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FORM 10-K

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

FORM 10-K

x    Annual Report Pursuant to Section 13 OR 15(d) of the Securities Exchange Act of 1934

For the fiscal year ended December 31, 2003

or

¨    Transition Report Pursuant to Section 13 OR 15(d) of the Securities Exchange Act of 1934

For the transition period from              to

Commission file number 1-12658

ALBEMARLE CORPORATION

(Exact name of registrant as specified in its charter)

330 South Fourth Street

Richmond, Virginia 23219

(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code: 804-788-6000

Securities registered pursuant to Section 12(b) of the Act:

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for at least 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 Act).

Yes x    No ¨

Number of shares of common stock outstanding as of February 13, 2004: 41,419,000.

The aggregate market value of the voting and non-voting common equity stock held by non-affiliates of the registrant was $898,135,048, based on the reported last sale price of common stock on June 30, 2003, the last business day of the registrant’s most recently completed second quarter.

*In determining this figure, an aggregate of 9,104,326 shares of Common Stock treated as beneficially owned by Floyd D. Gottwald, Jr., William M. Gottwald, John D. Gottwald and James T. Gottwald and members of their families have been excluded and treated as shares held by affiliates. See Item 12 herein.

Documents Incorporated by Reference

Portions of Albemarle Corporation’s definitive Proxy Statement for its 2004 Annual Meeting of Shareholders filed with the Securities and Exchange Commission pursuant to Regulation 14A under the Securities Exchange Act of 1934 (the “Proxy Statement”) are incorporated by reference into Part III of this Form 10-K.

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Albemarle Corporation and Subsidiaries

PART I

ITEM 1.    Business

Albemarle Corporation is a Virginia corporation with its principal executive offices located at 330 South Fourth Street, Richmond, Virginia 23219 and its principal operations offices located at 451 Florida Street, Baton Rouge, Louisiana 70801. References to “Albemarle” or the “Company” refer to Albemarle Corporation and its consolidated subsidiaries.

Albemarle is a major worldwide producer of specialty chemicals. Its operations are managed and reported as two separate and distinct operating segments: Polymer Chemicals and Fine Chemicals. Most of Albemarle’s products are additives to or intermediates for plastics, polymers and elastomers, cleaning products, personal care products, agricultural compounds, pharmaceuticals, drilling compounds, paper processing chemicals, and biocides. The Company’s sales primarily are made directly to manufacturers of these products. The Company also performs custom research and development manufacturing campaigns for third parties.

Albemarle employs approximately 3,000 people.

Polymer Chemicals:    The Polymer Chemicals operating segment consists of a broad range of chemicals, including flame retardants, catalysts and polymer additives.

Albemarle’s brominated, mineral-based and phosphorus flame retardants are manufactured to help materials meet fire-safety requirements in finished products that serve a variety of end-use markets including electronic enclosures, wire and cable, printed circuit boards, electrical connectors, construction and textiles.

The Company’s catalyst business is the world’s largest manufacturer and marketer of aluminum alkyls that are used as co-catalysts in the production of polyolefins, such as polyethylene and polypropylene, elastomers, alpha olefins such as hexene, octene and decene, and organotin heat stabilizers and in the preparation of organic intermediates. The Company continues to build on its organometallics base and expand the portfolio of products and capabilities it offers its customers pursuing the development and commercialization of polymers based on metallocene/single-site catalysts.

Albemarle also produces polymer additives, such as curatives for polyurethane and epoxy system polymerization, as well as for ultraviolet curing of various inks and coatings. Antioxidants and alkylated hindered phenolics are produced to maintain the performance integrity of thermoplastic resins.

Fine Chemicals:    The Fine Chemicals operating segment includes a broad range of chemicals, including pharmachemicals, agrichemicals, fine chemistry services and intermediates and performance chemicals.

The Company’s bulk actives, ibuprofen and naproxen, are widely used to provide fever reduction and temporary pain relief. Bulk ibuprofen and naproxen are formulated by pharmaceutical companies who sell to customers in both the prescription and over-the-counter markets. Ibuprofen- and naproxen-based products accounted for approximately 31% and 6% of the U.S. over-the-counter analgesic market in 2003 on a volume basis, respectively. These products compete against other painkillers, including aspirin and acetaminophen. The Company is one of the world’s largest producers of ibuprofen.

The Company’s agrichemicals are sold to chemical companies that supply finished products to farmers, governments and others. These products include orthoalkylated anilines for the acetanilide family of pre-emergent herbicides used on corn, soybeans and other crops; methyl bromide used as a soil fumigant; and organophosphorus products used as an insecticide. Methyl bromide, one of the Company’s products, is regulated based on the Montreal Protocol of 1991 and the subsequent phase-out amendment in the EPA Clean Air Act.

Included in performance chemicals are elemental bromine, alkyl bromides, inorganic bromides, and a number of bromine fine chemicals. Applications for these bromine-based performance chemicals primarily exist in chemical synthesis, oil and gas well drilling and completion fluids, water purification, television glass making, cleaning products and photographic chemicals.

Other performance chemicals products include tertiary amines for surfactants and biocides, disinfectants and sanitizers; potassium- and chlorine-based products used in television glass making and various other industrial applications; alkenyl succinic anhydride (ASA) used in paper-sizing formulations; and urea formaldehyde resins used in coating applications and aluminum oxides used in a wide variety of refractory, ceramic and polishing applications. These products have many varied customers and are sold to suppliers for use in household, institutional and industrial cleaners, personal care products, coatings, automotive insulators and other industrial products.

International Operations

The Company operates on a worldwide basis with (i) manufacturing plants located in the United States and Western Europe, (ii) interests in certain joint-venture production facilities in Japan, People’s Republic of China, Jordan and Austria, and (iii) offices and distribution terminals in Western Europe, Asia and the United States. The Company

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does not believe it has significant assets in countries in which those assets would be deemed to be exposed to substantial risk. See Item II, Properties and Note 18, “Operating Segments and Geographic Area Information” of notes to the consolidated financial statements in Item 8 on page 46.

Competition

Albemarle operates in a highly competitive marketplace, competing against a number of other companies in most of its product lines. In recent years, Albemarle has experienced increased competition from companies in Asia and India. Competition is based on several key criteria, dependent upon the product area, including: product performance and quality; product price; product availability and security of supply; product development in cooperation with customers; and customer service.

To remain competitive, the Company invests in research and development, product and process improvements and specialized customer services. Through research and development, the Company continues to introduce value-added products and products based on proprietary technologies. The Company’s ability to compete will be dictated by its expertise and willingness to respond to the varied needs of industry through selective investment in its flexible manufacturing centers and through adaptations in current facilities to make new products. These capabilities fit well with Albemarle’s process technology background.

In the Polymer Chemicals arena, competition can come from different polymers being substituted for use in end products in an effort to reduce costs or change product qualities. For flame retardants, competition can be introduced from alternative chemistries, and Albemarle has expanded its product portfolio to include bromine, mineral and phosphorus chemistries that are common in over 80% of end uses today. For catalysts and additives, competition is introduced by low-cost suppliers in antioxidants and other commodity-like products and by new methods of polymer production. The Company has begun to offer its basic products from lower cost sources, and has pursued new blending technology to produce better, more easily processed forms of antioxidant blends. Albemarle has been a leader in developing single-site catalysts to assist major polymer producers in altering the properties of polymers to meet market needs.

In the Fine Chemicals segment there is increasing competition from large-scale, generic pharmaceutical products, particularly from Asian and Indian sources. The Company is developing products for pharmaceuticals at early stages, well prior to the phase where the product will be marketed generically, in order to develop relationships and processes that may provide an opportunity to produce the larger quantities needed for patient sales. Initial successes in this area are promising. While there are few physical barriers to entry in this approach, Albemarle’s reputation for research expertise, and its strong history of developing process technology are important components in generating new opportunities for the Company.

Raw Materials and Significant Supply Contracts

Raw materials used by the Company include potassium chloride, bisphenol-A, chlorine, ethylene, caustic soda, aluminum trihydrate, alpha olefins, as well as electricity and natural gas as fuels, most of which are readily available from numerous suppliers and are purchased or provided under contracts at prices the Company believes are competitive. The cost of raw materials is generally based on market prices, although we may use contracts with price caps or other tools, as appropriate, to offset short-term price fluctuations.

The Company also produces bromine in Arkansas from its extensive brine reserves supported by an active brine rights leasing program. In addition, the Company, through its interest in Jordan Bromine Company Limited (“JBC”), produces bromine from extensive brine reserves in the Dead Sea Evaporation Pan System. This bromine is used in derivative plants in Jordan and in various regions in the world, particularly in Asia.

The Company’s subsidiary Martinswerk GmbH (“Martinswerk”) has certain contracts that require Martinswerk to purchase certain minimum annual quantities of aluminum trihydrate from its suppliers. The Company also entered into a range of phosphorus intermediate supply agreements with Rhodia S.A. and certain of its affiliated companies (“Rhodia”) as part of the acquisition of the Rhodia polyurethane flame retardants business.

Major Customers

Due to the diversity of product lines in which Albemarle competes, no major portion of overall sales or earnings was generated by one customer nor is the Company overly reliant on contracts with any one public, private or governmental entity, although loss of one or more major customers could have a substantial financial impact.

A number of the Company’s customers manufacture products for cyclical industries such as the agricultural, pharmaceutical, automotive, electronics and building and construction industries. As a result, demand for the products of the Company from customers in such industries also is cyclical. However, due to the diversity and size of the Company’s operations, there is little seasonal variation in revenues or earnings, except for certain agricultural and pharmaceutical products and certain electronics-related

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flame retardants. In addition, the profitability of sales of certain products depends on the level of industry growth and plant capacity utilization.

Other Matters

On January 21, 2003, Albemarle acquired Ethyl Corporation’s (“Ethyl”) fuel and lubricant antioxidants working capital, patents and other intellectual property for approximately $27 million in cash. On July 23, 2003, the Company acquired the phosphorus-based polyurethane flame retardants businesses of Rhodia, which included a production site in Avonmouth in the United Kingdom, and supply contracts for flame retardants and intermediates manufactured at Rhodia’s sites in Charleston S.C., and in Oldbury and Widnes in the United Kingdom. The acquisition purchase price totaled approximately $80 million in cash in exchange for intellectual property, inventory and fixed assets. On December 2, 2003, the Company acquired Atofina’s bromine fine chemicals business (“Atofina”) for approximately $11 million. The transaction includes working capital and the transfer to the Company of Atofina’s production site in Port de Bouc, France.

Effective January 1, 2004, Albemarle acquired the business assets, customer lists and other intangibles of Taerim International Corporation (“Taerim”) and formed Albemarle Korea Corporation, which is located in Seoul. Taerim was Albemarle’s Korean distributor and representative for twelve years, and has developed a substantial polymer additives business.

Research & Development and Patents

Albemarle’s research and development (“R&D”) efforts support both the Polymer Chemicals and Fine Chemicals operating segments.

The Polymer Chemicals research focus is divided among new and improved flame retardants, polymerization catalysts and cocatalysts, polymer additives and blends, and curing agents. Flame retardant research is focused on developing new and improving existing flame retardants to meet higher performance requirements required by today’s polymer producers, formulators, and original equipment manufacturers. Catalysts research is primarily focused on providing to polymer producers catalysts, cocatalysts, and finished catalyst systems they require to meet the market’s demand for improved polyolefin polymers and elastomers. Polymer Additives research is focused on developing improved capabilities to deliver to the polymer market commodity and value added polymer additive blends. Curatives research is primarily focused on improving and extending our line of curing agents and formulations. These efforts are expected to continue into 2004 and beyond.

The focus of the Company’s Fine Chemicals research program is the development of efficient processes for the manufacture of chemical intermediates and actives for the pharmaceutical and agrichemical industries. Another area of research is the development of biocides for industrial and recreational water treatment and other applications, especially products based on bromine chemistry. These efforts are expected to continue into 2004 and beyond.

The Company spent approximately $18.4 million, $16.5 million and $21.9 million in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 2 (“SFAS No. 2”), “Accounting for Research and Development Costs,” in 2003, 2002 and 2001, respectively, on research and development. Total R&D department spending was $29.2 million, $26.4 million and $27.2 million in 2003, 2002 and 2001, respectively, including $28.3 million in 2003 related to technical services support to customers and the Company’s plants, testing of existing products, quality improvement and environmental studies.

The Company considers patents, licenses and trademarks to be of significance to its business. As of December 31, 2003, the Company owned 1,437 active United States and foreign patents, including 31 U.S. patents and 143 foreign patents issued in 2003. In addition, 12 U.S. patents and 102 foreign patents were obtained through acquisitions during 2003. Some of the Company’s patents are licensed to others. In addition, rights under the patents and inventions of others have been acquired by the Company through licenses. The Company’s patent position is actively managed and is deemed by it to be adequate for the conduct of its business.

Environmental Regulation

The Company maintains and operates manufacturing and distribution facilities and equipment that are used in the Polymer and Fine Chemicals segments. These are subject to environmental risks and regulations, which are discussed more fully in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations—Restated under the heading “Environmental Matters” on page 16.

Financial Information as to Industry Segments and Geographic Areas

Albemarle’s operations are substantially all in the chemicals industry. Industry segments and geographic area information for the Company’s operations for the three years ended December 31, 2003, is presented in Note 18, “Operating Segments and Geographic Area Information” of the notes to the consolidated financial statements in Item 8 on page 46.

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Financial Information about Foreign and Domestic Operations and Export Sales

Financial information about the Company’s foreign and domestic operations and export sales for the three years ended December 31, 2003, is set forth in Note 18, “Operating Segments and Geographic Area Information” of the notes to the consolidated financial statements in Item 8 on page 46. Domestic export sales to non-affiliates may be made worldwide but are made primarily in the Asia Pacific region and Europe. Foreign unaffiliated net sales are primarily in Europe, the Middle East, Japan and the Asia Pacific region.

Available Information

The Company’s Internet Website address is: www.albemarle.com. The Company makes available free of charge through its website its annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as well as the annual report to shareholders and Section 16 reports on Forms 3, 4 and 5, as soon as reasonably practicable after such documents are electronically filed with, or furnished to, the Securities and Exchange Commission. The information on the Company’s website is not, and shall not be deemed to be, a part of this report or incorporated into any other filings we make with the Securities and Exchange Commission.

The Company’s Corporate Governance Guidelines, Code of Conduct and the charters of the Audit, Executive Compensation and Nominating and Governance Committees are also available on the Company’s website and are available in print to any shareholder upon request by writing to Investor Relations, 330 South Fourth Street, Richmond, Virginia 23219, or by calling (804) 788-6091.

ITEM 2.    Properties

The Company leases its executive offices and operations offices in Richmond, Virginia and Baton Rouge, Louisiana, respectively; and its regional offices in Singapore; Tokyo, Japan; and Shanghai and Beijing, China; as well as various other offices.

The following is a brief description of the principal plants and related facilities of the Company, all of which are owned except as stated below.

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Most of the Company’s plants operated in 2003 at rates similar to those experienced in 2002, with the largest exception being the Magnolia, Arkansas, bromine-based performance chemicals’ facilities, which improved utilization in 2003.

The Company believes that its plants, including planned expansions, will be adequate at projected sales levels for 2004. Operating rates of certain plants vary with product mix and normal seasonal sales swings. The Company believes that its plants generally are well maintained and in good operating condition.

The Company has shared services agreements with third parties at certain of its locations at cost plus a percentage fee. The shared services include utilities and services related to facilities management.

ITEM 3.    Legal Proceedings

The Company is involved from time to time in legal proceedings of types regarded as common in the Company’s businesses, particularly administrative or judicial proceedings seeking remediation under environmental laws, such as Superfund, products liability and premises liability litigation.

The Company maintains a financial accrual for these proceedings which includes defense costs and potential damages, as estimated by its General Counsel. The Company also maintains insurance to mitigate such risks. The Company is not party to any pending litigation proceedings that are expected to have a material adverse effect on the Company’s results of operations, financial position or cash flows.

ITEM 4.    Submission of Matters to a Vote of Security Holders

NONE.

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PART II

ITEM 5.    Market for the Registrant’s Common Equity and Related Stockholder Matters

The Company’s common stock is traded on the New York Stock Exchange under the symbol ALB. The market price highs and lows (per the New York Stock Exchange) by quarters for the years 2003 and 2002 are listed below:

There were 41,153,008 shares of common stock held by 5,125 shareholders of record as of December 31, 2003.

On November 19, 2003, the Company’s Board of Directors increased the quarterly dividend rate by 4%, from $.14 per share to $.145 per share or $.58 per share on an annual basis, payable January 1, 2004 to shareholders of record December 15, 2003.

Shareholders’ equity per share at December 31, 2003, was $15.46, up 12% from $13.78 at December 31, 2002, which was up 5% from $13.18 at December 31, 2001.

ITEM 6.    Selected Financial Data—Restated

The information for the five years ended December 31, 2003, is contained in the “Five-Year Summary—Restated” included in Part IV, Item 15, Exhibit 99 on page 57. Certain amounts for the periods December 31, 1999 through December 31, 2002 have been restated (see Note 20, “Restatements” of the notes to the consolidated financial statements in Item 8 on page 49).

ITEM 7.    Management’s Discussion and Analysis Of Financial Condition and Results Of Operations—Restated

The following financial data and discussion provides an analysis of certain significant factors affecting the results of operations of the Company for years ended December 31, 2003, 2002 and 2001. In addition, a discussion of consolidated financial condition and sources of additional capital is included under a separate heading “Financial Condition and Liquidity” on page 15.

Some of the information presented in this Form 10-K may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based on the Company’s current expectations, which are in turn based on the Company’s reasonable assumptions within the bounds of its knowledge of its business and operations. There can be no assurance, however, that the Company’s actual results will not differ materially from the results and expectations in the forward-looking statements. Factors that could cause actual results to differ materially include, without limitation, the timing of orders received from customers, the gain or loss of significant customers, competition from other manufacturers, changes in the demand for the Company’s products, increases in the cost of products, increases in the cost of energy and raw materials (notably, ethylene, chlorine and natural gas), changes in the Company’s markets in general, fluctuations in foreign currencies, changes in new product introductions resulting in increases in capital project requests and approvals leading to additional capital spending, changes in laws and regulations, unanticipated claims or litigation, the inability to obtain current levels of product or premises liability insurance or the denial of such coverage, political unrest affecting the global economy and changes in accounting standards. The Company assumes no obligation to provide revisions to any forward-looking statements should circumstances change, except as otherwise required by securities and other applicable laws.

Overview and Outlook

As Albemarle enters 2004, the Company is well positioned to further expand and diversify operations. In 2003, revenue increased by 10%, up $102 million, from 2002, driven by our acquisitions, favorable foreign exchange movement, and the development and expansion of our base business. This momentum is expected to continue in 2004; however, the growth is expected to be moderated due to continued margin pressure and the maturation of selected products. Albemarle is in a strong financial position to capture new opportunities and further build our diversified global platform.

We expect to continue to strengthen our global platform through organic growth and acquisitions. About 27% of our 2003 sales originated from businesses we acquired within the past five years. These acquisitions were strategically aligned to support our product portfolio and were accretive to earnings within a year. We continue to look for acquisitions that meet our strategic and financial objectives.

During 2004, we plan to provide resources to fuel the continuing research and development essential for growth. New products developed within the past five years now account for almost 15% of net sales, up from 12% in 2002. This past success has prompted a re-evaluation of our earlier goal of 15%, which may be increased to 20% of our portfolio by 2006.

Our research programs not only include development of new products, but also extend to the introduction of efficient process technology to support our manufacturing expertise. Our history in organometallic and bromine chemistry provides the foundation to serve new polymer, pharmaceutical and other product areas. We expect new

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opportunities to result from the combination of our technical expertise coupled with our global marketing and distribution. New developments include innovative bromine-based products for use in water treatment, catalysts for the next generation of ultra-thin, ultra-clear, ultra-strong polyolefin films and intermediates that support promising advances in drug delivery systems.

Albemarle continues to grow geographically, expanding our footprint in key growth regions of the world through acquisitions, joint ventures, new distribution channels and other methods. In Asia we have recently formed and launched our trading company to support growth in China, and although our starting point is relatively low, we have seen an 80% increase in Chinese sales in 2003 versus 2002. Further, we are in the process of starting up our joint-venture polyolefins catalyst plant near Shanghai. In January of 2004, we acquired a distribution and marketing company in Korea, providing direct access to many important customers in the region. It is our belief that sales into Asia will grow at a faster rate than other parts of the world.

The search for growth across a wide front is critical. In recent years, chemical industry earnings have been pinched between low demand caused by a worldwide economic slump and increasing raw material and energy prices. For example, our raw material and energy costs were up over $24 million compared to 2002. It is difficult to forecast the level and direction of pricing trends in raw materials and energy, but we do see a continued bias toward higher costs in these areas as the economic recovery continues.

The Company frequently reviews the impact of key raw materials and energy costs on our business and reports on their impact, excluding any costs passed through to our customers. Ethylene increases of one cent per pound impact earnings per share (“EPS”) by one and one-half cents on an annual basis. Similarly, chlorine increases of $10 per ton lower EPS by two cents, and a change in the price of alumina trihydrate of $10 per ton change EPS by about seven cents. Natural gas increases of $1 per million BTUs reduce earnings about 10 cents per share, including the impact on electricity costs. All of these costs are calculated before taxes.

For many years we have faced ever-increasing competition from Asian manufacturers. This trend is expected to continue. Our margins have been affected by more aggressive global competition, and when this is combined with price pressures related to the slow economic recovery in the U.S. manufacturing sector, it is easy to see the need for a relentless pursuit of cost control and innovation. We have also experienced the loss of key customers for certain of our products. Albemarle will continue the systematic construction of a global, low-cost portfolio based on new technology—both internally developed and acquired—and serving our customers well. This is the key to our future performance as we seek to realign our activities to these global changes.

As we enter 2004, the strength of the economy is one of the primary drivers of our business, particularly as it relates to growth in consumer electronics and construction, two important end-use markets for Polymer Chemicals. This business is also expected to be positively influenced by a combination of internal development, cost improvements and bolt-on acquisitions.

We also are monitoring closely the financial and competitive impact of foreign exchange movements. Overall, the recent weakening of the United States dollar is positive for the Company, but this volatility always has sequential ramifications, and the impact can change over time. Based on the 2003 sales mix, Albemarle has calculated the impact on net sales of movement in exchange rates of the dollar against significant sales currencies for the Company: A movement of 1% in the Japanese yen will affect dollar sales figures by about $700,000 on an annual basis. The European Union’s Euro’s fluctuation of 1% against the dollar will change Albemarle sales by about $3 million on an annual basis.

Fine Chemicals

Our Fine Chemicals business is expected to be influenced by many of the same factors in 2004 as in 2003, raw material and energy cost issues and the continued decline of certain product volumes in the U.S.

On the positive side, we expect continued improvement in our inorganic bromine business, where Albemarle has attained a strong global position.

Our bromine-based products are now integrated back to key raw materials in two major regions of the world, which gives us the flexibility to serve customers from Arkansas in the United States or Safi in Jordan. In addition, the many fine chemicals that have bromine as a component are being developed and supplemented by our research and development teams in the U.S., Europe and Asia, and we expect to continue to benefit from the focus on bromine compounds. With a second-half rise in demand for bromine in 2003, we were able to increase prices for some of our products. This is a very positive sign for 2004, should the broader economic recovery continue.

Our Jordan Bromine Company joint venture on the Dead Sea continues to perform above expectations. This venture will provide the Company with low cost raw materials and derivatives for many years, serving as an important geographic base to support Albemarle’s sales into Europe and Asia. Also, the December 2003 acquisition of the AtoFina bromine chemicals business will provide an enhanced manufacturing base and additional products.

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The other key growth element in Fine Chemicals is the investment we are making in the development of potential new products, many in conjunction with major pharmaceutical firms. We have evolved our own strategy to focus earlier in the process, particularly on pharmaceuticals, and we have found strong interest among a growing list of customers, as evidenced by inquiries and quotes offered for our services. We now have a pipeline of over 80 new opportunities in pre-commercial products. While there is no guarantee that any of these products have commercial viability, our experience suggests that these efforts will drive much of our organic growth.

This development pipeline provides Albemarle with several channels to participate in different points of a product life cycle, and creates opportunities to manufacture the next generation of large-volume products. The Company’s contract research, laboratory, scale-up and flexible manufacturing capabilities provide the infrastructure to produce high-value niche products in our pipeline.

In addition to general economic pressures, shipments of certain Fine Chemicals segment products, such as methyl bromide and other agricultural chemicals, are expected to decline over the next few years based on regulatory decisions that impact the marketing life or distribution reach of these products. For example, methyl bromide, a soil fumigant, is scheduled to be phased out of use in the United States by the beginning of 2005, except for critical uses and other limited exemptions. There are efforts underway to postpone the phase out, based on the lack of available substitutes in the market. In addition, in January 2004 our zeolites unit serving the U.S. domestic detergent builders industry was idled. The Company is evaluating alternative uses for this asset.

The increasing strength of Asian competitors most directly affects the Fine Chemicals segment, particularly in the larger quantity, generic pharmaceutical products. Just as the Company has done in the United States, we are seeking to combat these competitive issues through increased marketing efforts, product enhancements, cost control, sourcing initiatives, and joint ventures. These competitive pressures are not new issues to the Company or the chemical industry, but it is often difficult to predict the impact on our customers.

Polymer Chemicals

The Polymer Chemicals segment is expected to continue strong growth due to favorable economic conditions, a broad product range and a series of strategic acquisitions over the past few years. In 2003, two of the Company’s three acquisitions involved the Polymer Chemicals segment.

In the catalysts and additives area, the new fuel and lube antioxidants business brought in approximately $23 million in annual net sales to the Albemarle portfolio. The new phosphorus flame retardant business, with sales of about $55 million annually, was added in July. The two lines were quickly integrated into the Company’s portfolio, and both are expected to achieve the goal of being accretive to earnings within one year of their purchase.

In the second half of 2003, catalysts and curatives volumes improved, reflecting strength in downstream polyvinyl chloride (PVC), polyethylene, and other related plastics markets. Overall, flame retardant volumes were up at double-digit levels compared to the corresponding period in 2002. Pricing for flame retardants held steady for the year versus the prior year. Strong volume trends in Polymer Chemicals may indicate overall economic improvement, and there are signs the trend could continue into 2004.

In light of the improving economic environment, we completed construction of a tetrabrom flame retardant production unit in Jordan, and provided qualification samples to many European and Asian customers. Capacity in this unit is about 12,000 metric tons, and the successful start-up in Jordan gives Albemarle, through its joint venture, substantial flexibility in meeting customer needs around the world.

Also the acquisition of the phosphorus flame retardant business added a third, critical technology to Albemarle’s flame retardant line. Our bromine, mineral and phosphorus based products provide us with the ability to offer a variety of solutions to our flame retardant customers, and solidifies our strategy to become the premier, full-service flame retardant company.

We continue to look for acquisitions in the Polymer Chemicals segment that provide a strategic and financial fit.

Corporate

Our drive to expand our global business platform is supported by a strong balance sheet and cash flow. During 2003, the cash flow from operations provided the fuel for $118 million in acquisitions, $53 million of new capital (including joint ventures), $18 million of stock repurchases and $26 million dividends paid. We continue to have adequate financial headroom to pursue acquisitions and are positioned to raise additional funding if the need arises.

The outlook for 2004 is to follow similar themes—growth-oriented expenditures for acquisitions and capital, dividend payments and selective stock repurchases when warranted.

Our pension plan is well funded with pension assets of $406 million at the end of 2003-up from $334 million at the start of the year. We have been able to take advantage of good stock and bond market performance during 2003.

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We also have taken steps to reduce our future pension liability by closing the defined pension benefit plan to new employees in the United States beginning in April 2004. New employees will have the opportunity to participate in a defined contribution plan.

Management continues to exercise control over costs in all areas, and expects to increase funding for research and development as administrative costs are diminished in other areas. There is significant activity around improving and streamlining our transaction capabilities through the formation of an Alliance Services group within the company. As one example of the benefits of this program, we were able to generate orders from Albemarle systems within 18 hours of the closing of one recent acquisition in Europe.

We have continued to evaluate many acquisition opportunities brought to the market as the industry continues to restructure. While we will consider equity dilution for larger acquisitions, we are steadfast in our focus on adding value. This approach results in conservative valuations for possible acquisitions, and an intention to preserve a strong balance sheet. Our dedication to creating wealth for our shareholders is a constant.

In summary, as Albemarle enters the next decade we believe the Company is well positioned to grow and create additional value for our shareholders. The Company has the underlying technologies, products and organization to participate in the ever-changing global chemical industry. The Company has put in place strategies to grow the business and control costs, and believes there is an equal balance between the positive developments within the Company and the external forces that moderate growth and profitability.

Restatements and Reclassifications

The 2002 financial statements have been restated to move the recognition of revenue of a fourth quarter 2002 transaction from December 31, 2002 results to the first quarter and second quarter of 2003. See Note 20 to the consolidated financial statements and the following chart for the impact of the restatement on the management discussion and analysis presented herein:

Effective January 1, 2003, product net sales from the Fine Chemicals segment amounting to $10,020 and $6,058 for the years ended December 31, 2002 and 2001, respectively, and their related operating loss of $2,601 in 2002 and gain of $430 in 2001 were reclassified for synergy purposes to the Polymer Chemicals segment.

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Results of Operations—Restated

Net sales by operating segments for the three years ended December 31, are as follows:

Net Sales—Restated

Net sales for 2003 were $1,110.2 million, up $102.3 million (10.2%) from net sales of $1,007.9 million in 2002. Polymer Chemicals’ net sales in 2003 increased $77.8 million (14.1%) due to the favorable impact of foreign exchange ($30.6 million), the addition of the Company’s acquisitions ($54.9 million), higher shipments in flame retardants ($13.5 million) and favorable pricing in catalysts and additives ($3.2 million). The increase was partially offset by lower shipments in catalysts and additives ($21.9 million) and lower prices in flame retardants ($2.4 million). Fine Chemicals, net sales for 2003 increased $24.5 million (5.4%) due to the favorable impact of foreign exchange ($26.0 million), higher shipments in agricultural chemicals ($8.2 million) and fine chemistry services and intermediates ($6.1 million) and the addition of the Company’s Atofina acquisition ($1.9 million). The increase was partially offset by unfavorable product mix ($3.7 million) and prices ($3.0 million) in performance chemicals, lower shipments ($6.3 million) and unfavorable pricing ($0.8 million) in bulk active pharmaceuticals, as well as unfavorable pricing in fine chemistry services and intermediates ($3.6 million).

Net sales for 2002 amounted to $1,007.9 million, up $65.2 million (6.9%), from $942.7 million in 2001. Polymer Chemicals’ net sales in 2002 were up $72.7 million (15.2%) due to higher shipments ($47.9 million) partially offset by lower pricing ($15.7 million) in flame retardants and the increase in net sales of $37.4 million resulting from the mid-year 2001 acquisitions of Martinswerk GmbH (“Martinswerk”) and the custom and fine chemicals businesses of ChemFirst Inc. (“ChemFirst businesses”) and higher shipments ($7.2 million) offset, in part, by lower pricing ($3.8 million) in catalysts and additives. Fine Chemicals’ net sales in 2002 were down $7.5 million (1.6%) due to lower shipments ($32.6 million) partially offset by higher pricing ($1.3 million) in agricultural chemicals and fine chemistry services and intermediates and product mix in performance chemicals ($5.7 million); offset by an increase in net sales from the Company’s mid-year 2001 acquisitions of Martinswerk and ChemFirst businesses ($28.9 million).

Operating Costs and Expenses—Restated

Cost of goods sold in 2003 increased $96.3 million (12.4%) from 2002. The increase was primarily due to operating costs associated with the Company’s 2003 acquisitions, the favorable impact of foreign exchange of $12.7 million as well as the effects of raw material and energy costs of $24.0 million. This increase is partially offset by the absence of a $2.6 million charge to costs of sales related to the discontinuance and withdrawal from a water treatment venture in the 2002 period. The gross profit margin decreased approximately 160 basis points to 21.5% for 2003 from 23.1% in 2002. Overall, Albemarle’s average 2003 raw material costs were significantly higher than 2002. Energy costs in 2003 were also higher than 2002.

Cost of goods sold in 2002 increased $54.0 million (7.5%) from 2001. The increase was primarily due to operating costs associated with increased shipments over 2001 in flame retardants and the Company’s acquisitions of Martinswerk and the ChemFirst businesses, lower pension income as well as a charge of approximately $2.6 million ($8.3 million, net of probable insurance recovery of $5.7 million) related to the discontinuance of product support for and the withdrawal from a water treatment venture. This increase is partially offset by favorable plant utilization and production costs and the favorable effects of foreign exchange transaction gains of approximately $1.7 million in 2002 versus foreign exchange transaction gains of approximately $0.5 million in 2001. Gross profit margin decreased to 23.1% in 2002 from 23.5% in 2001. Overall, Albemarle’s average 2002 raw material costs were significantly lower than 2001. Energy costs in 2002 were lower than 2001.

Selling, general and administrative expenses, combined with research and development expenses (“SG&A”) in 2003 increased $7.5 million (5.8%) from 2002 primarily due to the unfavorable impact of foreign exchange ($4.4 million), lower pension income ($2.7 million), higher outside services approximating $3.0 million and higher SFAS No. 2 R&D costs ($1.9 million) partially offset by lower employee incentive costs ($2.8 million) and the Company’s overall cost reduction efforts. The 2003 increase in SG&A compares to an increase of $7.3 million (6.1%) in 2002 from 2001 primarily due to higher employee-related costs as well as a $3.5 million increase in recurring SG&A associated with the Company’s mid-year 2002 acquisitions of Martinswerk and ChemFirst businesses. As a percentage of net sales, SG&A was 12.2% in 2003 versus 12.7% in 2002 and 12.8% in 2001.

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Operating Profit—Restated

Operating profit by operating segments for the three years ended December 31, are as follows:

* See “Restatements and Reclassifications” on page 10.

The Company’s operating profit in 2003, including a $7.5 million voluntary separation charge and a $2.5 million impairment charge relating to real estate held for sale, decreased $10.0 million (9.7%) from the 2002 period. Higher raw material and energy costs were significant contributors to this decrease. The decrease is partially offset by the favorable net effects of foreign exchange, the impact of the Company’s 2003 acquisitions and the absence of a $2.6 million charge to costs of sales related to the discontinuance and withdrawal from a water treatment venture in the 2002 period.

The Company’s operating profit in 2002 increased $4.4 million (4.4%) from 2001. Reduced raw material and favorable manufacturing costs and plant utilization, higher shipments in flame retardants as well as the favorable integration of Martinswerk contributed to this increase. The increase was partially offset by lower pricing, lower shipments in Fine Chemicals’ agricultural chemicals and fine chemistry services and intermediates product lines, a charge of approximately $2.6 million related to the discontinuance of product support for and the withdrawal from a water treatment venture and a charge of $1.5 million related to workforce reductions. SG&A in 2002 increased $7.3 million (6.1%) from 2001 primarily due to higher employee-related costs as well as a $3.5 million increase in recurring SG&A associated with the mid-year 2001 acquisitions.

Polymer Chemicals’ operating profit for 2003, including a $2.9 million allocation charge related to a voluntary severance program, increased $5.6 million (8.7%) from 2002. Excluding the above charge, 2003 operating profit increased $8.5 million primarily due to the favorable net effects of foreign exchange ($10.4 million), the favorable impact of the Company’s acquisitions ($9.8 million), lower production costs ($3.9 million) and a 2002 period reclassification from corporate and other expenses ($2.0 million) offset, in part, by higher raw material and energy costs ($10.1 million) and lower shipments in catalysts and additives ($7.2 million) and flame retardants ($1.0 million).

Polymer Chemicals’ operating results for 2002 increased $4.6 million (7.7%) versus 2001, primarily due to higher shipments in flame retardants ($15.9 million), which includes the impact of the acquisition of Martinswerk and favorable raw material costs ($13.2 million). The increase was partially offset by lower pricing ($21.1 million) primarily in flame retardants and a first quarter 2002 reclassification of bad debt expense from corporate and other expenses ($2.0 million).

Fine Chemicals’ operating profit for 2003, including a $1.8 million allocation charge related to a voluntary severance program, decreased $11.6 million (19.1%) from 2002. Excluding the above charge, 2003 operating profit decreased $9.8 million (16.1%) primarily due to higher raw material and energy costs ($13.9 million), unfavorable manufacturing costs ($7.8 million), lower prices ($3.0 million) and product mix ($2.5 million) in performance chemicals, and lower prices in fine chemistry services and intermediates ($3.6 million) as well as bulk active pharmaceuticals ($0.8 million). This decrease was partially offset by higher shipments in fine chemistry services and intermediates ($7.4 million), agricultural chemicals ($5.7 million), and bulk active pharmaceuticals ($3.0 million), the absence of a $2.6 million charge to costs of sales related to the discontinuance and withdrawal from a water treatment venture in the 2002 period and the favorable net effects of foreign exchange ($3.1 million).

Fine Chemicals’ operating results for 2002 decreased $0.5 million (0.8%) versus 2001 primarily due to lower pricing ($13.7 million) primarily in performance chemicals, lower shipments ($10.9 million) primarily in agricultural chemicals and fine chemistry services and intermediates, and a charge of approximately $2.6 million ($8.3 million, net of probable insurance recovery of $5.7 million) related to the discontinuance of product support for and the withdrawal from a water treatment venture. The decrease was partially offset by favorable raw material ($13.7 million) and manufacturing costs ($12.8 million), primarily due to increased production in the detergent builders product line.

Corporate and other expenses for 2003 increased $4.0 million (17.9%) from 2002, primarily due to the following adjustments recorded in the respective periods. Excluding the adjustments, corporate and other expenses were down approximately $1.7 million in 2003 due primarily to lower

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employee incentive costs and the Company’s overall cost reduction efforts.

Corporate and other expenses in 2002 decreased $0.2 million (0.9%) versus 2001. This decrease is attributable to a first quarter 2002 reclassification of bad debt expense to the Polymer Chemicals’ segment operating profit ($2.0 million) partially offset by a higher employee incentive provision and a charge of $1.5 million related to workforce reductions in 2002.

Interest and Financing Expenses

Interest and financing expenses for 2003 increased $0.3 million from $5.1 million in 2002 due primarily to higher commitment fees under the Company’s Credit Agreement offset, in part, by lower average interest rates on higher average outstanding long term debt. Interest and financing expenses for 2002 were impacted by an overall lower average interest rate for the year versus 2001 partially offset by higher average debt outstanding during 2002. The higher debt in 2002 reflected the impact of the two acquisitions during 2001 as well as the repurchase of 4,000,000 common shares in February 2002.

Other Income, Net Including Minority Interest

Other income, net including minority interest for 2003 amounted to $0.6 million, down $2.7 million from 2002 primarily due to higher operating losses on joint venture investments offset, in part, by an increase in interest on income tax settlements ($0.7 million) in 2003 versus 2002. Other income, net including minority interest decreased to $3.4 million in 2002 from $4.3 million in 2001, primarily due to the minority interest of $2.1 million in the Company’s majority-owned subsidiary, Stannica LLC (“Stannica”), partially offset by interest received in the amount of $2.0 million related to a favorable income tax settlement in 2002. See Note 1, “Summary of Significant Accounting Policies—Investments” of the notes to the consolidated financial statements in Item 8 on page 23.

Income Taxes—Restated

Income taxes in 2003 decreased $14.2 million from 2002. The 2003 period includes the favorable benefit of $7.5 million related to the revaluation of reserve requirements as the IRS closed audits related to tax years 1998 and 1999 as well as the impact of an IRS income tax settlement related to tax years 1996 and 1997 received in the amount of $4.5 million. Income taxes in 2002 were relatively unchanged compared to 2001. Income taxes in 2002 included an IRS settlement in the amount of $2.5 million offset by higher pre-tax income in 2002. The effective tax rate for 2003 was 15.8%, which was down from 27.8% in 2002 and 29.9% in 2001. See Note 13, “Income Taxes” of the notes to the consolidated financial statements in Item 8 on page 42 for details of changes in effective income tax rates.

Additional Information

Summary of Critical Accounting Policies

Estimates and Assumptions

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of revenues, expenses, assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements. Listed below are the estimates and assumptions that the Company considers to be significant in the preparation of the financial statements.

Allowance for Doubtful Accounts — The Company estimates losses for uncollectible accounts based on the aging of receivables and the evaluation of the likelihood of success in collecting the receivables.

Depreciation — Book depreciation is estimated based upon internal engineering studies, which are conducted periodically. Engineering and manufacturing, with the advice of specific product management, review each project to make sure that assets to be capitalized are depreciated based upon the estimated product life and/or individual asset life, whichever is less.

Inventory Obsolescence — Inventories are viewed on a monthly basis to determine age, movement and turnover. Reserves are setup periodically based upon estimates to adjust inventory values in line with their net realizable value.

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Albemarle Corporation and Subsidiaries

Recovery of Long-Lived Assets — The Company evaluates the recovery of its long-lived assets on a segment basis by periodically analyzing its operating results and considering significant events or changes in the business environment.

Acquisition Accounting — The Company estimates the fair value of assets and liabilities when allocating the purchase price of an acquisition.

Income Taxes — The Company assumes the deductibility of certain costs in its income tax filings and estimates the future recovery of deferred tax assets.

Legal Accruals — The Company estimates the amount of potential exposure and anticipated cost to defend that it may incur with respect to litigation, claims and assessments.

Environmental Remediation Liabilities — The Company estimates and accrues the costs required to remediate a specific site depending on site-specific facts and circumstances. Cost estimates to remediate each specific site are developed by assessing (i) the scope of the Company’s contribution to the environmental matter, (ii) the scope of the anticipated remediation and monitoring plan, and (iii) the extent of other parties’ share of responsibility.

Insurance Accruals/Receivables — The Company records and assumes the recoverability of insurance receivables and potential impact of insurance claims based on the Company’s estimates after considering advice from in-house and outside legal counsel as well as outside consultants.

Actual results could differ materially from the estimates and assumptions that the Company uses in the preparation of its financial statements.

Revenue Recognition

Sales are recognized when the revenue is realized or realizable, and has been earned, in accordance with the U.S. Securities and Exchange Commission’s Staff Accounting Bulletin No. 104, “Revenue Recognition in Financial Statements.” Net sales are recognized as risk and title to the product transfer to the customer, which usually occurs at the time shipment is made. The majority of the Company’s sales are sold FOB (“free on board”) shipping point or on an equivalent basis, other transactions are based upon specific contractual arrangements. Albemarle’s standard terms of delivery are included in its contracts of sale, order confirmation documents and invoices. Revenue from services is recognized when performance of the services has been completed. The Company has a limited amount of consignment sales that are billed to the customer upon monthly notification of amounts used by the customers under these contracts.

Pension Plans and Other Postretirement Benefits

The Company follows the guidance of SFAS No. 87, “Employers’ Accounting for Pensions,” and SFAS No. 106, “Employers’ Accounting for Postretirement Benefits Other Than Pensions,” when accounting for pension and postretirement benefits. Under these accounting standards, assumptions are made regarding the valuation of benefit obligations and the performance of plan assets. Delayed recognition of differences between actual results and expected or estimated results is a guiding principle of these standards. This delayed recognition of actual results allows for the recognition of changes in benefit obligations and plan performance over the working lives of the employees who benefit under the plans. The primary assumptions are as follows:

During 2003, the Company made changes to the assumptions related to the discount rate, the rate of compensation increase (for salary-related plans) and the rate of increase in the per capita cost of covered health care benefits. The Company consults with actuaries when selecting each of these assumptions.

In selecting the discount rate, consideration is given to fixed-income security yields, specifically high quality bonds (Moody’s Aa corporate bond rate). At December 31, 2003, the discount rate was reduced for the plans from 6.60% to 6.15% as a result of decreased yields for long-term high quality bonds.

In estimating the expected return on plan assets, the Company considers past performance and future expectations for the types of investments held by the plan as well as the expected long-term allocation of plan assets to these investments. At December 31, 2003, the expected rate of return on pension plan assets was reduced from 9.25% to 8.75% and there was no change in the expected 7.00% return on other postretirement benefit plan assets.

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Albemarle Corporation and Subsidiaries

In projecting the rate of compensation increase, the Company considers past experience in light of movements in inflation rates. At December 31, 2003, the assumed rate of compensation increase was reduced from 3.75% to 2.56% for the plans.

In selecting the rate of increase in the per capita cost of covered health care benefits, the Company considers past performance and forecasts of future health care cost trends. At December 31, 2003, the previously assumed rate of increase in the per capita cost of covered health care benefits was decreased. The assumed health care cost trend rate for 2003 for pre-65 coverage was 10% per year, dropping by 1% per year to an ultimate rate of 6%, the trend rate for post-65 coverage was 12% per year, dropping by 1% per year to an ultimate rate of 6%. The assumed health care cost trend rate for 2002 for pre-65 coverage was 11% per year, dropping by 1% per year to an ultimate rate of 6%, the trend rate for post-65 coverage was 13% per year, dropping by 1% per year to an ultimate rate of 6%.

Income Taxes

Deferred income taxes result from temporary differences in the recognition of income and expenses for financial and income tax reporting purposes, using the liability or balance sheet method. Such temporary differences result primarily from differences between the financial statement carrying amounts and tax basis of assets and liabilities using enacted tax rates in effect in the years in which the differences are expected to reverse.

Investments

The Company has investments in joint ventures, nonmarketable securities and marketable equity securities. The majority of the Company’s investments are in joint ventures. Since the Company has the ability to exercise significant influence over the operating and financial policies of these joint ventures, they are accounted for using the equity method of accounting. The Company’s shares of the investee’s earnings (losses) are included in the consolidated statement of operations as a component of “other income, net including minority interest.” Investments in marketable securities are accounted for as available-for-sale securities with changes in fair value included in “accumulated other comprehensive income (loss)” in the shareholders’ equity section of the consolidated balance sheets. Joint ventures’ and nonmarketable securities’ results for immaterial entities are estimated based upon the overall performance of the entity where financial results are not available on a timely basis.

Financial Condition and Liquidity

Cash and cash equivalents at December 31, 2003 were $35.2 million, down $12.6 million from $47.8 million at year-end 2002.

Cash flows provided from operating activities, which rose for the third straight year, amounted to $150.1 million, together with $119.6 million of proceeds from borrowings from credit agreements, $4.4 million of proceeds from the liquidation of a nonmarketable security, and $12.6 million of existing cash and cash equivalents, were used to cover operating activities in 2003, make three acquisitions totaling $117.8 million (see Other Matters on page 4 for details of the acquisitions), repay debt of $83.7 million, fund capital expenditures and investments in joint ventures and nonmarketable securities of $41.1 million and $12.0 million, respectively, pay dividends to common shareholders of $23.2 million and purchase approximately 700,000 shares of the Company’s common stock for $17.6 million.

Cash and cash equivalents at December 31, 2002 were $47.8 million, which represented an increase of $17.2 million from $30.6 million at year-end 2001.

For 2002, cash flows provided from operating activities were $144.8 million, which together with $281.3 million of proceeds from borrowings, primarily from the Company’s primary credit agreements, and an increase in working capital of approximately $7.1 million (excluding foreign currency translation) were used to cover operating activities in 2002, payoff the Company’s previous revolving credit facility of $160 million, cover repayment of debt of $102.6 million, purchase approximately 4 million shares of the Company’s common stock for $93.1 million, fund capital expenditures of $38.4 million, pay dividends to common shareholders of $23.0 million and increase cash and cash equivalents by $17.2 million.

The Company anticipates that cash provided from operating activities in the future will be sufficient to cover its operating expenses, debt service obligations, dividend payments to common shareholders and to fund most, if not all, of its capital expenditures.

The Company has a three-year unsecured Credit Agreement, dated September 10, 2002, with a group of lenders providing for $375 million in revolving credit facilities (the “Credit Agreement”). Borrowings under the Company’s Credit Agreement are conditioned upon compliance with the following financial covenants: (a) consolidated interest coverage ratio, as defined, must be greater than or equal to 3.00:1.00, (b) consolidated leverage ratio, as defined, must be less than or equal to 3.50:1.00, (c) consolidated tangible domestic assets, as defined, must be equal to or greater than $750 million for the Company to make investments in entities and enterprises that are organized outside the United States, (d) with the exception of liens specified in the Credit Agreement, liens may not attach to assets with a value of more than 10% of consolidated net worth, as defined in the agreement. As of December 31, 2003, the Company was in compliance with

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Albemarle Corporation and Subsidiaries

these covenants. An increase in pricing level for outstanding interest rates and commitment fees which are based on the Company’s debt-to-capitalization ratio would not accelerate the maturity of our indebtedness thereunder. However, an increase in our debt-to-capitalization ratio would result in an increase in the interest rate and fees payable under the Credit Agreement.

In addition, at December 31, 2003, the Company had the flexibility to borrow up to a total of $83.7 million ($24.6 million outstanding at December 31, 2003) under its various other credit arrangements.

The noncurrent portion of the Company’s long-term debt amounted to $228.4 million at December 31, 2003, compared to $190.3 million at the end of 2002. At December 31, 2003 and 2002, the Company had the ability to refinance its borrowings through credit lines with domestic financial institutions and foreign banks with borrowings under its Credit Agreement which matures on September 10, 2005.

The Company’s total long-term debt, including the current portion, as a percentage of total capitalization at December 31, 2003, was approximately 26.4%. In addition, the Company has commitments, in the form of guarantees, for 50% of the loan amounts outstanding (which at December 31, 2003, amounted to $28.3 million) of its 50%-owned joint venture company, JBC. JBC entered into the loans in 2000 to finance construction of certain bromine and derivatives manufacturing facilities on the Dead Sea. The Company’s total loan guarantee commitment for JBC is 50% of the JBC’s total loans, which could amount to $46 million if JBC makes all of its allowable draws.

At December 31, 2003, the Company’s foreign currency translation adjustments, net of related deferred taxes, included in accumulated other comprehensive income (loss) in the consolidated statement of changes in shareholders’ equity on page 21, increased from December 31, 2002, primarily due to the weakening of the U.S. dollar against the Euro.

Capital expenditures in 2003 of $41.1 million were higher than the 2002 level of $38.4 million. The Company’s capital spending program is expected to be in the $50-$60 million range over the next few years, with expenditures expected to expand capacities at existing facilities to support an expected increase in sales. Capital spending for environmental and safety projects is expected to be slightly more in 2004 than the current year. Future capital spending is expected to be financed primarily with cash provided from operating activities, with the balance, if necessary, provided by additional debt. The Company continues to evaluate potential acquisitions of facilities and/or businesses, particularly in areas where its know-how adds value.

The following table summarizes the Company’s contractual obligations for plant construction, purchases of equipment, unused letters of credit, and various take or pay and throughput agreements:

Environmental Matters

The Company is subject to federal, state, local and foreign requirements regulating the handling, manufacture and use of materials (some of which may be classified as hazardous or toxic by one or more regulatory agencies), the discharge of materials into the environment and the protection of the environment. To the Company’s knowledge, it is currently complying and expects to continue to comply in all material respects with applicable environmental laws, regulations, statutes and ordinances. Compliance with existing federal, state, local and foreign environmental protection laws is not expected to have in the future a material effect on earnings or the competitive position of Albemarle, but increased legal or regulatory requirements could have an adverse effect on our results.

Among other environmental requirements, the Company is subject to the federal Superfund law, and similar state laws, under which the Company may be designated as a potentially responsible party (“PRP”) and may be liable for a share of the costs associated with cleaning up various hazardous waste sites. Management believes that in most cases, the Company’s participation is de minimis. Further, almost all such sites represent environmental issues that are quite mature and have been investigated, studied and in

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Albemarle Corporation and Subsidiaries

many cases settled. In de minimis situations, the Company’s policy generally is to negotiate a consent decree and to pay any apportioned settlement, enabling the Company to be effectively relieved of any further liability as a PRP, except for remote contingencies. In other than de minimis PRP matters, the Company’s records indicate that unresolved PRP exposures should be immaterial. The Company accrues and expenses its proportionate share of PRP costs. Because management has been actively involved in evaluating environmental matters, the Company is able to conclude that the outstanding environmental liabilities for unresolved PRP sites should not be material to operations.

The Company’s environmental and safety operating costs charged to expense were approximately $21 million in 2003 versus approximately $17.7 million in 2002 and $14.4 million in 2001, excluding depreciation of previous capital expenditures, and are expected to be in the same range in the next few years. Costs for remediation have been accrued and payments related to sites are charged against accrued liabilities, which at December 31, 2003, totaled approximately $29.1 million, down $2.3 million, from December 31, 2002.

The Company believes that most of the amount it may be required to pay in connection with environmental remediation matters in excess of the amounts recorded, if any, should occur over a period of time and should not have a material adverse impact on its financial condition or results of operations, but could have a material adverse impact in any particular quarterly reporting period.

Capital expenditures for pollution-abatement and safety projects for the Company, including such costs that are included in other projects, were approximately $4.5 million, $4.4 million and $2.6 million in 2003, 2002 and 2001, respectively. For each of the next few years, capital expenditures for these types of projects may increase due to more stringent regulatory requirements. Management’s estimates of the effects of compliance with governmental pollution-abatement and safety regulations are subject to (i) the possibility of changes in the applicable statutes and regulations or in judicial or administrative construction of such statutes and regulations, and (ii) uncertainty as to whether anticipated solutions to pollution problems will be successful, or whether additional expenditures may prove necessary.

Recently Issued Accounting Pronouncements

On January 1, 2003, the Company adopted SFAS No. 143, “Accounting for Asset Retirement Obligations,” which addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. At the time of adoption, the Company identified certain assets for which there are future retirement obligations. These future obligations are comprised primarily of the cost of closing various facilities and of capping brine wells. The financial statement impact at adoption of this Statement on the Company’s consolidated statements of income is reflected as a cumulative effect of a change in accounting principle amounting to $3,485 or $2,220 after income taxes.

During January 2003, the Financial Accounting Standards Board (FASB) issued Interpretation No. 46 (“FIN 46”), “Consolidation of Variable Interest Entities.” FIN 46 clarifies the application of Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties; such entities are known as variable interest entities (“VIE”). FIN 46 applies immediately to all VIEs created after January 31, 2003 and is effective as of December 31, 2003 for any VIEs deemed to be special purpose entities (“SPE”) created prior to February 1, 2003. The FASB issued a revision to FIN 46 (“FIN 46-R”) in December 2003. FIN 46-R is effective for the interim period ending March 31, 2004 for all new or existing VIEs. The Company is not required to adopt FIN 46 since it has no SPEs. The Company will implement the provisions of FIN 46-R in the first quarter of fiscal year 2004, and is evaluating the effect this Interpretation will have on its financial statements.

Effective June 30, 2003, Albemarle adopted SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” This statement amends and clarifies financial accounting and reporting for derivatives and for hedging activities under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” This standard had an immaterial impact on the Company’s financial statements.

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Instruments with Characteristics of Both Liabilities and Equity.” This standard requires that certain financial instruments embodying an obligation to transfer assets or to issue equity securities be classified as liabilities. It is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective July 1, 2003. At the time of adoption, this standard had no impact on the Company’s financial statements.

On December 23, 2003, the FASB issued SFAS No. 132 (revised 2003), “Employers’ Disclosures about Pensions and Other Postretirement Benefits, an amendment of FASB Statements No. 87, 88, and 106, and a revision of FASB Statement No. 132.” This Statement revises employers’ disclosures about pension plans and other postretirement benefit plans. The new rules require additional

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Albemarle Corporation and Subsidiaries

disclosures about the assets, obligations, cash flows, and net periodic benefit cost of defined benefit pension plans and other postretirement benefit plans. The Company has implemented SFAS No. 132 (revised 2003) for the year ended December 31, 2003.

ITEM 7A.    Quantitative and Qualitative Disclosures About Market Risk

In the normal course of operations, the Company is exposed to changes in financial market conditions due to the denomination of its business transactions in diverse foreign currencies and the Company’s ongoing manufacturing and funding activities. As a result, future earnings, cash flows and fair values of assets and liabilities are subject to market risk. The Company has established policies, procedures and internal processes governing its management of uncertain market conditions, and uses both operational and financial market actions in its risk management activities, which include the use of derivative instruments. The Company does not use derivative instruments for trading purposes. The Company only enters into derivative contracts based on economic analysis of underlying exposures anticipating that adverse impacts on future earnings, cash flows and fair values due to fluctuations in foreign currency exchange rates will be offset by the proceeds from and changes in fair value of the derivative instruments. The Company does not hedge its exposure to market risks in a manner that completely eliminates the effects of changing market conditions on earnings, cash flows and fair values.

Short-term exposures to changing foreign currency exchange rates are primarily due to operating cash flows denominated in foreign currencies. The Company covers certain known and anticipated operating exposures by using forward contracts.

The primary currencies for which the Company has foreign currency exchange rate exposure are the Euro, Japanese yen, British pound sterling and the U.S. dollar (in certain of its foreign locations). In response to the greater fluctuations in foreign currency exchange rates in recent periods, the Company has increased the degree of risk management activities to minimize the impact on earnings of future periods.

The Company’s financial instruments, subject to foreign currency exchange risk, consist of foreign currency forward contracts and represented a net asset position of less than $0.01 million at December 31, 2003. The Company conducted a sensitivity analysis on the fair value of its foreign currency hedge portfolio assuming instantaneous 10% changes in foreign currency exchange rates from their levels as of December 31, 2003, with all other variables held constant. A 10% appreciation of the U.S. dollar against foreign currencies would result in an increase of $0.4 million in the fair value of foreign currency exchange hedging contracts. A 10% depreciation of the U.S. Dollar against foreign currencies would result in a decrease of $0.5 million in the fair value of foreign currency exchange hedging contracts. The sensitivity in fair value of the foreign currency hedge portfolio represents changes in fair values estimated based on market conditions as of December 31, 2003, without reflecting the effects of underlying anticipated transactions. When those anticipated transactions are realized, actual effects of changing foreign currency exchange rates could have a material impact on earnings and cash flows in future periods.

The Company is exposed to changes in interest rates that could impact its results of operations and financial condition. The Company manages the worldwide exposure of its interest rate risks and foreign exchange exposure through its regular operations and financing activities. The Company utilizes a Credit Agreement as its primary source of financing supplemented by several uncommitted line agreements, which could expose the Company to changes in interest rates, if various financial covenants are not met. The Company manages its ratio of debt-to-capitalization with the objective of achieving the lowest interest rate possible. A hypothetical change of 100 basis points in the Company’s effective interest rate on its variable interest rate long-term debt at December 31, 2003, would increase or decrease interest expense by approximately $2.3 million.

Raw materials used by the Company are subject to price volatility caused by weather, supply conditions, political and economic variables and other unpredictable factors. The Company does not use futures, options and swap contracts to manage the volatility related to the above exposures. However, management seeks to limit its exposure by entering into long-term contracts when available, and seeks price increase limitations through contracts.

The Company is exposed to market risk from changes in natural gas prices related to its production requirements. During 2003, the Company began entering into natural gas futures contracts (“contracts”) of up-to 50% of its 12 month rolling forecast of its North American consumption to help manage its exposure. The contracts qualify as cash flow hedges under SFAS 133 and are marked to market. The unrealized gains and/or losses are deferred and reported in accumulated other comprehensive income to the extent that the unrealized gains and losses are offset by the forecasted transaction. At December 31, 2003, there were unrealized gains of approximately $0.08 million ($0.05 million after tax) in accumulated other comprehensive income. Any unrealized gains and/or losses on the derivative instrument that are not offset by the forecasted transaction are recorded in earnings.

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Albemarle Corporation and Subsidiaries

ITEM 8.    Financial Statements and Supplementary Data

CONSOLIDATED BALANCE SHEETS

See accompanying notes to the consolidated financial statements.

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Albemarle Corporation and Subsidiaries

CONSOLIDATED STATEMENTS OF INCOME

See accompanying notes to the consolidated financial statements.

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Albemarle Corporation and Subsidiaries

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY