaining vesting period. Because the Company has not
granted any options to purchase its common stock and is not expected to grant
any options prior to July 1, 2005, and because the number of non-vested awards
as of June 30, 2005 with respect to options granted by NL to employees of the
Company is not expected to be material, the effect of adopting SFAS No. 123R is
not expected to be significant in so far as it relates to existing stock
options. Should the Company or one of its affiliates, however, grant a
significant number of options in the future to employees of the Company, the
effect on the Company's consolidated financial statements could be material.
KRONOS DENMARK APS AND SUBSIDIARIES
Index of Consolidated Financial Statements
Financial Statements
Pages
Report of Independent Registered Public Accounting Firm FB-2
Consolidated Balance Sheets - December 31, 2003 and 2004 FB-3
Consolidated Statements of Income - Years ended
December 31, 2002, 2003 and 2004 FB-5
Consolidated Statements of Comprehensive Income -
Years ended December 31, 2002, 2003 and 2004 FB-6
Consolidated Statements of Stockholder's Equity -
Years ended December 31, 2002, 2003 and 2004 FB-7
Consolidated Statements of Cash Flows -
Years ended December 31, 2002, 2003 and 2004 FB-8
Notes to Consolidated Financial Statements FB-10
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholder of Kronos Denmark ApS:
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of income, comprehensive income, stockholder's
equity and cash flows present fairly, in all material respects, the financial
position of Kronos Denmark ApS and Subsidiaries at December 31, 2003 and 2004,
and the results of their operations and their cash flows for each of the three
years in the period ended December 31, 2004 in conformity with accounting
principles generally accepted in the United States of America. These financial
statements are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with the
standards of the Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
PricewaterhouseCoopers LLP
Dallas, Texas
March 30, 2005
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 2003 and 2004
(In thousands, except share data)
2003 2004
---- ----
ASSETS
Current assets:
Cash and cash equivalents $ 4,681 $ 3,566
Restricted cash 1,313 1,529
Accounts and notes receivable 15,605 18,422
Receivable from affiliates 1,987 16,029
Refundable income taxes 587 1,542
Inventories 66,156 65,282
Prepaid expenses 834 908
Deferred income taxes 26 -
-------- --------
Total current assets 91,189 107,278
-------- --------
Other assets:
Note receivable from affiliate - 12,941
Other 7,387 7,013
-------- --------
Total other assets 7,387 19,954
-------- --------
Property and equipment:
Land 17,568 19,236
Buildings 37,025 41,196
Machinery and equipment 168,549 190,748
Mining properties 63,700 72,384
Construction in progress 237 3,443
-------- --------
287,079 327,007
Less accumulated depreciation and amortization 171,338 200,873
-------- --------
Net property and equipment 115,741 126,134
-------- --------
$214,317 $253,366
======== ========
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONTINUED)
December 31, 2003 and 2004
(In thousands, except share data)
2003 2004
---- ----
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Current maturities of long-term debt $ 288 $ 13,792
Accounts payable and accrued liabilities 31,536 38,776
Payable to affiliates 39,661 10,142
Income taxes 5,411 6,427
Deferred income taxes 2,030 2,363
--------- --------
Total current liabilities 78,926 71,500
--------- --------
Noncurrent liabilities:
Long-term debt 315 178
Note payable to affiliate - 5,449
Deferred income taxes 23,320 22,358
Accrued pension costs 1,191 2,493
Other 1,555 3,484
--------- --------
Total noncurrent liabilities 26,381 33,962
--------- --------
Stockholder's equity:
Common stock - 100 Danish kroner par value;
10,000 shares authorized; 10,000 shares
issued and outstanding 136 136
Additional paid-in capital 216,996 216,996
Accumulated deficit (93,459) (69,643)
Accumulated other comprehensive loss:
Currency translation adjustment (4,204) 9,686
Minimum pension liability (10,459) (9,271)
--------- --------
Total stockholder's equity 109,010 147,904
--------- --------
$ 214,317 $253,366
========= ========
Commitments and contingencies (Notes 7, 9 and 12)
See accompanying notes to consolidated financial statements.
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Net sales $ 243,412 $ 292,611 $ 345,962
Cost of sales 206,690 234,881 284,902
--------- --------- ---------
Gross margin 36,722 57,730 61,060
Selling, general and administrative expense 17,406 19,596 23,874
Other operating income (expense):
Currency transaction gains (losses), net 399 355 980
Disposition of property and equipment (239) 37 (596)
Other, net 176 350 286
--------- --------- ---------
Income from operations 19,652 38,876 37,856
Other income (expense):
Trade interest income 231 163 73
Interest and other expense to affiliates (2,938) (2,608) (2,943)
Interest and other income from affiliates 325 198 202
Interest expense (2,548) (2,309) (1,529)
--------- --------- ---------
Income before income taxes 14,722 34,320 33,659
Provision for income taxes 3,378 7,428 9,843
--------- --------- ---------
Net income $ 11,344 $ 26,892 $ 23,816
========= ========= =========
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Net income $ 11,344 $ 26,892 $ 23,816
--------- --------- ---------
Other comprehensive income (loss), net of tax:
Currency translation adjustment 17,081 10,998 13,890
Minimum pension liability - (10,459) 1,188
--------- --------- ---------
Total other comprehensive income 17,081 539 15,078
--------- --------- ---------
Comprehensive income $ 28,425 $ 27,431 $ 38,894
========= ========= =========
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY
Years ended December 31, 2002, 2003 and 2004
(In thousands)
Accumulated other
comprehensive income (loss)
----------------------------
Additional Currency Minimum
Common paid-in Accumulated translation pension
stock capital deficit adjustment liability Total
------ ----------- ----------- ----------- --------- -----
Balance at December 31, 2001 $ 136 $ 216,996 $(118,335) $ (32,283) $ - $ 66,514
Net income - - 11,344 - - 11,344
Other comprehensive income,
net of tax - - - 17,081 - 17,081
Common dividends declared - - (13,360) - - (13,360)
------ --------- --------- --------- -------- --------
Balance at December 31, 2002 136 216,996 (120,351) (15,202) - 81,579
Net income - - 26,892 - - 26,892
Other comprehensive income (loss),
net of tax - - - 10,998 (10,459) 539
------ --------- --------- --------- -------- --------
Balance at December 31, 2003 136 216,996 (93,459) (4,204) (10,459) 109,010
Net income - - 23,816 - - 23,816
Other comprehensive income,
net of tax - - - 13,890 1,188 15,078
------ --------- --------- --------- -------- --------
Balance at December 31, 2004 $ 136 $ 216,996 $ (69,643) $ 9,686 $ (9,271) $147,904
====== ========= ========= ========= ======== ========
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Cash flows from operating activities:
Net income $ 11,344 $ 26,892 $ 23,816
Depreciation and amortization 9,408 11,446 12,041
Noncash interest expense 150 332 358
Deferred income taxes (2,011) (5,405) (2,983)
Net loss (gain) from disposition of
property and equipment 239 (37) 596
Pension, net 1,132 2,278 4,372
Change in assets and liabilities:
Accounts and notes receivable (1,307) 437 (967)
Inventories 1,377 (2,250) 6,500
Prepaid expenses 909 143 17
Accounts payable and accrued liabilities 5,098 4,107 3,130
Income taxes (1,542) (2,902) (453)
Accounts with affiliates 19,152 10,403 (37,220)
Other noncurrent assets 263 (4,181) 2,257
Other noncurrent liabilities (73) 547 (1,420)
-------- -------- ---------
Net cash provided by operating activities 44,139 41,810 10,044
-------- -------- ---------
Cash flows from investing activities:
Capital expenditures (10,329) (10,274) (11,725)
Loans to affiliates - - (11,597)
Change in restricted cash equivalents and restricted (70)
marketable debt securities, net (2,891) (554)
Proceeds from disposition of property and equipment 823 350 100
-------- -------- ---------
Net cash used by investing activities (12,397) (10,478) (23,292)
======== ======== =========
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
Years ended December 31, 2002, 2003 and 2004
(In thousands)
2002 2003 2004
---- ---- ----
Cash flows from financing activities:
Indebtedness:
Borrowings $ 55,727 $ 16,106 $ 62,140
Principal payments (58,117) (46,006) (50,089)
Deferred financing fees (953) - -
Loans from affiliates - repayments (18,097) - -
Dividends paid (13,360) - -
--------- --------- ---------
Net cash provided (used) by financing activities (34,800) (29,900) 12,051
--------- --------- ---------
Cash and cash equivalents:
Net change during the year from:
Operating, investing and financing
activities (3,058) 1,432 (1,197)
Currency translation 541 336 82
Balance at beginning of period 5,430 2,913 4,681
--------- --------- ---------
Balance at end of period $ 2,913 $ 4,681 $ 3,566
========= ========= =========
Supplemental disclosures:
Cash paid for:
Interest $ 5,461 $ 4,638 $ 4,198
Income taxes 6,931 11,525 13,331
See accompanying notes to consolidated financial statements.
KRONOS DENMARK APS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Organization and basis of presentation:
Kronos Denmark ApS ("KDK") was incorporated in Denmark in October 1999 and
is a wholly-owned subsidiary of Kronos International, Inc. ("KII"). KII is a
wholly-owned subsidiary of Kronos Worldwide, Inc. (NYSE:KRO). At December 31,
2004, (i) Valhi, Inc (NYSE: VHI) and a wholly-owned subsidiary owned
approximately 57% of Kronos' common stock and NL Industries, Inc. (NYSE: NL)
held an additional 37% of the outstanding common stock of Kronos, (ii) Valhi and
its wholly-owned subsidiary owned 83% of NL's outstanding common stock and (iii)
Contran Corporation and its subsidiaries held approximately 91% of Valhi'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 sole trustee, or is
held by Mr. Simmons or persons or other entities related to Mr. Simmons.
Consequently, Mr. Simmons may be deemed to control each of such companies.
The accompanying consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States of
America ("GAAP") with the U.S. dollar as the reporting currency. KDK and its
subsidiaries also prepare financial statements on other bases, as required in
countries in which such entities are resident.
KDK's current operations are conducted primarily through its Belgian and
Norwegian subsidiaries with a titanium dioxide pigments ("TiO2") plant in
Belgium and a TiO2 plant and ilmenite ore mining operation in Norway. KDK also
operates TiO2 sales and distribution facilities in Denmark and the Netherlands.
KDK is not a registrant with the U.S. Securities and Exchange Commission
("SEC") and is not subject to the SEC's periodic reporting requirements, except
as may be required by Rule 3-16 of Regulation S-X.
Note 2 - Summary of significant accounting policies:
Management's estimates. The preparation of financial statements in
conformity with accounting principles generally accepted in the United States of
America ("GAAP") 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
the reported amount of revenues and expenses during the reporting period. Actual
results may differ from previously-estimated amounts under different assumptions
or conditions.
Principles of consolidation. The consolidated financial statements include
the accounts of KDK and its wholly-owned subsidiaries (collectively, the
"Company"). All material intercompany accounts and balances have been
eliminated. The Company has no involvement with any variable interest entity
covered by the scope of FASB Interpretation ("FIN") No. 46R, "Consolidation of
Variable Interest Entities, an interpretation of ARB No. 51.," as amended as of
March 31, 2004.
Translation of foreign currencies. The functional currencies of the Company
include the Danish kroner, the euro and the Norwegian kroner. Assets and
liabilities of subsidiaries whose functional currency is other than the U.S.
dollar are translated at year-end rates of exchange and revenues and expenses
are translated at average exchange rates prevailing during the year. Resulting
translation adjustments are accumulated in stockholder's equity as part of
accumulated other comprehensive income, net of related deferred income taxes.
Currency transaction gains and losses are recognized in income currently.
Derivatives and hedging activities. Derivatives are recognized as either
assets or liabilities and measured at fair value in accordance with SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities," as amended.
The accounting for changes in fair value of derivatives depends upon the
intended use of the derivative, and such changes are recognized either in net
income or other comprehensive income. As permitted by the transition
requirements of SFAS No. 133, as amended, the Company has exempted from the
scope of SFAS No. 133 all host contracts containing embedded derivatives that
were issued or acquired prior to January 1, 1999.
Cash and cash equivalents. Cash equivalents include bank deposits with
original maturities of three months or less.
Restricted marketable debt securities. Restricted marketable debt
securities are primarily invested in corporate debt securities and include
amounts restricted in accordance with applicable Norwegian law regarding certain
requirements of the Company's Norwegian defined benefit pension plans ($2.6
million and $2.9 million at December 31, 2003 and 2004, respectively). The
restricted marketable debt securities are generally classified as either a
current or noncurrent asset depending upon the maturity date of each such debt
security and are carried at market, which approximates cost.
Accounts receivable. The Company provides an allowance for doubtful
accounts for known and estimated potential losses arising from sales to
customers based on a periodic review of these accounts.
Property and equipment and depreciation. Property and equipment are stated
at cost. The Company has a governmental concession with an unlimited term to
operate an ilmenite mine in Norway. Mining properties consist of buildings and
equipment used in the Company's Norwegian ilmenite mining operations. The
Company does not own the ilmenite reserves associated with the mine.
Depreciation of property and equipment for financial reporting purposes
(including mining properties) is computed principally by the straight-line
method over the estimated useful lives of ten to 40 years for buildings and
three to 20 years for equipment. Accelerated depreciation methods are used for
income tax purposes, as permitted. Upon sale or retirement of an asset, the
related cost and accumulated depreciation are removed from the accounts and any
gain or loss is recognized in income currently.
Expenditures for maintenance, repairs and minor renewals are expensed;
expenditures for major improvements are capitalized. The Company performs
planned major maintenance activities during the year. Repair and maintenance
costs estimated to be incurred in connection with planned major maintenance
activities are accrued in advance and are included in cost of sales. Accrued
repair and maintenance costs, included in other current liabilities and
consisting primarily of materials and supplies, was $1.1 million and $600,000 at
December 31, 2003 and 2004, respectively.
Interest costs related to major long-term capital projects and renewals are
capitalized as a component of construction costs. Interest costs capitalized
were not significant in 2002, 2003 or 2004.
When events or changes in circumstances indicate that assets may be
impaired, an evaluation is performed to determine if an impairment exists. Such
events or changes in circumstances include, among other things, (i) significant
current and prior periods or current and projected periods with operating
losses, (ii) a significant decrease in the market value of an asset or (iii) a
significant change in the extent or manner in which an asset is used. All
relevant factors are considered. The test for impairment is performed by
comparing the estimated future undiscounted cash flows (exclusive of interest
expense) associated with the asset to the asset's net carrying value to
determine if a write-down to market value or discounted cash flow value is
required. The Company assesses impairment of other long-lived assets (such as
property and equipment and mining properties) in accordance with SFAS No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets," which among
other things provided certain implementation guidance in relation to prior GAAP.
See Note 14.
Long-term debt. Long-term debt is stated net of any unamortized original
issue premium or discount. Amortization of deferred financing costs, included in
interest expense, is computed by the interest method over the term of the
applicable issue.
Employee benefit plans. Accounting and funding policies for retirement
plans are described in Note 8.
Income taxes. Deferred income tax assets and liabilities are recognized for
the expected future tax consequences of temporary differences between the income
tax and financial reporting carrying amounts of assets and liabilities,
including investments in the Company's subsidiaries and affiliates who are not
members of the Contran Tax Group and undistributed earnings of foreign
subsidiaries which are not deemed to be permanently reinvested. The Company
periodically evaluates its deferred tax assets in the various taxing
jurisdictions in which it operates and adjusts any related valuation allowance
based on the estimate of the amount of such deferred tax assets that the Company
believes does not meet the "more-likely-than-not" recognition criteria.
Net sales. Sales are recorded when products are shipped and title and other
risks and rewards of ownership have passed to the customer, or when services are
performed. Shipping terms of products shipped are generally FOB shipping point;
although in some instances shipping terms are FOB destination point (for which
sales are not recognized until the product is received by the customer). Amounts
charged to customers for shipping and handling are included in net sales. Sales
are stated net of price, early payment and distributor discounts and volume
rebates.
Inventories and cost of sales. Inventories are stated at the lower of cost
(principally average cost) or market, net of allowance for slow-moving
inventories. Amounts are removed from inventories at average cost. Cost of sales
includes costs for materials, packaging and finishing, utilities, salary and
benefits, maintenance and depreciation.
Selling, general and administrative expenses; shipping and handling costs.
Selling, general and administrative expenses include costs related to marketing,
sales, distribution, shipping and handling, research and development, legal and
administrative functions, such as accounting, treasury and finance, and includes
costs for salaries and benefits, travel and entertainment, promotional materials
and professional fees. Shipping and handling costs are included in selling,
general and administrative expense and were $9.2 million in 2002, $11.2 million
in 2003 and $13.1 million in 2004. Advertising costs are expensed as incurred
and were approximately $100,000 in each of 2002, 2003 and 2004. Research,
development and certain sales technical support costs are expensed as incurred
and approximated $300,000 in each of 2002 and 2003 and $200,000 in 2004.
Stock options. The Company has not issued any stock options. However,
certain employees of the Company have been granted options by NL to purchase NL
common stock. The Company has elected the disclosure alternative prescribed by
SFAS No. 123, "Accounting for Stock-Based Compensation," as amended, and to
account for its stock-based employee compensation related to stock options in
accordance with Accounting Principles Board Opinion ("APBO") No. 25, "Accounting
for Stock Issued to Employees," and its various interpretations. Under APBO No.
25, no compensation cost is generally recognized for fixed stock options in
which the exercise price is not less than the market price on the grant date.
During the fourth quarter of 2002, and following NL's cash settlement of options
to purchase NL common stock held by certain individuals, NL and the Company,
commenced accounting for its stock options using the variable accounting method
because NL could not overcome the presumption that it would not similarly cash
settle its remaining stock options. Under the variable accounting method, the
intrinsic value of all unexercised stock options (including those with an
exercise price at least equal to the market price on the date of grant) are
accrued as an expense over their vesting period, with subsequent increases
(decreases) in NL's market price resulting in additional compensation expense
(income). Upon exercise of such options to purchase NL common stock held by
employees of the Company, the Company pays NL an amount equal to the difference
between the market price of NL's common stock on the date of exercise and the
exercise price of such stock option. Compensation cost recognized by the Company
in accordance with APBO No. 25 and the amount charged to the Company by NL for
stock option exercises was $126,000 in 2002, $117,000 in 2003 and $319,000 in
2004.
The following table illustrates the effect on net income and earnings per
share if the Company had applied the fair value recognition provisions of SFAS
No. 123 to stock-based employee compensation.
Years ended December 31,
------------------------------
2002 2003 2004
---- ---- ----
(In thousands except per share amounts)
Net income - as reported $11,344 $26,892 $23,816
Adjustments, net of applicable income tax
effects:
Stock-based employee compensation
expense determined under APBO No. 25 75 77 223
Stock-based employee compensation
expense determined under SFAS No. 123 (79) (38) (8)
------- ------- -------
Pro forma net income $11,340 $26,931 $24,031
======= ======= =======
Note 3 - Accounts and notes receivable:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Trade receivables $13,117 $15,487
Recoverable VAT and other receivables 2,510 2,960
Allowance for doubtful accounts (22) (25)
------- -------
$15,605 $18,422
======= =======
Note 4 - Inventories:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Raw materials $16,793 $13,804
Work in process 1,454 2,871
Finished products 32,943 31,725
Supplies 14,966 16,882
------- -------
$66,156 $65,282
======= =======
Note 5 - Other noncurrent assets:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Unrecognized net pension obligations $ 4,176 $ 3,852
Restricted marketable debt securities 2,586 2,877
Deferred financing costs, net 542 198
Other 83 86
------- -------
$ 7,387 $ 7,013
======= =======
Note 6 - Accounts payable and accrued liabilities:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Accounts payable $16,609 $21,695
------- -------
Accrued liabilities:
Employee benefits 8,786 10,462
Other 6,141 6,619
------- -------
14,927 17,081
------- -------
$31,536 $38,776
======= =======
Note 7 - Notes payable and long-term debt:
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Long-term debt:
Bank credit facility $ - $ 13,622
Other 603 348
------- -------
603 13,970
Less current maturities 288 13,792
------- -------
$ 315 $ 178
======= =======
In June 2002 the Company's operating subsidiaries in Belgium ("KEU") Norway
("TAS" and "TIA") and KII's operating subsidiary in Germany ("TG"), referred to
as the "Borrowers" entered into a three-year euro 80 million secured revolving
bank credit facility ("Credit Facility"). Borrowings may be denominated in
euros, Norwegian kroners or U.S. dollars, and bear interest at the applicable
interbank market rate plus 1.75%. The facility also provides for the issuance of
letters of credit up to euro 5 million (euro 2 million, or $3 million, issued at
December 31, 2004). The Credit Facility is collateralized by the accounts
receivable and inventories of the borrowers, plus a limited pledge of all of the
other assets of KEU. The Credit Facility contains certain restrictive covenants
which, among other things, restricts the ability of the Borrowers 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 Credit
Facility contains customary cross-default provisions with respect to other debt
and obligations of the Borrowers, KII and its other subsidiaries. At December
31, 2004, euro 10 million ($13.6 million) were outstanding under the Credit
Facility. At December 31, 2004, euro 68.0 million ($92.6 million) was available
for borrowing by the Borrowers.
Deferred financing costs of $1.4 million for the Credit Facility ($1.0
million paid by the Company, with the remaining $.4 million paid by the German
operating subsidiary) are being amortized over the life of the Credit Facility
and are included in other noncurrent assets as of December 31, 2004.
Unused lines of credit available for borrowing under the Company's non-U.S.
credit facilities approximated $94.3 million at December 31, 2004.
In June 2002, KII issued at par value euro 285 million principal amount
($280 million when issued) of its 8.875% Senior Secured Notes due 2009, and in
November 2004 KII issued at 107% of par an additional euro 90 million principal
amount ($130 million when issued) of the KII Senior Secured Notes (collectively
the "Notes"). The Notes are collateralized by a pledge of 65% of the common
stock or other ownership interests of certain of KII's first-tier operating
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. 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 the 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.
Under the cross-default provisions of the Notes, the Notes may be
accelerated prior to their stated maturity if KII or any of KII's subsidiaries
default under any other indebtedness in excess of $20 million due to a failure
to pay such other indebtedness at its due date (including any due date that
arises prior to the stated maturity as a result of a default under such other
indebtedness). Under the cross-default provisions of the Credit Facility, any
outstanding borrowings under the Credit Facility may be accelerated prior to
their stated maturity if the Borrowers or KII default under any other
indebtedness in excess of euro 5 million due to a failure to pay such other
indebtedness at its due date (including any due date that arises prior to the
stated maturity as a result of a default under such other indebtedness). The
Credit Facility contains provisions that allow the lender to accelerate the
maturity of the Credit Facility in the event of a change of control, as defined,
of the applicable borrower. In the event any of these cross-default or
change-of-control provisions become applicable, and such indebtedness is
accelerated, KII would be required to repay such indebtedness prior to their
stated maturity.
The aggregate maturities of long-term debt at December 31, 2004 are shown
in the table below.
Amount
(In thousands)
Years ending December 31,
- -------------------------
2005 $13,792
2006 159
2007 19
-------
$13,970
=======
Note 8 - Employee benefit plans:
The Company maintains various defined benefit pension plans. Personnel are
covered by plans in their respective countries. Variances from actuarially
assumed rates will result in increases or decreases in accumulated pension
obligations, pension expense and funding requirements in future periods. In 2002
the Company amended its defined benefit pension plans for KEU, TAS and TIA to
exclude the admission of new employees to the plans. New employees at these
locations are eligible to participate in Company-sponsored defined contribution
plans. The Company's expense related to the Company-sponsored defined
contribution plans was not material in 2003 or 2004. At December 31, 2004, the
Company expects to contribute the equivalent of approximately $1.4 million to
its defined benefit pension plans during 2005.
Certain actuarial assumptions used in measuring the defined benefit pension
assets, liabilities and expenses are presented below. The Company uses a
September 30th measurement date for their defined benefit pension plans.
The weighted-average rate assumptions used in determining the actuarial
present value of benefit obligations as of December 31, 2003 and 2004 are
presented in the table below. Such weighted-average rates were determined using
the projected benefit obligations at each date.
December 31,
---------------------
2003 2004
---- ----
Discount rate 5.5% 5.0%
Increase in future compensation levels 3.0% 3.0%
The weighted-average rate assumptions used in determining the net periodic
pension cost for 2002, 2003 and 2004 are presented in the table below. The
weighted-average discount rate and the weighted-average increase in future
compensation levels were determined using the projected benefit obligations as
of the beginning of each year, and the weighted-average long-term return on plan
assets was determined using the fair value of plan assets as of the beginning of
each year.
Years ended December 31,
------------------------------
2002 2003 2004
---- ---- ----
Discount rate 6.0% 5.9% 5.5%
Increase in future compensation levels 3.0% 3.0% 3.0%
Long-term return on plan assets 6.9% 7.0% 6.0%
Plan assets are comprised primarily of investments in corporate equity and
debt securities, short-term investments, mutual funds and group annuity
contracts.
The components of the net periodic defined benefit pension cost are set
forth below.
Years ended December 31,
------------------------------
2002 2003 2004
---- ---- ----
(In thousands)
Net periodic pension cost:
Service cost benefits $ 1,264 $ 1,430 $ 2,096
Interest cost on projected benefit 3,436
obligation ("PBO") 2,508 2,907
Expected return on plan assets (2,660) (3,335) (2,815)
Amortization of prior service cost 223 255 267
Amortization of net transition obligation 140 296 321
Recognized actuarial losses 668 732 1,428
------- ------- -------
$ 2,143 $ 2,285 $ 4,733
======= ======= =======
The funded status of the Company's defined benefit pension plans is set
forth below.
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Change in PBO:
Beginning of year $ 50,061 $ 64,161
Service cost 1,430 2,096
Interest 2,907 3,436
Participant contributions 135 152
Actuarial gains (losses) 10,745 (1,891)
Benefits paid (4,736) (2,674)
Change in currency exchange rates 3,619 7,081
-------- --------
End of year $ 64,161 $ 72,361
-------- --------
Change in fair value of plan assets:
Beginning of year $ 47,324 $ 49,540
Actual return on plan assets 2,943 3,881
Employer contributions 1,223 1,170
Participant contributions 135 152
Benefits paid (4,736) (2,674)
Change in currency exchange rates 2,651 5,685
-------- --------
End of year $ 49,540 $ 57,754
-------- --------
Funded status at year end:
Plan assets less than PBO $(14,621) $(14,607)
Unrecognized actuarial loss 27,815 26,344
Unrecognized prior service cost 3,112 3,157
Unrecognized net transition obligation 1,223 999
-------- --------
$ 17,529 $ 15,893
======== ========
Amounts recognized in the balance sheet:
Accrued pension cost, noncurrent $ (1,174) $ (2,469)
Unrecognized net pension obligations 4,176 3,852
Accumulated other comprehensive loss 14,527 14,510
-------- --------
$ 17,529 $ 15,893
======== ========
SFAS No. 87, "Employers' Accounting for Pension Costs" requires that an
additional pension liability be recognized when the unfunded accumulated pension
benefit obligation exceeds the unfunded accrued pension liability. Variances
from actuarially assumed rates will change the actuarial valuation of accrued
pension liabilities, pension expense and funding requirements in future periods.
The accumulated benefit obligation of the Company's defined benefit pension
plans was $60.8 million at December 31, 2004 (2003 - $51.1 million).
In determining the expected long-term rate of return on plan asset
assumptions, the Company considers the long-term asset mix (e.g. equity vs.
fixed income) for the assets for each of its plans and the expected long-term
rates of return for such asset components. In addition, the Company receives
advice about appropriate long-term rates of return from the Company's
third-party actuaries. The Company currently has a plan asset target allocation
of 14% to equity managers, 62% to fixed income managers and the remainder
primarily to cash and liquid investments. The expected long-term rate of return
for such investments is approximately 8%, 4.5% to 6.5% and 2.5%, respectively.
The current plan asset allocation at December 31, 2004 was 16% to equity
managers, 64% to fixed income managers and the remainder primarily cash and
liquid investments. The Company regularly reviews its actual asset allocation
for each of its plans, and will periodically rebalance the investments in each
plan to more accurately reflect the targeted allocation when considered
appropriate.
The Company expects future benefits paid from its defined benefit plans to
be as follows:
Amount
Years ending December 31, (In thousands)
- ------------------------- ---------------
2005 $2,804
2006 4,046
2007 2,923
2008 4,545
2009 3,185
2010 to 2014 21,472
Note 9 - Income taxes:
The components of (i) income from continuing operations before income taxes
("pretax income"), (ii) the difference between the provision for income taxes
attributable to pretax income and the amounts that would be expected using the
Danish statutory income tax rate of 30% in 2002, 2003 and 2004, (iii) the
provision for income taxes and (iv) the comprehensive tax provision are
presented below.
Years ended December 31,
------------------------------
2002 2003 2004
---- ---- ----
(In thousands)
Pretax income (loss):
Denmark $ 207 $ 170 $ (101)
Non-Denmark 14,515 34,150 33,760
------- ------- -------
$14,722 $34,320 $33,659
Expected tax expense $ 4,417 $10,296 $10,099
Non-Denmark tax rates 650 428 527
Valuation allowance 658 - -
Tax contingency reserve adjustment - (5,100) (125)
Refund of prior year taxes - - (595)
Tax on partnership income - 1,245 (358)
Rate change adjustment of deferred taxes (2,332) - -
Other, net (15) 559 295
------- ------- -------
Income tax expense $ 3,378 $ 7,428 $ 9,843
======= ======= =======
Provision for income taxes:
Current income tax expense:
Denmark $ 48 $ 63 $ 2
Non-Denmark 5,341 12,770 12,824
------- ------- -------
5,389 12,833 12,826
------- ------- -------
Deferred income tax expense (benefit):
Denmark (1) (5,104) (139)
Non-Denmark (2,010) (301) (2,844)
------- ------- -------
(2,011) (5,405) (2,983)
------- ------- -------
$ 3,378 $ 7,428 $ 9,843
======= ======= =======
Comprehensive provision for income taxes
allocable to:
Pretax income $ 3,378 $ 7,428 $ 9,843
Other comprehensive loss - pension liabilities - (4,068) 5
------- ------- -------
$ 3,378 $ 3,360 $ 9,848
======= ======= =======
The components of the net deferred tax liability are summarized below.
December 31,
--------------------------------------------------
2003 2004
------------------------ -----------------------
Assets Liabilities Assets Liabilities
------- ------------ ------ -----------
(In millions)
Tax effect of temporary differences
relating to:
Inventories $ 26 $ (2,035) $ 61 $ (2,546)
Property and equipment 143 (18,856) 181 (20,214)
Accrued (prepaid) pension cost 4,068 (4,970) 4,063 (4,624)
Accrued liabilities and other
deductible differences 834 - 199 -
Other taxable differences - (3,851) - (3,746)
Incremental tax and rate
differences on equity in
earnings of non-tax group companies - - 1,905 -
Valuation allowance (683) - - -
------ -------- ------ --------
Gross deferred tax assets (liabilities) 4,388 (29,712) 6,409 (31,130)
Reclassification, principally netting by tax 4,362
jurisdiction (4,362) (6,409) 6,409
------ -------- ------ --------
Net total deferred tax assets
(liabilities) 26 (25,350) - (24,721)
Net current deferred tax assets
(liabilities) 26 (2,030) - (2,363)
------ -------- ------ --------
Net noncurrent deferred tax liabilities $ - $(23,320) $ - $(22,358)
====== ======== ====== ========
Changes in the Company's deferred income tax valuation allowance are
summarized below:
Years ended December 31,
------------------------------
2002 2003 2004
---- ---- ----
(In thousands)
Balance at beginning of year $ - $ 658 $ 683
Increase in certain deductible
temporary differences which the Company
believes do not meet the "more-likely-
than-not" recognition criteria 658 - -
Foreign currency translation - 25
Offset to the change in gross deferred
income tax assets due principally
to redeterminations of certain tax
attributes and implementation of
certain planning strategies - - (683)
---- ----- -----
Balance at end of year $658 $ 683 $ -
==== ===== =====
A reduction in the Belgian income tax rate from 40% to 34% was enacted in
December 2002 and became effective in January 2003. This reduction in the
Belgian income tax rate resulted in a $2.3 million decrease in the Company's
income tax expense in 2002 because the Company had previously recognized a net
deferred income tax liability with respect to Belgian temporary differences.
Certain of the Company's U.S. and non-U.S. tax returns are being examined
and tax authorities have or may propose tax deficiencies, including penalties
and interest. For example:
o The Company has received a preliminary tax assessment related to 1993 from
the Belgian tax authorities proposing tax deficiencies, including interest,
of approximately euro 6 million ($8 million at December 31, 2004). The
Company has filed a protest to this assessment and believes that a
significant portion of the assessment is without merit. The Belgian tax
authorities have filed a lien on the fixed assets of the Company's Belgian
TiO2 operations in connection with this assessment. In April 2003, the
Company received a notification from the Belgian tax authorities of their
intent to assess a tax deficiency related to 1999 that, including interest,
is expected to be approximately euro 9 million ($13 million). The Company
believes the proposed assessment is substantially without merit, and the
Company has filed a written response.
o The Norwegian tax authorities have notified the Company of their intent to
assess tax deficiencies of approximately kroner 12 million ($2 million at
December 31, 2004) relating to the years 1998 to 2000. The Company has
objected to this proposed assessment.
No assurance can be given that these tax matters will be resolved in the
Company's favor in view of the inherent uncertainties involved in settlement
initiatives, 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 its consolidated financial position, results of operations or
liquidity.
Note 10 - Related party transactions:
The Company may be deemed to be controlled by Harold C. Simmons. See Note
1. Corporations that may be deemed to be controlled by or affiliated with Mr.
Simmons sometimes engage in (a) intercorporate transactions such as guarantees,
management and expense sharing arrangements, shared fee arrangements, tax
sharing agreements, joint ventures, partnerships, loans, options, advances of
funds on open account, and sales, leases and exchanges of assets, including
securities issued by both related and unrelated parties and (b) common
investment and acquisition strategies, business combinations, reorganizations,
recapitalizations, securities repurchases, and purchases and sales (and other
acquisitions and dispositions) of subsidiaries, divisions or other business
units, which transactions have involved both related and unrelated parties and
have included transactions which resulted in the acquisition by one related
party of a publicly held minority equity interest in another related party.
While no transactions of the type described above are planned or proposed with
respect to the Company other than as set forth in these financial statements,
the Company from time to time considers, reviews and evaluates such transactions
and understands that Contran, Valhi, NL, Kronos, KII and related entities
consider, review and evaluate such transactions. Depending upon the business,
tax and other objectives then relevant, it is possible that the Company might be
a party to one or more such transactions in the future.
It is the policy of the Company to engage in transactions with related
parties on terms, in the opinion of the Company, no less favorable to the
Company than could be obtained from unrelated parties.
The Company is a party to services and cost sharing agreements among
several affiliates of the Company whereby Kronos, KII and other affiliates
provide certain management, financial, insurance and administrative services to
the Company on a fee basis. The Company's expense was approximately $1.9 million
in each of 2002 and 2003 and $2.1 million in 2004 related to these services and
costs.
Tall Pines Insurance Company, Valmont Insurance Company (which merged into
Tall Pines in December 2004, with Tall Pines surviving the merger) and EWI RE,
Inc. provide for or broker certain insurance policies for Contran and certain of
its subsidiaries and affiliates, including the Company. Tall Pines is
wholly-owned by a subsidiary of Valhi, and EWI is a wholly-owned subsidiary of
NL. Consistent with insurance industry practices, Tall Pines, Valmont and EWI
receive commissions from the insurance and reinsurance underwriters for the
policies that they provide or broker. The aggregate premiums paid to Tall Pines,
Valmont and EWI by the Company and its joint venture were $1.3 million in 2002,
$900,000 in 2003 and $1.1 million in 2004. These amounts principally included
payments for insurance and reinsurance premiums paid to third parties, but also
included commissions paid to Tall Pines, Valmont and EWI. The Company expects
that these relationships with Tall Pines and EWI will continue in 2005.
Contran and certain of its subsidiaries and affiliates, including the
Company, purchase certain of their insurance policies as a group, with the costs
of the jointly-owned policies being apportioned among the participating
companies. With respect to certain of such policies, it is possible that
unusually large losses incurred by one or more insureds during a given policy
period could leave the other participating companies without adequate coverage
under that policy for the balance of the policy period. As a result, Contran and
certain of its subsidiaries and its affiliates, including NL, have entered into
a loss sharing agreement under which any uninsured loss is shared by those
entities who have submitted claims under the relevant policy. The Company
believes the benefits in the form of reduced premiums and broader coverage
associated with the group coverage for such policies justifies the risk
associated with the potential for uninsured loss.
Intercompany sales to (purchases from) affiliates of TiO2 are summarized in
the following table.
Years ended December 31,
------------------------------
2002 2003 2004
---- ---- ----
(In thousands)
Sales to:
TG $ 30,077 $ 38,783 $ 53,631
Kronos Limited ("KUK") 17,148 18,856 25,285
Kronos (US), Inc. ("KUS") 13,189 18,792 19,180
Societe Industrielle du Titane, S.A. ("SIT") 8,924 8,138 8,868
Kronos Canada, Inc. ("KC") 3,231 4,308 2,596
-------- -------- --------
$ 72,569 $ 88,877 $109,560
======== ======== ========
Purchases from:
TG $ 29,706 $ 38,785 $ 48,808
KUS 2,553 101 3,489
KC 170 223 22
-------- -------- --------
$ 32,429 $ 39,109 $ 52,319
======== ======== ========
Sales of ilmenite to TG were $13.4 million in 2002, $15.5 million in 2003
and $17.4 million in 2004.
KUS purchases the rutile and slag feedstock used as a raw material in all
of the Company's chloride process TiO2 facilities. The Company purchases such
feedstock from KUS for use in its facilities for an amount equal to the amount
paid by KUS to the third-party supplier plus a 2.5% administrative fee. Such
feedstock purchases were $32.9 million in 2002, $39.5 million in 2003 and $40.5
million in 2004.
Interest expense to affiliates related to a note payable to TG was $300,000
in 2002. Such note was repaid in full in 2002 and the underlying agreement was
cancelled. Included in other affiliate income and other affiliate expense was
other affiliate interest income/expense, factoring fees and service fees.
Royalties paid to KII for use of certain of KII's intellectual property
totaled $8.6 million in 2002, $10.4 million in 2003 and $12.5 million in 2004,
and was included as a component of cost of sales.
During 2002, 2003 and 2004, the Company was party to an accounts receivable
factoring agreement (the "Factoring Agreement") with one or more of its
affiliates whereby the Company factored its export accounts receivable without
recourse for a fee of 0.85% for the Company's export receivables related to
Kronos Europe S.A./N.V. ("KEU") and 1.2% for export receivables related to its
Norwegian operating subsidiaries, Kronos Titan A/S ("TAS") and Titania A/S
("TIA"). Upon non-recourse transfer from the Company, the affiliate assumed all
risk pertaining to the factored receivables, including, but not limited to,
exchange control risks, risks pertaining to the bankruptcy of a customer and
risks related to late payments. Export receivables sold by the Company pursuant
to the Factoring Agreement during 2002, 2003 and 2004 aggregated $92.0 million,
$101.4 million, and $119.9 million, respectively.
Net amounts currently receivable from (payable to) affiliates are
summarized in the following table.
December 31,
------------------------
2003 2004
---- ----
(In thousands)
Receivable from:
SIT $ 501 $ 814
KUK 1,085 1,766
TG - 13,342
KC 401 -
Other - 107
-------- --------
$ 1,987 $ 16,029
======== ========
Noncurrent receivable from TG $ - $ 12,941
======== ========
Payable to:
KII $ 4,203 $ 4,266
KUS 2,770 5,486
TG 32,635 -
KC - 390
Other affiliates 53 -
-------- --------
$ 39,661 $ 10,142
======== ========
Noncurrent payable to TG $ - $ 5,449
======== ========
Net amounts between the Company, KUS, TG, SIT, KUK and KC were generally
related to product purchases and sales. Net amounts with TG also include
accounts receivable factoring fees.
Note 11 - NL common stock options held by employees of the Company:
At December 31, 2004, employees of the Company held options to purchase
approximately 26,000 shares of NL common stock, of which 14,000 are exercisable
at various dates through 2010 at an exercise price ranging from $2.66 to $5.63
per share and 12,000 are exercisable at various dates through 2011 at an
exercise price of $11.49 per share.
The pro forma information required by SFAS No. 123 is based on an
estimation of the fair value of options issued subsequent to January 1, 1995.
See Note 2. No options were granted during 2002, 2003, or 2004. For purposes of
pro forma disclosures, the estimated fair value of the options is amortized to
expense over the options' vesting period.
Note 12 - Commitments and contingencies:
Operating leases. The Company leases, pursuant to operating leases, various
manufacturing and office space and transportation equipment. Most of the leases
contain purchase and/or various term renewal options at fair market and fair
rental values, respectively. In most cases management expects that, in the
normal course of business, leases will be renewed or replaced by other leases.
Net rent expense aggregated $2 million in 2002, $3 million in each of 2003
and 2004. At December 31, 2004, minimum rental commitments under the terms of
noncancellable operating leases were as follows:
Equipment
--------------
(in thousands)
Years ending December 31,
- ---------------------------
2005 $ 678
2006 579
2007 486
2008 489
2009 197
2010 and thereafter 159
------
$2,588
======
Long-term contracts. KUS has long-term supply contracts that provide for
certain of its affiliates', including KDK's, chloride feedstock requirements
through 2009. The Company and certain of its affiliates purchase chloride
feedstock underlying these long-term supply contracts from KUS. The agreements
require KUS to purchase certain minimum quantities of feedstock with minimum
purchase commitments aggregating approximately $525 million at December 31,
2004.
Environmental matters. The Company's operations are governed by various
environmental laws and regulations. Certain of the Company's businesses are, or
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 and regulations. 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 Company's policy is to maintain compliance
with applicable environmental laws and regulations at all its facilities and to
strive to improve its environmental performance. From time to time, the Company
may be subject to environmental regulatory enforcement under various statutes,
resolution of which typically involves the establishment of compliance programs.
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. The Company believes all of its plants are in
substantial compliance with applicable environmental laws.
Litigation matters. The Company's Belgian subsidiary and certain of its
employees are the subject of civil and criminal proceedings relating to an
accident that resulted in two fatalities at the Company's Belgian facility in
2000. In May 2004, the court ruled and, among other things, imposed a fine of
euro 200,000 against the Company and fines aggregating less than euro 40,000
against various Company employees. The Company and the individual employees have
appealed the ruling.
In addition to the litigation described above, the Company and its
affiliates are also involved in various other environmental, contractual,
product liability, patent (or intellectual property), employment and other
claims and disputes incidental to its present and former businesses.
The Company currently believes the disposition of all claims and disputes,
individually or in the aggregate, should not have a material adverse effect on
its consolidated financial condition, results of operations or liquidity.
Concentrations of credit risk. Sales of TiO2 accounted for approximately
77%, 78% and 81% of net sales during 2002, 2003 and 2004, respectively. The
remaining sales result from the mining and sale of ilmenite ore (a raw material
used in the sulfate pigment production process) and the manufacture and sale of
certain titanium chemical products (derived from co-products of the TiO2
production process). TiO2 is generally sold to the paint, plastics and paper
industries. Such markets are generally considered "quality-of-life" markets
whose demand for TiO2 is influenced by the relative economic well-being of the
various geographic regions. TiO2 is sold to over 1,000 customers, with the top
ten external customers approximating 28% of net sales in 2002, 26% of net sales
in 2003 and 24% of net sales in 2004. Approximately 80% of the Company's TiO2
sales by volume were to Europe in each of 2002, 2003 and 2004. Approximately 10%
of sales by volume were to North America in each of 2002, 2003 and 2004.
Capital expenditures. At December 31, 2004, the estimated cost to complete
capital projects in process approximated $1.4 million.
Note 13 - Financial instruments:
Summarized below is the estimated fair value and related net carrying value
of the Company's financial instruments.
December 31,
-------------------------------------------------------
2003 2004
------------------------ ---------------------------
Carrying Fair Carrying Fair
amount value amount value
-------- ------ -------- ------
(In millions)
Cash, cash equivalents,
restricted cash equivalents
and noncurrent restricted
marketable debt securities $ 8.6 $ 8.6 $ 8.0 $ 8.0
Notes payable and long-term
debt - variable rate debt $ .6 $ .6 $ 14.0 $ 14.0
The Company held no derivative financial instruments during 2002, 2003 or
2004.
Note 14 - Accounting principles recently adopted in 2002, 2003 and 2004:
Asset retirement obligations. The Company adopted SFAS No. 143, "Accounting
for Asset Retirement Obligations," effective 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.
Under the transition provisions of SFAS No. 143, at the date of adoption on
January 1, 2003, the Company will recognize (i) an asset retirement cost
capitalized as an increase to the carrying value of its property, plant and
equipment, (ii) accumulated depreciation on such capitalized cost and (iii) a
liability for the asset retirement obligation. Amounts resulting from the
initial application of SFAS No. 143 are measured using information, assumptions
and interest rates all as of January 1, 2003. The amount recognized as the asset
retirement cost is measured as of the date the asset retirement obligation was
incurred. Cumulative accretion on the asset retirement obligation, and
accumulated depreciation on the asset retirement cost, is recognized for the
time period from the date the asset retirement cost and liability would have
been recognized had the provisions of SFAS No. 143 been in effect at the date
the liability was incurred, through January 1, 2003. The difference, if any,
between the amounts to be recognized as described above and any associated
amounts recognized in the Company's balance sheet as of December 31, 2002 is
recognized as a cumulative effect of a change in accounting principle as of the
date of adoption. The effect of adopting SFAS No. 143 as of January 1, 2003 was
not material, as summarized in the table below and is not separately recognized
in the accompanying Statement of Income.
Amount
----------
(in millions)
Increase in carrying value of net property,
plant and equipment:
Cost $ .4
Accumulated depreciation (.1)
Decrease in liabilities previously accrued
for closure and post closure activities
.3
Asset retirement obligation recognized (.6)
----
Net impact $ -
====
The increase in the asset retirement obligations from January 1, 2003
($600,000) to December 31, 2003 ($800,000) and to December 31, 2004 ($1 million)
is primarily due to accretion expense and the effects of currency translation.
Accretion expense, which is reported as a component of cost of sales in the
accompanying Consolidated Statements of Income, approximated $100,000 for each
of the years ended December 31, 2003 and 2004.
Estimates of the ultimate cost to be incurred to settle the Company's asset
retirement obligations require a number of assumptions, are inherently difficult
to develop and the ultimate outcome may differ from current estimates. As
additional information becomes available, cost estimates will be adjusted as
necessary. It is possible that technological, regulatory or enforcement
developments, the results of studies or other factors could necessitate the
recording of additional liabilities.
Costs associated with exit or disposal activities. The Company adopted SFAS
No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," on
January 1, 2003 for exit or disposal activities initiated on or after that date.
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 prior 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. The effect
of adopting SFAS No. 146 as of January 1, 2003 was not material as the Company
was not involved in any exit or disposal activities covered by the scope of the
new standard as of such date.
Variable interest entities. The Company complied with the consolidation
requirements of FASB Interpretation ("FIN") No. 46R, "Consolidation of Variable
Interest Entities, an interpretation of ARB No. 51," as amended as of March 31,
2004. The Company does not have any involvement with any variable interest
entity (as that term is defined in FIN No. 46R) covered by the scope of FIN No.
46R that would require the Company to consolidate such entity under FIN No. 46R,
which had not already been consolidated under prior applicable GAAP, and
therefore the impact to the Company of adopting the consolidation requirements
of FIN No. 46R was not material.
Note 15 - Accounting principles not yet adopted:
Inventory costs. The Company will adopt SFAS No. 151, "Inventory Costs, an
amendment of ARB No. 43, Chapter 4," for inventory costs incurred on or after
January 1, 2006. SFAS No. 151 requires that the allocation of fixed production
overhead costs to inventory shall be based on normal capacity. Normal capacity
is not defined as a fixed amount; rather, normal capacity refers to a range of
production levels expected to be achieved over a number of periods under normal
circumstances, taking into account the loss of capacity resulting from planned
maintenance shutdowns. The amount of fixed overhead allocated to each unit of
production is not increased as a consequence of idle plant or production levels
below the low end of normal capacity, but instead a portion of fixed overhead
costs are charged to expense as incurred. Alternatively, in periods of
production above the high end of normal capacity, the amount of fixed overhead
costs allocated to each unit of production is decreased so that inventories are
not measured above cost. SFAS No. 151 also clarifies existing GAAP to require
that abnormal freight and wasted materials (spoilage) are to be expensed as
incurred. The Company believes its production cost accounting already complies
with the requirements of SFAS No. 151, and the Company does not expect adoption
of SFAS No. 151 will have a material effect on its consolidated financial
statements.
Stock options. The Company will adopt SFAS No. 123R, "Share-Based Payment,"
as of July 1, 2005. SFAS No. 123R, among other things, eliminates the
alternative in existing GAAP to use the intrinsic value method of accounting for
stock-based employee compensation under APBO No. 25. Upon adoption of SFAS No.
123R, the Company will generally be required to recognize the cost of employee
services received in exchange for an award of equity instruments based on the
grant-date fair value of the award, with the cost recognized over the period
during which an employee is required to provide services in exchange for the
award (generally, the vesting period of the award). No compensation cost will be
recognized in the aggregate for equity instruments for which the employee does
not render the requisite service (generally, the instrument is forfeited before
it has vested). The grant-date fair value will be estimated using option-pricing
models (e.g. Black-Sholes or a lattice model). Under the transition alternatives
permitted under SFAS No. 123R, the Company will apply the new standard to all
new awards granted on or after July 1, 2005, and to all awards existing as of
June 30, 2005 which are subsequently modified, repurchased or cancelled.
Additionally, as of July 1, 2005, the Company will be required to recognize
compensation cost for the portion of any non-vested award existing as of June
30, 2005 over the remaining vesting period. Because the Company has not granted
any options to purchase its common stock and is not expected to grant any
options prior to July 1, 2005 and because the number of non-vested awards as of
June 30, 2005 with respect to options granted by NL to employees of the Company
is not expected to be material, the effect of adopting SFAS No. 123R is not
expected to be significant in so far as it relates to existing stock options.
Should the Company, however, grant a significant number of options in the
future, the effect on the Company's consolidated financial statements could be
material.