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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2005

 

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: 1-8520

 

TERRA INDUSTRIES INC.

(Exact name of registrant as specified in its charter)

 

Maryland   52-1145429
(State or other jurisdiction of
incorporation or organization)
  (I.R.S. Employer
Identification No.)

Terra Centre

P.O. Box 6000

600 Fourth Street

Sioux City, Iowa

  51102-6000
(Address of principal executive offices)   (Zip Code)

 

Registrant’s telephone number, including area code: (712) 277-1340

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x  No ¨

 

As of March 31, 2005, the following shares of the registrant’s stock were outstanding:

 

Common Shares, without par value   92,929,124 shares

 



Table of Contents

 

TABLE OF CONTENTS

 

Part I – FINANCIAL INFORMATION

    

Item 1.

  

Financial Statements

    
    

Consolidated Balance Sheets

   3
    

Consolidated Statements of Operations

   4
    

Consolidated Statements of Cash Flows

   5
    

Consolidated Statements of Changes is Shareholders’ Equity

   6
    

Notes to Consolidated Financial Statements

   7

Item 2.

  

Management Discussion and Analysis of Financial Condition and Results of Operations

   24

Item 3.

  

Quantitative and Qualitative Disclosures About Market Risk

   28

Part II – OTHER INFORMATION

    

Item 4.

  

Controls and Procedures

   30

Item 6.

  

Exhibits

   31

 

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Table of Contents

 

PART I. FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

 

TERRA INDUSTRIES INC.

CONSOLIDATED BALANCE SHEETS

(in thousands)

(unaudited)

 

     March 31,
2005


    December 31,
2004


    March 31,
2004


 

Assets

                        

Cash and short-term investments

   $ 205,001     $ 233,798     $ 160,092  

Accounts receivable, less allowance for doubtful accounts of $268, $262 and $580

     157,680       150,271       106,088  

Inventories

     138,736       148,808       113,986  

Other current assets

     53,250       58,106       36,656  
    


 


 


Total current assets

     554,667       590,983       416,822  
    


 


 


Property, plant and equipment, net

     779,402       797,978       697,741  

Equity method investments

     222,453       215,939       2,326  

Deferred plant turnaround costs

     36,282       33,897       22,425  

Intangible assets

     18,698       24,884       3,166  

Other assets

     25,943       21,827       27,104  
    


 


 


Total assets

   $ 1,637,445     $ 1,685,508     $ 1,169,584  
    


 


 


Liabilities

                        

Debt due within one year

   $ 151     $ 167     $ 154  

Accounts payable

     91,875       119,571       77,545  

Accrued expenses and other current liabilities

     201,689       220,195       165,473  
    


 


 


Total current liabilities

     293,715       339,933       243,172  
    


 


 


Long-term debt and capital lease obligations

     394,490       435,238       402,164  

Deferred income taxes

     65,903       58,224       28,736  

Pension liabilities

     117,217       119,570       63,453  

Other liabilities

     46,389       47,872       50,444  

Minority interest

     93,403       92,197       90,842  
    


 


 


Total liabilities and minority interest

     1,011,117       1,093,034       878,811  
    


 


 


Preferred Stock - $137,269 liquidation value at March 31, 2005 and December 31, 2004

     133,069       133,069       —    

Common Shareholders’ Equity

                        

Capital stock

                        

Common Shares

     144,562       144,531       129,029  

Paid-in capital

     681,540       681,639       555,604  

Accumulated other comprehensive loss

     (25,494 )     (55,994 )     (37,320 )

Unearned compensation

     (2,302 )     (2,568 )     —    

Accumulated deficit

     (305,047 )     (308,203 )     (356,540 )
    


 


 


Total shareholders’ equity

     493,259       459,405       290,773  
    


 


 


Total liabilities, minority interest, preferred stock and shareholders’ equity

   $ 1,637,445     $ 1,685,508     $ 1,169,584  
    


 


 


 

See Accompanying Notes to the Consolidated Financial Statements.

 

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Table of Contents

TERRA INDUSTRIES INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per-share amounts)

(unaudited)

 

     Three Months Ended
March 31,


 
     2005

    2004

 

Revenues

                

Net sales

   $ 449,409     $ 360,461  

Other income, net

     603       568  
    


 


Total revenues

     450,012       361,029  
    


 


Costs and Expenses

                

Cost of sales

     413,743       323,718  

Recovery of product claim costs

     —         (15,514 )

Equity in earnings of unconsolidated affiliates

     (5,007 )     (71 )

Selling, general and administrative expense

     10,453       7,309  
    


 


       419,189       315,442  
    


 


Income from operations

     30,823       45,587  

Interest income

     1,754       377  

Interest expense

     (15,853 )     (13,501 )

Loss on early retirement of debt

     (10,804 )     —    

Change in fair value of warrant liability

     4,900       —    
    


 


Income before income taxes and minority interest

     10,820       32,463  

Income tax provision

     (2,185 )     (11,300 )

Minority interest

     (4,204 )     (2,933 )
    


 


Net income

     4,431       18,230  

Preferred share dividends

     (1,275 )     —    
    


 


Income Available to Common Shareholders

   $ 3,156     $ 18,230  
    


 


Basic and diluted income per share:

                

Basic

   $ 0.03     $ 0.24  

Diluted

     0.03       0.23  

Basic and diluted weighted average shares outstanding:

                

Basic

     91,357       75,814  

Diluted

     92,217       77,776  

 

See Accompanying Notes to the Consolidated Financial Statements.

 

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TERRA INDUSTRIES INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

 

     Three Months Ended
March 31,


 
     2005

    2004

 

Operating Activities

                

Net income

   $ 4,431     $ 18,230  

Adjustments to reconcile net income to net cash flows from operating activities:

                

Loss on early retirement of debt

     9,418       —    

Change in fair value of warrant liability

     (4,900 )     —    

Recovery of product claim costs

     —         (12,874 )

Depreciation and amortization

     29,176       25,578  

Deferred income tax provision

     7,077       11,323  

Minority interest in earnings

     4,204       2,933  

Equity earnings of unconsolidated affiliates

     (5,007 )     (71 )

Amortization of unearned compensation

     339       —    

Term loan discount accretion

     1,209       —    

Changes in current assets and liabilities:

                

Accounts receivable

     (8,163 )     28,588  

Inventories

     9,637       (22,273 )

Other current assets

     28,045       7,875  

Accounts payable

     (30,212 )     (3,214 )

Accrued expenses and other current liabilities

     (8,259 )     19,713  
    


 


Net cash flows from operating activities

     36,995       75,808  
    


 


Investing Activities

                

Capital expenditures

     (6,420 )     (1,075 )

Plant turnaround expenditures

     (7,032 )     (150 )

Other

     1,530       (861 )
    


 


Net cash flows from investing activities

     (11,922 )     (2,086 )
    


 


Financing Activities

                

Payments under borrowings arrangements

     (50,042 )     (41 )

Proceeds from exercise of stock options

     102       136  

Distributions to minority interests

     (2,998 )     (1,153 )
    


 


Net cash flows from financing activities

     (52,938 )     (1,058 )
    


 


Effect of exchange rate changes on cash

     (932 )     94  
    


 


Increase (decrease) to cash and short-term investments

     (28,797 )     72,758  

Cash and short-term investments at beginning of period

     233,798       87,334  
    


 


Cash and short-term investments at end of period

   $ 205,001     $ 160,092  
    


 


Supplemental cash flow information:

                

Interest paid

   $ 2,939     $ 494  

Income tax refunds received

     10,054       —    

Income taxes paid

     12       121  

Preferred stock dividends paid

     2,125       —    

 

See Accompanying Notes to the Consolidated Financial Statements.

 

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TERRA INDUSTRIES INC.

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

THREE MONTHS ENDED MARCH 31, 2005 AND 2004

(in thousands)

(unaudited)

 

     Common
Stock


   Paid-In
Capital


    Accumulated
Other
Comprehensive
Loss


    Unearned
Compensation


    Accumulated
Deficit


    Total

    Comprehensive
Income (Loss)


 

Balance at January 1, 2005

   $ 144,531    $ 681,639     $ (55,994 )   $ (2,568 )   $ (308,203 )   $ 459,405          

Comprehensive income (loss):

                                                       

Net income

     —        —         —         —         4,431       4,431     $ 4,431  

Foreign currency translation adjustment

     —        —         (3,292 )     —         —         (3,292 )     (3,292 )

Change in fair value of derivatives, net of taxes of $6,304

     —        —         33,794       —         —         33,794       33,794  
                                                   


Comprehensive income

                                                  $ 34,933  
                                                   


Preferred share dividends

     —        —         —         —         (1,275 )     (1,275 )        

Exercise of stock options

     24      78       —         —         —         102          

Restricted stock

     7      (177 )     —         (73 )     —         (243 )        

Amortization of unearned compensation

     —        —         —         339       —         339          
    

  


 


 


 


 


       

Balance at March 31, 2005

   $ 144,562    $ 681,540     $ (25,492 )   $ (2,302 )   $ (305,047 )   $ 493,259          
    

  


 


 


 


 


       
     Common
Stock


   Paid-In
Capital


    Accumulated
Other
Comprehensive
Loss


    Unearned
Compensation


    Accumulated
Deficit


    Total

    Comprehensive
Income (Loss)


 

Balance at January 1, 2004

   $ 128,968    $ 555,529     $ (44,596 )   $ —       $ (374,770 )   $ 265,131          

Comprehensive income:

                                                       

Net income

     —        —         —         —         18,230       18,230     $ 18,230  

Foreign currency translation adjustment

     —        —         8,095       —         —         8,095       8,095  

Change in fair value of derivatives, net of taxes of $973

     —        —         (819 )     —         —         (819 )     (819 )
                                                   


Comprehensive income

                                                  $ 25,506  
                                                   


Stock issuance

     61      75       —         —         —         136          
    

  


 


 


 


 


       

Balance at March 31, 2004

   $ 129,029    $ 555,604     $ (37,320 )   $ —       $ (356,540 )   $ 290,773          
    

  


 


 


 


 


       

 

See Accompanying Notes to the Consolidated Financial Statements.

 

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Table of Contents

 

TERRA INDUSTRIES INC.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

 

1. Financial Statement Presentation

 

Basis of Presentation

 

The accompanying unaudited consolidated financial statements and condensed notes thereto contain all adjustments necessary, in the opinion of management, to summarize fairly the financial position of Terra Industries Inc. and all majority-owned subsidiaries (“Terra”, “we” and “our”) and the results of operations for the periods presented. Because of the seasonal nature of our operations and effects of weather-related conditions in several of its marketing areas, results of any interim reporting period should not be considered as indicative of results for a full year. These statements should be read in conjunction with our 2004 Annual Report on Form 10-K to Shareholders.

 

Revenue Recognition

 

Revenue is recognized when title and risk of loss passes to the customer. Revenue is recognized as the net amount to be received after deducting estimated amounts for discounts and trade allowances. Revenues include amounts paid by customers for shipping and handling.

 

Cost of Sales and Hedging Transactions

 

Realized gains and losses from hedging activities and premiums paid for option contracts are deferred and recognized in the month in which the hedged transactions closed. Swaps, options and other derivative instruments that do not qualify for hedge accounting treatment are marked to fair value each accounting period. Costs associated with settlement of natural gas purchase contracts and costs for shipping and handling are included in cost of sales. Cash flows related to natural gas hedging are reported as cash flows from operating activities.

 

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Stock-Based Compensation

 

We account for our employee stock-based compensation plans in accordance with Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and the related interpretations, which utilize the intrinsic value method. The company has adopted the disclosure-only provisions of SFAS No. 123, “Accounting for Stock Based Compensation”. The pro forma impact on net income (loss) and diluted income (loss) per share of accounting for stock-based compensation using the fair value method required by SFAS No. 123 follows:

 

     Three Months Ended
March 31


 

(in thousands, except per-share amounts)


   2005

    2004

 

Net income available to common shareholders

   $ 3,156     $ 18,230  

Add: Stock based employee compensation expense included in reported income, net of related tax effects

     339       138  

Deduct: Stock based employee compensation expense determined under fair value based method for all awards, net of related tax effects

     (339 )     (138 )
    


 


Pro forma net income available to common shareholders

   $ 3,156     $ 18,230  
    


 


Earnings per share:

                

Basic– as reported

   $ 0.03     $ 0.24  
    


 


Basic – pro forma

     0.03       0.24  
    


 


Diluted – as reported

   $ 0.03     $ 0.23  
    


 


Diluted – pro forma

     0.03       0.23  
    


 


 

Impairment of Long-Lived Assets

 

We review our long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If the sum of the expected future cash flows expected to result from the use of the asset (undiscounted and without interest charges) is less than the carrying amount of the asset, an impairment loss is recognized based on the difference between the carrying amount and the fair value of the asset.

 

Natural Gas Futures, Swaps, Options and Basis Swaps

 

The estimated fair value of each class of derivatives is based on published referenced prices and quoted market prices from brokers.

 

Use of Estimates in Preparation of the Financial Statements

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States 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 reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

 

Reclassifications

 

Certain reclassifications have been made to the 2004 Consolidated Financial Statements and Notes to conform to the 2005 presentation.

 

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2. Equity Investments

 

Terra’s investments in companies that are accounted for on the equity method of accounting consists of the following: (1) 50% ownership interest in Point Lisas Nitrogen Limited, (“PLNL”) which operates an ammonia production plant in Trinidad (2) 50% interest in an ammonia storage joint venture located in Houston, Texas and (3) 50% interest in a joint venture in Oklahoma CO2 at Terra’s plant. These investments were $222.5 million and $2.3 million at March 31, 2005 and 2004, respectively. Terra includes the net earnings of these investments as an element of operating income since the investee’s operations provide additional capacity to Terra.

 

The combined results of operations and financial position of Terra’s equity method investments are summarized below:

 

     Three Months Ended
March 31


(in thousands)


   2005

   2004

Condensed income statement information:

             

Net sales

   $ 43,103    $ 1,133
    

  

Net income

   $ 18,543    $ 351
    

  

Terra’s equity earnings of unconsolidated affiliates

   $ 5,007    $ 176
    

  

Condensed balance sheet information:

             

Current assets

   $ 80,565    $ 1,771
    

  

Long-lived assets

     247,795    $ 3,226
    

  

Total assets

   $ 328,360    $ 4,997
    

  

Current liabilities

   $ 13,664    $ 667

Long-term liabilities

     414      865

Equity

     314,283      3,465
    

  

Total liabilities and equity

   $ 328,360    $ 4,997
    

  

 

The carrying value of these investments at March 31, 2005 was $65.3 million more than Terra’s share of the affiliates’ book value. The excess is attributable primarily to affiliate fixed asset values and is being amortized over a period of approximately 15 years.

 

Terra has transactions in the normal course of business with PLNL whereby Terra is obliged to purchase 50 percent of the ammonia produced by PLNL at current market prices. During the first quarter of 2005, Terra purchased approximately $20.5 million of ammonia from PLNL. On April 15, 2005, PLNL made a cash distribution to its shareholders, of which Terra’s portion was $22.5 million.

 

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3. Earnings Per Share

 

Basic earnings (loss) per share data are based on the weighted-average number of Common Shares outstanding during the period. Diluted earnings per share data are based on the weighted-average number of Common Shares outstanding and the effect of all dilutive potential common shares including stock options, restricted shares and contingent convertible preferred shares.

 

The following table provides a reconciliation between basic and diluted earnings per share for the three months ended March 31, 2005 and 2004:

 

     Three Months Ended
March 31


(in thousands, except per-share amounts)


   2005

    2004

Basic income per share computation:

              

Net income

   $ 4,431     $ 18,230

Less: Preferred stock dividends

     (1,275 )     —  
    


 

Net income available to common shareholders

   $ 3,156     $ 18,230
    


 

Weighted average shares outstanding

     91,357       75,814
    


 

Basic income per common share

   $ 0.03     $ 0.24
    


 

Diluted income per share computation:

              

Net income available to common shareholders

   $ 3,156     $ 18,230
    


 

Net income available to common shareholders and assumed conversions

   $ 3,156     $ 18,230
    


 

Weighted average shares outstanding

     91,357       75,814

Add incremental shared from assumed conversions:

              

Preferred shares

     —         —  

Restricted stock

     211       1,781

Common stock options

     649       181
    


 

Dilutive potential common shares

     92,217       77,776
    


 

Diluted income per potential common share

   $ 0.03     $ 0.23
    


 

 

Common stock options totaling 0.1 million shares for the three months ended March 31, 2005 and 2004 were excluded from the computation of diluted earnings per share because the exercise prices of these options exceeded the average market price of our stock for the respective periods, and the effect of their inclusion would be antidilutive. Preferred shares were excluded from the computation of diluted earnings per share since their inclusion would be antidilutive.

 

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4. Inventories

 

Inventories consisted of the following:

 

(in thousands)


   March 31,
2005


   December 31,
2004


   March 31,
2004


Raw materials

   $ 34,629    $ 38,386    $ 19,252

Supplies

     37,051      36,543      26,091

Finished goods

     67,056      73,879      68,643
    

  

  

Total

   $ 138,736    $ 148,808    $ 113,986
    

  

  

 

5. Acquisition

 

On December 21, 2004, Terra acquired Mississippi Chemical Corporation (“MCC”) for a purchase price valued at $210.6 million consisting of 15 million common shares, 172,690 Series B preferred shares and cash of $54.2 million, including costs directly related to the acquisition. MCC manufactures nitrogen-based fertilizers and industrial use products and has a 50% ownership interest in an ammonia storage joint venture located in Houston, Texas. In connection with the acquisition, Terra assumed $125.0 million of MCC long-term debt and $34.1 million of unfunded pension liabilities.

 

The following represents unaudited pro forma summary results of operations as if the acquisition of MCC had occurred at the beginning of 2004.

 

(in thousands, except per-share amounts)


   Three Months Ended
March 31, 2004


Revenues

   $ 454,188

Operating income

     59,562

Net income

     24,300

Basic income per share

     0.27

Diluted income per share

     0.26

 

The pro forma operating results were adjusted to include depreciation of the fair value of acquired assets based on estimated useful lives at the acquisition dates, amortization of intangible assets, interest expense on acquisition borrowings, the issuance of common stock and the effect of income taxes. Pro forma operating results were also adjusted to exclude MCC discontinued operations as well as reorganization expenses and gains on the extinguishment of pre-petition liabilities in connection with its emergence from Chapter 11.

 

The pro forma information listed above does not purport to be indicative of the results that would have been obtained if the operations were combined during the above periods, and is not intended to be a projection of future operating results or trends.

 

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6. Derivative Financial Instruments

 

Terra manages risk using derivative financial instruments for (a) changes in natural gas supply prices (b) interest rate fluctuations (c) changes in nitrogen prices and (d) currency. Derivative financial instruments have credit risk and market risk.

 

To manage credit risk, Terra enters into derivative transactions only with counter-parties who are currently rated as BBB or better or equivalent as recognized by a national rating agency. Terra will not enter into transactions with a counter-party if the additional transaction will result in credit exposure exceeding $20 million. The credit rating of counter-parties may be modified through guarantees, letters of credit or other credit enhancement vehicles.

 

Terra classifies a derivative financial instrument as a hedge if all of the following conditions are met:

 

  1. The item to be hedged must expose Terra to currency, interest or price risk.

 

  2. It must be probable that the results of the hedge position substantially offset the effects of currency, interest or price changes on the hedged item (e.g., there is a high correlation between the hedge position and changes in market value of the hedge item).

 

  3. The derivative financial instrument must be designated as a hedge of the item at the inception of the hedge.

 

Natural gas supplies to meet production requirements at Terra’s North American production facilities are purchased at market prices. Natural gas market prices are volatile and Terra effectively fixes prices for a portion of its natural gas production requirements and inventory through the use of futures contracts, swaps and options. These contracts reference physical natural gas prices or appropriate NYMEX futures contract prices. Contract physical prices are frequently based on prices at the Henry Hub in Louisiana, the most common and financially liquid location of reference for financial derivatives related to natural gas. However, natural gas supplies for Terra’s North American production facilities are purchased at locations other than Henry Hub, which often creates a location basis differential between the contract price and the physical price of natural gas. Accordingly, the use of financial derivatives may not exactly offset the change in the price of physical gas. The contracts are traded in months forward and settlement dates are scheduled to coincide with gas purchases during that future period.

 

A swap is a contract between Terra and a third party to exchange cash based on a designated price. Option contracts give the holder the right to either own or sell a futures or swap contract. The futures contracts require maintenance of cash balances generally 10% to 20% of the contract value and option contracts require initial premium payments ranging from 2% to 5% of contract value. Basis swap contracts require payments to or from Terra for the amount, if any, that monthly published gas prices from the source specified in the contract differ from the prices of a NYMEX natural gas futures during a specified period. There are no initial cash requirements related to the swap and basis swap agreements.

 

The following summarizes open natural gas derivative contracts at March 31, 2005 and 2004:

 

(in thousands)


   2005

    2004

 
     Contract
MMBtu


   Unrealized
Gain (Loss)


    Contract
MMBtu


   Unrealized
Gain


 

Swaps

   17,755    $ 26,254     11,900    $ 6,413  

Options

   18,940      (4,658 )   8,790      (1,965 )
    
  


 
  


     36,695    $ 21,596     20,690    $ 4,448  
    
  


 
  


 

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Table of Contents

Gains and losses on settlement of these contracts and premium payments on option contracts are credited or charged to cost of sales in the month in which the hedged transaction closes. The risk and reward of outstanding natural gas positions are directly related to increases or decreases in natural gas prices in relation to the underlying NYMEX natural gas contract prices. Realized gains on closed contracts relating to future periods as of March 31, 2005 were $2.4 million.

 

Compared with spot prices, natural gas derivative activities increased Terra’s 2005 first quarter natural gas costs by $11.7 million and reduced 2004 first quarter natural gas costs by $6.8 million.

 

The following table presents the carrying amounts and estimated fair values of Terra’s derivative financial instruments as of March 31, 2005 and 2004. SFAS 107, “Disclosures about Fair Value of Financial Instruments” defines the fair value of a financial instrument as the amount at which the instrument could be exchanged in a current transaction between willing parties.

 

(in millions)


   2005

   2004

     Carrying
Amount


   Fair
Value


   Carrying
Amount


   Fair
Value


Natural gas

   $ 2.4    $ 21.4    $ 0.4    $ 3.9
    

  

  

  

 

The activity to other comprehensive income, net of income taxes, relating to a current period hedging transactions for the three-month period ended March 31, 2005 and 2004 follow:

 

(in thousands)


   2005

    2004

 

Beginning accumulated gain (loss)

   $ (19,307 )   $ 3,979  

Reclassification into earnings

     10,729       (2,589 )

Net change associated with current period hedging transactions

     23,065       1,770  
    


 


Ending accumulated gain (loss)

   $ 14,487     $ 3,160  
    


 


 

Approximately $12.2 million of the accumulated gain at March 31, 2005 will be reclassified into earnings during 2005.

 

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Table of Contents
7. Long-term Debt and Other Borrowings

 

Long-term debt and other borrowings consisted of the following:

 

(in thousands)


   March 31,
2005


   December 31,
2004


   March 31,
2004


Secured Senior Notes, 12.875% due 2008

   $ 200,000    $ 200,000    $ 200,000

Term loan, due 2008, net of $13.6 and $24.1 million unamortized a discount at March 31, 2005 and December, 31, 2004, respectively

     63,178      103,900      —  

Second Priority Senior Secured Notes, 11.5%, due 2010

     131,300      131,300      202,000

Other

     163      205      318
    

  

  

       394,641      435,405      402,318

Less current maturities

     151      167      154
    

  

  

Total

   $ 394,490    $ 435,238    $ 402,164
    

  

  

 

In March 2005, Terra repaid $50.0 million of the term loans. The discounted book value of debt prior to repayment was $41.9 million. As a result, Terra recognized a loss on the repayment of $8.1 million and other related prepayment charges of $2.7 million during the first quarter of 2005.

 

8. Pension Plans

 

We maintain defined benefit pension plans that cover substantially all salaried and hourly employees. Benefits are based on a pay formula. The defined benefit plans’ assets consist principally of equity securities and corporate and government debt securities. We also have certain non-qualified pension plans covering executives, which are unfunded. We accrue pension costs based upon annual actuarial valuations for each plan and fund these costs in accordance with statutory requirements.

 

The estimated components of net periodic pension expense follow:

 

     Three Months Ended
March 31


 

(in thousands)


   2005

    2004

 

Service cost

   $ 683     $ 502  

Interest cost

     3,917       3,754  

Expected return on plan assets

     (3,070 )     (3,065 )

Amortization of prior service cost

     5       7  

Amortization of actuarial loss

     1,222       1,191  

Amortization of net transition assets

     12       (29 )

Termination charge

     —         385  
    


 


Pension Expense

   $ 2,769     $ 2,361  
    


 


 

Cash contributions to the defined benefit pension plans for the quarter ended March 31, 2005 and 2004 were $1.7 million and $1.6 million, respectively.

 

We also sponsor defined contribution savings plans covering most full-time employees. Contributions made by participating employees are matched based on a specified percentage of

 

14


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employee contributions. The cost of our contributions to these plans for the three month periods ending March 31, 2005 and 2004 totaled $0.4 million and $0.8 million, respectively.

 

We provide health care benefits for certain U.S. employees who retired on or before January 1, 2002. Participant contributions and co-payments are subject to escalation. The plan pays a stated percentage of most medical expenses reduced for any deductible and payments made by government programs. These costs are funded as paid.

 

9. Accumulated other comprehensive income/(loss)

 

Accumulated other comprehensive income (loss) refers to revenues, expenses, gains and losses that under accounting principles generally accepted in the United States are recorded as an element of shareholders’ equity but are excluded from net income. Terra’s other comprehensive income (loss) is comprised of (a) adjustments that result from translation of Terra’s foreign entity financial statements from their functional currencies to United States dollars, (b) adjustments that result from translation of intercompany foreign currency transactions that are of a long-term investment nature (that is, settlement is not planned or anticipated in the foreseeable future) between entities that are consolidated in Terra’s financial statements, (c) the offset to the fair value of derivative assets and liabilities (that qualify as hedged relationships) recorded on the balance sheet, and (d) minimum pension liability adjustments.

 

The components of accumulated other comprehensive income (loss) for the three months ended March 31, 2005 and 2004 follow:

 

(in thousands)


   Foreign
Currency
Translation
Adjustment


    Fair Value of
Derivatives,
net of taxes


    Minimum
Pension
Liability,
net of taxes


    Total

 

Balance December 31, 2004

   $ 14,287     $ (19,307 )   $ (50,974 )   $ (55,994 )

Change in foreign translation adjustment

     (3,292 )     —         —         (3,292 )

Change in fair value of derivatives

     —         33,794       —         33,794  
    


 


 


 


Balance March 31, 2005

   $ 10,995     $ 14,487     $ (50,974 )   $ (25,492 )
    


 


 


 


Balance December 31, 2003

   $ (10,928 )   $ 3,979     $ (37,647 )   $ (44,596 )

Change in foreign translation adjustment

     8,095       —         —         8,095  

Change in fair value of derivatives

     —         (819 )     —         (819 )
    


 


 


 


Balance March 31, 2004

   $ (2,833 )   $ 3,160     $ (37,647 )   $ (37,320 )
    


 


 


 


 

10. Industry Segment Data

 

We classify our operations into two business segments: nitrogen products and methanol. The nitrogen products business produces and distributes ammonia, urea, nitrogen solutions, ammonium nitrate and other products to farm distributors and industrial users. The methanol business manufactures and distributes methanol which is used in the production of a variety of chemical derivatives and in the production of methyl tertiary butyl ether (MTBE), an oxygenate and an octane enhancer for gasoline. We do not allocate interest, income taxes or corporate-related charges to business segments. Included in Other are general corporate activities not attributable to a specific industry segment.

 

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Table of Contents

The following summarizes operating results by business segment:

 

     Three Months Ended
March 31


 

(in thousands)


   2005

    2004

 

Revenues - Nitrogen Products

   $ 439,322     $ 317,557  

- Methanol

     10,087       42,904  

- Other

     603       568  
    


 


Total revenues

   $ 450,012     $ 361,029  
    


 


Income (loss) from operations

                

- Nitrogen Products

   $ 31,658     $ 49,418  

- Methanol

     (674 )     (2,046 )

- Other-net

     (161 )     (1,785 )
    


 


Total income (loss) from operations

   $ 30,823     $ 45,587  
    


 


The following summarizes geographic revenues information for the three months ending March 31:  

(in thousands)


   2005

    2004

 

United States

   $ 336,942     $ 245,324  

Canada

     11,669       11,332  

United Kingdom

     101,401       104,373  
    


 


     $ 450,012     $ 361,029  
    


 


 

11. Guarantor Subsidiaries

 

The consolidating statement of financial position of Terra Industries Inc. (the “Parent”), Terra Capital, Inc. (“TCAPI”), the Guarantor Subsidiaries and subsidiaries of the Parent that are not guarantors of the Senior Secured Notes due 2008 for March 31, 2005, December 31 and March 31, 2004 are presented below for purposes of complying with the reporting requirements of the Guarantee Subsidiaries. Statements of operations and statements of cash flows for the three months ended March 31, 2005 and 2004 are presented below for purposes of complying with the reporting requirements of the Guarantor Subsidiaries.

 

Guarantor subsidiaries include subsidiaries that own the Woodward, Oklahoma, Port Neal, Iowa and Beaumont, Texas plants as well as the corporate headquarters facility in Sioux City, Iowa. All other company facilities are owned by non-guarantor subsidiaries.

 

16


Table of Contents

Consolidating Balance Sheet as of March 31, 2005:

 

(in thousands)


   Parent

    TCAPI

    Guarantor
Subsidiaries


    Non-Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Assets

                                                

Cash and short-term investments

   $ 1     $ 76,435     $ 38,222     $ 90,343     $ —       $ 205,001  

Accounts receivable, net

     —         (67 )     31,829       125,918       —         157,680  

Inventories

     —         —         28,599       110,137       —         138,736  

Other current assets

     15,193       6,365       11,003       18,103       2,586       53,250  
    


 


 


 


 


 


Total current assets

     15,194       82,733       109,653       344,501       2,586       554,667  
    


 


 


 


 


 


Property, plant and equipment, net

     —         —         297,667       483,715       (1,980 )     779,402  

Intangible, other assets and deferred plant turnaround costs

     2,127       12,893       12,916       53,596       (609 )     80,923  

Equity method investments

     —         —         —         222,453       —         222,453  

Investments in and advances to (from) affiliates

     747,286       420,347       1,331,267       65,587       (2,564,487 )     —    
    


 


 


 


 


 


Total assets

   $ 764,607     $ 515,973     $ 1,751,503     $ 1,169,852     $ (2,564,490 )   $ 1,637,445  
    


 


 


 


 


 


Liabilities

                                                

Debt due within one year

   $ —       $ —       $ 91     $ 60     $ —       $ 151  

Accounts payable

     155       —         26,330       65,405       (15 )     91,875  

Accrued expenses and other current liabilities

     33,185       16,892       52,827       98,618       16       201,538  
    


 


 


 


 


 


Total current liabilities

     33,340       16,892       79,248       164,083       1       293,564  
    


 


 


 


 


 


Long-term debt and capital lease obligations

     —         331,300       12       63,178       —         394,490  

Deferred income taxes

     (8,829 )     —         —         74,732       —         65,903  

Pension and other liabilities

     112,493       —         14,470       36,810       (16 )     163,757  

Minority interest

     —         18,270       75,133       —         —         93,403  
    


 


 


 


 


 


Total liabilities

     137,004       366,462       168,863       338,803       (15 )     1,011,117  
    


 


 


 


 


 


Preferred stock

     133,069       —         —         —         —         133,069  

Shareholders’ Equity

                                                

Common stock

     144,562       —         73       49,709       (49,782 )     144,562  

Paid-in capital

     681,540       150,219       1,784,676       926,000       (2,860,895 )     681,540  

Accumulated other comprehensive loss

     (25,492 )     (25,492 )     —         31,139       (5,647 )     (25,492 )

Unearned compensation

     (2,304 )     —         —         —         —         (2,304 )

Retained earnings (deficit)

     (303,772 )     24,784       (202,109 )     (175,799 )     351,849       (305,047 )
    


 


 


 


 


 


Total shareholders’ equity

     494,534       149,511       1,582,640       831,049       (2,564,475 )     493,259  
    


 


 


 


 


 


Total liabilities and shareholders equity

   $ 764,607     $ 515,973     $ 1,751,503     $ 1,169,852     $ 2,564,490     $ 1,637,445  
    


 


 


 


 


 


 

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Table of Contents

Consolidating Statement of Operations for the three months ended March 31, 2005:

 

(in thousands)


   Parent

    TCAPI

    Guarantor
Subsidiaries


    Non-Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Revenues

                                                

Net sales

   $ —       $ —       $ 129,374     $ 315,444     $ 4,591     $ 449,409  

Other income, net

     —         —         4,769       426       (4,592 )     603  
    


 


 


 


 


 


       —         —         134,143       315,870       (1 )     450,012  
    


 


 


 


 


 


Cost and Expenses

                                                

Cost of sales

     —         —         124,689       290,275       (1,221 )     413,743  

Selling, general and administrative expenses

     498       (1,731 )     5,658       4,801       1,227       10,453  

Equity in the (earnings) loss of subsidiaries

     (2,962 )     (12,519 )     —         (5,007 )     15,481       (5,007 )
    


 


 


 


 


 


Total cost and expenses

     (2,464 )     (14,250 )     130,347       290,069       15,487       419,189  
    


 


 


 


 


 


Income from operations

     2,464       14,250       3,796       25,801       (15,488 )     30,823  

Interest income

     —         766       1,117       998       (1,127 )     1,754  

Interest expense

     (490 )     (11,232 )     (5 )     (5,446 )     1,320       (15,853 )

Loss on early retirement of debt

     —         —         —         (10,804 )     —         (10,804 )

Change in fair value of warrant liability

     4,900       —         —         —         —         4,900  
    


 


 


 


 


 


Income before income taxes and minority interest

     6,874       3,784       4,908       10,549       (15,295 )     10,820  

Income tax benefit (provision)

     (2,443 )     —         —         258       —         (2,185 )

Minority interest

     —         (822 )     (3,382 )     —         —         (4,204 )
    


 


 


 


 


 


Net income (loss)

   $ 4,431     $ 2,962     $ 1,526     $ 10,807     $ (15,295 )   $ 4,431  
    


 


 


 


 


 


 

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Table of Contents

Consolidating Statement of Cash Flows for the three months ended March 31, 2005:

 

(in thousands)


   Parent

    TCAPI

    Guarantor
Subsidiaries


    Non-Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Operating Activities

                                                

Net income (loss)

   $ 4,431     $ 2,962     $ 1,526     $ 10,807     $ (15,295 )   $ 4,431  

Adjustments to reconcile net income (loss) to net cash flows from operating activities:

                                                

Loss on early retirement of debt

     —         —         —         9,418       —         9,418  

Change in fair value of warrants

     (4,900 )     —         —         —         —         (4,900 )

Depreciation and amortization

     —         —         10,672       18,504       —         29,176  

Deferred income taxes

     15,625       —         —         (755 )     (7,794 )     7,077  

Minority interest in earnings

     —         822       3,382       —         —         4,204  

Equity in earnings (loss) of subsidiaries

     (2,962 )     (12,519 )     —         (5,007 )     15,481       (5,007 )

Amortization of unearned compensation

     339       —         —         —         —         339  

Term loan discount accretion

     —         —         —         1,209       —         1,209  

Change in operating assets and liabilities

     (32,755 )     22,642       (24,929 )     (5,986 )     32,076       (13,852 )
    


 


 


 


 


 


Net Cash Flows from Operating Activities

     (20,221 )     13,907       (9,349 )     28,190       24,468       36,995  
    


 


 


 


 


 


Investing Activities

                                                

Capital expenditures

     —         —         (767 )     (5,653 )     —         (6,420 )

Plant turnaround expenditures

     —         —         —         (7,032 )     —         (7,032 )

Other

     (1,414 )     1,285       (976 )     6,503       (3,868 )     1,530  
    


 


 


 


 


 


Net Cash Flows from Investing Activities

     (1,414 )     1,285       (1,743 )     (6,182 )     (3,868 )     (11,922 )
    


 


 


 


 


 


Financing Activities

                                                

Principal payments on long-term debt

     —         —         (27 )     (50,015 )     —         (50,042 )

Proceeds from exercise of stock options

     102       —         —         —         —         102  

Distributions to minority interests

     —         (586 )     (2,412 )     —         —         (2,998 )

Change in investments and advances from (to) affiliates

     21,533       (142,862 )     23,210       117,787       (19,668 )     —    
    


 


 


 


 


 


Net Cash Flows from Financing Activities

     21,635       (143,448 )     20,771       67,772       (19,668 )     (52,938 )
    


 


 


 


 


 


Effect of Foreign Exchange Rate on Cash

     —         —         —         —         (932 )     (932 )
    


 


 


 


 


 


Increase (decrease) in Cash and Short-term Investments

     —         (128,256 )     9,679       89,780       —         (28,797 )
    


 


 


 


 


 


Cash and Short-term Investments at Beginning of Year

     1       204,691       28,543       563       —         233,798  
    


 


 


 


 


 


Cash and Short-term Investments at End of Year

   $ 1     $ 76,435     $ 38,222     $ 90,343     $ —       $ 205,001  
    


 


 


 


 


 


 

19


Table of Contents

Consolidating Balance Sheet as of December 31, 2004:

 

(in thousands)


   Parent

    TCAPI

    Guarantor
Subsidiaries


    Non-Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Assets

                                                

Cash and short-term investments

   $ 1     $ 204,691     $ 28,543     $ 563     $ —       $ 233,798  

Accounts receivable

     7       (75 )     31,181       119,158       —         150,271  

Inventories

     60       —         32,243       116,504       1       148,808  

Other current assets

     1,520       21,149       9,540       26,888       (991 )     58,106  
    


 


 


 


 


 


Total current assets

     1,588       225,765       101,507       263,113       (990 )     590,983  
    


 


 


 


 


 


Property, plant and equipment, net

     —         —         306,020       499,170       (7,212 )     797,978  

Deferred plant turnaround costs, intangible and other assets

     237       14,177       14,365       42,560       9,269       80,608  

Equity method investments

     —         —         —         215,939       —         215,939  

Investment in and advanced to (from) affiliates

     735,357       237,464       1,366,624       192,787       (2,532,232 )     —    
    


 


 


 


 


 


Total Assets

   $ 737,182     $ 477,406     $ 1,788,516     $ 1,213,569     $ (2,531,165 )   $ 1,685,508  
    


 


 


 


 


 


Liabilities

                                                

Debt due within one year

   $ —       $ —       $ 104     $ 63     $ —       $ 167  

Accounts payable

     515       1,600       26,385       94,218       —         122,718  

Accrued expenses and other current liabilities

     50,466       7,426       79,233       84,058       (988 )     220,195  
    


 


 


 


 


 


Total current liabilities

     50,981       9,026       105,722       178,339       (988 )     343,080  
    


 


 


 


 


 


Long-term debt and capital lease obligations

     —         331,300       26       103,912       —         435,238  

Deferred income taxes

     (19,322 )     —         —         75,488       2,057       58,223  

Pension and other liabilities

     112,020       —         15,343       36,935       (2 )     164,296  

Minority interest

     —         18,034       74,164       —         (1 )     92,197  
    


 


 


 


 


 


Total liabilities and minority interest

     143,678       358,360       195,255       394,674       1,066       1,093,034  
    


 


 


 


 


 


Preferred Shares

     133,069       —         —         —         —         133,069  

Shareholders’ Equity

                                                

Common stock

     144,531       —         72       49,709       (49,781 )     144,531  

Paid in capital

     681,639       150,218       1,750,879       892,400       (2,793,497 )     681,639  

Accumulated other comprehensive income (loss)

     (55,995 )     (52,994 )     —         21,885       31,109       (55,994 )

Retained earnings (deficit)

     (307,174 )     21,822       (157,690 )     (145,099 )     279,938       (308,203 )
    


 


 


 


 


 


Total shareholders’ equity

     460,434       119,046       1,593,261       818,895       (2,532,231 )     459,405  
    


 


 


 


 


 


Total liabilities and shareholders’ equity

   $ 737,182     $ 477,406     $ 1,788,516     $ 1,213,569     $ (2,531,165 )   $ 1,685,508  
    


 


 


 


 


 


 

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Table of Contents

Consolidating Balance Sheet as of March 31, 2004:

 

(in thousands)


   Parent

    TCAPI

    Guarantor
Subsidiaries


    Non-Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Assets

                                                

Cash and short-term investments

   $ —       $ 157,680     $ 589     $ 1,823     $ —       $ 160,092  

Accounts receivable, net

     —         10       29,625       76,453       —         106,088  

Inventories

     —         —         40,451       73,535       —         113,986  

Other current assets

     6,652       9,586       5,069       11,961       3,388       36,656  
    


 


 


 


 


 


Total current assets

     6,652       167,276       75,734       163,772       3,388       416,822  
    


 


 


 


 


 


Property, plant and equipment, net

     —         —         333,032       366,505       (1,796 )     697,741  

Investments in and advanced to (from) affiliates

     408,856       384,989       1,296,586       119,449       (2,209,880 )     —    

Other assets and deferred plant turnaround costs

     (453 )     17,602       7,829       29,750       293       55,021  
    


 


 


 


 


 


Total assets

   $ 415,055     $ 569,867     $ 1,713,181     $ 679,476     $ (2,207,995 )   $ 1,169,584  
    


 


 


 


 


 


Liabilities

                                                

Debt due within one year

   $ —       $ —       $ 94     $ 60     $ —       $ 154  

Accounts payable

     137       —         30,285       47,123       —         77,545  

Accrued and other liabilities

     (6,881 )     39,606       50,161       79,199       3,388       165,473  
    


 


 


 


 


 


Total current liabilities

     (6,744 )     39,606       80,540       126,382       3,388       243,172  
    


 


 


 


 


 


Long-term debt and capital lease obligations

     —         402,000       105       59       —         402,164  

Deferred income taxes

     41,201       —         —         (12,465 )     —         28,736  

Pension and other liabilities

     89,825       (4,105 )     21,946       6,231       —         113,897  

Minority interest

     —         17,769       73,073       —         —         90,842  
    


 


 


 


 


 


Total liabilities

     124,282       455,270       175,664       120,207       3,388       878,811  
    


 


 


 


 


 


Shareholders’ Equity

                                                

Common stock

     129,029       —         72       49,709       (49,781 )     129,029  

Paid-in capital

     555,604       150,218       1,778,916       685,556       (2,614,690 )     555,604  

Accumulated other comprehensive income (loss)

     (37,320 )     (37,320 )     —         17,484       19,836       (37,320 )

Retained earnings (deficit)

     (356,540 )     1,699       (241,471 )     (193,480 )     433,252       (356,540 )
    


 


 


 


 


 


Total shareholders’ equity

     290,773       114,597       1,537,517       559,269       (2,211,383 )     290,773  
    


 


 


 


 


 


Total liabilities and shareholders’ equity

   $ 415,055     $ 569,867     $ 1,713,181     $ 679,476     $ (2,207,995 )   $ 1,169,584  
    


 


 


 


 


 


 

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Consolidating Statement of Operations for the three months ended March 31, 2004:

 

(in thousands)


   Parent

    TCAPI

    Guarantor
Subsidiaries


    Non-Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Revenues

                                                

Net sales

   $ —       $ —       $ 112,488     $ 246,309     $ 1,664     $ 360,461  

Other income, net

     —         —         2,127       105       (1,664 )     568  
    


 


 


 


 


 


       —         —         114,615       246,414       —         361,029  
    


 


 


 


 


 


Cost and Expenses

                                                

Cost of sales

     —         —         110,849       212,177       621       323,647  

Product claim costs

     —         —         —         (15,514 )     —         (15,514 )

Selling, general and administrative expenses

     906       (491 )     4,719       2,600       (425 )     7,309  

Equity in the (earnings) loss of subsidiaries

     (25,669 )     (38,112 )     (860 )     —         64,641       —    
    


 


 


 


 


 


       (24,763 )     (38,603 )     114,708       199,263       64,837       315,442  
    


 


 


 


 


 


Income (loss) from operations

     24,763       38,603       (93 )     47,151       (64,837 )     45,587  

Interest income

     —         361       972       173       (1,129 )     377  

Interest expense

     (769 )     (12,721 )     (8 )     (1,148 )     1,145       (13,501 )

Minority interest

     —         (574 )     (2,359 )     —         —         (2,933 )
    


 


 


 


 


 


Income (loss) from operations before income taxes

     23,994       25,669       (1,488 )     46,176       (64,821 )     29,530  

Income tax benefit (provision)

     (5,764 )     —         —         (5,535 )     (1 )     (11,300 )
    


 


 


 


 


 


Net income (loss)

   $ 18,230     $ 25,669     $ (1,488 )   $ 40,641     $ (64,822 )   $ 18,230  
    


 


 


 


 


 


 

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Consolidating Statement of Cash Flows for the three months ended March 31, 2004:

 

(in thousands)


   Parent

    TCAPI

    Guarantor
Subsidiaries


   

Non-Guarantor

Subsidiaries


    Eliminations

    Consolidated

 

Operating Activities

                                                

Net income (loss)

   $ 18,230     $ 25,669     $ (1,488 )   $ 40,641     $ (64,822 )   $ 18,230  

Adjustments to reconcile net income (loss) to net cash flows from operating activities:

                                                

Depreciation and amortization

     —         1,048       11,755       12,775       —         25,578  

Deferred income taxes

     10,922       —         —         (17 )     418       11,323  

Minority interest in earnings

     —         574       2,359       —         —         2,933  

Recovery of product claim costs

     —         —         —         (12,874 )     —         (12,874 )

Equity in earnings (loss) of subsidiaries

     25,669       38,112       860       —         (64,641 )     —    

Change in operating assets and liabilities

     (8,238 )     8,395       26,405       (9,842 )     13,969       30,689  

Other

     —         —         —         12,874       (71 )     (71 )
    


 


 


 


 


 


Net Cash Flows from Operating Activities

     46,583       73,798       39,891       43,557       (128,021 )     75,808  
    


 


 


 


 


 


Investing Activities

                                                

Capital expenditures

     —         —         (80 )     (995 )     —         (1,075 )

Plant turnaround expenditures

     —         —         (3 )     (147 )     —         (150 )

Other

     453       (1 )     883       (6,047 )     3,851       (861 )
    


 


 


 


 


 


Net Cash Flows from Investing Activities

     453       (1 )     800       (7,189 )     3,851       (2,086 )
    


 


 


 


 


 


Financing Activities

                                                

Principal payments on long-term debt and capital lease obligations

     —         —         (26 )     (15 )     —         (41 )

Change in investments and advances from (to) affiliates

     (47,172 )     9,477       (44,887 )     (41,494 )     124,076       —    

Stock issuance, net

     136       —         —         —         —         136  

Distributions to minority interests

     —         (225 )     (928 )     —         —         (1,153 )
    


 


 


 


 


 


Net Cash Flows from Financing Activities

     (47,036 )     9,252       (45,841 )     (41,509 )     124,076       (1,058 )
    


 


 


 


 


 


Effect of Foreign Exchange Rate on Cash

     —         —         —         —         94       94  
    


 


 


 


 


 


Increase (decrease) in Cash and Short-term Investments

     —         83,049       (5,150 )     (5,141 )     —         72,758  
    


 


 


 


 


 


Cash and Short-term Investments at Beginning of Year

     —         74,631       5,739       6,964       —         87,334  
    


 


 


 


 


 


Cash and Short-term Investments at End of Year

   $ —       $ 157,680     $ 589     $ 1,823     $ —       $ 160,092  
    


 


 


 


 


 


 

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12. Related Party Transactions

 

At March 31, 2005, Perry Corporation and its affiliates are the beneficial owners of 11.7% of Terra’s outstanding shares.

 

In connection with the acquisition of MCC, an affiliate of Perry is co-joint lead arranger and a lender for a portion of the $125.0 million term loan due in 2008. During the first quarter of 2005, Terra paid interest of $0.4 million on the portion of the term loan held by the Perry affiliate. In March 2905, Terra prepaid an aggregate of $50.0 million of the term loan. The Perry affiliate received $23.3 of the $50.0 million payment.

 

In connection with the $50.0 million prepayment, Terra paid a prepayment penalty of $1.4 million. The Perry affiliate received $0.6 million of the prepayment penalty. At March 31, 2005 the Perry affiliate holds approximately $34.9 million of the term loan due in 2008.

 

On May 4, 2005, Terra announced plans to prepay remaining outstanding amounts due under the 2008 term loan.

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION

 

Introduction

 

We produce and market nitrogen products for agricultural and industrial markets with production facilities located in North America and the United Kingdom. Nitrogen products are commodity chemicals that are sold at prices reflecting global supply and demand conditions. The nitrogen products industry has cycles of oversupply, resulting in lower prices and idled capacity, followed by supply shortages, resulting in high selling prices and higher industry-wide production rates. In order to be viable in this industry, a producer must be among the low-cost suppliers in the markets it serves and have a financial position that can sustain it during periods of oversupply.

 

Natural gas is the most significant raw material in the production of nitrogen products. North American natural gas costs have increased substantially since 1999. Since we compete with nitrogen products imported from regions with lower natural gas costs, the oversupply situation during most of the three years ending December 31, 2003 did not allow us and other North American producers to increase selling prices to levels necessary to cover the natural gas cost increases. This resulted in curtailments of North American nitrogen production that have contributed to higher nitrogen product prices through reductions to global supplies.

 

Imports, most of which are produced at facilities with access to fixed-price natural gas supplies, account for a significant portion of U.S. nitrogen product supply. Imported products’ natural gas costs have been and could continue to be substantially lower than the delivered cost of natural gas to our facilities. Off-shore producers are most competitive in regions close to the point of entry for imports, including the Gulf Coast and East Coast of North America.

 

Our sales volumes depend primarily on our plants’ operating rates. We may purchase product from other manufacturers or importers for resale, but gross margins on those volumes are rarely significant. Profitability and cash flows from our nitrogen products business are affected by our ability to manage our costs and expenses (other than natural gas), most of which do not materially change for different levels of production or sales. Other factors affecting our nitrogen products results include the level of planted acres, transportation costs, weather conditions (particularly during the planting season), grain prices and

 

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other variables described in Items 1 and 2 “Business and Properties” section of our most recent Form 10-K filing with the Securities and Exchange Commission.

 

RESULTS OF OPERATIONS

 

QUARTER ENDED MARCH 31, 2005 COMPARED WITH QUARTER ENDED MARCH 31, 2004

 

Consolidated Results

 

We reported net income of $4.4 million for the 2005 first quarter compared with a 2004 net income of $18.2 million. The 2004 net income includes $15.5 million (before taxes) recovery of product claim costs.

 

The remaining decrease in 2005 net income was primarily related to higher natural gas costs and loss on early retirement of debt. These were partially offset by earnings from the December 21, 2004 acquisition of MCC and the change in fair value of warrants.

 

We classify our operations into two business segments: nitrogen products and methanol. The nitrogen products segment represents operations directly related to the wholesale sales of nitrogen products from our ammonia production and upgrading facilities. The methanol segment represents wholesale sales of methanol produced by Terra’s two methanol manufacturing plants.

 

Total revenues and income (loss) from operations by segment for the three-month period ended March 31, 2005 and 2004 follow:

 

(in thousands)


   2005

    2004

 

REVENUES:

                

Nitrogen Products

   $ 439,322     $ 317,557  

Methanol

     10,087       42,904  

Other

     603       568  
    


 


     $ 450,012     $ 361,029  
    


 


INCOME (LOSS) FROM OPERATIONS:

                

Nitrogen Products

   $ 31,658     $ 49,418  

Methanol

     (674 )     (2,046 )

Other - net

     (161 )     (1,785 )
    


 


     $ 30,823     $ 45,587  
    


 


 

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Table of Contents

Nitrogen Products

 

Volumes and prices for the three-month periods ended March 31, 2005 and 2004 follow:

 

VOLUMES AND PRICES

 

     2005

   2004

(quantities in thousands of tons)


   Sales
Volumes


   Average
Unit Price*


   Sales
Volumes


   Average
Unit Price*


Ammonia

   491    $ 271    310    $ 270

Nitrogen solutions

   1,088      136    877      113

Urea

   47      239    157      188

Ammonium nitrate

   405      189    247      188

 

* After deducting outbound freight costs

 

Nitrogen products segment revenues increased $121.7 million to $439.3 million in the 2005 first quarter compared with $317.6 million in the 2004 first quarter primarily as a result of $85.3 million sales increase related to the former MCC plants and higher sales prices. Sales prices were higher as the result of increased demand and lower supplies caused by industry curtailments.

 

The nitrogen products segment had operating income of $31.7 million for the 2005 first quarter compared with income from operations of $49.4 million for the 2004 period. The 2004 income from operations includes $15.5 million of recovery of product claim costs. The 2005 first quarter included $9.7 million of income from operations from the MCC operations acquired in December 2004. As compared to the last year’s first quarter, higher selling prices contributed almost $34.1 million to 2005 gross profits. First quarter natural gas costs increased about $42.1 million from the 2004 period. Natural gas unit costs, net of forward pricing gains and losses, were $6.44/MMBtu during the 2005 first quarter compared to $5.22/MMBtu during the same 2004 period. As a result of forward price contracts, first quarter 2005 natural gas costs for the nitrogen products segment were $11.7 million higher than spot prices.

 

Methanol

 

For the three months ended March 31, 2005 and 2004 the Methanol segment had revenues of $10.1 million and $42.9 million, respectively.

 

In November 1, 2004, we received notification from Methanex Corporation, under the terms of our agreement, to cease production at our Beaumont, Texas methanol manufacturing facility on December 1, 2004. We sold to Methanex our sales contracts and rights to the full output of the Beaumont plant for five years ending December 31, 2008, for a received lump-sum payment of $25 million and a share of cash gross profits generated from Beaumont sales. The agreement gave Methanex the right to cease production at the Beaumont facility. Methanex elected to shut down the Beaumont facility as of December 1, 2004. As long as the Beaumont facility remains idle through the December 2008 termination of the Methanex contract, Terra will continue to realize revenues relating to the facility of up to $16.4 million per year due to $4.4 million from annual amortization of deferred revenues plus one-half of the annual cash margin based on the plant’s methanol production capacity, methanol referenced prices and natural gas costs.

 

The methanol segment had an operating loss of $0.7 million for the 2005 first quarter compared to an operating loss of $2.0 million for the 2004 first quarter. The decrease to the operating loss reflected higher methanol prices. We recorded 2005 revenue of $3.1 million under the profit sharing provision of the Methanex contract based on published methanol prices and natural gas costs.

 

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Table of Contents

Other – Net

 

We had other operating losses of $0.1 million in the 2005 first quarter compared to $1.8 million operating loss in the 2004 first quarter. The reduction to expenses relates primarily to lower 2005 legal and administrative expenses related to corporate activities not assignable to either business segment.

 

Interest Expense - Net

 

Interest expense, net of interest income, increased to $14.1 million during the 2005 first quarter from $13.1 million for the prior year period due primarily to higher borrowings related to the MCC acquisition.

 

Minority Interest

 

Minority interest represents third-party interests in the earnings of the publicly held common units of Terra Nitrogen Company, L.P. (TNCLP). The 2005 and 2004 amounts are directly related to TNCLP earnings and losses.

 

Income Taxes

 

Income taxes for the first quarter 2005 were recorded based on the estimated annual effective tax rate for the individual jurisdictions in which we operate. The effective tax rate was 33.0% and 38.3% in the quarters ended March 31, 2005 and 2004, respectively. The tax rate decrease was due primarily to the relative benefit of permanent differences in book and taxable income for the three-month ended March 31, 2005 period as compared to the same period of 2004.

 

LIQUIDITY AND CAPITAL RESOURCES

 

Cash and short-term investments totaled $205.0 million at March 31, 2005, all of which is unrestricted. Our other primary uses of funds are to fund our working capital requirements, make payments on our debt and other obligations and fund plant turnarounds and capital expenditures. The principle sources of funds will be cash flow from operations and borrowings under available bank facilities.

 

Net cash provided from operations in the first three months of 2005 was $37.0 million, composed of $45.9 million of cash provided from operating activities, net of $8.9 million used to fund seasonal working capital needs.

 

During the first three months, we funded plant and equipment purchases of $6.4 million primarily for replacement or stay-in-business capital needs. We expect 2005 plant and equipment purchases to approximate $25 million consisting primarily of expenditures for replacement of equipment at manufacturing facilities.

 

Plant turnaround costs represent cash used for the periodic scheduled major maintenance of our continuous process production facilities that is performed at each plant generally every two years. We funded $7.0 million of plant turnaround costs in the first three months of 2005. We estimate 2005 plant turnaround costs will approximate $35 million.

 

We have revolving credit facilities totaling $200 million that expire in June 2008. Borrowing availability under the credit facility is generally based on eligible cash balances, 85% of eligible accounts receivable and 60% of eligible inventory, less outstanding letters of credit. These facilities include $50 million only available for the use of TNCLP, one of our consolidated subsidiaries. At March 31, 2005, borrowing

 

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Table of Contents

availabilities exceeded the credit facilities’ $200 million maximum. There were no outstanding revolving credit borrowings and there were $17.5 million in outstanding letters of credit, resulting in remaining borrowing availability of approximately $182.5 million under the facilities. We are required to maintain a combined minimum unused borrowing availability of $30 million. The credit facility also requires that we adhere to certain limitations on additional debt, capital expenditures, acquisitions, liens, asset sales, investments, prepayments of subordinated indebtedness, changes in lines of business and transactions with affiliates. In addition, if our borrowing availability falls below a combined $60 million, we are required to have generated $60 million of operating cash flows, or earnings before interest income taxes, depreciation, amortization and other non-cash items (as defined in the credit facility) for the preceding four quarters.

 

In March 2005 we repaid $50.0 million of the term loan from available cash. On May 4, 2005, Terra announced plans to prepay remaining outstanding amounts due under the 2008 term loan with payment due June 3, 2005.

 

Our ability to meet credit facility covenants will depend on future operating cash flows, working capital needs, receipt of customer prepayments and trade credit terms. Failure to meet these covenants could result in additional costs and fees to amend the credit facility or could result in termination of the facility. Access to adequate bank facilities is critical to funding our operating cash needs. Based on current market conditions for our finished products and natural gas, we anticipate that we will be able to meet our covenants through 2005. If there were to be any adverse changes in the factors discussed above, we may need a waiver of our credit facility covenants and there is no assurance we could receive such waivers.

 

Our cash contributions to pension plans are estimated at $10 million in 2005. Actual contributions could vary from these estimates depending on actual returns for plan assets, legislative changes to pension funding requirements and/or plan amendments.

 

Distributions paid to the minority TNCLP common unitholders in the first three months of 2005 and 2004 were $3.0 million and $1.2 million, respectively. TNCLP distributions are based on “Available Cash” (as defined in the Partnership Agreement).

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

Market risks relating to Terra’s operations result primarily from interest rates, foreign exchange rates, natural gas prices and nitrogen prices. Terra manages its exposure to these and other market risks through regular operating and financing activities and through the use of derivative financial instruments. Terra intends to use derivative financial instruments as risk management tools and not for speculative investment purposes. Item 7A, Quantitative and Qualitative Disclosures About Market Risk, of Terra’s Annual Report on Form 10-K for the year ended December 31, 2004 provides more information as to the types of practices and instruments used to manage risk. There was no material change in Terra’s exposure to market risks since December 31, 2004.

 

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Table of Contents

FORWARD-LOOKING PRECAUTIONS

 

Information contained in this report, other than historical information, may be considered forward looking. Forward-looking information reflects management’s current views of future events and financial performance that involve a number of risks and uncertainties. The factors that could cause actual results to differ materially include, but are not limited to, the following: changes in financial markets, general economic conditions within the agricultural industry, competitive factors and price changes (principally, sales prices of nitrogen and methanol products and natural gas costs), changes in product mix, changes in the seasonality of demand patterns, changes in weather conditions, changes in agricultural regulations, and other risks detailed in the “Factors that Affect Operating Results” section of our most recent Form 10-K.

 

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Table of Contents

 

PART II. OTHER INFORMATION

 

ITEM 4. SUBMISSIONS OF MATTERS TO A VOTE OF SECURITY HOLDERS

 

The 2005 Annual Meeting of shareholders was held on May 3, 2005 in New York, New York. At the meeting a total of 72,799,368 votes were cast by shareholders.

 

The following persons were elected as Class I directors to hold office until the 2008 Annual Meeting, or until their successors are duly elected and qualified, and received the votes forth opposite their respective name:

 

NAME


   FOR

   WITHHELD

Michael L. Bennett

   71,900,379    898,989

Peter S. Janson

   72,506,790    292,578

 

The shareholders ratified the selection by the Audit Committee of the Corporation’s Board of Directors of Deloitte & Touche, LLP as independent accountants for the Corporation for 2005. The number of votes cast for such proposal was 71,402,561, the number against was 793,533 and the number of abstentions was 603,274.

 

The shareholders approved issuance of up to a maximum of 3,044,368 common shares in redemption of the Series B Cumulative Redeemable Preferred Shares. The number of votes cast for such proposal was 53,320,607, the number against was 3,220,518 and the number of abstentions was 86,261.

 

The shareholders approved issuance of 4,000,000 common shares of outstanding warrants. The number of votes cast for such proposal was 56,076,807, the number against was 454,810 and the number of abstentions was 95,769.

 

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Table of Contents
ITEM 6. EXHIBITS

 

  (a) Exhibits

 

Exhibit 31.1    Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 31.2    Certification of the Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 32    Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

SIGNATURE

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

        TERRA INDUSTRIES INC.

Date: May 10, 2005

     

/s/ Francis G. Meyer

       

Francis G. Meyer

Senior Vice President and Chief Financial Officer and a duly authorized signatory

 

31