Federal-mogul (FDML) 10-Q 2010 Q2 Quarterly report

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 June 30, 2010

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:  000-52986

FEDERAL-MOGUL CORPORATION

(Exact name of Registrant as specified in its charter)

Delaware	20-8350090
(State or other jurisdiction of incorporation or organization)	(IRS employer identification number)

26555 Northwestern Highway, Southfield, Michigan	48033
(Address of principal executive offices)	(Zip Code)

(248) 354-7700

(Registrant’s telephone number, including area code)

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 ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes ¨   No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer ¨   Accelerated filer x    Non-accelerated filer ¨   Smaller Reporting Company ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes ¨   No x

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.

Yes x   No ¨

As of July 28, 2010, there were 98,904,500 outstanding shares of the registrant’s $0.01 par value common stock.

FEDERAL-MOGUL CORPORATION

Form 10-Q

For the Three and Six Months Ended June 30, 2010

INDEX

	Page No.
Part I – Financial Information
Item 1 – Financial Statements
Consolidated Statements of Operations	3
Consolidated Balance Sheets	4
Consolidated Statements of Cash Flows	5
Notes to Consolidated Financial Statements	6
Forward-Looking Statements	29
Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations	29
Item 3 – Qualitative and Quantitative Disclosures about Market Risk	45
Item 4 – Controls and Procedures	46
Part II – Other Information
Item 1 – Legal Proceedings	47
Item 4 – Submission of Matters to a Vote of Security Holders	47
Item 6 – Exhibits	47
Signatures	48
Exhibits

2

PART I

FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

FEDERAL-MOGUL CORPORATION

Consolidated Statements of Operations (Unaudited)

	Three Months Ended June 30						Six Months Ended June 30
	2010			2009			2010			2009
	(Millions of Dollars, Except Per Share Amounts)
Net sales	$	1,598		$	1,304		$	3,087		$	2,542
Cost of products sold		(1,324	)		(1,106	)		(2,559	)		(2,186	)
Gross margin		274			198			528			356
Selling, general and administrative expenses		(165	)		(170	)		(349	)		(355	)
Interest expense, net		(32	)		(34	)		(65	)		(68	)
Amortization expense		(12	)		(12	)		(24	)		(24	)
Equity earnings of non-consolidated affiliates		10			3			17			4
Restructuring expense, net		(5	)		(1	)		(6	)		(40	)
Other (expense) income, net		(2	)		13			(23	)		27
Income (loss) before income taxes		68			(3	)		78			(100	)
Income tax (expense) benefit		(18	)		10			(11	)		6
Net income (loss)		50			7			67			(94	)
Less net income attributable to noncontrolling interests		(1	)		(4	)		(4	)		(4	)
Net income (loss) attributable to Federal-Mogul	$	49		$	3		$	63		$	(98	)
Income (loss) per common share:
Basic	$	0.50		$	0.03		$	0.64		$	(0.99	)
Diluted	$	0.49		$	0.03		$	0.63		$	(0.99	)

See accompanying notes to consolidated financial statements.

3

FEDERAL-MOGUL CORPORATION

Consolidated Balance Sheets

	(Unaudited) June 30 2010			December 31 2009
	(Millions of Dollars)
ASSETS
Current assets:
Cash and equivalents	$	1,020		$	1,034
Accounts receivable, net		1,119			950
Inventories, net		803			823
Prepaid expenses and other current assets		211			221
Total current assets		3,153			3,028
Property, plant and equipment, net		1,685			1,834
Goodwill and indefinite-lived intangible assets		1,452			1,427
Definite-lived intangible assets, net		491			515
Other noncurrent assets		303			323
	$	7,084		$	7,127
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Short-term debt, including current portion of long-term debt	$	97		$	97
Accounts payable		611			537
Accrued liabilities		416			410
Current portion of postemployment benefit liability		59			61
Other current liabilities		152			175
Total current liabilities		1,335			1,280
Long-term debt		2,757			2,760
Postemployment benefits		1,105			1,298
Long-term portion of deferred income taxes		494			498
Other accrued liabilities		203			192
Shareholders’ equity:
Preferred stock ($.01 par value; 90,000,000 authorized shares; none issued)		—			—
Common stock ($.01 par value; 450,100,000 authorized shares; 100,500,000 issued shares; 98,904,500 outstanding shares as of June 30, 2010 and December 31, 2009)		1			1
Additional paid-in capital, including warrants		2,150			2,123
Accumulated deficit		(450	)		(513	)
Accumulated other comprehensive loss		(576	)		(571	)
Treasury stock, at cost		(17	)		(17	)
Total Federal-Mogul shareholders’ equity		1,108			1,023
Noncontrolling interests		82			76
Total shareholders’ equity		1,190			1,099
	$	7,084		$	7,127

See accompanying notes to consolidated financial statements.

4

FEDERAL-MOGUL CORPORATION

Consolidated Statements of Cash Flows (Unaudited)

	Six Months Ended June 30
	2010			2009
	(Millions of Dollars)
Cash Provided From (Used By) Operating Activities
Net income (loss)	$	67		$	(94	)
Adjustments to reconcile net income (loss) to net cash provided from (used by) operating activities:
Depreciation and amortization		162			158
Cash received from 524(g) Trust		—			40
Payments to settle non-debt liabilities subject to compromise, net		(16	)		(50	)
Loss on Venezuelan currency devaluation		20			—
Equity earnings of non-consolidated affiliates		(17	)		(4	)
Cash dividends received from non-consolidated affiliates		24			—
Change in postemployment benefits, including pensions		(4	)		28
Gain on sale of debt investment		—			(8	)
Change in deferred taxes		(22	)		(4	)
Gain on sale of property, plant and equipment		(2	)		—
Changes in operating assets and liabilities:
Accounts receivable		(212	)		(105	)
Inventories		(21	)		29
Accounts payable		106			(138	)
Other assets and liabilities		92			29
Net Cash Provided From (Used By) Operating Activities		177			(119	)
Cash Provided From (Used By) Investing Activities
Expenditures for property, plant and equipment		(98	)		(88	)
Payments to acquire business		(39	)		—
Net proceeds from the sale of property, plant and equipment		2			—
Net settlement from sale of debt investment		—			8
Net Cash Used By Investing Activities		(135	)		(80	)
Cash Provided From (Used By) Financing Activities
Principal payments on term loans		(15	)		(15	)
Decrease in other long-term debt		(2	)		(2	)
Increase (decrease) in short-term debt		5			(3	)
Net payments from factoring arrangements		(12	)		(4	)
Net Cash Used By Financing Activities		(24	)		(24	)
Effect of Venezuelan currency devaluation on cash		(16	)		—
Effect of foreign currency exchange rate fluctuations on cash		(16	)		22
Effect of foreign currency fluctuations on cash		(32	)		22
Decrease in cash and equivalents		(14	)		(201	)
Cash and equivalents at beginning of period		1,034			888
Cash and equivalents at end of period	$	1,020		$	687

See accompanying notes to consolidated financial statements.

5

FEDERAL-MOGUL CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

June 30, 2010

1. BASIS OF PRESENTATION

Interim Financial Statements: The unaudited consolidated financial statements of Federal-Mogul Corporation (the “Company”) have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) have been condensed or omitted pursuant to such rules and regulations. These statements include all adjustments (consisting of normal recurring adjustments) that management believes are necessary for a fair presentation of the results of operations, financial position and cash flows. The Company’s management believes that the disclosures are adequate to make the information presented not misleading when read in conjunction with the consolidated financial statements and the notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2009. Operating results for the three and six months ended June 30, 2010 are not necessarily indicative of the results that may be expected for the year ended December 31, 2010.

Principles of Consolidation: The Company consolidates into its financial statements the accounts of the Company, all wholly-owned subsidiaries, and any partially-owned subsidiary that the Company has the ability to control. Control generally equates to ownership percentage, whereby investments that are more than 50% owned are consolidated, investments in affiliates of 50% or less but greater than 20% are accounted for using the equity method, and investments in affiliates of 20% or less are accounted for using the cost method. The Company does not consolidate any entity for which it has a variable interest based solely on power to direct the activities and significant participation in the entity’s expected results that would not otherwise be consolidated based on control through voting interests. Further, the Company’s joint ventures are businesses established and maintained in connection with its operating strategy. All intercompany transactions and balances have been eliminated.

Use of Estimates: The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported therein. Due to the inherent uncertainty involved in making estimates, actual results reported in future periods may be based upon amounts that differ from these estimates.

Controlling Ownership: Mr. Carl C. Icahn indirectly controls approximately 76% of the voting power of the Company’s capital stock and, by virtue of such stock ownership, is able to control or exert substantial influence over the Company, including the election of directors, business strategy and policies, mergers or other business combinations, acquisition or disposition of assets, future issuances of common stock or other securities, incurrence of debt or obtaining other sources of financing, and the payment of dividends on the Company’s common stock. The existence of a controlling stockholder may have the effect of making it difficult for, or may discourage or delay, a third party from seeking to acquire a majority of the Company’s outstanding common stock, which may adversely affect the market price of the stock.

Mr. Icahn’s interests may not always be consistent with the Company’s interests or with the interests of the Company’s other stockholders. Mr. Carl C. Icahn and entities controlled by him may also pursue acquisitions or business opportunities that may or may not be complementary to the Company’s business. To the extent that conflicts of interest may arise between the Company and Mr. Icahn and his affiliates, those conflicts may be resolved in a manner adverse to the Company or its other shareholders.

Acquisition: In June 2010, the Company acquired 100% ownership of the Daros Group, a privately-owned supplier of high technology piston rings for large-bore engines used in industrial energy generation and commercial shipping, with manufacturing operations in China, Germany and Sweden, for $39 million in cash. The Company has begun the process of allocating the purchase price in accordance with the Financial Accounting Standards Board (“FASB”) Accounting Standards Codifications (“ASC”) Topic 805, Business Combinations. The Company is utilizing a third party to assist in the fair value determination of certain components of the purchase price allocation, namely fixed assets and intangible assets. The Company has preliminarily recorded $25 million of goodwill associated with this acquisition. This acquisition is included in the Powertrain Energy reporting segment.

6

Trade Accounts Receivable: Federal-Mogul subsidiaries in Brazil, France, Germany, Italy, Japan and Spain are party to accounts receivable factoring arrangements. Gross accounts receivable factored under these facilities were $199 million and $217 million as of June 30, 2010 and December 31, 2009, respectively. Of those gross amounts, $168 million and $190 million, respectively, were factored without recourse and treated as sales. The remaining $31 million and $27 million, respectively, were factored with recourse, pledged as collateral, accounted for as secured borrowings and recorded in the consolidated balance sheets within “Accounts receivable, net” and “Short-term debt, including current portion of long-term debt.” Under the terms of these factoring arrangements, the Company is not obligated to draw cash immediately upon the factoring of accounts receivable. Thus, as of June 30, 2010 and December 31, 2009, the Company had outstanding factored amounts of $1 million and $4 million, respectively, for which cash had not yet been drawn. Proceeds from the factoring of accounts receivable without recourse and treated as sales were $627 million and $501 million for the six months ended June 30, 2010 and 2009, respectively.

For the three and six months ended June 30, 2010 and 2009, expenses associated with receivables factored of $1 million and $2 million, respectively, were recorded in the consolidated statements of operations within “Other (expense) income, net.” The Company receives a fee to service and monitor these factored receivables. The fees associated with the servicing of factored receivables are sufficient to offset the cost and as such, a servicing asset or liability is not incurred as a result of these factoring arrangements.

Equity and Comprehensive Income (Loss): The following table presents a rollforward of the changes in equity for the six months ended June 30, 2010, including changes in the components of comprehensive income (loss) (also contained in Note 14). In accordance with FASB ASC Topic 810, Consolidation, amounts attributable to the Company’s shareholders and to the noncontrolling interests are as follows:

	Total			Federal-Mogul Shareholders’ Equity			Non- Controlling Interests
	(Millions of Dollars)
Equity balance as of December 31, 2009	$	1,099		$	1,023		$	76
Comprehensive income (loss):
Net income		67			63			4
Foreign currency translation adjustments and other		(128	)		(123	)		(5	)
Hedge instruments, net of tax		(26	)		(26	)		—
Postemployment benefits, net of tax		144			144			—
		57			58			(1	)
Stock-based compensation (see Note 16)		27			27			—
Capital investment in subsidiary		7			—			7
Equity balance as of June 30, 2010	$	1,190		$	1,108		$	82

New Accounting Pronouncements: In June 2009, the FASB issued Accounting Standards Update (“ASU”) No. 2009-16, Transfers and Servicing (Topic 860): Accounting for Transfers of Financial Assets. This guidance revises previous guidance by including: the elimination of the qualifying special-purpose entity (“QSPE”) concept; a new participating interest definition that must be met for transfers of portions of financial assets to be eligible for sale accounting; clarifications and changes to the derecognition criteria for a transfer to be accounted for as a sale; and a change to the amount of recognized gain or loss on a transfer of financial assets accounted for as a sale when beneficial interests are received by the transferor. Additionally, the guidance requires extensive new disclosures regarding an entity’s involvement in a transfer of financial assets. Finally, existing QSPEs (prior to the effective date of this guidance) must be evaluated for consolidation by reporting entities in accordance with the applicable consolidation guidance upon the elimination of this concept. The adoption of this new guidance effective January 1, 2010 had no impact on the Company’s consolidated financial position, results of operations or cash flows.

7

In June 2009, the FASB issued ASU No. 2009-17 Consolidation (Topic 810): Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities. This new guidance revises previous guidance by eliminating the exemption for QSPE’s, and by establishing a new approach for determining who should consolidate a variable interest entity. The adoption of this new guidance effective January 1, 2010 had no impact on the Company’s consolidated financial position, results of operations or cash flows.

In January 2010, the FASB issued ASU No. 2010-06, Fair Value Measurements and Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements. This ASU requires additional disclosures regarding fair value measurements, including the amount and reasons for transfers between levels within the fair value hierarchy and more detailed information regarding the inputs and valuation techniques used in determining the fair value of assets and liabilities classified as either Level 2 or Level 3 within the fair value hierarchy. In addition, this ASU clarifies previous guidance related to the level at which fair value disclosures should be disaggregated. The adoption of these components of this new guidance was effective January 1, 2010. This ASU further requires entities to report Level 3 rollforward activity on a gross basis effective January 1, 2011. These additional disclosure requirements, to the extent applicable, have been reflected in Note 5.

In February 2010, the FASB issued ASU No. 2010-08, Technical Corrections to Various Topics. This new guidance had no material impact on the Company’s consolidated financial position, results of operations or cash flows.

In April 2010, the FASB issued ASU No. 2010-12, Income Taxes (Topic 740): Accounting for Certain Tax Effects of the 2010 Health Care Reform Acts. This ASU allows companies to account for the Patient Protection and Affordable Care Act and the Health Care and Education Reconciliation Act of 2010, which were signed into law on March 23, 2010 and March 30, 2010, respectively, as one event as opposed to two separate events. This new guidance had no impact on the Company’s consolidated financial position, results of operations or cash flows.

2. RESTRUCTURING

The costs contained within “Restructuring expense, net” in the Company’s consolidated statements of operations are comprised of two types: employee costs (principally termination benefits) and facility closure costs. Termination benefits are accounted for in accordance with FASB ASC Topic 712, Compensation – Nonretirement Postemployment Benefits, and are recorded when it is probable that employees will be entitled to benefits and the amounts can be reasonably estimated. Estimates of termination benefits are based on the frequency of past termination benefits, the similarity of benefits under the current plan and prior plans, and the existence of statutory required minimum benefits. Facility closure and other costs are accounted for in accordance with FASB ASC Topic 420, Exit or Disposal Cost Obligations, and are recorded when the liability is incurred.

Estimates of restructuring charges are based on information available at the time such charges are recorded. In certain countries where the Company operates, statutory requirements include involuntary termination benefits that extend several years into the future. Accordingly, severance payments continue well past the date of termination at many international locations. Thus, these programs appear to be ongoing when, in fact, terminations and other activities under these programs have been substantially completed. Management expects that future savings resulting from execution of its restructuring programs will generally result in full pay back within 36 months.

Due to the inherent uncertainty involved in estimating restructuring expenses, actual amounts paid for such activities may differ from amounts initially estimated. Accordingly, previously recorded liabilities of $5 million and $29 million were reversed for the six months ended June 30, 2010 and 2009, respectively. Such reversals result from: changes in estimated amounts to accomplish previously planned activities; changes in expected (based on historical practice) outcome of negotiations with labor unions, which reduced the level of originally committed actions; newly implemented government employment programs, which lowered the expected cost; and changes in approach to accomplish restructuring activities.

Management expects to finance these restructuring programs over the next several years through cash generated from its ongoing operations or through cash available under its existing credit facility, subject to the terms of applicable covenants. Management does not expect that the execution of these programs will have an adverse impact on its liquidity position.

8

The Company’s restructuring activities are undertaken as necessary to execute management’s strategy and streamline operations, consolidate and take advantage of available capacity and resources, and ultimately achieve net cost reductions. Restructuring activities include efforts to integrate and rationalize the Company’s businesses and to relocate manufacturing operations to best cost markets. These activities generally fall into one of the following categories:

1. Closure of facilities and relocation of production – in connection with the Company’s strategy, certain operations have been closed and related production relocated to best cost countries or to other locations with available capacity.

2. Consolidation of administrative functions and standardization of manufacturing processes – as part of its productivity strategy, the Company has acted to consolidate its administrative functions to reduce selling, general and administrative costs and change its manufacturing processes to improve operating efficiencies through standardization of processes.

During the three and six months ended June 30, 2010, the Company recorded $5 million and $6 million, respectively, in net restructuring expenses. For the three months ended June 30, 2010, the Company recorded $1 million in facility closure costs and $4 million in employee costs. For the six months ended June 30, 2010, the Company recorded $2 million in facility closure costs and $4 million in employee costs.  For the three and six months ended June 30, 2009, the Company recorded $1 million and $40 million, respectively, in net restructuring expenses, all of which were employee costs. The facility closure costs were paid within the quarter of incurrence and there were no reversals. The following table provides a quarterly summary of the Company’s consolidated restructuring liabilities and related activity as of and for the six months ended June 30, 2010 by reporting segment. “PTE,” “PTSB,” “VSP,” and “GA” represent the Powertrain Energy, Powertrain Sealing and Bearings, Vehicle Safety and Protection, and Global Aftermarket reporting segments, respectively.

	PTE			PTSB			VSP			GA			Corporate		Total
	(Millions of Dollars)
Balance at December 31, 2009	$	19		$	24		$	5		$	4		$	3	$	55
Provisions		—			1			—			1			—		2
Reversals		(1	)		—			—			—			—		(1	)
Payments		(3	)		(5	)		(3	)		(1	)		—		(12	)
Foreign currency		(1	)		(1	)		—			—			—		(2	)
Balance at March 31, 2010		14			19			2			4			3		42
Provisions		4			2			1			2			—		9
Reversals		(1	)		(3	)		—			—			—		(4	)
Payments		(2	)		(5	)		—			(1	)		—		(8	)
Foreign currency		(2	)		(2	)		—			—			—		(4	)
Balance at June 30, 2010	$	13		$	11		$	3		$	5		$	3	$	35

9

Activities under Global “Restructuring 2009” Program

An unprecedented downturn in the global automotive industry and global financial markets led the Company to announce, in September and December 2008, certain restructuring actions, herein referred to as “Restructuring 2009,” designed to improve operating performance and respond to increasingly challenging conditions in the global automotive market. It was anticipated that this plan would reduce the Company’s global workforce by approximately 8,600 positions when compared with the workforce as of September 30, 2008. During both the three and six months ended June 30, 2010, the Company recorded $1 million in net restructuring credits. The Company expects to incur additional restructuring expenses up to $4 million through 2010, of which $1 million are expected to be employee costs and $3 million are expected to be facility closure costs. As the majority of the costs expected to be incurred in relation to Restructuring 2009 are related to severance, such activities are expected to yield future annual savings at least equal to the incurred costs.

The following table provides a quarterly summary of the Company’s Restructuring 2009 liabilities and related activity as of and for the six months ended June 30, 2010 by reporting segment:

	PTE			PTSB			VSP			GA			Corporate		Total
	(Millions of Dollars)
Balance at December 31, 2009	$	19		$	23		$	5		$	4		$	1	$	52
Provisions		—			1			—			—			—		1
Reversals		(1	)		—			—			—			—		(1	)
Payments		(3	)		(5	)		(3	)		(1	)		—		(12	)
Foreign currency		(1	)		(1	)		—			—			—		(2	)
Balance at March 31, 2010		14			18			2			3			1		38
Provisions		—			2			1			—			—		3
Reversals		(1	)		(3	)		—			—			—		(4	)
Payments		(2	)		(5	)		—			—			—		(7	)
Foreign currency		(1	)		(2	)		—			—			—		(3	)
Balance at June 30, 2010	$	10		$	10		$	3		$	3		$	1	$	27

Net charges related to Restructuring 2009 are as follows:

	Total Expected Costs		Incurred During 2008		Incurred During 2009		First Quarter 2010			Second Quarter 2010			Estimated Additional Charges
	(Millions of Dollars)
Powertrain Energy	$	49	$	39	$	11	$	(1	)	$	(1	)	$	1
Powertrain Sealing and Bearings		59		46		10		1			(1	)		3
Vehicle Safety and Protection		35		31		3		—			1			—
Global Aftermarket		12		7		5		—			—			—
Corporate		6		4		2		—			—			—
	$	161	$	127	$	31	$	—		$	(1	)	$	4

Other Restructuring Activities

During the three and six months ended June 30, 2010, the Company recorded $6 million and $7 million, respectively, in net restructuring expenses outside of Restructuring 2009, all of which were employee costs.

PTE announced the closure and relocation of its rings facility in Wausau, WI to other facilities with available capacity during the three months ended June 30, 2010. The Company recorded $2 million in employee costs associated with this action.

10

GA committed to various actions during the three months ended June 30, 2010, the most significant of which is the closure of its facility in Barcelona, Spain. The Company recorded $2 million in employee costs associated with these committed actions.

PTE announced the closure and relocation of its ignition facility in Toledo, OH to other facilities with available capacity during the three months ended June 30, 2010. The Company recorded $1 million in employee costs associated with this action.

3. OTHER (EXPENSE) INCOME, NET

The specific components of “Other (expense) income, net” are as follows:

	Three Months Ended June 30						Six Months Ended June 30
	2010			2009			2010			2009
	(Millions of Dollars)
Foreign currency exchange	$	2		$	(3	)	$	(22	)	$	(3	)
Adjustment of assets to fair value		(4	)		(1	)		(8	)		(1	)
Environmental claims settlements		—			1			—			12
Gain on sale of debt investment		—			8			—			8
Gain on involuntary conversion		—			4			—			7
Unrealized (loss) gain on hedge instruments		(1	)		4			(1	)		2
Other		1			—			8			2
	$	(2	)	$	13		$	(23	)	$	27

Foreign currency exchange: The Company has operated an aftermarket distribution center in Venezuela for several years, supplying imported replacement automotive parts to the local independent aftermarket. Since 2005, two exchange rates have existed in Venezuela: the official rate, which has been frozen since 2005 at 2.15 bolivars per U.S. dollar; and the parallel rate, which floats at a rate much higher than the official rate. Given the existence of the two rates in Venezuela, the Company deemed the official rate was appropriate for the purpose of conversion into U.S. dollars at December 31, 2009 based on no positive intent to repatriate cash at the parallel rate and demonstrated ability to repatriate cash at the official rate.

Near the end of 2009, the three year cumulative inflation rate for Venezuela was above 100%, which requires the Venezuelan operation to report its results as though the U.S. dollar is its functional currency in accordance with FASB ASC Topic 830, Foreign Currency Matters, commencing January 1, 2010 (“inflationary accounting”). The impact of this transition to a U.S. dollar functional currency is that any change in the U.S. dollar value of bolivar denominated monetary assets and liabilities must be recognized directly in earnings.

On January 8, 2010, the official exchange rate was set by the Venezuelan government at 4.3 bolivars per U.S. dollar, except for certain “strategic industries” that are permitted to repatriate U.S. dollars at the rate of 2.6 bolivars per U.S. dollar. During the six months ended June 30, 2010, the Company recorded $20 million in foreign currency exchange expense due to this change in the exchange rate. Based upon recent 2010 repatriations of cash, the Company believes that all amounts submitted to the Venezuelan government for repatriation prior to 2010 will be paid out at the “strategic” rate, with the remaining monetary assets being converted at the official rate of 4.3.

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Adjustment of assets to fair value: The Company recorded $4 million in impairment charges during the second quarter of 2010, of which $3 million related to the identification of a Powertrain Energy facility where the Company’s assessment of future undiscounted cash flows, when compared to the current carrying value of the plant and the equipment, indicated the assets were not fully recoverable. The Company determined the fair value of the assets by applying a probability weighted, expected present value technique to the estimated future cash flows using assumptions a market participant would utilize. The discount rate used is consistent with other long-lived asset fair value measurements. The carrying value of these assets exceeded the resulting fair value by $3 million and an impairment charge was recorded for that amount. The remaining $1 million in impairment charges recorded during the second quarter of 2010 was made up of immaterial fixed assets impairments at several Company facilities.

The Company recorded $4 million in impairment charges during the first quarter of 2010 related to the identification of equipment at a Vehicle Safety and Protection facility where the Company’s assessment of future undiscounted cash flows, when compared to the current carrying value of the equipment, indicated the assets were not recoverable. The Company determined the fair value of the assets by applying a probability weighted, expected present value technique to the estimated future cash flows using assumptions a market participant would utilize. The discount rate used is consistent with other long-lived asset fair value measurements. The carrying value of the assets exceeded the resulting fair value by $4 million and an impairment charge was recorded for that amount.

Environmental claims settlements: The Company was a party to two lawsuits in Ohio and Michigan relating to indemnification for costs arising from environmental releases from industrial operations of the Predecessor Company prior to 1986. During the first six months of 2009, the Company reached settlements with certain parties, which resulted in net recoveries to the Company of $12 million.

Gain on sale of debt investment: During the second quarter of 2009, an affiliate purchased and sold debt investments on the Company’s behalf for $22 million and $30 million, respectively. This resulted in a single cash transaction with the affiliate for an $8 million net gain, which the Company recognized in other income.

Gain on involuntary conversion: During 2008, a fire occurred at a plant in Europe. The Company received insurance proceeds of $7 million during the second quarter of 2009, and recognized the proceeds as involuntary conversion gains.

4. FINANCIAL INSTRUMENTS

Interest Rate Risk

The Company, during 2008, entered into a series of five-year interest rate swap agreements with a total notional value of $1,190 million to hedge the variability of interest payments associated with its variable-rate term loans. Through these swap agreements, the Company has fixed its base interest and premium rate at a combined average interest rate of approximately 5.37% on the hedged principal amount of $1,190 million. Since the interest rate swaps hedge the variability of interest payments on variable rate debt with the same terms, they qualify for cash flow hedge accounting treatment. As of June 30, 2010 and December 31, 2009, unrealized net losses of $74 million and $50 million, respectively, were recorded in “Accumulated other comprehensive loss” as a result of these hedges. As of June 30, 2010, losses of $34 million are expected to be reclassified from “Accumulated other comprehensive loss” to consolidated statement of operations within the next 12 months.

These interest rate swaps reduce the Company’s overall interest rate risk. However, due to the remaining outstanding borrowings on the Company’s term loans and other borrowing facilities that continue to have variable interest rates, management believes that interest rate risk to the Company could be material if there are significant adverse changes in interest rates.

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Commodity Price Risk

The Company’s production processes are dependent upon the supply of certain raw materials that are exposed to price fluctuations on the open market. The primary purpose of the Company’s commodity price forward contract activity is to manage the volatility associated with forecasted purchases. The Company monitors its commodity price risk exposures regularly to maximize the overall effectiveness of its commodity forward contracts. Principal raw materials hedged include natural gas, copper, nickel, tin, zinc, high-grade aluminum and aluminum alloy. Forward contracts are used to mitigate commodity price risk associated with raw materials, generally related to purchases forecast for up to fifteen months in the future.

The Company had commodity price hedge contracts outstanding with combined notional values of $58 million and $28 million at June 30, 2010 and December 31, 2009, respectively, of which substantially all mature within one year. Of these outstanding contracts, $57 million and $26 million in combined notional values at June 30, 2010 and December 31, 2009, respectively, were designated as hedging instruments for accounting purposes. Immaterial unrealized net gains were recorded in “Accumulated other comprehensive loss” as of June 30, 2010. Unrealized net gains of $5 million were recorded in “Accumulated other comprehensive loss” as of December 31, 2009.

Foreign Currency Risk

The Company manufactures and sells its products in North America, South America, Asia, Europe and Africa. As a result, the Company's financial results could be significantly affected by factors such as changes in foreign currency exchange rates or weak economic conditions in foreign markets in which the Company manufactures and sells its products. The Company's operating results are primarily exposed to changes in exchange rates between the U.S. dollar and European currencies.

To minimize foreign currency risk, the Company generally maintains natural hedges within its non-U.S. activities, including the matching of operational revenues and costs. Where natural hedges are not in place, the Company manages certain aspects of its foreign currency activities and larger transactions through the use of foreign currency options or forward contracts. Principal currencies hedged have historically included the euro, British pound, Japanese yen and Canadian dollar. The Company had notional values of $20 million and $10 million of foreign currency hedge contracts outstanding at June 30, 2010 and December 31, 2009, respectively, of which all mature in less than one year and substantially all were designated as hedging instruments for accounting purposes. Unrealized net gains of $2 million were recorded in “Accumulated other comprehensive loss” as of June 30, 2010. Immaterial unrealized net losses were recorded in “Accumulated other comprehensive loss” as of December 31, 2009.

Other

The Company presents its derivative positions and any related material collateral under master netting agreements on a net basis. For derivatives designated as cash flow hedges, changes in the time value are excluded from the assessment of hedge effectiveness. Unrealized gains and losses associated with ineffective hedges, determined using the hypothetical derivative method, are recognized in “Other (expense) income, net.” Derivative gains and losses included in “Accumulated other comprehensive loss” for effective hedges are reclassified into operations upon recognition of the hedged transaction. Derivative gains and losses associated with undesignated hedges are recognized in “Other (expense) income, net” for outstanding hedges and “Cost of products sold” upon hedge maturity. The Company’s undesignated hedges are primarily commodity hedges and such hedges have become undesignated mainly due to forecasted volume declines.

Concentrations of Credit Risk

Financial instruments, which potentially subject the Company to concentrations of credit risk, consist primarily of accounts receivable and cash investments. The Company's customer base includes virtually every significant global light and commercial vehicle manufacturer and a large number of distributors, installers and retailers of automotive aftermarket parts. The Company's credit evaluation process and the geographical dispersion of sales transactions help to mitigate credit risk concentration. No individual customer accounted for more than 6% of the Company’s sales during the six months ended June 30, 2010. The Company requires placement of cash in financial institutions evaluated as highly creditworthy.

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The following table discloses the fair values and balance sheet locations of the Company’s derivative instruments:

	Asset Derivatives					Liability Derivatives
	Balance Sheet Location	June 30 2010		December 31 2009		Balance Sheet Location	June 30 2010			December 31 2009
	(Millions of Dollars)
Derivatives designated as cash flow hedging instruments:
Interest rate swap contracts		$	—	$	—	Other current liabilities	$	(34	)	$	(34	)
						Other noncurrent liabilities		(40	)		(16	)
Commodity contracts	Other current assets		2		6	Other current assets		(2	)		(1	)
Foreign currency contracts	Other current assets		2		—			—			—
		$	4	$	6		$	(76	)	$	(51	)
Derivatives not designated as hedging instruments:
Commodity contracts	Other current assets	$	—	$	1

The following tables disclose the effect of the Company’s derivative instruments on the consolidated statement of operations for the three months ended June 30, 2010 (in millions of dollars):

Derivatives Designated as Hedging Instruments	Amount of Gain (Loss) Recognized in OCI on Derivatives (Effective Portion)			Location of Gain (Loss) Reclassified from AOCI into Income (Effective Portion)	Amount of Gain (Loss) Reclassified from AOCI into Income (Effective Portion)			Location of Gain (Loss) Recognized in Income on Derivatives (Ineffective Portion and Amount Excluded from Effectiveness Testing)	Amount of Gain (Loss) Recognized in Income on Derivatives (Ineffective Portion and Amount Excluded from Effectiveness Testing)
Interest rate swap contracts	$	(23	)	Interest expense, net	$	(9	)		$	—
Commodity contracts		(5	)	Cost of products sold		1		Other (expense)income, net		(1	)
Foreign currency contracts		2				—				—
	$	(26	)		$	(8	)		$	(1	)

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The following tables disclose the effect of the Company’s derivative instruments on the consolidated statement of operations for the three months ended June 30, 2009 (in millions of dollars):

Derivatives Designated as Hedging Instruments	Amount of Gain (Loss) Recognized in OCI on Derivatives (Effective Portion)		Location of Gain (Loss) Reclassified from AOCI into Income (Effective Portion)	Amount of Gain (Loss) Reclassified from AOCI into Income (Effective Portion)			Location of Gain (Loss) Recognized in Income on Derivatives (Ineffective Portion and Amount Excluded from Effectiveness Testing)	Amount of Gain (Loss) Recognized in Income on Derivatives (Ineffective Portion and Amount Excluded from Effectiveness Testing)
Interest rate swap contracts	$	22	Interest expense, net	$	(9	)		$	—
Commodity contracts		4	Cost of products sold		(5	)	Other (expense) income, net		1
	$	26		$	(14	)		$	1

Derivatives Not Designated as Hedging Instruments	Location of Gain (Loss) Recognized in Income on Derivatives	Amount of Gain (Loss) Recognized in Income on Derivatives
Commodity contracts	Cost of products sold	$	(3	)
Commodity contracts	Other (expense) income, net		3
		$	—

The following tables disclose the effect of the Company’s derivative instruments on the consolidated statement of operations for the six months ended June 30, 2010 (in millions of dollars):

Derivatives Designated as Hedging Instruments	Amount of Gain (Loss) Recognized in OCI on Derivatives (Effective Portion)			Location of Gain (Loss) Reclassified from AOCI into Income (Effective Portion)	Amount of Gain (Loss) Reclassified from AOCI into Income (Effective Portion)
Interest rate swap contracts	$	(44	)	Interest expense, net	$	(19	)
Commodity contracts		(2	)	Cost of products sold		3
Foreign currency contracts		3		Cost of products sold		1
	$	(43	)		$	(15	)

Derivatives Not Designated as Hedging Instruments	Location of Gain (Loss) Recognized in Income on Derivatives	Amount of Gain (Loss) Recognized in Income on Derivatives
Commodity contracts	Cost of products sold	$	1
Commodity contracts	Other (expense) income, net		(1	)
		$	—

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The following tables disclose the effect of the Company’s derivative instruments on the consolidated statement of operations for the six months ended June 30, 2009 (in millions of dollars):

Derivatives Designated as Hedging Instruments	Amount of Gain (Loss) Recognized in OCI on Derivatives (Effective Portion)		Location of Gain (Loss) Reclassified from AOCI into Income (Effective Portion)	Amount of Gain (Loss) Reclassified from AOCI into Income (Effective Portion)			Location of Gain (Loss) Recognized in Income on Derivatives (Ineffective Portion and Amount Excluded from Effectiveness Testing)	Amount of Gain (Loss) Recognized in Income on Derivatives (Ineffective Portion and Amount Excluded from Effectiveness Testing)
Interest rate swap contracts	$	14	Interest expense, net	$	(18	)		$	—
Commodity contracts		10	Cost of products sold		(13	)	Other (expense)income, net		2
Foreign currency contracts		1	Cost of products sold		1				—
	$	25		$	(30	)		$	2

Derivatives Not Designated as Hedging Instruments	Location of Gain (Loss) Recognized in Income on Derivatives	Amount of Gain (Loss) Recognized in Income on Derivatives
Commodity contracts	Cost of products sold	$	(5	)

5. FAIR VALUE MEASUREMENTS

FASB ASC Topic 820, Fair Value Measurements and Disclosures, clarifies that fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based upon assumptions that market participants would use in pricing an asset or liability. As a basis for considering such assumptions, FASB ASC Topic 820 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value as follows:

Level 1: Observable inputs such as quoted prices in active markets;

Level 2: Inputs, other than quoted prices in active markets, that are observable either directly or indirectly; and

Level 3: Unobservable inputs in which there is little or no market data, which require the reporting entity to develop its own assumptions.

An asset’s or liability’s fair value measurement level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. Valuation techniques used need to maximize the use of observable inputs and minimize the use of unobservable inputs.

Assets and liabilities measured at fair value are based on one or more of the following three valuation techniques noted in FASB ASC Topic 820:

A. Market approach: Prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities.

B. Cost approach: Amount that would be required to replace the service capacity of an asset (replacement cost).

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C. Income approach: Techniques to convert future amounts to a single present amount based upon market expectations (including present value techniques, option-pricing and excess earnings models).

Assets and liabilities remeasured and disclosed at fair value on a recurring basis are set forth in the table below:

	Asset						Valuation
	(Liability)			Level 2			Technique
	(Millions of Dollars)
June 30, 2010:
Interest rate swap contracts	$	(74	)	$	(74	)	C
Foreign currency contracts		2			2		C
December 31, 2009:
Interest rate swap contracts	$	(50	)	$	(50	)	C
Commodity contracts		6			6		C

The Company calculates the fair value of its interest rate swap contracts, commodity contracts and foreign currency contracts using quoted interest rate curves, quoted commodity forward rates and quoted currency forward rates, respectively, to calculate forward values, and then discounts the forward values.

The discount rates for all derivative contracts are based on quoted swap interest rates or bank deposit rates. For contracts which, when aggregated by counterparty, are in a liability position, the rates are adjusted by the credit spread that market participants would apply if buying these contracts from the Company’s counterparties.

In addition to items that are measured at fair value on a recurring basis, the Company also has assets and liabilities that are measured at fair value on a nonrecurring basis. As these assets and liabilities are not measured at fair value on a recurring basis, they are not included in the tables above. Assets and liabilities that are measured at fair value on a nonrecurring basis include long-lived assets (see Note 3), investments in non-consolidated affiliates (see Note 8) and conditional asset retirement obligations (see Note 13). The Company has determined that the fair value measurements included in each of these assets and liabilities rely primarily on the Company’s assumptions as observable inputs are not available. As such, the Company has determined that each of these fair value measurements reside within Level 3 of the fair value hierarchy.

6. INVENTORIES

Inventories are stated at the lower of cost or market, with cost being determined by the first-in, first-out (“FIFO”) method. Inventories are reduced by an allowance for excess and obsolete inventories based on management’s review of on-hand inventories compared to historical and estimated future sales and usage.

Net inventories consisted of the following:

	June 30			December 31
	2010			2009
	(Millions of Dollars)
Raw materials	$	158		$	151
Work-in-process		126			118
Finished products		600			630
		884			899
Inventory valuation allowance		(81	)		(76	)
	$	803		$	823

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7. GOODWILL AND OTHER INTANGIBLE ASSETS

Goodwill and other intangible assets consist of the following:

	June 30, 2010							December 31, 2009
	Gross Carrying Amount		Accumulated Amortization			Net Carrying Amount		Gross Carrying Amount		Accumulated Amortization			Net Carrying Amount
	(Millions of Dollars)
Definite-Lived Intangible Assets:
Customer relationships	$	525	$	(123	)	$	402	$	525	$	(104	)	$	421
Developed technology		115		(26	)		89		115		(21	)		94
	$	640	$	(149	)	$	491	$	640	$	(125	)	$	515
Goodwill and Indefinite-Lived Intangible Assets:
Goodwill						$	1,098						$	1,073
Trademarks and brand names							354							354
						$	1,452						$	1,427

In June 2010, the Company acquired 100% ownership of the Daros Group, a privately-owned supplier of high technology piston rings for large-bore engines used in industrial energy generation and commercial shipping, with manufacturing operations in China, Germany and Sweden, for $39 million in cash. The Company has begun the process of allocating the purchase price in accordance with FASB ASC Topic 805, Business Combinations. The Company is utilizing a third party to assist in the fair value determination of certain components of the purchase price allocation, namely fixed assets and intangible assets. The Company has preliminarily recorded $25 million of goodwill associated with this acquisition. This acquisition is included in the Powertrain Energy reporting segment.

During each of the three and six months ended June 30, 2010 and 2009, the Company recorded amortization expense of $12 million and $24 million, respectively, associated with definite-lived intangible assets. The Company utilizes the straight line method of amortization, recognized over the estimated useful lives of the assets.

8. INVESTMENTS IN NON-CONSOLIDATED AFFILIATES

The Company maintains investments in 13 non-consolidated affiliates, which are located in China, Germany, India, Italy, Korea, Turkey, the United Kingdom and the United States. The Company’s direct ownership in such affiliates ranges from approximately 1% to 50%. The aggregate investments in these affiliates were $201 million and $238 million at June 30, 2010 and December 31, 2009, respectively, and are included in the consolidated balance sheets as “Other noncurrent assets.”

Equity earnings of non-consolidated affiliates were $10 million and $3 million for the three months ended June 30, 2010 and 2009, respectively, and $17 million and $4 million for the six months ended June 30, 2010 and 2009, respectively. During the six months ended June 30, 2010, these entities generated sales of approximately $304 million, net income of approximately $41 million and at June 30, 2010 had total net assets of approximately $433 million. Dividends received from non-consolidated affiliates by the Company for the six months ended June 30, 2010 were $24 million. Dividends received from non-consolidated affiliates by the Company for the six months ended June 30, 2009 were immaterial. The Company does not hold a controlling interest in an entity based on exposure to economic risks and potential rewards (variable interests) for which it is the primary beneficiary. Further, the Company’s joint ventures are businesses established and maintained in connection with its operating strategy and are not special purpose entities.

The Company holds a 50% non-controlling interest in a joint venture located in Turkey. This joint venture was established in 1995 for the purpose of manufacturing and marketing automotive parts, including pistons, piston rings, piston pins, and cylinder liners to OE and aftermarket customers. Pursuant to the joint venture agreement, the Company’s partner holds an option to put its shares to a subsidiary of the Company at the higher of the current fair value or at a guaranteed minimum amount. The term of the contingent guarantee is indefinite, consistent with the terms of the joint venture agreement. However, the contingent guarantee would not survive termination of the joint venture agreement.

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The guaranteed minimum amount represents a contingent guarantee of the initial investment of the joint venture partner and can be exercised at the discretion of the partner. As of June 30, 2010, the total amount of the contingent guarantee, were all triggering events to occur, approximated $56 million. The Company believes that this contingent guarantee is substantially less than the estimated current fair value of the guarantees’ interest in the affiliate. As such, the contingent guarantee does not give rise to a contingent liability and, as a result, no amount is recorded for this guarantee. If this put option were exercised, the consideration paid and net assets acquired would be accounted for in accordance with business combination accounting guidance. Any value in excess of the guaranteed minimum amount of the put option would be the subject of negotiation between the Company and its joint venture partner.

The Company has determined that its investments in Chinese joint venture arrangements are considered to be “limited-lived” as such entities have specified durations ranging from 30 to 50 years pursuant to regional statutory regulations. In general, these arrangements call for extension, renewal or liquidation at the discretion of the parties to the arrangement at the end of the contractual agreement. Accordingly, a reasonable assessment cannot be made as to the impact of such arrangements on the future liquidity position of the Company.

9. ACCRUED LIABILITIES

Accrued liabilities consisted of the following:

	June 30		December 31
	2010		2009
	(Millions of Dollars)
Accrued compensation	$	183	$	153
Accrued rebates		94		100
Non-income taxes payable		36		37
Restructuring liabilities		35		55
Accrued income taxes		26		23
Accrued product returns		20		22
Accrued professional services		13		11
Accrued warranty		8		7
Accrued Chapter 11 and U.K. Administration expenses		1		2
	$	416	$	410

10. DEBT

On December 27, 2007, the Company entered into a Term Loan and Revolving Credit Agreement (the “Debt Facilities”) with Citicorp U.S.A. Inc. as Administrative Agent, JPMorgan Chase Bank, N.A. as Syndication Agent and certain lenders. The Debt Facilities include a $540 million revolving credit facility (which is subject to a borrowing base and can be increased under certain circumstances and subject to certain conditions) and a $2,960 million term loan credit facility divided into a $1,960 million tranche B loan and a $1,000 million tranche C loan. The obligations under the revolving credit facility mature December 27, 2013 and bear interest in accordance with a pricing grid based on availability under the revolving credit facility. Interest rates on the pricing grid range from LIBOR plus 1.50% to LIBOR plus 2.00% and ABR plus 0.50% to ABR plus 1.00%. The tranche B term loans mature December 27, 2014 and the tranche C term loans mature December 27, 2015. The tranche C term loans are subject to a pre-payment premium, should the Company choose to prepay the loans prior to December 27, 2011. All Debt Facilities term loans bear interest at LIBOR plus 1.9375% or at the alternate base rate (as previously defined) plus 0.9375% at the Company’s election. To the extent that interest rates change by 25 basis points, the Company’s annual interest expense would show a corresponding change of approximately $4 million.

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The Company, during 2008, entered into a series of five-year interest rate swap agreements with a total notional value of $1,190 million to hedge the variability of interest payments associated with its variable-rate term loans under the Debt Facilities. Through these swap agreements, the Company has fixed its combined interest and premium rate at an average of approximately 5.37% on the hedged principal amount of $1,190 million.

Debt consisted of the following:

	June 30			December 31
	2010			2009
	(Millions of Dollars)
Debt Facilities:
Revolver	$	—		$	—
Tranche B term loan		1,911			1,921
Tranche C term loan		975			980
Debt discount		(108	)		(119	)
Other debt, primarily foreign instruments		76			75
		2,854			2,857
Less: short-term debt, including current maturities of long-term debt		(97	)		(97	)
Total long-term debt	$	2,757		$	2,760

Debt discount represents the excess of carrying value over fair value of the Debt Facilities recorded in conjunction with the Company’s application of fresh-start reporting at December 27, 2007, and is being amortized as interest expense over the terms of each of the underlying components of the Debt Facilities. During both the three and six months ended June 30, 2010 and 2009, the Company recognized $5 million and $11 million, respectively, in interest expense associated with the amortization of this fair value adjustment.

The obligations of the Company under the Debt Facilities are guaranteed by substantially all of the domestic subsidiaries and certain foreign subsidiaries of the Company, and are secured by substantially all personal property and certain real property of the Company and such guarantors, subject to certain limitations. The liens granted to secure these obligations and certain cash management and hedging obligations have first priority.

The Debt Facilities contain certain affirmative and negative covenants and events of default, including, subject to certain exceptions, restrictions on incurring additional indebtedness, mandatory prepayment provisions associated with specified asset sales and dispositions, and limitations on i) investments; ii) certain acquisitions, mergers or consolidations; iii) sale and leaseback transactions; iv) certain transactions with affiliates; and v) dividends and other payments in respect of capital stock.

The total commitment and amounts outstanding on the revolving credit facility are as follows:

	June 30		December 31
	2010		2009
	(Millions of Dollars)
Current Contractual Commitment	$	540	$	540
Outstanding:
Revolving credit facility	$	—	$	—
Letters of credit		—		—
Total outstanding	$	—	$	—
Borrowing Base on Revolving Credit Facility:
Current borrowings	$	—	$	—
Letters of credit		—		—
Available to borrow		540		470
Total borrowing base	$	540	$	470

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The Company had $49 million and $50 million of letters of credit outstanding at June 30, 2010 and December 31, 2009, respectively, all pertaining to the term loan credit facility. To the extent letters of credit associated with the revolving credit facility are issued, there is a corresponding decrease in borrowings available under this facility.

As of June 30, 2010 and December 31, 2009, the estimated fair values of the Company’s Debt Facilities were $2,540 and $2,444 million, respectively. The estimated fair values were $238 million lower at June 30, 2010 and $338 million lower at December 31, 2009 than their respective carrying values. Fair market values are developed by the use of estimates obtained from brokers and other appropriate valuation techniques based on information available as of June 30, 2010 and December 31, 2009. The fair value estimates do not necessarily reflect the values the Company could realize in the current markets.

11. PENSIONS AND OTHER POSTEMPLOYMENT BENEFITS

The Company sponsors several defined benefit pension plans (“Pension Benefits”) and health care and life insurance benefits (“Other Benefits”) for certain employees and retirees around the world. Components of net periodic benefit cost for the three months ended June 30 are as follows:

	Pension Benefits
	United States Plans						Non-U.S. Plans						Other Benefits
	2010			2009			2010			2009			2010			2009
	(Millions of Dollars)
Service cost	$	5		$	6		$	2		$	2		$	—		$	—
Interest cost		15			16			4			5			5			8
Expected return on plan assets		(12	)		(11	)		(1	)		(1	)		—			—
Amortization of actuarial loss		6			8			—			—			—			—
Amortization of prior service credit		—			—			—			—			(3	)		—
Curtailment gain		—			—			—			—			(4	)		—
Net periodic benefit cost (credit)	$	14		$	19		$	5		$	6		$	(2	)	$	8

Components of net periodic benefit cost for the six months ended June 30 are as follows:

	Pension Benefits
	United States Plans						Non-U.S. Plans						Other Benefits
	2010			2009			2010			2009			2010			2009
	(Millions of Dollars)
Service cost	$	11		$	13		$	4		$	3		$	—		$	1
Interest cost		30			31			8			9			12			15
Expected return on plan assets		(24	)		(21	)		(2	)		(1	)		—			—
Amortization of actuarial loss		12			15			—			—			—			—
Amortization of prior service credit		—			—			—			—			(3	)		—
Curtailment gain		—			—			—			—			(4	)		—
Net periodic benefit cost	$	29		$	38		$	10		$	11		$	5		$	16

On March 23, 2010, the Patient Protection and Affordable Care Act was signed into law and on March 30, 2010, a companion bill, the Health Care and Education Reconciliation Act of 2010, was also signed into law. These bills contain provisions which could impact the Company’s accounting for retiree medical benefits in future periods; however, the extent of that impact, if any, cannot be determined until regulations are promulgated under these bills and additional interpretations of these bills become available. The Company will continue to assess the accounting implications of these bills.  See Note 12, Income Taxes, below for further discussion on the impact of these bills.

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On May 6, 2010, the Company approved an amendment to its U.S. Welfare Benefit Plan which eliminated postemployment health care and life insurance benefits (“Other Benefits”) for certain salaried and non-union hourly employees and retirees effective July 1, 2010. This amendment reduced the Company’s accumulated postemployment benefit obligation (“APBO”) by $135 million, of which $131 million is being amortized over the average remaining service lives of active participants (approximately 9 years). The remaining $4 million resulted in a curtailment gain, which was recognized in the consolidated statements of operations for the three and six months ended June 30, 2010.

12. INCOME TAXES

For the six months ended June 30, 2010, the Company recorded income tax expense of $11 million on income before income taxes of $78 million. This compares to an income tax benefit of $6 million on a loss before income taxes of $100 million in the same period of 2009. The income tax expense for the six months ended June 30, 2010 differs from statutory rates due primarily to foreign rates which differ from the U.S. rate, non-recognition of income tax benefits on certain operating losses and the reversal of a valuation allowance against net deferred tax assets of a Belgium subsidiary. The income tax benefit for the six months ended June 30, 2009 differs from the U.S. statutory rate due primarily to foreign rates which differ from the U.S. rate, non-recognition of income tax benefits on certain operating losses and non-deductible items in various jurisdictions. This benefit includes $13 million due to the required intraperiod tax allocation in jurisdictions with a loss from continuing operations, other comprehensive income and a valuation allowance. This benefit was partially offset by tax expense in profitable jurisdictions.

The Company believes that it is reasonably possible that its unrecognized tax benefits in multiple jurisdictions, which primarily relate to transfer pricing, corporate reorganization and various other matters, may decrease by approximately $300 million in the next 12 months due to audit settlements or statute expirations, of which approximately $30 million, if recognized, could impact the effective tax rate.

On March 23, 2010, the Patient Protection and Affordable Care Act was signed into law and on March 30, 2010, a companion bill, the Health Care and Education Reconciliation Act of 2010, was also signed into law. These bills will reduce the tax deduction available to the Company to the extent of receipt of the Medicare Part D subsidy. Although this legislation does not take effect until 2012, the Company is required to recognize the impact in the financial statements in the period in which it is signed. Due to the full valuation allowance recorded against deferred tax assets in the United States, this legislation will not impact the Company’s 2010 effective tax rate.

13. COMMITMENTS AND CONTINGENCIES

Environmental Matters

The Company is a defendant in lawsuits filed, or the recipient of administrative orders issued, in various jurisdictions pursuant to the Federal Comprehensive Environmental Response Compensation and Liability Act of 1980 (“CERCLA”) or other similar national, provincial or state environmental laws. These laws require responsible parties to pay for remediating contamination resulting from hazardous substances that were discharged into the environment by them, by prior owners or occupants of their property, or by others to whom they sent such substances for treatment or other disposition. The Company has been notified by the United States Environmental Protection Agency, other national environmental agencies, and various provincial and state agencies that it may be a potentially responsible party (“PRP”) under such laws for the cost of remediating hazardous substances pursuant to CERCLA and other national and state or provincial environmental laws. PRP designation typically requires the funding of site investigations and subsequent remedial activities.

Many of the sites that are likely to be the costliest to remediate are often current or former commercial waste disposal facilities to which numerous companies sent wastes. Despite the joint and several liability which might be imposed on the Company under CERCLA and some of the other laws pertaining to these sites, the Company’s share of the total waste sent to these sites has generally been small. The Company believes its exposure for liability at these sites is limited.

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The Company has also identified certain other present and former properties at which it may be responsible for cleaning up or addressing environmental contamination, in some cases as a result of contractual commitments. The Company is actively seeking to resolve these actual and potential statutory, regulatory and contractual obligations. Although difficult to quantify based on the complexity of the issues, the Company has accrued amounts corresponding to its best estimate of the costs associated with such regulatory and contractual obligations on the basis of available information from site investigations and best professional judgment of consultants.

Total environmental liabilities, determined on an undiscounted basis, were $19 million and $22 million at June 30, 2010 and December 31, 2009, respectively, and are included in the consolidated balance sheets as follows:

	June 30		December 31
	2010		2009
	(Millions of Dollars)
Other current liabilities	$	5	$	7
Other accrued liabilities (noncurrent)		14		15
	$	19	$	22

Management believes that recorded environmental liabilities will be adequate to cover the Company’s estimated liability for its exposure in respect to such matters. In the event that such liabilities were to significantly exceed the amounts recorded by the Company, the Company’s results of operations and financial condition could be materially affected. At June 30, 2010, management estimates that reasonably possible material additional losses above and beyond management’s best estimate of required remediation costs as recorded approximate $41 million.

Conditional Asset Retirement Obligations

The Company records conditional asset retirement obligations (“CARO”) in accordance with FASB ASC Topic 410, Asset Retirement and Environmental Obligations. The Company’s primary CARO activities relate to the removal of hazardous building materials at its facilities. The Company records a CARO at fair value upon initial recognition when the amount can be reasonably estimated, typically upon the expectation that an operating site may be closed or sold. CARO fair values are determined based on the Company’s determination of what a third party would charge to perform the remediation activities, generally using a present value technique. The Company has identified sites with contractual obligations and several sites that are closed or expected to be closed and sold. In connection with these sites, the Company has accrued $27 million and $30 million as of June 30, 2010 and December 31, 2009, respectively, for CARO, primarily related to anticipated costs of removing hazardous building materials, and has considered impairment issues that may result from capitalization of CARO.

The Company has additional CARO, also primarily related to removal costs of hazardous materials in buildings, for which it believes reasonable cost estimates cannot be made at this time because the Company does not believe it has a reasonable basis to assign probabilities to a range of potential settlement dates for these retirement obligations. Accordingly, the Company is currently unable to determine amounts to accrue for CARO at such sites.

For those sites that the Company identifies in the future for closure or sale, or for which it otherwise believes it has a reasonable basis to assign probabilities to a range of potential settlement dates, the Company will review these sites for both CARO and impairment issues.

Liabilities for CARO are included in the consolidated balance sheets as follows:

	June 30		December 31
	2010		2009
	(Millions of Dollars)
Other current liabilities	$	12	$	14
Other accrued liabilities (noncurrent)		15		16
	$	27	$	30

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Other Matters

The Company is involved in other legal actions and claims, directly and through its subsidiaries. Management does not believe that the outcomes of these other actions or claims are likely to have a material adverse effect on the Company’s consolidated financial position, results of operations or cash flows.

14. COMPREHENSIVE INCOME (LOSS)

The Company’s comprehensive income (loss) consists of the following:

	Three Months Ended						Six Months Ended
	June 30						June 30
	2010			2009			2010			2009
	(Millions of Dollars)
Net income (loss) attributable to Federal-Mogul	$	49		$	3		$	63		$	(98	)
Foreign currency translation adjustments and other		(91	)		132			(123	)		34
Hedge instruments		(17	)		28			(26	)		44
Income taxes		—			(13	)		—			(16	)
Hedge instruments, net of tax		(17	)		15			(26	)		28
Postemployment benefits		138			7			144			14
Income taxes		—			(2	)		—			(5	)
Postemployment benefits, net of tax		138			5			144			9
	$	79		$	155		$	58		$	(27	)

15. WARRANTS

On December 27, 2007, the Company issued 6,951,871 warrants to purchase common shares of the Company at an exercise price equal to $45.815, exercisable through December 27, 2014. All of these warrants remain outstanding as of June 30, 2010.

16. STOCK-BASED COMPENSATION

CEO Stock-Based Compensation Agreement

On March 23, 2010, the Company entered into the Second Amended and Restated Employment Agreement, which extended Mr. Alapont’s employment with the Company for three years. Also on March 23, 2010, the Company amended and restated the Stock Option Agreement by and between the Company and Mr. Alapont dated as of February 15, 2008 (the “Restated Stock Option Agreement”). The Restated Stock Option Agreement removed Mr. Alapont’s put option to sell stock received from a stock option exercise to the Company for cash. The Restated Stock Option Agreement provides for pay out of any exercise of Mr. Alapont’s stock options in stock or, at the election of the Company, in cash. The awards were previously accounted for as liability awards based on the optional cash exercise feature, however the accounting impact associated with this modification is that the options are now considered an equity award as of March 23, 2010.

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The Company revalued the stock options granted to Mr. Alapont at March 23, 2010, resulting in a revised fair value of $27 million. This amount was reclassified from “Other accrued liabilities” to “Additional paid-in capital” due to their equity award status. As these stock options are fully vested, no further expense related to these options will be recognized. The Company revalued the Deferred Compensation Agreement, which was also amended and restated on March 23, 2010, at June 30, 2010, resulting in a revised fair value of $8 million. Since this agreement provides for net cash settlement at the option of Mr. Alapont, it continues to be treated as a liability award as of June 30, 2010 and through its eventual payout. During the three months ended June 30, 2010 and 2009, the Company recognized $1 million and $4 million, respectively, in expense associated with Mr. Alapont’s stock options and Deferred Compensation Agreement. During each of the six month periods ended June 30, 2010 and 2009, the Company recognized $7 million in expense associated with Mr. Alapont’s stock options and Deferred Compensation Agreement. Key assumptions and related option-pricing models used by the Company are summarized in the following table:

	March 23, 2010			June 30, 2010
				Deferred
	Stock Options			Compensation
Valuation model	Black-Scholes			Monte Carlo
Expected volatility		58	%		63	%
Expected dividend yield		0	%		0	%
Risk-free rate over the estimated expected life		1.18	%		0.73	%
Expected life (in years)		2.38			2.25

Expected volatility is based on the average of five-year historical volatility and implied volatility for a group of auto industry comparator companies as of the measurement date. Risk-free rate is determined based upon U.S. Treasury rates over the estimated expected lives. Expected dividend yield is zero as the Company has not paid dividends to holders of its common stock in the recent past nor does it expect to do so in the future. Expected lives are equal to one-half of the time to the end of the term.

Stock Appreciation Rights

On February 22, 2010, the Company granted approximately 437,000 stock appreciation rights (“SARs”) to certain employees, of which approximately 20,000 SARs have been forfeited as of June 30, 2010. The SARs vest in equal annual installments over a period of three years and have a term of five years from date of grant. The SARs are payable in cash or, at the election of the Company, in stock. As the Company anticipates paying out SARs exercises in the form of cash, the SARs are being treated as liability awards for accounting purposes. The Company valued the SARs at June 30, 2010, resulting in a fair value of $3 million. SARs expense for the three and six months ended June 30, 2010 was immaterial. The SARs fair value was estimated using the Black-Scholes valuation model with the following assumptions:

Exercise price	$	17.16
Expected volatility		63	%
Expected dividend yield		0	%
Expected forfeitures		0	%
Risk-free rate over the estimated expected life		1.15	%
Expected life (in years)		3.16

Expected volatility is based on the average of five-year historical volatility and implied volatility for a group of auto industry comparator companies as of the measurement date. Risk-free rate is determined based upon U.S. Treasury rates over the estimated expected lives. Expected dividend yield is zero as the Company has not paid dividends to holders of its common stock in the recent past nor does it expect to do so in the future. Expected forfeitures are zero as the Company has no historical experience with SARs; the impact of forfeitures is recognized by the Company upon occurrence. Expected life is the average of the time until the award is fully vested and the end of the term.

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17. INCOME (LOSS) PER COMMON SHARE

The following table sets forth the computation of basic and diluted income (loss) per common share:

	Three Months Ended June 30				Six Months Ended June 30
	2010		2009		2010		2009
	(Millions of Dollars, Except Per Share Amounts)
Net income (loss) attributable to Federal-Mogul shareholders	$	49	$	3	$	63	$	(98	)
Weighted average shares outstanding, basic (in millions)		98.9		98.9		98.9		98.9
Incremental shares on assumed conversion of deferred compensation stock (in millions)		0.5		0.4		0.5		0.4
Weighted average shares outstanding, including dilutive shares (in millions)		99.4		99.3		99.4		99.3
Net income (loss) per share attributable to Federal-Mogul:
Basic	$	0.50	$	0.03	$	0.64	$	(0.99	)
Diluted	$	0.49	$	0.03	$	0.63	$	(0.99	)

The Company recognized a loss for the six months ended June 30, 2009. As a result, diluted loss per common share is the same as basic loss per common share as any potentially dilutive securities would reduce the loss per common share.

Options and warrants to purchase 4,000,000 and 6,951,871 common shares, respectively, were not included in the computation of diluted earnings per share because the exercise prices were greater than the average market price of the Company’s common shares during the three and six months ended June 30, 2010 and 2009, respectively.

The 500,000 common shares issued in connection with the Deferred Compensation Agreement described in Note 16 are excluded from the basic earnings per share calculation as required by FASB ASC Topic 710, Compensation.

18. OPERATIONS BY REPORTING SEGMENT

The Company's integrated operations are organized into five reporting segments generally corresponding to major product groups: Powertrain Energy, Powertrain Sealing and Bearings, Vehicle Safety and Protection, Global Aftermarket and Corporate.

The accounting policies of the reporting segments are the same as those of the Company. Revenues related to products sold from Powertrain Energy, Powertrain Sealing and Bearings, and Vehicle Safety and Protection to OE customers are recorded within the respective reporting segments. Revenues from such products sold to aftermarket customers are recorded within the Global Aftermarket segment. All product transferred into Global Aftermarket from other reporting segments is transferred at cost in the United States and at agreed-upon arm’s-length transfer prices internationally.

The Company evaluates reporting segment performance principally on a non-GAAP Operational EBITDA basis. Management believes that Operational EBITDA most closely approximates the cash flow associated with the operational earnings of the Company and uses Operational EBITDA to measure the performance of its operations. Operational EBITDA is defined as earnings before interest, income taxes, depreciation and amortization, and certain items such as restructuring and impairment charges, Chapter 11 and U.K. Administration related reorganization expenses, gains or losses on the sales of businesses and expense associated with U.S. based funded pension plans.

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Net sales, cost of products sold and gross margin information by reporting segment were as follows:

	Three Months Ended June 30
	Net Sales				Cost of Products Sold				Gross Margin
	2010		2009		2010		2009		2010			2009
	(Millions of Dollars)
Powertrain Energy	$	455	$	320	$	400	$	294	$	55		$	26
Powertrain Sealing and Bearings		278		183		247		186		31			(3	)
Vehicle Safety and Protection		231		175		167		130		64			45
Global Aftermarket		634		626		504		496		130			130
Corporate		—		—		6		—		(6	)		—
	$	1,598	$	1,304	$	1,324	$	1,106	$	274		$	198

	Six Months Ended June 30
	Net Sales				Cost of Products Sold					Gross Margin
	2010		2009		2010		2009			2010			2009
	(Millions of Dollars)
Powertrain Energy	$	890	$	629	$	777	$	589		$	113		$	40
Powertrain Sealing and Bearings		549		367		492		376			57			(9	)
Vehicle Safety and Protection		462		337		336		257			126			80
Global Aftermarket		1,186		1,209		953		965			233			244
Corporate		—		—		1		(1	)		(1	)		1
	$	3,087	$	2,542	$	2,559	$	2,186		$	528		$	356

Operational EBITDA by reporting segment and the reconciliation of Operational EBITDA to net income (loss) were as follows:

	Three Months Ended						Six Months Ended
	June 30						June 30
	2010			2009			2010			2009
	(Millions of Dollars)						(Millions of Dollars)
Powertrain Energy	$	71		$	37		$	141		$	58
Powertrain Sealing and Bearings		29			(1	)		53			(6	)
Vehicle Safety and Protection		60			43			117			76
Global Aftermarket		94			91			159			163
Corporate		(51	)		(37	)		(129	)		(88	)
Total Operational EBITDA		203			133			341			203
Interest expense, net		(32	)		(34	)		(65	)		(68	)
Depreciation and amortization		(81	)		(81	)		(162	)		(158	)
Restructuring expense, net		(5	)		(1	)		(6	)		(40	)
Expense associated with U.S. based funded pension plans		(13	)		(17	)		(26	)		(33	)
Adjustment of assets to fair value		(4	)		(1	)		(8	)		(1	)
Income tax (expense) benefit		(18	)		10			(11	)		6
Other		—			(2	)		4			(3	)
Net income (loss)	$	50		$	7		$	67		$	(94	)

 

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Total assets by reporting segment were as follows:

	June 30		December 31
	2010		2009
	(Millions of Dollars)
Powertrain Energy	$	1,714	$	1,696
Powertrain Sealing and Bearings		815		830
Vehicle Safety and Protection		1,592		1,626
Global Aftermarket		1,982		1,970
Corporate		981		1,005
	$	7,084	$	7,127

 

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FORWARD-LOOKING STATEMENTS

Certain statements contained or incorporated in this Quarterly Report on Form 10-Q which are not statements of historical fact constitute “Forward-Looking Statements” within the meaning of the Private Securities Litigation Reform Act of 1995 (the “Reform Act”). Forward-looking statements give current expectations or forecasts of future events. Words such as “anticipate,” “believe,” “estimate,” “expect,” “intend,” “may,” “plan,” “seek” and other words and terms of similar meaning in connection with discussions of future operating or financial performance signify forward-looking statements. The Company also, from time to time, may provide oral or written forward-looking statements in other materials released to the public. Such statements are made in good faith by the Company pursuant to the “Safe Harbor” provisions of the Reform Act.

Any or all forward-looking statements included in this report or in any other public statements may ultimately be incorrect. Forward-looking statements may involve known and unknown risks, uncertainties and other factors, which may cause the actual results, performance, experience or achievements of the Company to differ materially from any future results, performance, experience or achievements expressed or implied by such forward-looking statements. The Company undertakes no obligation to update any forward-looking statements, whether as a result of new information, future events, or otherwise.

All of the forward-looking statements are qualified in their entirety by reference to the factors discussed under “Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2009 (the “Annual Report”) filed on February 23, 2010, as well as the risks and uncertainties discussed elsewhere in the Annual Report and this report. Other factors besides those listed could also materially affect the Company’s business.

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

The following Management’s Discussion and Analysis of financial condition and results of operations (“MD&A”) should be read in conjunction with the MD&A included in the Company’s Annual Report.

Overview

Federal-Mogul Corporationis a leading global supplier of technology and innovation in vehicle and industrial products for fuel economy, alternative energies, environment and safety systems. The Company serves the world’s foremost original equipment manufacturers (“OEM”) of automotive, light commercial, heavy-duty, industrial, agricultural, aerospace, marine, rail, and off-road vehicles, as well as the worldwide aftermarket. During the six months ended June 30, 2010, the Company derived 62% of its sales from the OEM market and 38% from the aftermarket. The Company seeks to participate in both of these markets by leveraging its original equipment product engineering and development capability, manufacturing know-how, and expertise in managing a broad and deep range of replacement parts to service the aftermarket. The Company believes that it is uniquely positioned to effectively manage the life cycle of a broad range of products to a diverse customer base.

Federal-Mogul has established a global presence and conducts its operations through various manufacturing, distribution and technical centers that are wholly-owned subsidiaries or partially-owned joint ventures. During the six months ended June 30, 2010, the Company derived 40% of its sales in the United States and 60% internationally. The Company has operations in established markets including Canada, France, Germany, Italy, Japan, Spain, Sweden, the United Kingdom and the United States, and emerging markets including Argentina, Brazil, China, Czech Republic, Hungary, India, Korea, Mexico, Poland, Russia, South Africa, Thailand, Turkey and Venezuela. The attendant risks of the Company’s international operations are primarily related to currency fluctuations, changes in local economic and political conditions, and changes in laws and regulations.

Federal-Mogul offers its customers a diverse array of market-leading products for OEM and replacement parts (“aftermarket”) applications, including pistons, piston rings, piston pins, cylinder liners, valve seats and guides, ignition products, dynamic seals, bonded piston seals, combustion and exhaust gaskets, static gaskets and seals, rigid heat shields, engine bearings, industrial bearings, bushings and washers, transmission components, brake disc pads, brake linings, brake blocks, element resistant systems protection sleeving products, acoustic shielding, flexible heat shields, brake system components, chassis products, wipers, fuel pumps and lighting.

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The Company operates in an extremely competitive industry, driven by global vehicle production volumes and part replacement trends. Business is typically awarded to the supplier offering the most favorable combination of cost, quality, technology and service. Customers continue to require periodic cost reductions that require the Company to continually assess, redefine and improve its operations, products, and manufacturing capabilities to maintain and improve profitability. Management continues to develop and execute initiatives to meet the challenges of the industry and to achieve its strategy for sustainable global profitable growth.

For a more detailed description of the Company’s business, products, industry, operating strategy and associated risks, refer to the Annual Report.

Results of Operations

Consolidated Results – Three Months Ended June 30, 2010 vs. Three Months Ended June 30, 2009

Net sales by reporting segment were:

	Three Months Ended June 30
	2010		2009
	(Millions of Dollars)
Powertrain Energy	$	455	$	320
Powertrain Sealing and Bearings		278		183
Vehicle Safety and Protection		231		175
Global Aftermarket		634		626
	$	1,598	$	1,304

The percentage of net sales by group and region for the three months ended June 30, 2010 and 2009 are listed below. “PTE,” “PTSB,” “VSP,” and “GA” represent Powertrain Energy, Powertrain Sealing and Bearings, Vehicle Safety and Protection, and Global Aftermarket, respectively.

	PTE			PTSB			VSP			GA			Total
2010
United States and Canada		23	%		36	%		30	%		67	%		43	%
Europe		56	%		49	%		49	%		20	%		40	%
Rest of World		21	%		15	%		21	%		13	%		17	%
2009													��
United States and Canada		17	%		29	%		24	%		66	%		43	%
Europe		66	%		58	%		57	%		20	%		41	%
Rest of World		17	%		13	%		19	%		14	%		16	%

 

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Cost of products sold by reporting segment was:

	Three Months Ended June 30
	2010		2009
	(Millions of Dollars)
Powertrain Energy	$	400	$	294
Powertrain Sealing and Bearings		247		186
Vehicle Safety and Protection		167		130
Global Aftermarket		504		496
Corporate		6		—
	$	1,324	$	1,106

Gross margin by reporting segment was:

	Three Months Ended June 30
	2010			2009
	(Millions of Dollars)
Powertrain Energy	$	55		$	26
Powertrain Sealing and Bearings		31			(3	)
Vehicle Safety and Protection		64			45
Global Aftermarket		130			130
Corporate		(6	)		—
	$	274		$	198

Net sales increased by $294 million, or 23%, to $1,598 million for the second quarter of 2010 from $1,304 million in the same period of 2009. The impact of the U.S. dollar strengthening, primarily against the euro, decreased reported sales by $20 million.

In general, light and commercial vehicle OE production increased in all regions and, when combined with market share gains in all regions across all three manufacturing segments, resulted in increased OE sales of $315 million. Aftermarket sales increased by $9 million, despite $17 million in reduced sales in Venezuela as a direct consequence of currency restrictions. Net customer price decreases were $10 million.

Cost of products sold increased by $218 million to $1,324 million for the second quarter of 2010 compared to $1,106 million in the same period of 2009. This increase was primarily due to an increase in manufacturing, labor and variable overhead costs of $257 million as a direct consequence of the higher production volumes, partially offset by materials and services sourcing savings of $21 million, currency movements of $11 million, and productivity and operational efficiency in excess of labor and benefits inflation of $5 million.

Gross margin increased by $76 million to $274 million, or 17.1% of sales, for the second quarter of 2010 compared to $198 million, or 15.2% of sales, in the same period of 2009. Net customer price decreases of $10 million and currency movements of $9 million were more than offset by sales volume increases, which increased gross margin by $67 million, materials and services sourcing savings of $21 million, and favorable productivity and operational efficiency in excess of labor and benefits inflation of $5 million.

 

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Reporting Segment Results – Three Months Ended June 30, 2010 vs. Three Months Ended June 30, 2009

The following table provides a reconciliation of changes in sales, cost of products sold, gross margin and Operational EBITDA for the three months ended June 30, 2010 compared with the three months ended June 30, 2009 for each of the Company’s reporting segments. Operational EBITDA is defined as earnings before interest, income taxes, depreciation and amortization, and certain items such as restructuring and impairment charges, Chapter 11 and U.K. Administration related reorganization expenses, gains or losses on the sales of businesses and expense associated with U.S. based funded pension plans. “PTE,” “PTSB,” “VSP,” and “GA” represent Powertrain Energy, Powertrain Sealing and Bearings, Vehicle Safety and Protection, and Global Aftermarket, respectively.

	PTE			PTSB			VSP			GA			Corporate			Total
	(Millions of Dollars)
Sales
Three months ended June 30, 2009	$	320		$	183		$	175		$	626		$	—		$	1,304
Sales volumes		148			104			63			9			—			324
Customer pricing		(3	)		(3	)		(3	)		(1	)		—			(10	)
Foreign currency		(10	)		(6	)		(4	)		—			—			(20	)
Three months ended June 30, 2010	$	455		$	278		$	231		$	634		$	—		$	1,598
	PTE			PTSB			VSP			GA			Corporate			Total
Cost of Products Sold
Three months ended June 30, 2009	$	294		$	186		$	130		$	496		$	—		$	1,106
Sales volumes / mix		115			74			48			20			—			257
Productivity, net of inflation		(5	)		(5	)		(4	)		1			8			(5	)
Materials and services sourcing		(2	)		(5	)		(6	)		(9	)		1			(21	)
Pension		—			—			—			—			(3	)		(3	)
Depreciation		1			1			(1	)		—			—			1
Foreign currency		(3	)		(4	)		—			(4	)		—			(11	)
Three months ended June 30, 2010	$	400		$	247		$	167		$	504		$	6		$	1,324
	PTE			PTSB			VSP			GA			Corporate			Total
Gross Margin
Three months ended June 30, 2009	$	26		$	(3	)	$	45		$	130		$	—		$	198
Sales volumes / mix		33			30			15			(11	)		—			67
Customer pricing		(3	)		(3	)		(3	)		(1	)		—			(10	)
Productivity, net of inflation		5			5			4			(1	)		(8	)		5
Materials and services sourcing		2			5			6			9			(1	)		21
Pension		—			—			—			—			3			3
Depreciation		(1	)		(1	)		1			—			—			(1	)
Foreign currency		(7	)		(2	)		(4	)		4			—			(9	)
Three months ended June 30, 2010	$	55		$	31		$	64		$	130		$	(6	)	$	274
	PTE			PTSB			VSP			GA			Corporate			Total
Operational EBITDA
Three months ended June 30, 2009	$	37		$	(1	)	$	43		$	91		$	(37	)	$	133
Sales volumes / mix		33			30			15			(11	)		—			67
Customer pricing		(3	)		(3	)		(3	)		(1	)		—			(10	)
Productivity – Cost of products sold		5			5			4			(1	)		(8	)		5
Productivity – SG&A		(3	)		(3	)		(2	)		2			2			(4	)
Productivity – Other		2			(2	)		—			—			(1	)		(1	)
Sourcing – Cost of products sold		2			5			6			9			(1	)		21
Sourcing – SG&A		—			—			—			—			1			1
Sourcing – Other		—			(1	)		—			—			(5	)		(6	)
Equity earnings of non-consolidated affiliates		4			—			1			2			—			7
Stock-based compensation expense		—			—			—			—			3			3
Gain on sale of debt investment		—			—			—			—			(8	)		(8	)
Foreign currency		(4	)		2			(3	)		3			(1	)		(3	)
Other		(2	)		(3	)		(1	)		—			4			(2	)
Three months ended June 30, 2010	$	71		$	29		$	60		$	94		$	(51	)	$	203
Interest expense, net																	(32	)
Depreciation and amortization																	(81	)
Restructuring expense, net																	(5	)
Expense associated with U.S. based funded pension plans																	(13	)
Adjustment of assets to fair value																	(4	)
Income tax expense																	(18	)
Net income																$	50

 

32

Powertrain Energy

Sales increased by $135 million, or 42%, to $455 million for the second quarter of 2010 from $320 million in the same period of 2009. PTE generates approximately 80% of its revenue outside the United States and the resulting currency movements decreased sales by $10 million. Sales volumes increased by $148 million due to OE production volume increases and market share gains in all regions. Continued customer pricing pressure reduced sales by $3 million.

Cost of products sold increased by $106 million to $400 million for the second quarter of 2010 compared to $294 million in the same period of 2009. This was primarily due to a $115 million increase directly associated with increased sales volume. This increase was partly offset by productivity in excess of labor and benefits inflation of $5 million, currency movements of $3 million, and favorable materials and services sourcing of $2 million.

Gross margin increased by $29 million to $55 million, or 12.1% of sales, for the second quarter of 2010 compared to $26 million, or 8.1% of sales, for the second quarter of 2009. The favorable impact of increased sales volumes contributed to a $33 million increase in gross margin. Other factors contributing to the improved margin were $5 million of productivity in excess of labor and benefits inflation, and favorable materials and services sourcing of $2 million, partially offset by $7 million in currency movements and $3 million in customer price decreases.

Operational EBITDA increased by $34 million to $71 million for the second quarter of 2010 from $37 million in the same period of 2009. The impact of increased sales volumes of $33 million, productivity improvements of $4 million, improved equity earnings of non-consolidated affiliates of $4 million, and favorable materials and services sourcing of $2 million were partially offset by currency movements of $4 million, customer price decreases of $3 million and other decreases of $2 million.

Powertrain Sealing and Bearings

Sales increased by $95 million, or 52%, to $278 million for the second quarter of 2010 from $183 million in the same period of 2009. Approximately 65% of PTSB’s revenues are generated outside the United States and the resulting foreign currency movements decreased sales by $6 million. Sales volumes increased by $104 million due to OE production volume increases and market share gains in all regions. Continued customer pricing pressure reduced sales by $3 million.

Cost of products sold increased by $61 million to $247 million for the second quarter of 2010 compared to $186 million in the same period of 2009. This was primarily due to a $74 million increase directly associated with the increased sales, partially offset by favorable materials and services sourcing of $5 million, productivity improvements of $5 million and currency movements of $4 million.

Gross margin increased by $34 million to $31 million, or 11.2% of sales, for the second quarter of 2010 compared to $(3) million, or (1.6)% of sales, for the second quarter of 2009. The increase was due to improved sales volumes, which increased gross margin by $30 million, materials and services sourcing improvements of $5 million and productivity, net of labor and benefits inflation, of $5 million, partially offset by customer price decreases of $3 million, currency movements of $2 million and increased depreciation of $1 million.

Operational EBITDA increased by $30 million to $29 million for the second quarter of 2010 from $(1) million in the same period of 2009. This was due to the favorable impact of sales volumes increases of $30 million, favorable materials and services sourcing of $4 million and currency movements of $2 million, partially offset by customer price decreases of $3 million and other decreases of $3 million.

Vehicle Safety and Protection

Sales increased by $56 million, or 32%, to $231 million for the second quarter of 2010 from $175 million in the same period of 2009. Approximately 70% of VSP sales are generated outside the United States and the resulting currency movements decreased sales by $4 million. Sales volumes rose by $63 million due to increased OE production and market share gains in all regions. Continued customer pricing pressure reduced sales by $3 million.

33

Cost of products sold increased by $37 million to $167 million for the second quarter of 2010 compared to $130 million in the same period of 2009. This was primarily due to a $48 million increase directly associated with the increased sales volume. This increase was partly offset by favorable materials and services sourcing of $6 million, productivity improvements of $4 million and decreased depreciation of $1 million.

Gross margin increased by $19 million to $64 million, or 27.7% of sales, for the second quarter of 2010 compared to $45 million, or 25.7% of sales, for the second quarter of 2009. This increase was due to improved sales volume, which increased gross margin by $15 million, favorable materials and services sourcing of $6 million, productivity improvements of $4 million and decreased depreciation of $1 million, partially offset by currency movements of $4 million and customer price decreases of $3 million.

Operational EBITDA increased by $17 million to $60 million for the second quarter of 2010 from $43 million in the same period of 2009. The increase was due to the impact of increased sales volumes of $15 million, favorable material and services sourcing of $6 million, productivity improvements of $2 million and improved equity earnings of non-consolidated affiliates of $1 million, partially offset by currency movements of $3 million, customer price decreases of $3 million and other decreases of $1 million.

Global Aftermarket

Sales increased by $8 million, or 1%, to $634 million for the second quarter of 2010, from $626 million in the same period of 2009. This change was due to $9 million in increased sales volumes, despite $17 million in reduced sales in Venezuela as a direct consequence of currency restrictions, partially offset by customer price decreases of $1 million.

Cost of products sold increased by $8 million to $504 million for the second quarter of 2010 compared to $496 million in the same period of 2009. This was primarily due to a $20 million increase directly associated with an increase in sales volume and unfavorable sales mix, partially offset by favorable materials and services sourcing of $9 million and currency movements of $4 million.

Gross margin was $130 million, or 20.5% of sales, for the second quarter of 2010 compared to $130 million, or 20.8% of sales, in the same period of 2009. Unfavorable sales mix, which decreased gross margin by $11 million, unfavorable productivity of $1 million and customer price decreases of $1 million were offset by favorable materials and services sourcing of $9 million and currency movements of $4 million.

Operational EBITDA increased by $3 million to $94 million for the second quarter of 2010 from $91 million in the same period of 2009. This increase was due to favorable materials and services sourcing of $9 million, currency movements of $3 million, improved equity earnings of non-consolidated affiliates of $2 million and improved productivity of $1 million, partially offset by unfavorable sales mix of $11 million and customer price decreases of $1 million.

Selling, General and Administrative Expenses

Selling, general and administrative expenses (“SG&A”) were $165 million, or 10.3% of net sales, for the second quarter of 2010 as compared to $170 million, or 13.0% of net sales, for the same quarter of 2009. This $5 million decrease was due to an Other Benefit curtailment gain of $4 million, reduced stock-based compensation expense of $3 million, currency movements of $2 million and favorable materials and services sourcing of $1 million, partially offset by unfavorable productivity of $4 million and other increases of $1 million.

The Company maintains technical centers throughout the world designed to integrate the Company’s leading technologies into advanced products and processes, to provide engineering support for all of the Company’s manufacturing sites, and to provide technological expertise in engineering and design development providing solutions for customers and bringing new, innovative products to market. Included in SG&A were research and development (“R&D”) costs, including product and validation costs, of $38 million for the second quarter of 2010 compared with $34 million for the same period in 2009. As a percentage of OE sales, R&D was 3.9% and 5.0% for the quarters ended June 30, 2010 and 2009, respectively.

34

Other (Expense) Income, Net

Other (expense) income, net was $(2) million in the second quarter of 2010 compared to $13 million for the second quarter of 2009.

The Company recorded $4 million in impairment charges during the second quarter of 2010, of which $3 million related to the identification of a Powertrain Energy facility where the Company’s assessment of future undiscounted cash flows, when compared to the current carrying value of the plant and the equipment, indicated the assets were not fully recoverable. The Company determined the fair value of the assets by applying a probability weighted, expected present value technique to the estimated future cash flows using assumptions a market participant would utilize. The discount rate used is consistent with other long-lived asset fair value measurements. The carrying value of these assets exceeded the resulting fair value by $3 million and an impairment charge was recorded for that amount. The remaining $1 million in impairment charges recorded during the second quarter of 2010 was made up of immaterial fixed assets impairments at several Company facilities.

During the second quarter of 2009, an affiliate purchased and sold debt investments on the Company’s behalf for approximately $22 million and $30 million, respectively. This resulted in a single cash transaction with the affiliate for a $8 million net gain, which the Company recognized in other income.

During 2008, a fire occurred at a plant in Europe. The Company received insurance proceeds of $7 million during the second quarter of 2009, and was recognized as involuntary conversion gains.

Interest Expense, Net

Net interest expense was $32 million in the second quarter of 2010 compared to $34 million for the second quarter of 2009.

Restructuring Activities

The following is a summary of the Company’s consolidated restructuring liabilities and related activity as of and for the quarter ended June 30, 2010:

	PTE			PTSB			VSP		GA			Corporate		Total
	(Millions of dollars)
Balance at March 31, 2010	$	14		$	19		$	2	$	4		$	3	$	42
Provisions		4			2			1		2			—		9
Reversals		(1	)		(3	)		—		—			—		(4	)
Payments		(2	)		(5	)		—		(1	)		—		(8	)
Foreign currency		(2	)		(2	)		—		—			—		(4	)
Balance at June 30, 2010	$	13		$	11		$	3	$	5		$	3	$	35

Income Taxes

For the three months ended June 30, 2010, the Company recorded income tax expense of $18 million on income before income taxes of $68 million. This compares to an income tax benefit of $10 million on a loss before income taxes of $3 million in the same period of 2009. The income tax expense for the three months ended June 30, 2010 differs from statutory rates due primarily to foreign rates which differ from the U.S. rate and non-recognition of income tax benefits on certain operating losses. The income tax benefit for the three months ended June 30, 2009 differs from the U.S. statutory rate due primarily to foreign rates which differ from the U.S. rate, non-recognition of income tax benefits on certain operating losses and non-deductible items in various jurisdictions. This benefit includes $12 million due to the required intraperiod tax allocation in jurisdictions with a loss from continuing operations, other comprehensive income and a valuation allowance. This benefit was partially offset by tax expense in profitable jurisdictions.

35

The Company believes that it is reasonably possible that its unrecognized tax benefits in multiple jurisdictions, which primarily relates to transfer pricing, corporate reorganization and various other matters, may decrease by approximately $300 million in the next 12 months due to audit settlements or statute expirations, of which approximately $30 million, if recognized, could impact the effective tax rate.

 

36

Consolidated Results – Six Months Ended June 30, 2010 vs. Six Months Ended June 30, 2009

Net sales by reporting segment were:

	Six Months Ended June 30
	2010		2009
	(Millions of Dollars)
Powertrain Energy	$	890	$	629
Powertrain Sealing and Bearings		549		367
Vehicle Safety and Protection		462		337
Global Aftermarket		1,186		1,209
	$	3,087	$	2,542

The percentage of net sales by group and region for the six months ended June 30, 2010 and 2009 are listed below. “PTE,” “PTSB,” “VSP,” and “GA” represent Powertrain Energy, Powertrain Sealing and Bearings, Vehicle Safety and Protection, and Global Aftermarket, respectively.

	PTE			PTSB			VSP			GA			Total
2010
United States and Canada		22	%		35	%		29	%		66	%		42	%
Europe		58	%		51	%		50	%		21	%		41	%
Rest of World		20	%		14	%		21	%		13	%		17	%
2009
United States and Canada		20	%		32	%		28	%		66	%		45	%
Europe		64	%		56	%		56	%		19	%		40	%
Rest of World		16	%		12	%		16	%		15	%		15	%

Cost of products sold by reporting segment was:

	Six Months Ended June 30
	2010		2009
	(Millions of Dollars)
Powertrain Energy	$	777	$	589
Powertrain Sealing and Bearings		492		376
Vehicle Safety and Protection		336		257
Global Aftermarket		953		965
Corporate		1		(1	)
	$	2,559	$	2,186

 

37

Gross margin by reporting segment was:

	Six Months Ended June 30
	2010			2009
	(Millions of Dollars)
Powertrain Energy	$	113		$	40
Powertrain Sealing and Bearings		57			(9	)
Vehicle Safety and Protection		126			80
Global Aftermarket		233			244
Corporate		(1	)		1
	$	528		$	356

Net sales increased by $545 million, or 21%, to $3,087 million for the six months ended June 30, 2010 from $2,542 million in the same period of 2009. The impact of the U.S. dollar weakening, primarily against the euro, increased reported sales by $30 million.

In general, light and commercial vehicle OE production increased in all regions and, when combined with market share gains in all regions across all three manufacturing segments, resulted in increased OE sales of $575 million. Aftermarket sales fell by $41 million, $39 million of which was due to reduced sales in Venezuela as a direct consequence of currency restrictions. Net customer price decreases were $19 million.

Cost of products sold increased by $373 million to $2,559 million for the six months ended June 30, 2010 compared to $2,186 million in the same period of 2009. This increase was primarily due to an increase in manufacturing, labor and variable overhead costs of $410 million as a direct consequence of the higher production volumes, and currency movements of $47 million, partially offset by materials and services sourcing savings of $53 million, and productivity and operational efficiency in excess of labor and benefits inflation of $30 million.

Gross margin increased by $172 million to $528 million, or 17.1% of sales, for the six months ended June 30, 2010 compared to $356 million, or 14.0% of sales, in the same period of 2009. Net customer price decreases of $19 million and currency movements of $17 million were more than offset by sales volume increases, which increased gross margin by $124 million, materials and services sourcing savings of $53 million, and productivity and operational efficiency in excess of labor and benefits inflation of $30 million.

 

38

Reporting Segment Results – Six Months Ended June 30, 2010 vs. Six Months Ended June 30, 2009

The following table provides a reconciliation of changes in sales, cost of products sold, gross margin and Operational EBITDA for the six months ended June 30, 2010 compared with the six months ended June 30, 2009 for each of the Company’s reporting segments. Operational EBITDA is defined as earnings before interest, income taxes, depreciation and amortization, and certain items such as restructuring and impairment charges, Chapter 11 and U.K. Administration related reorganization expenses, gains or losses on the sales of businesses and expense associated with U.S. based funded pension plans. “PTE,” “PTSB,” “VSP,” and “GA” represent Powertrain Energy, Powertrain Sealing and Bearings, Vehicle Safety and Protection, and Global Aftermarket, respectively.

	PTE			PTSB			VSP			GA			Corporate			Total
	(Millions of Dollars)
Sales
Six months ended June 30, 2009	$	629		$	367		$	337		$	1,209		$	—		$	2,542
Sales volumes		264			184			127			(41	)		—			534
Customer pricing		(8	)		(4	)		(6	)		(1	)		—			(19	)
Foreign currency		5			2			4			19			—			30
Six months ended June 30, 2010	$	890		$	549		$	462		$	1,186		$	—		$	3,087
	PTE			PTSB			VSP			GA			Corporate			Total
Cost of Products Sold
Six months ended June 30, 2009	$	589		$	376		$	257		$	965		$	(1	)	$	2,186
Sales volumes / mix		190			131			97			(8	)		—			410
Productivity, net of inflation		(19	)		(10	)		(8	)		3			4			(30	)
Materials and services sourcing		(5	)		(14	)		(17	)		(18	)		1			(53	)
Pension		—			—			—			—			(3	)		(3	)
Depreciation		1			2			(1	)		—			—			2
Foreign currency		21			7			8			11			—			47
Six months ended June 30, 2010	$	777		$	492		$	336		$	953		$	1		$	2,559
	PTE			PTSB			VSP			GA			Corporate			Total
Gross Margin
Six months ended June 30, 2009	$	40		$	(9	)	$	80		$	244		$	1		$	356
Sales volumes / mix		74			53			30			(33	)		—			124
Customer pricing		(8	)		(4	)		(6	)		(1	)		—			(19	)
Productivity, net of inflation		19			10			8			(3	)		(4	)		30
Materials and services sourcing		5			14			17			18			(1	)		53
Pension		—			—			—			—			3			3
Depreciation		(1	)		(2	)		1			—			—			(2	)
Foreign currency		(16	)		(5	)		(4	)		8			—			(17	)
Six months ended June 30, 2010	$	113		$	57		$	126		$	233		$	(1	)	$	528
	PTE			PTSB			VSP			GA			Corporate			Total
Operational EBITDA
Six months ended June 30, 2009	$	58		$	(6	)	$	76		$	163		$	(88	)	$	203
Sales volumes / mix		74			53			30			(33	)		—			124
Customer pricing		(8	)		(4	)		(6	)		(1	)		—			(19	)
Productivity – Cost of products sold		19			10			8			(3	)		(4	)		30
Productivity – SG&A		(4	)		(3	)		(3	)		5			3			(2	)
Productivity – Other		1			(3	)		—			—			(1	)		(3	)
Sourcing – Cost of products sold		5			14			17			18			(1	)		53
Sourcing – SG&A		—			—			—			—			2			2
Sourcing – Other		—			(2	)		—			—			(3	)		(5	)
Equity earnings of non-consolidated affiliates		10			1			—			2			—			13
Gain on sale of debt investment		—			—			—			—			(8	)		(8	)
Foreign currency		(13	)		—			(4	)		6			(23	)		(34	)
Other		(1	)		(7	)		(1	)		2			(6	)		(13	)
Six months ended June 30, 2010	$	141		$	53		$	117		$	159		$	(129	)	$	341
Interest expense, net																	(65	)
Depreciation and amortization																	(162	)
Restructuring expense, net																	(6	)
Expense associated with U.S. based funded pension plans																	(26	)
Adjustment of assets to fair value																	(8	)
Income tax expense																	(11	)
Other																	4
Net income																$	67

 

39

Powertrain Energy

Sales increased by $261 million, or 41%, to $890 million for the six months ended June 30, 2010 from $629 million in the same period of 2009. PTE generates approximately 80% of its revenue outside the United States and the resulting currency movements increased sales by $5 million. Sales volumes increased by $264 million due to OE production volume increases and market share gains in all regions. Continued customer pricing pressure reduced sales by $8 million.

Cost of products sold increased by $188 million to $777 million for the six months ended June 30, 2010 compared to $589 million in the same period of 2009. This was primarily due to a $190 million increase directly associated with increased sales volume, and currency movements of $21 million. These increases were partially offset by favorable productivity in excess of labor and benefits inflation of $19 million, and materials and services sourcing savings of $5 million.

Gross margin increased by $73 million to $113 million, or 12.7% of sales, for the six months ended June 30, 2010 compared to $40 million, or 6.4% of sales, for the same period of 2009. The increase was due to improved sales volumes, which increased gross margin by $74 million, productivity, net of labor and benefits inflation, of $19 million, and materials and services sourcing improvements of $5 million, partially offset by currency movements of $16 million, customer price decreases of $8 million and increased depreciation of $1 million.

Operational EBITDA increased by $83 million to $141 million for the six months ended June 30, 2010 from $58 million in the same period of 2009. The impact of increased sales volumes of $74 million, productivity improvements of $16 million, improved equity earnings of non-consolidated affiliates of $10 million, and favorable materials and services sourcing of $5 million were partially offset by currency movements of $13 million, customer price decreases of $8 million and other decreases of $1 million.

Powertrain Sealing and Bearings

Sales increased by $182 million, or 50%, to $549 million for the six months ended June 30, 2010 from $367 million in the same period of 2009. Approximately 65% of PTSB’s revenues are generated outside the United States and the resulting foreign currency movements increased sales by $2 million. Sales volumes increased by $184 million due to OE production volume increases and market share gains in all regions. Continued customer pricing pressure reduced sales by $4 million.

Cost of products sold increased by $116 million to $492 million for the six months ended June 30, 2010 compared to $376 million in the same period of 2009. This was primarily due to a $131 million increase directly associated with the increased sales, and currency movements of $7 million, partially offset by favorable materials and services sourcing of $14 million, and productivity improvements of $10 million.

Gross margin increased by $66 million to $57 million, or 10.4% of sales, for the six months ended June 30, 2010 compared to $(9) million, or (2.5)% of sales, for the same period of 2009. The increase was due to improved sales volumes, which increased gross margin by $53 million, materials and services sourcing improvements of $14 million and productivity, net of labor and benefits inflation, of $10 million, partially offset by currency movements of $5 million, customer price decreases of $4 million and increased depreciation of $2 million.

Operational EBITDA increased by $59 million to $53 million for the six months ended June 30, 2010 from $(6) million in the same period of 2009. This was due to the favorable impact of sales volumes increases of $53 million, materials and services sourcing savings of $12 million, favorable productivity of $4 million and improved equity earnings of non-consolidated affiliates of $1 million, partially offset by customer price decreases of $4 million and other decreases of $7 million.

Vehicle Safety and Protection

Sales increased by $125 million, or 37%, to $462 million for the six months ended June 30, 2010 from $337 million in the same period of 2009. Approximately 70% of VSP sales are generated outside the United States and the resulting currency movements increased sales by $4 million. Sales volumes rose by $127 million due to increased OE production and market share gains in all regions. Continued customer pricing pressure reduced sales by $6 million.

40

Cost of products sold increased by $79 million to $336 million for the six months ended June 30, 2010 compared to $257 million in the same period of 2009. This was primarily due to a $97 million increase directly associated with increased sales volume, and currency movements of $8 million. These increases were partially offset by materials and services sourcing savings of $17 million and favorable productivity in excess of labor and benefits inflation of $8 million.

Gross margin increased by $46 million to $126 million, or 27.3% of sales, for the six months ended June 30, 2010 compared to $80 million, or 23.7% of sales, for the identical period in 2009. This increase was due to improved sales volumes, which increased gross margin by $30 million, materials and services sourcing improvements of $17 million, productivity, net of labor and benefits inflation, of $8 million and decreased depreciation of $1 million, partially offset by customer price decreases of $6 million and currency movements of $4 million.

Operational EBITDA increased by $41 million to $117 million for the six months ended June 30, 2010 from $76 million in the same period of 2009. This was due to the favorable impact of sales volumes increases of $30 million, materials and services sourcing savings of $17 million, and favorable productivity of $5 million, partially offset by customer price decreases of $6 million, currency movements of $4 million and other decreases of $1 million.

Global Aftermarket

Sales decreased by $23 million, or 2%, to $1,186 million for the six months ended June 30, 2010, from $1,209 million in the same period of 2009. This change was due to decreased sales volumes of $41 million and customer price decreases of $1 million, partially offset by currency movements of $19 million. Of the $41 million sales volume drop, $39 million was due to the cessation of sales in Venezuela as a result of the currency restrictions.

Cost of products sold decreased by $12 million to $953 million for the six months ended June 30, 2010 compared to $965 million in the same period of 2009. This decrease was due to favorable materials and services sourcing of $18 million and an $8 million decrease directly associated with the decline in sales volume that was mostly offset by unfavorable sales mix. These decreases were partially offset by currency movements of $11 million and unfavorable productivity of $3 million.

Gross margin decreased by $11 million to $233 million, or 19.6% of sales, for the six months ended June 30, 2010 compared to $244 million, or 20.2% of sales, in the same period of 2009. This decrease was due to lower sales volumes and unfavorable sales mix, which decreased gross margin by $33 million, unfavorable productivity of $3 million and customer price decreases of $1 million, partially offset by favorable materials and services sourcing of $18 million and currency movements of $8 million.

Operational EBITDA decreased by $4 million to $159 million for the six months ended June 30, 2010 from $163 million in the same period of 2009. This decrease was due to the unfavorable impact of lower sales volumes and sales mix of $33 million, mostly offset by favorable materials and services sourcing of $18 million, currency movements of $6 million, improved productivity of $2 million, improved equity earnings of non-consolidated affiliates of $2 million, and other increases of $2 million.

Selling, General and Administrative Expenses

Selling, general and administrative expenses (“SG&A”) were $349 million, or 11.3% of net sales, for the six months ended June 30, 2010 as compared to $354 million, or 13.9% of net sales, for the same period of 2009. This $5 million decrease was due to an Other Benefits curtailment gain of $4 million, reduced pension expense of $4 million, favorable materials and services sourcing of $2 million and other reductions of $1 million, partially offset by currency movements of $4 million and unfavorable productivity of $2 million.

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The Company maintains technical centers throughout the world designed to integrate the Company’s leading technologies into advanced products and processes, to provide engineering support for all of the Company’s manufacturing sites, and to provide technological expertise in engineering and design development providing solutions for customers and bringing new, innovative products to market. Included in SG&A were research and development (“R&D”) costs, including product and validation costs, of $77 million for the six months ended June 30, 2010 compared with $69 million for the same period in 2009. As a percentage of OE sales, R&D was 4.1% and 5.0% for the six months ended June 30, 2010 and 2009, respectively.

Other (Expense) Income, Net

Other (expense) income, net was $(23) million in the six months ended June 30, 2010 compared to $27 million for the same period of 2009.

Foreign currency exchange: The Company has operated an aftermarket distribution center in Venezuela for several years, supplying imported replacement automotive parts to the local independent aftermarket. Since 2005, two exchange rates have existed in Venezuela: the official rate, which has been frozen since 2005 at 2.15 bolivars per U.S. dollar; and the parallel rate, which floats at a rate much higher than the official rate. Given the existence of the two rates in Venezuela, the Company deemed the official rate was appropriate for the purpose of conversion into U.S. dollars at December 31, 2009 based on no positive intent to repatriate cash at the parallel rate and demonstrated ability to repatriate cash at the official rate.

Near the end of 2009, the three year cumulative inflation rate for Venezuela was above 100%, which requires the Venezuelan operation to report its results as though the U.S. dollar is its functional currency in accordance with FASB ASC Topic 830, Foreign Currency Matters, commencing January 1, 2010 (“inflationary accounting”). The impact of this transition to a U.S. dollar functional currency is that any change in the U.S. dollar value of bolivar denominated monetary assets and liabilities must be recognized directly in earnings.

On January 8, 2010, the official exchange rate was set by the Venezuelan government at 4.3 bolivars per U.S. dollar, except for certain “strategic industries” that are permitted to repatriate U.S. dollars at the rate of 2.6 bolivars per U.S. dollar. During the six months ended June 30, 2010, the Company recorded $20 million in foreign currency exchange expense due to this change in the exchange rate. Based upon recent 2010 repatriations of cash, the Company believes that all amounts submitted to the Venezuelan government for repatriation prior to 2010 will be paid out at the “strategic” rate, with the remaining monetary assets being converted at the official rate of 4.3.

Adjustment of assets to fair value: The Company recorded $4 million in impairment charges during the second quarter of 2010, of which $3 million related to the identification of a Powertrain Energy facility where the Company’s assessment of future undiscounted cash flows, when compared to the current carrying value of the plant and the equipment, indicated the assets were not fully recoverable. The Company determined the fair value of the assets by applying a probability weighted, expected present value technique to the estimated future cash flows using assumptions a market participant would utilize. The discount rate used is consistent with other long-lived asset fair value measurements. The carrying value of these assets exceeded the resulting fair value by $3 million and an impairment charge was recorded for that amount. The remaining $1 million in impairment charges recorded during the second quarter of 2010 was made up of immaterial fixed assets impairments at several Company facilities.

The Company recorded $4 million in impairment charges during the first quarter of 2010 related to the identification of equipment at a Vehicle Safety and Protection facility where the Company’s assessment of future undiscounted cash flows, when compared to the current carrying value of the equipment, indicated the assets were not recoverable. The Company determined the fair value of the assets by applying a probability weighted, expected present value technique to the estimated future cash flows using assumptions a market participant would utilize. The discount rate used is consistent with other long-lived asset fair value measurements. The carrying value of the assets exceeded the resulting fair value by $4 million and an impairment charge was recorded for that amount.

Environmental claims settlements: The Company was a party to two lawsuits in Ohio and Michigan relating to indemnification for costs arising from environmental releases from industrial operations of the Predecessor Company prior to 1986. During the first six months of 2009, the Company reached settlements with certain parties, which resulted in net recoveries to the Company of $12 million.

Gain on sale of debt investment: During the second quarter of 2009, an affiliate purchased and sold debt investments on the Company’s behalf for $22 million and $30 million, respectively. This resulted in a single cash transaction with the affiliate for an $8 million net gain, which the Company recognized in other income.

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Gain on involuntary conversion: During 2008, a fire occurred at a plant in Europe. The Company received insurance proceeds of $7 million during the second quarter of 2009, and recognized the proceeds as involuntary conversion gains.

Interest Expense, Net

Net interest expense was $65 million in the six months ended June 30, 2010 compared to $68 million for the comparable period of 2009.

Restructuring Activities

The following is a quarterly summary of the Company’s consolidated restructuring liabilities and related activity as of and for the six months ended June 30, 2010:

	PTE			PTSB			VSP			GA			Corporate		Total
	(Millions of Dollars)
Balance at December 31, 2009	$	19		$	24		$	5		$	4		$	3	$	55
Provisions		—			1			—			1			—		2
Reversals		(1	)		—			—			—			—		(1	)
Payments		(3	)		(5	)		(3	)		(1	)		—		(12	)
Foreign currency		(1	)		(1	)		—			—			—		(2	)
Balance at March 31, 2010		14			19			2			4			3		42
Provisions		4			2			1			2			—		9
Reversals		(1	)		(3	)		—			—			—		(4	)
Payments		(2	)		(5	)		—			(1	)		—		(8	)
Foreign currency		(2	)		(2	)		—			—			—		(4	)
Balance at June 30, 2010	$	13		$	11		$	3		$	5		$	3	$	35

Income Taxes

For the six months ended June 30, 2010, the Company recorded income tax expense of $11 million on income before income taxes of $78 million. This compares to an income tax benefit of $6 million on a loss before income taxes of $100 million in the same period of 2009. The income tax expense for the six months ended June 30, 2010 differs from statutory rates due primarily to foreign rates which differ from the U.S. rate, non-recognition of income tax benefits on certain operating losses and the reversal of a valuation allowance against net deferred tax assets of a Belgium subsidiary. The income tax benefit for the six months ended June 30, 2009 differs from the U.S. statutory rate due primarily to foreign rates which differ from the U.S. rate, non-recognition of income tax benefits on certain operating losses and non-deductible items in various jurisdictions. This benefit includes $13 million due to the required intraperiod tax allocation in jurisdictions with a loss from continuing operations, other comprehensive income and a valuation allowance. This benefit was partially offset by tax expense in profitable jurisdictions.

The Company believes that it is reasonably possible that its unrecognized tax benefits in multiple jurisdictions, which primarily relates to transfer pricing, corporate reorganization and various other matters, may decrease by approximately $300 million in the next 12 months due to audit settlements or statute expirations, of which approximately $30 million, if recognized, could impact the effective tax rate.

On March 23, 2010, the Patient Protection and Affordable Care Act was signed into law and on March 30, 2010, a companion bill, the Health Care and Education Reconciliation Act of 2010, was also signed into law. These bills will reduce the tax deduction available to the Company to the extent of receipt of the Medicare Part D subsidy. Although this legislation does not take effect until 2012, the Company is required to recognize the impact in the financial statements in the period in which it is signed. Due to the full valuation allowance recorded against deferred tax assets in the United States, this legislation will not impact the Company’s 2010 effective tax rate.

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Litigation and Environmental Contingencies

For a summary of material litigation and environmental contingencies, refer to Note 13 of the consolidated financial statements, “Commitments and Contingencies.”

Liquidity and Capital Resources

Cash Flow

Cash flow provided from operating activities was $177 million for the six months ended June 30, 2010 compared to cash used by operating activities of $119 million for the comparable period of 2009. The difference in year-over-year performance is largely attributable to increased earnings and movements in working capital, particularly the relative timing of payments to suppliers. Furthermore, although sales volumes have risen significantly, improvements in cash collections have resulted in a far lower increase in accounts receivable than would otherwise have occurred.

Cash flow used by investing activities was $135 million for the six months ended June 30, 2010 compared to cash used by investing activities of $80 million for the comparable period of 2009. Capital expenditures were $98 million for the six months ended June 30, 2010 compared to $88 million for the comparable period of 2009, reflecting a stable capital investment pattern as existing capacity is being utilized to support growth.

In June 2010, the Company acquired 100% ownership of the Daros Group, a privately-owned supplier of high technology piston rings for large-bore engines used in industrial energy generation and commercial shipping, with manufacturing operations in China, Germany and Sweden, for $39 million in cash.

Cash flow used by financing activities was $24 million for each of the six months ended June 30, 2010 and 2009.

The January 8, 2010 bolivar devaluation by the Venezuelan government resulted in the Company’s recognition of $20 million in foreign currency exchange expense, $16 million of which reflects the impact on the cash balance.

Financing Activities

On December 27, 2007, the Company entered into a Term Loan and Revolving Credit Agreement (the “Debt Facilities”) with Citicorp U.S.A. Inc. as Administrative Agent, JPMorgan Chase Bank, N.A. as Syndication Agent and certain lenders. The Debt Facilities include a $540 million revolving credit facility (which is subject to a borrowing base and can be increased under certain circumstances and subject to certain conditions) and a $2,960 million term loan credit facility divided into a $1,960 million tranche B loan and a $1,000 million tranche C loan. The obligations under the revolving credit facility mature December 27, 2013 and bear interest in accordance with a pricing grid based on availability under the revolving credit facility. Interest rates on the pricing grid range from LIBOR plus 1.50% to LIBOR plus 2.00% and ABR plus 0.50% to ABR plus 1.00%. The tranche B term loans mature December 27, 2014 and the tranche C term loans mature December 27, 2015. The tranche C term loans are subject to a pre-payment premium, should the Company choose to prepay the loans prior to December 27, 2011. All Debt Facilities term loans bear interest at LIBOR plus 1.9375% or at the ABR plus 0.9375% at the Company’s election. To the extent that interest rates change by 25 basis points, the Company’s annual interest expense would show a corresponding change of approximately $4 million.

Other Liquidity and Capital Resource Items

The Company maintains investments in 13 non-consolidated affiliates, which are located in China, Germany, India, Italy, Korea, Turkey, the United Kingdom and the United States. The Company’s direct ownership in such affiliates ranges from approximately 1% to 50%. The aggregate investments in these affiliates were $201 million and $238 million at June 30, 2010 and December 31, 2009, respectively. Dividends received from non-consolidated affiliates by the Company during the six months ended June 30, 2010 were $24 million. Dividends received from non-consolidated affiliates by the Company during the six months ended June 30, 2009 were immaterial.

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The Company’s joint ventures are businesses established and maintained in connection with its operating strategy and are not special purpose entities. In general, the Company does not extend guarantees, loans or other instruments of a variable nature that may result in incremental risk to the Company’s liquidity position. Furthermore, the Company does not rely on dividend payments or other cash flows from its non-consolidated affiliates to fund its operations and, accordingly, does not believe that they have a material effect on the Company’s liquidity.

The Company holds a 50% non-controlling interest in a joint venture located in Turkey. This joint venture was established in 1995 for the purpose of manufacturing and marketing automotive parts, including pistons, piston rings, piston pins, and cylinder liners to OE and aftermarket customers. Pursuant to the joint venture agreement, the Company’s partner holds an option to put its shares to a subsidiary of the Company at the higher of the current fair value or at a guaranteed minimum amount. The term of the contingent guarantee is indefinite, consistent with the terms of the joint venture agreement. However, the contingent guarantee would not survive termination of the joint venture agreement.

The guaranteed minimum amount represents a contingent guarantee of the initial investment of the joint venture partner and can be exercised at the discretion of the partner. As of June 30, 2010, the total amount of the contingent guarantee, were all triggering events to occur, approximated $56 million. The Company believes that this contingent guarantee is substantially less than the estimated current fair value of the guarantees’ interest in the affiliate. As such, the contingent guarantee does not give rise to a contingent liability and, as a result, no amount is recorded for this guarantee. If this put option were exercised, the consideration paid and net assets acquired would be accounted for in accordance with business combination accounting guidance. Any value in excess of the guaranteed minimum amount of the put option would be the subject of negotiation between the Company and its joint venture partner.

The Company has determined that its investments in Chinese joint venture arrangements are considered to be “limited-lived” as such entities have specified durations ranging from 30 to 50 years pursuant to regional statutory regulations. In general, these arrangements call for extension, renewal or liquidation at the discretion of the parties to the arrangement at the end of the contractual agreement. Accordingly, a reasonable assessment cannot be made as to the impact of such contingencies on the future liquidity position of the Company.

Federal-Mogul subsidiaries in Brazil, France, Germany, Italy, Japan and Spain are party to accounts receivable factoring arrangements. Gross accounts receivable factored under these facilities were $199 million and $217 million as of June 30, 2010 and December 31, 2009, respectively. Of those gross amounts, $168 million and $190 million, respectively, were factored without recourse and treated as sales. The remaining $31 million and $27 million, respectively, were factored with recourse, pledged as collateral, accounted for as secured borrowings and recorded in the consolidated balance sheets within “Accounts receivable, net” and “Short-term debt, including current portion of long-term debt.” Under terms of these factoring arrangements, the Company is not obligated to draw cash immediately upon the factoring of accounts receivable. Thus, as of June 30, 2010 and December 31, 2009, the Company had outstanding factored amounts of $1 million and $4 million, respectively, for which cash had not yet been drawn. Proceeds from the factoring of accounts receivable without recourse and treated as sales were $627 million and $501 million for the six months ended June 30, 2010 and 2009, respectively.

For the three and six months ended June 30, 2010 and 2009, expenses associated with receivables factored of $1 million and $2 million, respectively, were recorded in the consolidated statements of operations within “Other (expense) income, net.” The Company receives a fee to service and monitor these factored receivables. The fees associated with the servicing of factored receivables are sufficient to offset the cost and as such, a servicing asset or liability is not incurred as a result of these factoring arrangements.

ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK

There have been no material changes to the information concerning the Company’s exposures to market risk as stated in the Company’s Annual Report on Form 10-K for the year ended December 31, 2009. Refer to Note 4, “Financial Instruments,” to the consolidated financial statements for information with respect to interest rate risk, commodity price risk and foreign currency risk.

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The translated values of revenue and expense from the Company’s international operations are subject to fluctuations due to changes in currency exchange rates. During the six months ended June 30, 2010, the Company derived 40% of its sales in the United States and 60% internationally. Of these international sales, 60% are denominated in the euro, with no other single currency representing more than 10%. To minimize foreign currency risk, the Company generally maintains natural hedges within its non-U.S. activities, including the matching of operational revenues and costs. Where natural hedges are not in place, the Company manages certain aspects of its foreign currency activities and larger transactions through the use of foreign currency options or forward contracts. The Company estimates that a hypothetical 10% adverse movement of all foreign currencies in the same direction against the U.S. dollar over the six months ended June 30, 2010 would have decreased “Net income attributable to Federal-Mogul” by approximately $10 million.

ITEM 4. CONTROLS AND PROCEDURES

A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected.

Disclosure Controls and Procedures

The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company's periodic Securities Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to the Company's management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

As of June 30, 2010, an evaluation was performed under the supervision and with the participation of the Company's management, including the Chief Executive Officer and the Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures. Based upon that evaluation, the Chief Executive Officer and the Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective as of June 30, 2010, at the reasonable assurance level previously described.

Changes to Internal Control Over Financial Reporting

Management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rules 13a-15(f) and 15d-15(f) under the U.S. Securities Exchange Act of 1934. As of June 30, 2010, the Company's management, with the participation of the Chief Executive Officer and the Chief Financial Officer, has evaluated for disclosure, changes to the Company's internal control over financial reporting that occurred during the fiscal three and six month periods ended June 30, 2010 that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting. There were no material changes in the Company’s internal control over financial reporting during the six months ended June 30, 2010.

 

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PART II

OTHER INFORMATION

ITEM 1.  LEGAL PROCEEDINGS

(a)          Contingencies.

Note 13, that is included in Part I of this report, is incorporated herein by reference.

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

At the Annual Meeting of Stockholders held on May 26, 2010, stockholders elected ten incumbent directors for a one-year term. The vote tabulation is as follows:

Nominee	For		Withheld
Carl C. Icahn		86,848,270		9,269,381
José Maria Alapont		87,811,164		8,306,487
George Feldenkreis		92,847,667		3,269,984
Vincent J. Intrieri		85,517,728		10,599,923
J. Michael Laisure		92,652,442		3,465,209
Keith A. Meister		85,557,687		10,559,964
Daniel A. Ninivaggi		86,929,029		9,188,622
David S. Schechter		85,557,559		10,560,092
Neil S. Subin		92,412,353		3,705,298
James H. Vandenberghe		92,383,463		3,734,188

Stockholders also approved the Federal-Mogul Corporation 2010 Stock Incentive Plan at this meeting. The vote tabulation is as follows:

For	Against	Abstain
93,616,518	2,028,062	473,071

ITEM 6.  EXHIBITS

(a)          Exhibits:

31.1 Certification by the Company’s Chief Executive Officer pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934.

31.2 Certification by the Company’s Chief Financial Officer pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934.

32 Certification by the Company’s Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, and Rule 13a-14(b) of the Securities Exchange Act of 1934.

 

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SIGNATURES

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

FEDERAL-MOGUL CORPORATION
By:	/s/ Alan J. Haughie
	Alan J. Haughie
Senior Vice President, Chief Financial Officer,
Acting Controller, Principal Financial Officer
and Principal Accounting Officer

Dated:     July 29, 2010

 

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