Federal Mogul 10Q 2007 Q1 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 March 31, 2007

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

For the transition period from to

Commission File Number: 1-1511

FEDERAL-MOGUL CORPORATION

(Exact name of Registrant as specified in its charter)

Michigan

38-0533580

(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 is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer ¨ Accelerated filer ¨ Non-accelerated filer x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

As of April 26, 2007, there were 89,607,980 outstanding shares of the registrant’s $5.00 stated value common stock.

FEDERAL-MOGUL CORPORATION

Form 10-Q

For the Quarter Ended March 31, 2007

INDEX


		Page No.
Forward-Looking Statements		2
Part I – Financial Information
Item 1 – Financial Statements
Consolidated Statements of Operations		4
Consolidated Balance Sheets		5
Consolidated Statements of Cash Flows		6
Notes to the Consolidated Financial Statements		7
Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations		42
Item 3 – Qualitative and Quantitative Disclosures about Market Risk		56
Item 4 – Controls and Procedures		57
Part II – Other Information
Item 1 – Legal Proceedings		59
Item 3 – Defaults Upon Senior Securities		59
Item 6 – Exhibits		59
Signatures		60
Exhibits		61

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”, “expect”, “intend”, “plan”, “believe”, “seek”, “estimate” and other words and terms of similar meaning in connection with discussions of future operating or financial performance signify forward-looking statements. Federal-Mogul Corporation (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.

These are some of the factors that could potentially cause actual results to differ materially from expected and historical results. Other factors besides those listed here could also materially affect the Company’s business.

Chapter 11 Filing

•

Factors relating to Federal Mogul’s filing for Chapter 11 in the U.S., such as: the possible disruption of relationships with creditors, customers, and employees; the Company’s ability to implement its plan of reorganization; the outcome of asbestos litigation proceedings; and the Company’s compliance with its debtor-in-possession credit facility.

Legal and Environmental Proceedings

•

Legal actions and claims of undetermined merit and amount involving, among other things, product liability, warranty, recalls of products manufactured or sold by the Company, and environmental and safety issues involving the Company’s products or facilities.

•

The merit and amount of claims to reinsurance carriers for asbestos related claims, and the financial viability of and resources available to the reinsurance carriers to meet these claims.

Business Environment and Economic Conditions

•

The Company’s ability to generate cost savings or manufacturing efficiencies to offset or exceed contractually or competitively required price reductions or price reductions to obtain new business.

•

Variations in the financial or operational condition of the Company’s significant customers, particularly the world’s original equipment manufacturers of commercial and personal vehicles.

•

Fluctuations in the price and availability of raw materials and other supplies used in the manufacturing and distribution of the Company’s products.

•

Material shortages, transportation system delays, or other difficulties in markets where the Company purchases supplies for the manufacturing of its products.

•

Significant work stoppages, disputes, or any other difficulties in labor markets where the Company obtains materials necessary for the manufacturing of its products or where its products are manufactured, distributed or sold.

•

Increased development of fuel cells, hybrid-electric or other non-combustion engine technologies.

•

The Company’s ability to obtain cash adequate to fund its needs, including the borrowings available under its debtor-in-possession credit facility and the availability of financing for the Company’s subsidiaries not included under the voluntary filing for Chapter 11.

•

Changes in actuarial assumptions, interest costs and discount rates, and fluctuations in the global securities markets, all of which directly impact the valuation of assets and liabilities associated with the Company’s pension and other postemployment benefit plans.

Other Factors

•

Various worldwide economic, political and social factors, changes in economic conditions, currency fluctuations and devaluations, credit risks in emerging markets, or political instability in foreign countries where the Company has significant manufacturing operations, customers or suppliers.

•

Physical damage to or loss of significant manufacturing or distribution property, plant and equipment due to fire, weather or other factors beyond the Company’s control.

•

New or expanded litigation activity regarding alleged asbestos claims against subsidiaries of the Company not included in the U.S. Chapter 11 Proceedings.

•

Legislative activities of governments, agencies, and similar organizations, both in the United States and in other countries, that may affect the operations of the Company.

•

Possible terrorist attacks or acts of aggression or war, that could exacerbate other risks such as slowed vehicle production or the availability of supplies for the manufacturing of the Company’s products.

•

The Company is currently transitioning its information system infrastructure and functions to newer generation systems. If the new systems cannot be properly implemented, the Company would expect to incur additional expenses to upgrade and improve our legacy systems.

PART I

FINANCIAL INFORMATION

ITEM 1.

FINANCIAL STATEMENTS

FEDERAL-MOGUL CORPORATION

Consolidated Statements of Operations (Unaudited)


	Three Months Ended March 31
	2007			2006
	(Millions of Dollars, Except Per Share Amounts)
Net sales	$	1,716.5		$	1,600.3
Cost of products sold		1,408.7			1,315.3

Gross margin		307.8			285.0

Selling, general and administrative expenses		206.9			227.5
Adjustment of assets to fair value		0.3			20.1
Interest expense, net		50.0			39.0
Chapter 11 and U.K. Administration related reorganization expenses		13.6			21.1
Equity earnings of unconsolidated affiliates		(7.9	)		(9.4	)
Restructuring expense, net		16.1			25.8
Other income, net		(6.8	)		(0.3	)

Income (loss) before income tax expense		35.6			(38.8	)
Income tax expense		31.1			29.6

Net income (loss)	$	4.5		$	(68.4	)

Basic and diluted income (loss) per common share:
Net income (loss) per common share	$	0.05		$	(0.77	)

See accompanying notes to consolidated financial statements.

FEDERAL-MOGUL CORPORATION

Consolidated Balance Sheets


	(Unaudited) March 31 2007			December 31 2006
	(Millions of dollars)
ASSETS
Current assets:
Cash and equivalents	$	324.0		$	359.3
Accounts receivable, net		1,142.4			992.6
Inventories, net		903.2			892.6
Prepaid expenses and other current assets		279.6			248.2

Total current assets		2,649.2			2,492.7

Property, plant and equipment, net		2,053.2			2,078.6
Goodwill and indefinite-lived intangible assets		1,207.1			1,205.3
Definite-lived intangible assets, net		251.1			254.3
Asbestos-related insurance recoverable		860.1			859.0
Prepaid pension costs and other noncurrent assets		269.6			289.2

	$	7,290.3		$	7,179.1


LIABILITIES AND SHAREHOLDERS’ DEFICIT
Current liabilities:
Short-term debt, including current portion of long-term debt	$	496.1		$	482.1
Accounts payable		541.8			488.0
Accrued liabilities		507.7			435.0
Current portion of postemployment benefit liability		66.9			67.9
Other current liabilities		121.6			181.7

Total current liabilities		1,734.1			1,654.7

Liabilities subject to compromise		5,814.3			5,813.4

Long-term debt		26.4			26.7
Postemployment benefits		1,099.3			1,111.1
Long-term portion of deferred income taxes		95.7			81.8
Other accrued liabilities		167.7			185.1
Minority interest in consolidated subsidiaries		54.2			54.2

Shareholders’ deficit:
Series C ESOP preferred stock		28.0			28.0
Common stock		445.3			445.3
Additional paid-in capital		2,161.3			2,160.2
Accumulated deficit		(4,133.3	)		(4,151.7	)
Accumulated other comprehensive loss		(202.7	)		(229.7	)

Total shareholders’ deficit		(1,701.4	)		(1,747.9	)

	$	7,290.3		$	7,179.1

See accompanying notes to consolidated financial statements.

FEDERAL-MOGUL CORPORATION

Consolidated Statements of Cash Flows (Unaudited)


	Three Months Ended March 31
	2007			2006
	(Millions of Dollars)
Cash Provided From (Used By) Operating Activities
Net earnings (loss)	$	4.5		$	(68.4	)
Adjustments to reconcile net earnings (loss) to net cash provided from (used by) operating activities:
Depreciation and amortization		83.9			78.8
Adjustment of assets to fair value		0.3			20.1
Change in postemployment benefits, including pensions		(16.5	)		34.9
Change in deferred taxes		(1.8	)		(6.3	)
Changes in operating assets and liabilities:
Increase in accounts receivable		(143.9	)		(81.0	)
Increase in inventories		(5.8	)		(29.5	)
Increase in accounts payable		43.8			57.4
Changes in other assets and liabilities		85.4			48.7

Net Cash Provided From Operating Activities		49.9			54.7

Cash Provided From (Used By) Investing Activities
Expenditures for property, plant and equipment		(54.7	)		(30.7	)
Net proceeds from the sale of property, plant and equipment		16.9			2.7
Net proceeds from the sale of business		—			4.0

Net Cash Used By Investing Activities		(37.8	)		(24.0	)

Cash Provided From (Used By) Financing Activities
Proceeds from borrowings on DIP credit facility		90.0			124.7
Principal payments on DIP credit facility		(88.1	)		(153.0	)
Increase (decrease) in short-term debt		9.4			(0.7	)
Decrease in other long-term debt		(1.2	)		(0.6	)
Net change in restricted cash		—			(1.0	)
Payments on factoring arrangements		(58.7	)		—
Debt issuance fees		(0.3	)		—

Net Cash Used By Financing Activities		(48.9	)		(30.6	)

Effect of foreign currency exchange rate fluctuations on cash		1.5			8.3

(Decrease) increase in cash and equivalents		(35.3	)		8.4

Cash and equivalents at beginning of period		359.3			387.2

Cash and equivalents at end of period	$	324.0		$	395.6

See accompanying notes to consolidated financial statements.

FEDERAL-MOGUL CORPORATION

Notes to Consolidated Financial Statements (Unaudited)

March 31, 2007

1.	Basis of Presentation

Interim Financial Statements:The unaudited consolidated financial statements of Federal-Mogul Corporation (“Federal-Mogul” or the “Company”) have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles 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 to present fair statements 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 financial statements and the notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, as filed with the Securities and Exchange Commission.

Operating results for the three month period ended March 31, 2007 are not necessarily indicative of the results that may be expected for the year ended December 31, 2007.

Financial Statement Presentation:The Company and all of its wholly-owned United States (“U.S”) subsidiaries filed voluntary petitions on October 1, 2001 (the “Petition Date”) for reorganization (the “U.S. Restructuring” or the “Restructuring Proceedings”) under Chapter 11 of the United States Bankruptcy Code (the “Bankruptcy Code”) in the United States Bankruptcy Court for the District of Delaware (the “Bankruptcy Court”). Also on October 1, 2001, certain of the Company’s United Kingdom (“U.K.”) subsidiaries filed voluntary petitions for reorganization under Chapter 11 of the Bankruptcy Code with the Bankruptcy Court, and filed petitions for Administration under the United Kingdom Insolvency Act of 1986 (the “Act”) in the High Court of Justice, Chancery division in London, England (the “High Court”). The High Court, in November 2006, approved the discharge of the Administration Proceedings for those U.K. subsidiaries that entered into Company Voluntary Arrangements. The Chapter 11 Cases are further discussed in Note 2 to the consolidated financial statements.

The accompanying consolidated financial statements have been prepared in accordance with AICPA Statement of Position 90-7 (“SOP 90-7”),Financial Reporting by Entities in Reorganization under the Bankruptcy Code, and on a going concern basis, which contemplates continuity of operations and realization of assets and liquidation of liabilities in the ordinary course of business. However, as a result of the Restructuring Proceedings, such realization of assets and liquidation of liabilities, without substantial adjustments and/or changes of ownership, is highly uncertain. While operating as debtors-in-possession (“DIP”) under the protection of Chapter 11 of the Bankruptcy Code and subject to approval of the Bankruptcy Court, or otherwise as permitted in the ordinary course of business, the Debtors, or some of them, may sell or otherwise dispose of assets and liquidate or settle liabilities for some amounts other than those reflected in the consolidated financial statements. Further, the plan of reorganization could materially change the amounts and classifications in the historical consolidated financial statements.

The appropriateness of using the going concern basis for the Company’s financial statements is dependent upon, among other things: (i) the Company’s ability to comply with the terms of its DIP credit facility and any cash management order entered by the Bankruptcy Court in connection with the Chapter 11 Cases; (ii) the ability of the Company to maintain adequate cash on hand; (iii) the ability of the Company to generate cash from operations; (iv) confirmation of the plan of reorganization under the Bankruptcy Code; and (v) the Company’s ability to achieve profitability following such confirmation.

Principles of Consolidation:The consolidated financial statements include the accounts of the Company and all domestic and international subsidiaries that are more than 50% owned. Investments in affiliates of 50% or less but greater than 20% are accounted for using the equity method, while investments in affiliates of 20% or less are accounted for under the cost method. The Company does not hold a controlling interest in any 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.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

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.

Trade Accounts Receivable:Federal-Mogul subsidiaries in Brazil, France, Germany, Italy and Spain are party to accounts receivable factoring and discounting arrangements. Gross accounts receivable factored or discounted under these facilities were $290 million and $272 million as of March 31, 2007 and December 31, 2006, respectively. Of those gross amounts, $264 million and $252 million, respectively, were factored without recourse and treated as a sale under Statement of Financial Accounting Standards (“SFAS”) No. 140,Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities. Under terms of these factoring arrangements, the Company is not obligated to draw cash immediately upon the factoring of accounts receivable. Thus, as of March 31, 2007 and December 31, 2006, the Company had outstanding factored amounts of $8 million and $9 million, respectively, for which cash had not yet been drawn. Expenses associated with receivables factored or discounted are recorded in the statement of operations within “other income, net.”

Reclassifications:Certain items in the 2006 consolidated financial statements have been reclassified to conform with the presentation used in the current period.

2.	Voluntary Reorganization under Chapter 11 and U.K. Administration

Federal-Mogul and all of its wholly-owned United States subsidiaries filed voluntary petitions on October 1, 2001 for reorganization under Chapter 11 of the United States Bankruptcy Code in the Bankruptcy Court. Also on October 1, 2001, certain of the Company’s United Kingdom subsidiaries filed voluntary petitions for reorganization under Chapter 11 of the Bankruptcy Code with the Bankruptcy Court, and filed petitions for Administration under the United Kingdom Insolvency Act of 1986 in the High Court. The High Court, in November 2006, approved the discharge of the Administration Proceedings for those U.K. subsidiaries that entered into Company Voluntary Arrangements.

The Company and its U.S. and U.K. subsidiaries included in the U.S. Restructuring are herein referred to as the “Debtors.” The Chapter 11 Cases of the Debtors (collectively, the “Chapter 11 Cases”) have been consolidated for purposes of joint administration asIn re: Federal-Mogul Global Inc., T&N Limited, et al(Case No. 01-10578(JKF)). Subsidiaries outside of the aforementioned U.S. and U.K. subsidiaries were or are not party to any insolvency proceeding and, therefore, are not currently provided protection from creditors by any insolvency court and are operating in the normal course.

The Restructuring Proceedings were initiated in response to a sharply increasing number of asbestos-related claims and their demand on the Company’s cash flows and liquidity. Under the Restructuring Proceedings, the Debtors expect to develop and implement a plan for addressing the asbestos-related claims against them.

Consequences of the Restructuring Proceedings

The Debtors are operating their businesses as debtors-in-possession subject to the provisions of the Bankruptcy Code. All vendors are being paid for goods furnished and services provided after the Petition Date. However, as a consequence of the Restructuring Proceedings, pending litigation against the Debtors as of the Petition Date is stayed (subject to certain exceptions in the case of governmental authorities), and no party may take any action to pursue or collect pre-petition claims except pursuant to an order of the Bankruptcy Court. It is the Debtors’ intention to address pending and future asbestos-related claims and other pre-petition claims through their plan of reorganization under the Bankruptcy Code.

In the U.S., four committees, representing asbestos claimants, asbestos property damage claimants, unsecured creditors and equity security holders (collectively, the “Committees”) have been appointed as official committees in the Chapter 11 Cases and, in accordance with the provisions of the Bankruptcy Code, have the right to be heard on all matters that come before the Bankruptcy Court. The Committees, together with the legal representative for the future asbestos claimants, play important roles in the Restructuring Proceedings.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Solicitation packages containing the Third Amended Plan of Reorganization and Disclosure Statement (the “Third Amended Plan”), various supporting documents and a ballot, if appropriate, were mailed on July 12, 2004 to known creditors of the Company and to holders of common and preferred stock interests in the Company. The overwhelming majority of the classes of claims and interests voted to accept the Thrid Amended Plan. For the few classes of claims that voted to reject the Third Amended Plan, the Unsecured Creditors Committee, the Asbestos Claimants Committee, the Future Asbestos Claimants Representative, the Agent for the Pre-petition Bank Lenders and the Equity Security Holders Committee (collectively referred to as the “Plan Proponents”) intended to either amend the Third Amended Plan so as to obtain such classes’ accepting votes or seek to confirm the Third Amended Plan over the objection of such classes.

The Fourth Amended Joint Plan of Reorganization (the “Plan”) for the Company and the other U.S. and U.K. Debtors was filed with the Bankruptcy Court on November 21, 2006. The Plan was jointly proposed by the Company and the Plan Proponents. On February 2, 2007, the supplemental Disclosure Statement was approved by the Bankruptcy Court to be used in soliciting votes to accept or reject the Plan from those classes of creditors whose treatment under the Plan has changed since the solicitation under the Third Amended Plan. A confirmation hearing has been scheduled for June 18, 2007 at which time the Bankruptcy Court is expected to review and confirm the Plan.

The Plan provides that asbestos personal injury claimants, both present and future, will be permanently channeled to a trust or series of trusts established pursuant to Section 524(g) of the Bankruptcy Code, thereby protecting the Company and its affiliates in the Chapter 11 Cases from existing and future asbestos liability. The Plan provides that all currently outstanding stock of the Company will be cancelled, 50.1% of newly issued common stock of reorganized Federal-Mogul will be distributed to the asbestos trust, and 49.9% of the newly issued common stock will be distributed pro rata to the noteholders. The holders of currently outstanding common and preferred stock of the Company, at the time those shares are cancelled, will receive warrants that may be used to purchase shares of reorganized Federal-Mogul at a predetermined exercise price. These warrants will only be of value if the market price of the shares of reorganized Federal-Mogul exceeds the predetermined exercise price during the 7-year term during which the warrants will be saleable or exercisable.

The Plan also provides that: i) the U.S. asbestos trust will make a payment to the reorganized Company (or pay a portion of the stock in the reorganized Company to be issued to the U.S. asbestos trust in lieu thereof) for the agreed amounts that will be used by the U.K. Administrators to provide distributions on account of U.K. asbestos personal injury claims; ii) the U.S. asbestos trust will provide an option to an affiliate of Mr. Carl Icahn for the purchase of the remaining shares of the reorganized Company held by such trust; and (iii) if such affiliate of Mr. Carl Icahn does not exercise such option, he or one of his affiliates will provide certain financing to the U.S. asbestos trust.

Unsecured creditors, including trade creditors, of the U.S. Debtors have the option to either receive shares of the reorganized Federal-Mogul or receive cash distributions under the Plan equal to 35% of their allowed claims, payable in three annual installments, provided that the aggregate payout of all allowed unsecured claims against the U.S. Debtors does not exceed $258 million. Any excess above this amount could result in a reduction in the percentage distribution that the unsecured creditors of the U.S. Debtors ultimately receive.

The Administrators of the U.K. Debtors and the Plan Proponents, on September 26, 2005, entered into an agreement outlining the terms and conditions of distributions to the creditors of the U.K. Debtors (“U.K. Settlement Agreement”). Prior to this agreement, the Company had agreed to sell certain long-term intercompany notes held by T&N Limited (“Loan Notes”) to Deutsche Bank as a means to fund expected distributions to creditors. In December 2005, in accordance with terms of the U.K. Settlement Agreement, the Company elected to retain the Loan Notes. Concurrently, the Loan Notes were transferred from the U.K. Debtors to a combination of a newly created non-debtor wholly-owned subsidiary of the Company and the U.S. parent, as provided in the Loan Note Sale Agreement filed with the SEC on Form 8-K on December 15, 2005. A copy of the U.K. Settlement Agreement was filed with the SEC on Form 8-K on September 30, 2005.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

The company voluntary arrangements (“CVAs”) became effective on October 11, 2006, resolving claims (other than those that are to be dealt with by the Plan) against the principal U.K. Debtors. The discharge of administration orders for the principal U.K. Debtors became effective on November 30, 2006. The CVAs divide asbestos claims against the principal U.K. Debtors into two categories: CVA Asbestos Claims and Chapter 11 Asbestos Claims. CVA Asbestos Claims are dealt with by the CVAs and it is intended that Chapter 11 Asbestos Claims will be dealt with by the Plan. The CVAs compromise and protect the CVA companies from the CVA Asbestos Claims. The trustees of the U.K. asbestos trust will pay dividends to CVA Asbestos claimants from the U.K. asbestos trust. Upon the effective date of the Plan, the Chapter 11 Asbestos Claims will be compromised. Accordingly, the Plan contemplates that the U.S. asbestos trustees look exclusively to the U.S. asbestos trust to pay dividends to Chapter 11 Asbestos claimants.

The Bankruptcy Court may confirm a plan of reorganization only upon making certain findings required by the Bankruptcy Code, and a plan may be confirmed over the dissent of non-accepting creditors and equity security holders if certain requirements of the Bankruptcy Code are met. The payment rights and other entitlements of pre-petition creditors and equity security holders may be substantially altered by any plan of reorganization confirmed in the Chapter 11 Cases. The pre-petition creditors of some Debtors may be treated differently than those of other Debtors under the proposed Plan and CVAs. The Company expects the Plan will be confirmed at the confirmation hearing scheduled for June 18, 2007.

Chapter 11 Financing

In connection with the Restructuring Proceedings, the Company entered into a debtor-in-possession (“DIP”) credit facility to supplement liquidity and fund operations during the Restructuring Proceedings. In November 2006, the Company amended its DIP facility, modifying certain terms of the agreement and extending the term of the post-petition financing through July 1, 2007. The amended DIP facility consists of a $500 million revolving credit facility (“Revolving Credit Facility”) and a $275 million term loan facility (“Term Loan Facility”). The proceeds of the Term Loan Facility were used primarily to supplement the funding necessary for the discharge of U.K. Administration and for general corporate purposes.

In April 2007, Citicorp, JPMorgan Chase Bank, and certain of their subsidiaries agreed to underwrite and arrange the extension of the Amended DIP Facility’s term from July 1, 2007 to December 31, 2007 on generally consistent terms. The Company filed a motion with the Bankruptcy Court on April 16, 2007, requesting, among other things, authorization to enter into the agreement to extend the pre-petition financing. The Company expects the motion to be heard by the Bankruptcy Court on May 21, 2007.

The Revolving Credit Agreement has an interest rate of either the ABR plus 1¹/4 percentage points or a formula based on the London Inter-Bank Offered Rate (“LIBOR”) plus 2¹/4 percentage points. Interest on the Term Loan accrues at a rate of either the ABR plus 1 percentage point or a formula based on the London Inter-Bank Offered Rate (“LIBOR”) plus 2 percentage points. ABR is the greater of either the bank’s prime rate or the federal funds rate plus¹/2 percentage point.

The amended DIP facility is secured by the Company’s domestic assets and the DIP lenders received permission from the lenders of the Senior Credit Agreements to have priority over their collateral interest. The Term Loan Facility has a first priority lien in the domestic fixed assets of the Company and a second priority lien in the Company’s domestic current assets. The Revolving Credit Facility has a first priority lien in the Company’s domestic current assets and a second priority lien in its domestic fixed assets. Availability under the Company’s Revolving Credit Facility is determined by the underlying collateral borrowing base at any point in time, consisting of the Company’s domestic inventories and domestic accounts receivable. The borrowing base available to the Company is calculated weekly based on the value of this underlying collateral. Commitments available under the amended DIP facility are mandatorily reduced by a portion of proceeds from certain future asset or business divestitures. Amounts available and outstanding on the amended DIP credit facility are further discussed in Note 11 to the consolidated financial statements, “Debt.”

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

million per quarter, are recorded as interest expense in the statements of operations. All cash adequate protection payments made to the noteholders are provisional in nature and are subject to recharacterization, credit against allowed claims, or other relief if the Bankruptcy Court were to ultimately conclude that the noteholders were not entitled to such payments.

The Bankruptcy Court further ordered additional adequate protection to the noteholders in the form of either cash payment of one-half of one percent (0.5%) of the outstanding notes per year or the granting of an administrative expense claim pursuant to Section 507(b) of the Bankruptcy Code in the amount of one percent (1.0%) of the outstanding notes per year. The Company has elected to grant an administrative expense claim in favor of the noteholders for this additional adequate protection. All adequate protection administrative expense claims inured in favor of the noteholders are provisional in nature and subject to challenge by all parties-in-interest to the Restructuring Proceedings. Thus, the ultimate amount and related payment terms, if any, for these administrative expense claims will be established in connection with the Restructuring Proceedings. Accordingly, such additional administrative expense claims, approximating $113 million as of March 31, 2007, have not been recorded in the accompanying financial statements.

Financial Statement Presentation

Virtually all of the Company’s pre-petition debt is in default. At March 31, 2007, the Debtors’ pre-petition debt is classified under the caption “Liabilities subject to compromise.” This includes debt outstanding of $1,965.8 million under the pre-petition Senior Credit Agreements and $2,117.4 million of other outstanding debt, primarily notes payable at various unsecured rates, less capitalized debt issuance fees of $29.1 million. The carrying value of the pre-petition debt will be adjusted once it has become an allowed claim by the Bankruptcy Court to the extent the related carrying value differs from the amount of the allowed claim. Such adjustment may be material to the consolidated financial statements.

As a result of the Restructuring Proceedings, the Company is in default to its affiliate holder of its convertible junior subordinated debentures and is no longer accruing interest expense or making interest payments on the debentures. As a result, the affiliate no longer has the funds available to pay distributions on the Company-Obligated Mandatorily Redeemable Preferred Securities and stopped accruing and paying such distributions on October 1, 2001. The affiliate is in default on the Company-Obligated Mandatorily Redeemable Preferred Securities. The Company is a guarantor on the outstanding debentures and, as a result of the default, the Company has become a debtor directly to the holders of the debentures. This liability is a pre-petition liability and has been classified as “Liabilities subject to compromise” in the accompanying balance sheets.

As reflected in the consolidated financial statements, “Liabilities subject to compromise” refers to Debtors’ liabilities incurred prior to the commencement of the Restructuring Proceedings. The amounts of the various liabilities that are subject to compromise are set forth below. These amounts represent the Company’s estimate of known or potential pre-petition claims to be resolved in connection with the Restructuring Proceedings. Such claims remain subject to future adjustments, which may result from (i) negotiations; (ii) actions of the Bankruptcy Court, High Court; (iii) further developments with respect to disputed claims; (iv) rejection of executory contracts and unexpired leases; (v) the determination as to the value of any collateral securing claims; (vi) proofs of claim; or (vii) other events. Payment terms for these claims will be established in connection with the Restructuring Proceedings.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Liabilities subject to compromise include the following:


	March 31 2007		December 31 2006
	(Millions of Dollars)
Debt	$	4,054.1	$	4,053.5
Asbestos liabilities		1,392.1		1,391.7
Accounts payable		175.4		175.4
Company-obligated mandatorily redeemable securities		114.6		114.6
Interest payable		44.2		44.2
Environmental liabilities		27.0		26.7
Other accrued liabilities		6.9		7.3

Subtotal		5,814.3		5,813.4
Intercompany payables to affiliates		408.8		408.8

	$	6,223.1	$	6,222.2

The Debtors have received approval from the Bankruptcy Court to pay or otherwise honor certain of their pre-petition obligations, including employee wages, salaries, benefits and other employee obligations and from limited available funds, pre-petition claims of certain critical vendors, certain customer programs and warranty claims, adequate protection payments on the Company’s notes, and certain other pre-petition claims.

Chapter 11 and U.K. Administration related reorganization expenses in the consolidated statements of operations consist of legal, financial and advisory fees, including fees of the U.K. Administrators, and critical employee retention costs as follows:


	Three Months Ended March 31
	2007		2006
	(Millions of Dollars)
Professional fees directly related to the filing	$	11.7	$	17.3
Critical employee retention costs		1.9		3.8

	$	13.6	$	21.1

Pursuant to the Bankruptcy Code, the Debtors have filed schedules with the Bankruptcy Court setting forth the assets and liabilities of the Debtors as of the Petition Date. On October 4, 2002, the Debtors issued approximately 100,000 proof of claim forms to their current and prior employees, known creditors, vendors and other parties with whom the Debtors have previously conducted business. To the extent that recipients disagree with the claims as quantified on these forms, the recipient may file discrepancies with the Bankruptcy Court. Differences between amounts recorded by the Debtors and claims filed by creditors will be investigated and resolved as part of the Restructuring Proceedings. The Bankruptcy Court ultimately will determine liability amounts that will be allowed for these claims in the Chapter 11 Cases. A March 3, 2003 bar date was set for the filing of proofs of claim against the Debtors. The ultimate number and allowed amount of such claims are not presently known. The resolution of such claims could result in a material adjustment to the Company’s financial statements.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Approximately 10,800 proofs of claim totaling approximately $171.2 billion in claims against various Debtors were filed in connection with the March 3, 2003 bar date as follows:

•

Approximately 2,400 claims, totaling approximately $160.6 billion, which the Company believes should be disallowed by the Bankruptcy Court primarily because these claims appear to be duplicative or unsubstantiated claims.

•

Approximately 400 claims, totaling approximately $2.3 billion, are associated with asbestos-related contribution, indemnity, or reimbursement claims. Based upon its preliminary review, the Company believes that a large number of these claims should be disallowed as contingent contribution or reimbursement claims.

•

Approximately 120 claims, totaling approximately $7.3 billion, represent bank and note-holder debt claims. The Company has previously recorded approximately $4.3 billion for these claims, which is included in the financial statement caption “Liabilities subject to compromise.” The Company believes amounts in excess of its books and records are duplicative and will ultimately be resolved in the consensual plan of reorganization.

•

Approximately 3,800 claims, totaling approximately $0.2 billion, are alleging asbestos-related property damage. Based on its review, the Company believes most of these claims are duplicative or unsubstantiated. The Company has filed objections to many of these claims, resulting in either court orders disallowing the claims, stipulations providing for the allowance or withdrawal of the claims, or the voluntary withdrawal of the claims. As a result, the remaining number of asbestos-related property damage claims is approximately 910. The Company has negotiated a number of settlements, which will resolve all disputes over the remaining asbestos-related property damage claims. The last remaining settlement has been documented and submitted to the Bankruptcy Court for approval.

•

Approximately 2,000 claims, totaling approximately $70 million, have been reviewed and are deemed allowed by the Company. The liability for such claims is included within the financial statement caption “Liabilities Subject to Compromise”.

The Company has not completed its evaluation of the approximate remaining 2,080 claims, totaling approximately $0.6 billion, alleging rights to payment for financing, environmental, trade accounts payable and other matters. The Company continues to investigate these unresolved proofs of claim, and intends to file objections to the claims that are inconsistent with its books and records. As of March 31, 2007, the Debtors have filed objections to more than 5,900 proofs of claim, and have obtained stipulations or orders involving approximately 7,500 claims, which: (i) reduce the filed claims to an amount that is consistent with the Debtors books or records; (ii) completely disallow the claims; (iii) withdraw the claims; or (iv) represent a fair compromise in light of the cost and risk of litigation.

The Debtors continue to review and analyze the proofs of claim filed to date. In addition, the Debtors continue to file objections and seek resolution via stipulation to certain claims. Additional claims may be filed after the general bar date, which could be allowed by the Bankruptcy Court. Accordingly, the ultimate number and allowed amount of such claims are not presently known and cannot be reasonably estimated at this time. The resolution of such claims could result in a material adjustment to the Company’s financial statements.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Debtors’ Financial Statements

The condensed consolidated financial statements of the Debtors are presented below. These statements reflect the financial position, results of operations and cash flows of the combined Debtor subsidiaries, including certain amounts and activities between Debtor and non-Debtor subsidiaries of the Company, which are eliminated in the consolidated financial statements.

FEDERAL-MOGUL CORPORATION

Debtors’ Condensed Consolidated Statements of Operations (Unaudited)


	Three Months Ended March 31
	2007			2006
	(Millions of Dollars)
Net sales	$	897.6		$	941.9
Cost of products sold		757.8			810.4

Gross margin		139.8			131.5

Selling, general and administrative expenses		129.6			151.9
Adjustment of assets to fair value		—			11.6
Interest expense, net		47.3			39.0
Chapter 11 and U.K. Administration related reorganization expenses		13.6			21.1
Interest income from non-filers		(27.5	)		(74.1	)
Restructuring expense, net		8.1			10.4
Other income, net		(34.0	)		(7.8	)

Earnings (loss) before income taxes and equity earnings (loss) of non-Debtor subsidiaries		2.7			(20.6	)
Income tax expense		3.9			2.2

Earnings (loss) before equity earnings (loss) of non-Debtor subsidiaries		(1.2	)		(22.8	)
Equity earnings (loss) from non-Debtor subsidiaries		5.7			(45.6	)

Net income (loss)	$	4.5		$	(68.4	)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

FEDERAL-MOGUL CORPORATION

Debtors’ Condensed Consolidated Balance Sheets


	(Unaudited) March 31 2007			December 31 2006
	(Millions of Dollars)
ASSETS
Current assets:
Cash and equivalents	$	59.8		$	50.8
Accounts receivable, net		636.9			543.3
Accounts receivable from non-Debtor affiliates		536.8			524.7
Inventories, net		420.1			420.3
Prepaid expenses and other current assets		103.6			97.2

Total current assets		1,757.2			1,636.3

Property, plant and equipment, net		792.7			830.3
Goodwill and indefinite-lived intangible assets		1,092.1			1,128.8
Definite-lived intangible assets, net		180.7			183.9
Asbestos-related insurance recoverable		860.1			859.0
Loans receivable from and investments in non-Debtors, net		1,749.5			1,695.4
Prepaid pension costs and other noncurrent assets		247.2			247.2

	$	6,679.5		$	6,580.9


LIABILITIES AND SHAREHOLDERS’ DEFICIT
Current liabilities:
Short-term debt, including current portion of long-term debt	$	373.0		$	371.1
Accounts payable and accrued compensation		294.1			267.5
Accounts payable to non-Debtor affiliates		357.2			339.5
Current portion of postemployment benefit liability		52.6			52.6
Other current liabilities		228.8			185.9

Total current liabilities		1,305.7			1,216.6

Postemployment benefits		753.9			769.1
Other accrued liabilities		98.2			120.9
Liabilities subject to compromise		6,223.1			6,222.2
Shareholders’ deficit		(1,701.4	)		(1,747.9	)

	$	6,679.5		$	6,580.9

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

FEDERAL-MOGUL CORPORATION

Debtors’ Condensed Consolidated Statements of Cash Flows (Unaudited)


	Three Months Ended March 31
	2007			2006
	(Millions of Dollars)
Net Cash Provided From Operating Activities	$	14.2		$	37.9

Cash Provided From (Used By) Investing Activities
Expenditures for property, plant and equipment		(19.9	)		(15.5	)
Net proceeds from the sale of property, plant and equipment		13.0			—
Net proceeds from the sale of businesses		—			3.6

Net Cash Used By Investing Activities		(6.9	)		(11.9	)

Cash Provided From (Used By) Financing Activities
Proceeds from borrowings on DIP credit facility		90.0			124.7
Principal payments on DIP credit facility		(88.1	)		(153.0	)
Net change in restricted cash		—			(1.0	)
Debt issuance fees		(0.3	)		—

Net Cash Provided From (Used By) Financing Activities		1.6			(29.3	)

Effect of foreign currency exchange rate fluctuations on cash		0.1			5.1

Increase in cash and equivalents		9.0			1.8

Cash and equivalents at beginning of period		50.8			53.8

Cash and equivalents at end of period	$	59.8		$	55.6

3.	Acquisitions

The Company, during May 2006, invested approximately $32 million for the acquisition of a controlling interest in Federal-Mogul Goetze India Limited (“FMG”), a piston and piston ring manufacturer headquartered in Delhi, India. The FMG business has three main operations in India, located in Patiala, Bengaluru, and Bhiwadi, and employs approximately 7,500 personnel. FMG supplies major Indian original equipment manufacturers (“OEM”) in the automotive, heavy-duty, motorcycle, industrial and agricultural markets, in addition to a variety of aftermarket and export customers.

Prior to this acquisition, the Company owned 25.47% of the outstanding shares of FMG and had accounted for its investment using the equity method of accounting. As a result of this acquisition, the Company owns 50.11% of the outstanding shares and has effective control of FMG. For the three month period ended March 31, 2007, FMG recorded net sales of $32 million and gross margin of $1 million.

The Company has completed its preliminary purchase price allocation in accordance with SFAS No. 141,Business Combinations. The Company will finalize its purchase price allocation upon completion of fair value determination procedures by a third-party. The Company expects that its initial purchase price allocation may change, primarily impacting the balance sheet allocation and ultimately increasing or decreasing the amount of recorded goodwill, currently estimated at $9 million.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

4.	Adjustment of Assets to Fair Value

During the three month periods ended March 31, 2007 and 2006, the Company recorded charges of $0.3 million and $20.1 million, respectively, to adjust property, plant and equipment to their estimated fair values in accordance with SFAS No. 144,Accounting for the Impairment or Disposal of Long-Lived Assets. The fair value of property, plant and equipment is based upon estimated discounted future cash flows and estimates of salvage value. The impairment charge represents the difference between the estimated fair values and the carrying value of the subject assets.

Impairment charges by reporting segment are as follows:


	March 31
	2007		2006
	Millions of Dollars
Powertrain	$	—	$	13.6
Sealing Systems		—		6.5
Vehicle Safety and Performance		—		—
Aftermarket Products and Services		0.3		—
Corporate		—		—

	$	0.3	$	20.1

5.	Restructuring

The Company defines restructuring expense to include costs directly associated with exit or disposal activities accounted for in accordance with SFAS No. 146,Accounting for Costs Associated with Exit or Disposal Activities, employee severance costs incurred as a result of an exit or disposal activity accounted for in accordance with SFAS Nos. 88 and 112, and pension and other postemployment benefit costs incurred as a result of an exit or disposal activity accounted for in accordance with SFAS Nos. 87 and 106.

Estimates of restructuring charges are based on information available at the time such charges are recorded. In general, management anticipates that restructuring activities will be completed within a timeframe such that significant changes to the exit plan are not likely. 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, the Company may from time to time record reversals of these reserves. Such reversals are recorded consistent with SEC Staff Accounting Bulletin No. 100,Restructuring and Impairment Charges, and result from actual costs at program completion being less than costs estimated at the commitment date. In most instances where final costs are lower than original estimates, the Company experienced a higher rate of voluntary employee attrition than estimated as of the commitment dates resulting in lower severance costs.

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 DIP 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.

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 lower cost markets, and 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 low cost geographies or to other locations with available capacity.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

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

The following is a summary of the Company’s consolidated restructuring reserves and related activity as of and for the three months ended March 31, 2007. “SS”, “VSP” and “APS” represent Sealing Systems, Vehicle Safety and Performance and Aftermarket Products and Services, respectively.


	Powertrain			SS			VSP			APS			Corporate		Total
	(Millions of dollars)
Balance of reserves at December 31, 2006	$	22.1		$	10.0		$	0.4		$	7.6		$	—	$	40.1
Provisions		6.8			2.6			1.3			5.5			0.1		16.3
Reversals		(0.1	)		(0.1	)		—			—			—		(0.2	)
Payments		(9.8	)		(4.9	)		(0.7	)		(2.3	)		—		(17.7	)
Foreign currency		—			0.1			—			0.1			—		0.2

Balance of reserves at March 31, 2007	$	19.0		$	7.7		$	1.0		$	10.9		$	0.1	$	38.7

Significant restructuring activities for the quarter ended March 31, 2007

In addition to previously initiated restructuring activities, the Company, in January 2006, announced a global restructuring plan (“Restructuring 2006”) as part of its global profitable growth strategy. This plan will affect approximately 25 facilities and reduce the Company's workforce by approximately 10% by the end of 2008. The Company continues to evaluate the individual components of this plan, and will announce those components as plans are finalized.

During the quarter ended March 31, 2007, the Company announced the closure of its facility located in Gif-sur-Yvette, France. As of March 31, 2007, the Company has recorded cumulative restructuring charges of $95.2 million related to this and other previously announced closures and projects associated with Restructuring 2006. The Company expects to incur additional charges of approximately $155 million in connection with Restructuring 2006, and expects to achieve annual cost savings of $140 million subsequent to the completion of this restructuring program.

Included in the summary table above, the payment activity and remaining reserves associated with activities executed under Restructuring 2006 are as follows:


	Powertrain			SS			VSP			APS			Corporate		Total
	(Millions of dollars)
Balance of reserves at December 31, 2006	$	17.3		$	9.4		$	0.4		$	5.7		$	—	$	32.8
Provisions		6.8			2.6			0.8			4.7			—		14.9
Reversals		(0.1	)		(0.1	)		—			—			—		(0.2	)
Payments		(9.6	)		(4.9	)		(0.2	)		(1.9	)		—		(16.6	)
Foreign currency		0.1			0.1			—			—			—		0.2

Balance of reserves at March 31, 2007	$	14.5		$	7.1		$	1.0		$	8.5		$	—	$	31.1

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Significant components of charges recorded in 2007 related to Restructuring 2006 are as follows:


	Expected Costs		Previously Incurred		Incurred During the Quarter		Estimated Additional Charges
	(Millions of dollars)
Powertrain	$	54.2	$	35.5	$	6.7	$	12.0
Sealing Systems		27.7		14.7		2.5		10.5
Vehicle Safety and Performance		29.7		2.9		0.8		26.0
Aftermarket Products and Services		42.0		27.3		4.7		10.0
Corporate		1.1		0.1		—		1.0

Total as at March 31, 2007	$	154.7	$	80.5	$	14.7	$	59.5

6.	Other Income, Net

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


	Three Months Ended March 31
	2007			2006
	(Millions of Dollars)
Amortization of intangible assets	$	4.6		$	4.3
Foreign currency exchange		0.4			(4.0	)
Minority interest in consolidated subsidiaries		0.8			0.9
Royalty expense (income)		0.1			(0.3	)
Accounts receivable discount expense		1.7			1.2
(Gain) loss on sale of assets		(3.0	)		0.2
Gain on sale of businesses		—			(0.3	)
Unrealized gain on commodity forward contracts		(9.8	)		—
Other		(1.6	)		(2.3	)

	$	(6.8	)	$	(0.3	)

7.	Inventories

Inventories are stated at the lower of cost or market. Cost determined by the last-in, first-out (LIFO) method was used for 45% of inventories at March 31, 2007 and December 31, 2006. The remaining inventories are recorded using 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. A summary of inventories is provided in the table below:


	March 31 2007			December 31 2006
	(Millions of Dollars)
Raw materials	$	184.1		$	170.4
Work-in-process		157.4			164.0
Finished products		629.4			624.5

		970.9			958.9
Valuation reserves		(67.7	)		(66.3	)

	$	903.2		$	892.6

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

8.	Investments in Non-Consolidated Affiliates

The Company maintains investments in various non-consolidated affiliates, which are located in Turkey, China, Korea, India, Japan, the United States and Mexico. The Company’s direct ownership in such affiliates ranges from approximately 5% to 50%. The aggregate investment in these affiliates approximates $167 million and $187 million at March 31, 2007 and December 31, 2006, respectively, and is included in the consolidated balance sheets as “other noncurrent assets.” The investment balance decreased during the three months ended March 31, 2007 resulting from dividends paid by the joint venture affiliaites of approximately $28 million. The Company’s equity in the earnings of such affiliates amounted to approximately $8 million and $9 million for the three month periods ended March 31, 2007 and 2006, respectively. During the three months ended March 31, 2007, these entities generated sales of approximately $170 million, net income of approximately $18 million, and had total net assets at March 31, 2007 of approximately $368 million. 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 for the purpose of manufacturing and marketing automotive parts, including pistons, pins, piston rings, and cylinder liners, to original equipment (“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 a guaranteed minimum amount. 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. 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. As of March 31, 2007, the total amount of the contingent guarantee, were all triggering events to occur, approximated $55 million. Management believes that this contingent guarantee is substantially less than the estimated current fair value of the guarantees’ interest in the affiliate. If this put option were exercised at its estimated current fair value, such exercise could have a material effect on the Company’s liquidity. Any value in excess of the minimum guaranteed amount of the put option would be the subject of negotiation between the Company and its joint venture partner.

In accordance with SFAS No. 150,Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity, 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.	Forward Contracts

The Company is dependent upon the supply of certain raw materials used in its production processes; these raw materials are exposed to price fluctuations on the open market. The Company enters into commodity price forward contracts to manage the volatility associated with these forecasted purchases. The Company monitors its commodity price risk exposures periodically to maximize the overall effectiveness of its commodity forward contracts, including exposures related to natural gas, copper, nickel, lead, high-grade aluminum and aluminum alloy. Forward contracts are used to mitigate commodity price risk associated with raw materials, generally related to purchases forecasted for up to fifteen months in the future.

The Company had 122 contracts outstanding with a combined notional value of $94.0 million at March 31, 2007. Such contracts are recorded on the balance sheet at fair value. Through March 31, 2007, the Company recognized all changes in fair value in current earnings, resulting in unrealized gains of approximately $10 million recorded to “other (income) expense, net” for the three months ended March 31, 2007. Effective April 1, 2007, the Company has completed the required evaluation and documentation to designate the majority of such contracts as cash flow hedges. As a result, in future periods the effective portion of changes in fair value of contracts designated as cash flow hedges will be recorded in accumulated other comprehensive income and reclassified into earnings in the same period or periods during which the underlying hedged item affected earnings.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

10.

Accrued Liabilities

Accrued liabilities consisted of the following:


	March 31 2007		December 31 2006
	(Millions of Dollars)
Accrued compensation	$	228.0	$	215.1
Accrued rebates		78.4		82.1
Accrued income taxes		56.8		5.1
Restructuring reserves		38.7		40.1
Accrued Chapter 11 and U.K. Administration expenses		28.5		29.3
Accrued product returns		21.1		20.4
Non-income taxes payable		20.7		7.9
Accrued professional services		19.1		17.7
Accrued warranty		16.4		17.3

	$	507.7	$	435.0

11.

Debt

Long-term debt consisted of the following:


	March 31 2007			December 31 2006
	(Millions of Dollars)
DIP credit facility	$	373.0		$	371.1
Other		149.5			137.7

		522.5			508.8
Less: current maturities included in short-term debt		(496.1	)		(482.1	)

	$	26.4		$	26.7

In November 2006, the Company amended its DIP facility, modifying certain terms and extending the term of the post-petition financing through July 1, 2007. The amended DIP facility consists of a $500 million revolving credit facility (“Revolving Credit Facility”) and a $275 million term loan facility (“Term Loan Facility”). The proceeds of the Term Loan Facility were used primarily to supplement the funding necessary for the Company and one of its subsidiaries to purchase certain Loan Notes pursuant to the U.K. Settlement Agreement and for general corporate purposes.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

of the Company’s domestic inventories and domestic accounts receivable. The borrowing base available to the Company is calculated weekly based on the value of this underlying collateral. Commitments available under the amended DIP facility are mandatorily reduced by a portion of proceeds from certain future asset or business divestitures. The commitment and amounts outstanding on the DIP credit facilities are as follows:


	March 31 2007		December 31 2006
	(Millions of Dollars)
Contractual commitment:
Revolving credit facility	$	500.0	$	500.0
Term loan facility		275.0		275.0
Mandatory commitment reductions		—		—

Current commitment	$	775.0	$	775.0

Outstanding:
Revolving credit facility	$	98.0	$	96.1
Term loan facility		275.0		275.0
Letters of credit		24.5		24.5

Total outstanding	$	397.5	$	395.6

Borrowing Base on Revolving credit facility
Current borrowings	$	98.0		96.1
Letters of credit		24.5		24.5
Available to borrow		377.5		353.6

Total borrowing base	$	500.0	$	474.2

The DIP credit facility contains restrictive covenants. The more significant of these covenants include the maintenance of certain levels of earnings before interest, taxes, depreciation and amortization and limitations on quarterly capital expenditures. Additional covenants include, but are not limited to, restrictions on the early retirement of debt, additional borrowings, payment of dividends and the sale of assets or businesses.

12.

Other Comprehensive Income (Loss)

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


	Three Months Ended March 31
	2007		2006
	(Millions of Dollars)
Net earnings (loss)	$	4.5	$	(68.4	)
Foreign currency translation adjustments and other		16.9		5.6
Postemployment benefits		10.1		—

	$	31.5	$	(62.8	)

13.

Income Taxes

For the three months ended March 31, 2007, the Company recorded income tax expense of $31.1 million on earnings before income taxes of $35.6 million. This compares to income tax expense of $29.6 million on a loss before income taxes of $38.8 million in the same period of 2006. Income tax expense for the three month period ended March 31, 2007 differs from statutory rates due to non-recognition of income tax benefits on certain operating losses, primarily in the U.S., and non-deductible items in various jurisdictions.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

The Company adopted FASB Interpretation No. 48,Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109 (“FIN 48”) as of January 1, 2007. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in companies’ financial statements in accordance with FASB Statement No. 109,Accounting for Income Taxes. As a result, the Company applies a more-likely-than-not recognition threshold for all tax uncertainties. FIN 48 only allows the recognition of those tax benefits that have a greater than 50% likelihood of being sustained upon examination by the taxing authorities. As a result of implementing FIN 48, the Company recognized a $13.8 million decrease in the reserve for unrecognized tax benefits, which was accounted for as a reduction to the January 1, 2007 total shareholders’ deficit.

Including the cumulative effect decrease, at the beginning of 2007, the Company had $168.4 million of total unrecognized tax benefits. Of this total, $38.6 million represents the amount of unrecognized tax benefits that, if recognized, would affect the effective income tax rate. The total unrecognized tax benefits differs from the amount which would affect the effective tax rate primarily due to the impact of valuation allowances.

The Company, or one of its subsidiaries, files income tax returns in the United States and other foreign jurisdictions. With limited exceptions, the Company is no longer subject to U.S. federal tax examinations for years before 2004 or state and local examinations for years before 2001. The Company is no longer subject to income tax examinations in major foreign tax jurisdictions for years prior to 1998.

The Internal Revenue Service has completed an examination of the Company’s U.S. income tax returns for 2001 through 2003, with a tentative settlement at the appellate level for all issues. The tentative settlement would not result in a material change to the Company’s results of operations, financial condition, or liquidity. The Company is also under income tax examination in Germany and in a several other state and foreign jurisdictions.

The Company does not anticipate any significant changes to its total unrecognized tax benefits within the next 12 months.

The Company classifies tax-related penalties and net interest as income tax expense. As of and for the three months ending March 31, 2007, the Company has recorded $11.3 million in liabilities for tax-related net interest and penalties on its consolidated balance sheet and $0.1 million benefit in the consolidated statements of operations.

14.

Income (Loss) Per Common Share

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


	Three Months Ended March 31
	2007		2006
	(Millions of Dollars, Except Per Share Amounts)
Numerator:
Numerator for basic and diluted income (loss) per common share	$	4.5	$	(68.4	)

Denominator:
Weighted average shares outstanding, basic and diluted (in millions)		89.6		89.1

Basic and diluted income (loss) per common share	$	0.05	$	(0.77	)

As a result of the Restructuring Proceedings, the Company stopped accruing and paying dividends on its Series C Preferred Stock.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

15.

Pensions and Other Postretirement Benefits

The Company sponsors several defined benefit pension plans (“Pension Benefits”) and health care, disability and life insurance benefits (“Other Benefits”) for certain employees and retirees around the world. The Company funds Pension Benefits based on the funding requirements of federal and international laws and regulations in advance of benefit payments and Other Benefits as benefits are provided to participating employees.

Components of net periodic benefit cost for the three-month periods ended March 31 are as follows:


	Pension Benefits
	United States						International						Other Benefits
	2007			2006			2007			2006			2007			2006
	(Millions of Dollars)
Service cost	$	6.6		$	7.5		$	1.2		$	1.9		$	0.5		$	0.6
Interest cost		15.1			14.5			3.4			37.2			9.0			8.3
Expected return on plan assets		(17.9	)		(15.6	)		(0.2	)		(29.1	)		—			—
Amortization of actuarial loss		4.6			6.4			0.6			27.6			3.9			3.2
Amortization of prior service cost		1.6			1.6			—			—			(1.1	)		(1.0	)
Settlement gain		—			—			(0.3	)		—			—			—

Net periodic benefit cost	$	10.0		$	14.4		$	4.7		$	37.6		$	12.3		$	11.1

16.

Litigation and Environmental Matters

T&N Companies Asbestos Litigation

Background

The Company’s U.K. subsidiary, T&N Ltd., and two U.S. subsidiaries (the “T&N Companies”) are among many defendants named in numerous court actions in the U.S. alleging personal injury resulting from exposure to asbestos or asbestos-containing products. T&N Ltd. is also subject to asbestos-disease litigation, to a lesser extent, in the U.K. and France. As of the Petition Date, T&N Ltd. was a defendant in approximately 115,000 pending personal injury claims. The two U.S. subsidiaries were defendants in approximately 199,000 pending personal injury claims. The Company includes as a pending claim open served claims, settled but not documented claims and settled but not paid claims. Notice of complaints continue to be received post-petition and are in violation of the automatic stay.

Recorded Liability

The Company, during the year ended December 31, 2000, increased its estimate of asbestos-related liability for the T&N Companies by $751 million and recorded a related insurance recoverable asset of $577 million. The revision in the estimate of probable asbestos-related liability principally resulted from a study performed by an econometric firm that specializes in these types of matters. The liability (approximately $1.2 billion as of March 31, 2007) represented the Company’s estimate prior to the Restructuring Proceedings for claims currently pending and those which were reasonably estimated to be asserted and paid through 2012. The Company did not provide a liability for claims that may be paid subsequent to this period as it could not reasonably estimate such claims. In estimating the liability prior to the Restructuring Proceedings, the Company made assumptions regarding the total number of claims anticipated to be received in a future period, the typical cost of settlement (which is sensitive to the industry in which the plaintiff claims exposure, the alleged disease type and the jurisdiction in which the action is being brought), the rate of receipt of claims, the settlement strategy in dealing with outstanding claims and the timing of settlements. As a result of the Restructuring Proceedings, pending asbestos-related litigation against the Company in the United States is stayed (subject to certain exceptions in the case of governmental authorities), and no party may take action to pursue or collect on such asbestos claims absent specific authorization of the Bankruptcy Court. Since the Restructuring Proceedings, the Company has ceased making payments with respect to asbestos-related lawsuits. An asbestos creditors’ committee has been appointed in the U.S. representing asbestos claimants with pending claims against the Company, and the Bankruptcy Court has appointed a legal representative for the interests of potential future asbestos claimants.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

In December of 2000, the Company entered into $250 million of surety bonds on behalf of the T&N Companies to meet certain collateral requirements for asbestos indemnity obligations associated with their prior membership in the Center for Claims Resolution (“CCR”). This amount was stepped down by contract to $225 million effective June 2001. As a result of the Restructuring Proceedings, the Company has sought declaratory and injunctive relief in an adversary proceeding filed in the Bankruptcy Court, in order to enjoin any post-petition payments to asbestos claimants by the CCR and any post-petition draw by the CCR on $225 million in face amount of the surety bonds. The CCR sought to draw on the surety bonds to fund past and future payments although the basis of such draw, the validity of such claims under the pre-petition bond terms, and whether such draw may be utilized to pay obligations of other CCR members were all disputed.

On May 2, 2005, the Company entered into a Surety Claims Settlement Agreement with the CCR and various surety bondholders whereby in fulfillment of all claims made by the CCR, $29 million was placed into escrow for use by the CCR to fund i) settlements that have already occurred or have yet to occur up to $26 million and ii) CCR expenses of $3 million. In exchange for a secured claim against the Company and in connection with the pre-petition lenders, the surety bondholders allowed the exercise of the surety bonds in the amount of $28 million. The remaining $1 million was funded from an outstanding letter of credit. The settlement agreement cancels the remaining face amount of the surety bonds and gives the surety bondholders an entitlement to adequate protection upon full payment of the net bond draw of $28 million. Accordingly, the surety bondholders will receive monthly payments of interest on the net bond draw at a rate of LIBOR plus 200 basis points until the earlier of the effective date of the Plan or the occurrence of certain specified termination events.

The Company also issued various letters of credit in connection with asbestos lawsuits that had resulted in verdicts against the Company or its subsidiaries prior to its filing for bankruptcy protection. The letters of credit were issued as security for the judgments entered against the Company or its subsidiaries to permit the Company to pursue appeals to those judgments. The Bankruptcy Court lifted the automatic stay with respect to certain cases where letters of credit were in place to allow the appeals of those cases to proceed. During 2003, the final appeal in three of these cases was denied, and draws were made upon the letters of credit of approximately $16 million.

While the Company believes that the liability recorded for the U.S. Asbestos Claims was appropriate as of October 1, 2001 for anticipated losses arising from asbestos-related claims against the T&N Companies through 2012, it is the Company’s view that, as a result of the Restructuring Proceedings, there is even greater uncertainty in estimating the timing and amount of future asbestos liability and related insurance recovery for pending and future claims. There are significant differences in the treatment of asbestos claims in a bankruptcy proceeding as compared to the tort litigation system. Among other things, it is uncertain at this time as to the number of asbestos-related claims that will be filed in the Restructuring Proceedings, the number of current and future claims that will be included in the plan of reorganization, how claims for punitive damages and claims by persons with no asbestos-related physical impairment will be treated and whether such claims will be allowed, and the impact that historical settlement values for asbestos claims may have on the estimation of asbestos liability in the Restructuring Proceedings.

No assurance can be given that the T&N Companies will not be subject to material additional liabilities and significant additional litigation relating to asbestos matters for the U.S. Asbestos Claims through 2012 or thereafter. In the event that such liabilities exceed the amounts recorded by the Company or the remaining insurance coverage, the Company’s results of operations and financial condition could be materially affected.

Insurance Recoverable

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

reinsurers, European International Reinsurance Company Ltd. (“EIR”), in December 2001, filed suit in a London, England court to challenge the validity of its insurance contract with the T&N Companies. As a result of this lawsuit, a claim was made against the broker (Sedgwick) that assisted in procuring this policy for breach of its duties as a broker. This trial commenced in October 2003. The parties were able to reach a settlement prior to the conclusion of the trial. As a result of this settlement, the Company recorded a $38.9 million asbestos charge during 2003. Under the terms of the settlement, EIR would be liable for 65.5% of its one-third share of the reinsurance policy. By separate agreement, Sedgwick agreed to be liable for an additional 17.25% of the EIR share of the reinsurance policy. T&N Ltd. has also agreed to indemnify the insurer for sums paid under the policy for which the insurer is liable to T&N Ltd. for which the insurer has no recovery from the reinsurers or Sedgwick. The settlement agreements referenced above are being held in escrow pending approval by the Bankruptcy Court and the Administrators of T&N Ltd. of those portions of the above-described settlement agreements that affect the Debtors. A motion seeking the Bankruptcy Court's approval of the settlement was filed on March 1, 2004.

Subsequent to this motion, the other two reinsurers, Munchener Ruckversicherungs-Gesellschaft AG (“Munich Re”) and Centre Reinsurance International Co. (“CRIC”), a subsidiary of the Zurich Financial Services Group, notified the Company of their belief that the settlements with EIR and Sedgwick may breach one or more provisions of the reinsurance agreement. The parties were unable to resolve the issues raised by the two reinsurers and this prompted the U.K. Administrators to file an action in the High Court seeking a declaration that the settlements with EIR and Sedgwick do not breach provisions of the reinsurance agreement. A hearing was conducted during July 2005 and judgment was handed down on December 21, 2005. The High Court held that the settlements did not breach the reinsurance agreement. Munich Re and CRIC have not appealed the judgment. As a result, the motion seeking the Bankruptcy Court’s approval was renoticed and the Bankruptcy Court approved the settlement in November 2006.

The ultimate realization of insurance proceeds is directly related to the amount of related covered valid claims against the Company. If the ultimate asbestos claims are higher than the recorded liability, the Company expects the ultimate insurance recoverable to be higher than the recorded amount, up to the cap of the insurance layer. If the ultimate asbestos claims are lower than the recorded liability, the Company expects the ultimate insurance recoverable to be lower than the recorded amount. While the Restructuring Proceedings will impact the timing and amount of the asbestos claims and the insurance recoverable, there has been no change, other than to reflect the settlement discussed above and foreign exchange translation, to the recorded amounts since the Company initiated the Restructuring Proceedings. Accordingly, the recorded amounts for this insurance recoverable asset could change significantly based upon events that occur from the Restructuring Proceedings.

The security rating of Centre Reinsurance International Co. was downgraded by several major credit rating providers during the first quarter of 2004. As a result of the downgrade, the Company obtained a guarantee of all CRIC’s obligations under the policy from Centre Reinsurance (US) Limited (“CRUS”), an affiliate of CRIC. The security rating of CRUS has not been affected by the downgrade of CRIC and remains unchanged since the inception of the policy. If the reinsurers and/or the related affiliate are not able to meet their obligations under the policy, the Company’s results of operations and financial condition could be materially affected.

The Company has reviewed the financial viability and legal obligations of the three reinsurance companies involved and has concluded that there is little risk that the reinsurers will not be able to meet their obligations under the policy based upon their financial condition. The U.S. claims costs applied against this policy are converted at a fixed exchange rate of $1.69/£. As such, if the market exchange rate is greater or less than $1.69/£, the Company will effectively have a premium or discount on claims paid. As of March 31, 2007, the $701 million insurance recoverable asset includes an exchange rate premium of approximately $87 million.

Abex and Wagner Asbestos Litigation

Background

Two of the Company’s businesses formerly owned by Cooper Industries, LLC (“Cooper”), historically known as Abex and Wagner, are involved as defendants in numerous court actions in the U.S. alleging personal injury from exposure to asbestos or asbestos-containing products. These claims mainly involve vehicle safety and performance products. As of the Petition Date, Abex and Wagner were defendants in approximately 66,000 and 33,000 pending claims, respectively. The Company includes as a pending claim open served claims, settled but not documented claims and settled but not paid claims. Notices of complaints continue to be received post-petition and are in violation of the automatic stay.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

The liability of the Company with respect to claims alleging exposure to Wagner products arises from the 1998 stock purchase from Cooper of the corporate successor by merger to Wagner Electric Company; the purchased entity is now a wholly-owned subsidiary of the Company and one of the Debtors in the Restructuring Proceedings.

The liability of the Company with respect to claims alleging exposure to Abex products arises from a contractual liability entered into in 1994 by the predecessor to the Company whose stock the Company purchased in 1998. Pursuant to that contract and prior to the Restructuring Proceedings, the Company, through the relevant subsidiary, was liable for certain indemnity and defense payments incurred on behalf of an entity known as Pneumo Abex Corporation (“Pneumo”), the successor in interest to Abex Corporation. Effective as of the Petition Date, the Company has ceased making such payments and is currently considering whether to accept or reject the 1994 contractual liability.

As of the Petition Date, pending asbestos litigation of Abex (as to the Company only) and Wagner is stayed (subject to certain exceptions in the case of governmental authorities), and no party may take action to pursue or collect on such asbestos claims absent specific authorization of the Bankruptcy Court.

Recorded Liability

The liability (comprised of $129.5 million in Abex liabilities and $84.1 million in Wagner liabilities as of March 31, 2007) represented the Company’s estimate prior to the Restructuring Proceedings for claims currently pending and those which were reasonably estimated to be asserted and paid through 2012. The Company did not provide a liability for claims that may be brought subsequent to this period as it could not reasonably estimate such claims. In estimating the liability prior to the Restructuring Proceedings, the Company made assumptions regarding the total number of claims anticipated to be received in a future period, the typical cost of settlement (which is sensitive to the industry in which the plaintiff claims exposure, the alleged disease type and the jurisdiction in which the action is being brought), the rate of receipt of claims, the settlement strategy in dealing with outstanding claims and the timing of settlements.

The Company issued various letters of credit in connection with asbestos lawsuits that had resulted in verdicts against the Company prior to its filing for bankruptcy protection. The letters of credit were issued as security for judgments entered against the Company to permit the Company to pursue appeals to these judgments. The final appeal in one case was denied during 2004, the Bankruptcy Court lifted the automatic stay related to one letter of credit associated with this appeal, and a net draw was made upon this letter of credit of approximately $1 million.

While the Company believes that the liability recorded was appropriate as of October 1, 2001 for anticipated losses arising from asbestos-related claims related to Abex and Wagner through 2012, it is the Company’s view that, as a result of the Restructuring Proceedings, there is even greater uncertainty in estimating the timing and amount of future asbestos liability and related insurance recovery for pending and future claims. There are significant differences in the treatment of asbestos claims in a bankruptcy proceeding as compared to the tort litigation system. Among other things, it is uncertain at this time as to the number of asbestos-related claims that will be filed in the proceeding, the number of current and future claims that will be included in the plan of reorganization, how claims for punitive damages and claims by persons with no asbestos-related physical impairment will be treated and whether such claims will be allowed, and the impact historical settlement values for asbestos claims may have on the estimation of asbestos liability in the Restructuring Proceedings.

Cooper, Pneumo, the Company, the asbestos claimants committee, the representative for future asbestos claimants, and various other relevant parties, signed a nonbinding term sheet in July of 2006, reflecting a global settlement that will provide two alternative means of resolving all of Cooper’s and Pneumo’s claims against the Company arising out of the Abex asbestos litigation and the related alleged indemnity obligations. One of these alternatives will be accomplished as part of the Plan and its confirmation. Under one alternative, Cooper will contribute $756 million to a trust to be established pursuant to Section 524(g) of the Bankruptcy Code, consisting of $256 million in cash and a $500 million promissory note, in consideration for Cooper and Pneumo being protected from current and future Abex asbestos claims by the Plan’s channeling injunction which will channel all the Abex asbestos claims to the

trust. This alternative settlement has been documented as part of the Plan, and affected creditors will be given an opportunity to vote for or against this alternative as part of the solicitation of votes on the Plan.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

The other alternative settlement will only be utilized if the first alternative cannot be successfully implemented. Under the second settlement structure, Cooper will receive $138 million and Pneumo will receive $2 million in exchange for completely releasing all their claims against the Company and all its affiliates. The terms of this alternative settlement are set forth in the Plan B Settlement Agreement, executed as of September 18, 2006, by the same parties that signed the term sheet in July of 2006. This alternative has been documented as part of the Plan. Under both of the foregoing alternatives, Cooper has agreed to permit the Company to (i) negotiate certain lump-sum or installment settlements involving the Wagner insurance (described below), and (ii) retain 88% of the proceeds from such insurance settlements in the case of the first alternative settlement structure and 80% of the proceeds in the case of the second alternative settlement structure. Cooper, Pneumo, the Company, the asbestos claimants committee, the representative for future asbestos claimants, and various other relevant parties, have entered a Plan Support Agreement which was approved by the Bankruptcy Court on February 2, 2007, binding the parties to the alternative settlements.

Neither of the foregoing settlement alternatives will be consummated until the Plan has been confirmed. Accordingly, the Company will not be relieved of material additional liabilities and significant additional litigation relating to Abex and Wagner asbestos matters until the Plan becomes effective. The Company’s results of operations and financial condition could be materially affected in the event that such liabilities cannot be resolved and end up exceeding the amounts recorded by the Company or the remaining insurance coverage.

Insurance Recoverable

Abex maintained product liability insurance coverage for most of the time that it manufactured products that contained asbestos. This coverage is shared with other third-party companies. The subsidiary of the Company that may be liable for certain indemnity and defense payments with respect to Abex has the benefit of that insurance up to the extent of that liability. Abex has been in litigation since 1982 with the insurance carriers of its primary layer of liability concerning coverage for asbestos claims. Abex also has substantial excess layer liability insurance coverage that is shared with other companies that, barring unforeseen insolvencies of excess carriers or other adverse events, should provide coverage for asbestos claims against Abex. The Abex insurance recoverable was $111.9 million as of March 31, 2007.

Wagner also maintained product liability insurance coverage for some of the time that it manufactured products that contained asbestos. This coverage is shared with other third-party companies. One of the companies, Dresser Industries, Inc. (“Dresser”) initiated an adversary action in federal court against the Debtors and a number of insurance carriers in the Company’s Restructuring Proceedings (the “Adversary Proceeding”). In its complaint, Dresser alleged that it has rights under certain primary and excess general liability insurance policies that may be shared with one of the Debtors, Federal-Mogul Products (“FMP”) as the successor to Wagner Electric Corporation. Dresser sought, among other things, a declaration of the parties’ respective rights and obligations under the policies and a partition of the competing rights of Dresser and FMP under the policies. FMP answered Dresser’s complaint and filed cross-claims against all of the defendant-insurers seeking a declaration of FMP’s rights to the policies. The subsidiary of the Company that may be liable for asbestos claims against Wagner has the benefit of that insurance, subject to the rights of other potential insureds under the policies. Primary layer liability insurance coverage for asbestos claims against Wagner is the subject of an agreement with Wagner’s solvent primary carriers. The agreement provides for partial reimbursement of indemnity and defense costs for Wagner asbestos claims until exhaustion of aggregate limits. Wagner also has substantial excess layer liability insurance coverage which, barring unforeseen insolvencies of excess carriers or other adverse events, should provide coverage for asbestos claims against Wagner. The Wagner insurance recoverable was $47.6 million as of March 31, 2007. On November 4, 2004, FMP, Dresser and Cooper Industries, LLC (“Cooper”) and certain of the insurers (“Parties”) entered into a partitioning agreement, by which the Parties agreed as to the manner in which the limits of liability, self-insured retentions, deductibles and any other self-insurance features, and the erosion thereof, are to be partitioned among FMP, Dresser and Cooper. The partitioning agreement effectively disposes of Dresser’s claims in the Adversary Proceeding. However, FMP’s cross claim against the defendant-insurers remains. In a separate agreement, FMP, Cooper, and Pneumo have agreed, among other things, to a method for dividing the FMP-Cooper portion of the partitioned limits among those three entities. The agreement among FMP, Cooper, and Pneumo is subject to bankruptcy court approval and is set forth in detail in the Fourth Amended Plan of Reorganization.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Because the legal issues raised in the Adversary Proceeding generally involve state rather than federal law, on September 19, 2006, FMP filed a complaint in the Superior Court of New Jersey (the “New Jersey Complaint”) against all of the defendant insurers in the Adversary Proceeding. On March 28, 2007, the federal court in the Adversary Proceeding entered an order abstaining from the Adversary Proceeding. The New Jersey Complaint generally tracks the cross-claims previously asserted by FMP against the defendant insurers in the Adversary Proceeding, and seeks a declaration as to FMP’s coverage rights under the policies as well as damages for breach of contract and bad faith. Several defendant insurers have stated that they believe that the New York Supreme Court rather than the New Jersey Superior Court is the more appropriate forum for the litigation. Those insurers are seeking bankruptcy court relief from the Bankruptcy Code’s automatic stay to sue FMP in New York.

The ultimate realization of insurance proceeds is directly related to the amount of related covered valid claims against the Company. If the ultimate asbestos claims are higher than the recorded liability, the Company expects the ultimate insurance recoverable to be higher than the recorded amount. If the ultimate asbestos claims are lower than the recorded liability, the Company expects the ultimate insurance recoverable to be lower than the recorded amount. While the Restructuring Proceedings and the proposed settlement with Cooper will impact the timing and amount of the asbestos claims and the insurance recoverable, there has been no change to the recorded amounts since the initiation of the Restructuring Proceedings, other than to reflect cash received under this policy, due to the uncertainties created by the Restructuring Proceedings. Accordingly, the recorded amounts for this insurance recoverable asset could change materially based upon events that occur from the Restructuring Proceedings.

The Company believes that based on its review of the insurance policies, the financial viability of the insurance carriers, and advice from outside legal counsel, it is probable that Abex and Wagner will realize an insurance recoverable correlating with the respective liability.

Federal-Mogul and Fel-Pro Asbestos Litigation

Prior to the Restructuring Proceedings, the Company was sued in its own name as one of a large number of defendants in multiple lawsuits brought by claimants alleging injury from exposure to asbestos due to its ownership of certain assets involved in gasket making. As of the Petition Date, the Company was a defendant in approximately 61,500 pre-petition pending claims. Over 40,000 of these claims were transferred to a federal court, where, prior to the Restructuring Proceedings, they were pending. Notices of complaints continue to be received post-petition and are in violation of the automatic stay.

Prior to the Restructuring Proceedings, the Company’s Fel-Pro subsidiary also was named as a defendant in a number of product liability cases involving asbestos, primarily involving gasket or packing products. Fel-Pro was a defendant in approximately 34,000 pending claims as of the Petition Date. Over 32,000 of these claims were transferred to a federal court, where, prior to the Restructuring Proceedings, they were pending. The Company was defending all such claims vigorously and believed that it and Fel-Pro had substantial defenses to liability and insurance coverage for defense and indemnity. All claims alleging exposure to the products of the Company and of Fel-Pro have been stayed as a result of the Restructuring Proceedings.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Aggregate of Asbestos Liability and Insurance Recoverable Asset

The following is a summary of the asbestos liability subject to compromise and the insurance recoverable asset as of March 31, 2007 and December 31, 2006:


	T&N Companies		Abex			Wagner		Other		Total
	(Millions of Dollars)
Liability:
Balance at December 31, 2006	$	1,175.4	$	129.5		$	84.1	$	2.7	$	1,391.7
Foreign exchange		0.4		—			—		—		0.4

Balance at March 31, 2007	$	1,175.8	$	129.5		$	84.1	$	2.7	$	1,392.1


Asset:
Balance at December 31, 2006	$	698.8	$	112.6		$	47.6	$	—	$	859.0
Cash receipts		—		(0.7	)		—		—		(0.7	)
Foreign exchange		1.8		—			—		—		1.8

Balance at March 31, 2007	$	700.6	$	111.9		$	47.6	$	—	$	860.1

The Company’s estimate of asbestos-related liabilities for pending and expected future asbestos claims is subject to considerable uncertainty because such liabilities are influenced by numerous variables that are inherently difficult to predict. The Restructuring Proceedings significantly increase the inherent difficulties and uncertainties involved in estimating the number and cost of resolution of present and future asbestos-related claims against the Company, and may have the effect of increasing the ultimate cost of the resolution of such claims.

Other Matters

The Company is involved in other legal actions and claims, directly and through its subsidiaries. After taking into consideration legal counsel’s evaluation of such actions, management believes that the outcomes are not likely to have a material adverse effect on the Company’s financial position, operating results, or cash flows.

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. In addition, 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.

At most of the sites that are likely to be the costliest to remediate, which are often current or former commercial waste disposal facilities to which numerous companies sent wastes, the Company’s exposure is expected to be limited. 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 other companies that sent wastes to these sites, often numbering in the hundreds or more, generally include large, solvent, publicly owned companies and in most such situations the government agencies and courts have imposed liability in some reasonable relationship to contribution of waste.

The Company has also identified certain other present and former properties at which it may be responsible for cleaning up 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 factors such as available information from site investigations and consultants.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

The Company records asset retirement obligations in accordance with SFAS 143,Accounting for Asset Retirement Obligations and Financial Interpretation No. 47 (“FIN 47”),Accounting for Conditional Asset Retirement Obligations,when the amount can be reasonably estimated, typically upon decision to close or sell an operating site. The Company has identified sites with contractual obligations and several sites that are closed or expected to be closed and sold in connection with Restructuring 2006. In connection with these sites, the Company has accrued $25.6 million and $25.3 million as of March 31, 2007 and December 31, 2006, respectively, for conditional asset retirement obligations, primarily related to anticipated costs of asbestos removal.

The Company has additional asset retirement obligations, also primarily related to asbestos removal costs, 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 conditional asset retirement obligations 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 impairment issues in accordance with SFAS No. 144,Accounting for the Impairment or Disposal of Long-Lived Assets, and for conditional asset retirement obligations in accordance with SFAS No 143 or FIN 47.

Total environmental reserves, including reserves for conditional asset retirement obligations, were $82.0 million and $82.1 million at March 31, 2007 and December 31, 2006, respectively, and are included in the consolidated balance sheets as follows:


	March 31 2007		December 31 2006
	(Millions of Dollars)
Current liabilities:
Environmental liabilities	$	5.8	$	6.6
Asset retirement obligations		8.9		8.6
Long-term accrued liabilities:
Environmental liabilities		23.6		23.5
Asset retirement obligations		16.7		16.7
Liabilities subject to compromise - Environmental		27.0		26.7

	$	82.0	$	82.1

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 March 31, 2007, management estimates that reasonably possible material additional losses above and beyond management’s best estimate of required remediation costs as recorded approximates $76 million.

Environmental liabilities subject to compromise include those related to claims that may be reduced in the Company’s bankruptcy proceeding because obligations underlying such claims may be determined to be “dischargeable debts” incurred prior to the Company’s filing for bankruptcy. Such liabilities generally arise at either (1) commercial waste disposal sites to which the Company and other companies sent wastes for disposal, or (2) sites in relation to which the Company has a contractual obligation to indemnify the current owner of a site for the costs of cleanup of contamination that was released into the environment before the Company sold the site.

Environmental liabilities determined not to be subject to compromise include those which arise from a legal obligation of the Company, under an administrative or judicial order to perform cleanup at a site. Such obligations are normally associated with sites which the Company owns and/or operates.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

The best estimate of environmental liability at a site may change from time to time during a bankruptcy proceeding even if the liability relating to that site is subject to compromise and the Company’s responsibility to make payments is stayed. Notwithstanding the stay of legal proceedings against the Company regarding such a site, activities such as further site investigation and/or actual cleanup work often continue to be performed, generally by parties other than the Company. Such activities may produce new and better information that requires the Company to revise its best estimate of total site cleanup costs and its own share of such costs.

17.

Operations by Reporting Segment

The Company's integrated operations are organized in five reporting segments generally corresponding to major product groups; Powertrain, Sealing Systems, Vehicle Safety and Performance, Aftermarket Products and Services and Corporate. Segment information for the three month period ended March 31, 2006 has been reclassified to reflect organizational changes implemented in the third quarter of 2006.

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

The Company evaluates segment performance principally on a non-GAAP Operational EBITDA basis. 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, and gains or losses on the sales of businesses.

Net sales and gross margin information by reporting segment is as follows:


	Net Sales				Gross Margin
	Three Months Ended March 31				Three Months Ended March 31
	2007		2006		2007			2006
	(Millions of Dollars)
Powertrain	$	649	$	568	$	78		$	83
Sealing Systems		130		124		9			12
Vehicle Safety and Performance		198		185		50			46
Aftermarket Products and Services		740		723		173			165
Corporate		—		—		(2	)		(21	)

	$	1,717	$	1,600	$	308		$	285

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Operational EBITDA by reporting segment and the reconciliation of Operational EBITDA to earnings (loss) before income tax expense is as follows:


	Three Months Ended March 31
	2007			2006
	(Millions of Dollars)
Powertrain	$	94		$	92
Sealing Systems		9			12
Vehicle Safety and Performance		46			40
Aftermarket Products and Services		124			114
Corporate		(74	)		(112	)

Total Operational EBITDA		199			146

Interest expense, net		(50	)		(39	)
Depreciation and amortization		(84	)		(79	)
Restructuring charges, net		(16	)		(26	)
Adjustment of assets to fair value		—			(20	)
Chapter 11 and U.K. Administration related reorganization expenses		(14	)		(21	)
Other		1			—

Earnings (loss) before income tax expense	$	36		$	(39	)

Total assets by reporting segment are as follows:


	March 31 2007		December 31 2006
	(Millions of Dollars)
Powertrain	$	1,922	$	1,906
Sealing Systems		766		760
Vehicle Safety and Performance		995		994
Aftermarket Products and Services		2,853		2,836
Corporate		754		683

	$	7,290	$	7,179

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

18.

Stock-Based Compensation

On February 2, 2005, the Company entered into a five-year employment agreement with José Maria Alapont, effective March 1, 2005, whereby Mr. Alapont was appointed as the Company’s chairman, president and chief executive officer. In connection with this agreement, the Plan Proponents have agreed to amend the Plan to provide that the reorganized Federal-Mogul will grant to Mr. Alapont stock options equal to at least 4% of the value of the reorganized Company at the reorganization date (“Options”). If there is a material reduction in the value of the reorganized Company under any amendment to the Plan that is confirmed, Mr. Alapont would receive stock options in an amount that would be the economic equivalent of the Options. These stock options vest ratably over the life of the employment agreement, such that one fifth of the options will vest on each anniversary of the employment agreement effective date. The contractual term of these stock options is 7 years from the date of grant.

Additionally, one-half of the options have an additional feature allowing for the exchange of options for shares of stock of the reorganized Company prior to the end of the employment agreement, at the exchange equivalent of four options for one Class A share of stock. The options without the exchange feature are referred to herein as “plain vanilla options” and those options with the exchange feature are referred to as “options with exchange.”

In accordance with SFAS No. 123(R),Shared Based Payments, the Company has determined the amount of compensation expense associated with these stock options upon the fair value of such options as of March 31, 2007. Key assumptions and related option-pricing models used by the Company are summarized in the following table.


	Plain Vanilla Options		Options with Exchange
Valuation model	Black-Scholes		Modified Binomial
Expected volatility	36	%	36	%
Expected dividend yield	0	%	0	%
Risk-free rate over the estimated expected life of option	4.46 – 5.12	%	4.46 – 5.12	%
Expected term (in years)	3.96		4.82

Until the date of grant, the Company is required to reassess the value of the Options quarterly and adjust the aggregate compensation expense recognized to reflect any change in the value of the Options. During the three month periods ended March 31, 2007 and 2006, the Company recorded compensation expense of $1.1 million and $1.5 million, respectively. As of March 31, 2007 and December 31, 2006 there was approximately $18.7 million and $21.1 million, respectively, of total unrecognized compensation cost related to non-vested stock-options under the employment agreement, which is expected to be recognized ratably over the remaining term of the employment agreement.

Because of recent changes in the U.S. tax code, the Company has proposed changes to Mr. Alapont's non-qualified stock option grant from the reorganized Company. The proposed changes are detailed in the Fourth Amended Joint Plan of Reorganization filed with the U.S. Bankruptcy Court. The proposed changes eliminate the use of "options with exchange" and provide that all the granted options will be "plain vanilla" options as described above. Mr. Alapont also would enter into a deferred compensation arrangement that replaces the benefits which he would have had under the options with exchange provided for in his employment agreement. An actuarial calculation has estimated the value of this future option grant to be $33 million.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

19.

Consolidating Condensed Financial Information of Guarantor Subsidiaries

Certain subsidiaries of the Company (as listed below, collectively the ''Guarantor Subsidiaries'') have guaranteed fully and unconditionally, on a joint and several basis, the obligation to pay principal and interest under the Company's Senior Credit Agreements.


Federal-Mogul Venture Corporation	Federal-Mogul Piston Rings, Inc.	Federal-Mogul Powertrain, Inc.
Federal-Mogul Global Properties Inc.	Federal-Mogul Dutch Holdings Inc.	Federal-Mogul Mystic, Inc.
Carter Automotive Company, Inc.	Federal-Mogul UK Holdings Inc.	Felt Products MFG. Co.
Federal-Mogul World Wide Inc.	F-M UK Holdings Limited	Ferodo America, Inc.
Federal-Mogul Ignition Company	Federal-Mogul Global Inc.	McCord Sealing, Inc.
Federal-Mogul Products, Inc.	T&N Industries, Inc.

The Company issued notes in 1999 and 1998 that are guaranteed by the Guarantor Subsidiaries. The Guarantor Subsidiaries also guarantee the Company's previously existing publicly registered Medium-term notes and Senior notes.

In lieu of providing separate unaudited financial statements for the Guarantor Subsidiaries, the Company has included the accompanying consolidating condensed financial statements based on the Company’s understanding of the Securities and Exchange Commission’s interpretation and application of Rule 3-10 of the Securities and Exchange Commission’s Regulation S-X and Staff Accounting Bulleting No. 53. Management does not believe that separate financial statements of the Guarantor Subsidiaries are material to investors. Therefore, separate financial statements and other disclosures concerning the Guarantor Subsidiaries are not presented.

Subsequent to the Restructuring Proceedings, no dividends have been paid to the Federal-Mogul parent company by any of its subsidiaries.

As a result of the Restructuring Proceedings (see Note 2 “Voluntary Reorganization Under Chapter 11 and U.K. Administration”) certain of the liabilities at March 31, 2007, as shown below, were liabilities subject to compromise as of the Petition date:


	Parent		Guarantor Subsidiaries		Non – Guarantor Subsidiaries			Consolidated
	(Millions of Dollars)
Debt	$	4,053.9	$	0.2	$	—		$	4,054.1
Asbestos liabilities		1.4		236.3		1,154.4			1,392.1
Accounts payable		59.0		116.4		—			175.4
Company-obligated mandatorily redeemable preferred securities of subsidiary holding solely convertible subordinated debentures of the Company		—		—		114.6			114.6
Interest payable		44.0		0.2		—			44.2
Environmental liabilities		27.0		—		—			27.0
Other accrued liabilities		13.8		0.1		(7.0	)		6.9

	$	4,199.1	$	353.2	$	1,262.0		$	5,814.3

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Federal-Mogul Corporation

Notes to Condensed Consolidated Financial Statements

Unaudited Consolidating Condensed Statement of Operations

Three Months Ended March 31, 2007


	Unconsolidated
	Parent			Guarantor Subsidiaries			Non- Guarantor Subsidiaries			Eliminations			Consolidated
	(Millions of Dollars)
Net sales	$	285.9		$	414.4		$	1,468.7		$	(452.5	)	$	1,716.5
Cost of products sold		251.6			319.1			1,290.5			(452.5	)		1,408.7

Gross margin		34.3			95.3			178.2			—			307.8

Selling, general and administrative expenses		60.9			55.2			90.8			—			206.9
Adjustment of assets to fair value		—			—			0.3			—			0.3
Interest expense, net		48.0			—			2.0			—			50.0
Chapter 11 and U.K. Administration related reorganization expenses		13.6			—			—			—			13.6
Equity earnings of unconsolidated affiliates		—			(1.3	)		(6.6	)		—			(7.9	)
Restructuring expense, net		4.7			2.0			9.4			—			16.1
Other (income) expense, net		(18.9	)		(20.7	)		32.8			—			(6.8	)

Earnings (loss) before income taxes and equity earnings of subsidiaries		(74.0	)		60.1			49.5			—			35.6
Income tax expense		3.9			—			27.2			—			31.1

Earnings (loss) before equity earnings of subsidiaries		(77.9	)		60.1			22.3			—			4.5
Equity earnings of subsidiaries		82.4			89.6			—			(172.0	)		—

Net earnings (loss)	$	4.5		$	149.7		$	22.3		$	(172.0	)	$	4.5

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Federal-Mogul Corporation

Notes to Condensed Consolidated Financial Statements

Unaudited Consolidating Condensed Statement of Operations

Three Months Ended March 31, 2006


	Unconsolidated
	Parent			Guarantor Subsidiaries			Non- Guarantor Subsidiaries			Eliminations			Consolidated
	(Millions of Dollars)
Net sales	$	301.9		$	431.2		$	1,305.7		$	(438.5	)	$	1,600.3
Cost of products sold		258.0			333.4			1,162.4			(438.5	)		1,315.3

Gross margin		43.9			97.8			143.3			—			285.0
Selling, general and administrative expenses		73.6			53.9			100.0			—			227.5
Adjustment of assets to fair value		8.4			0.2			11.5			—			20.1
Interest expense (income), net		47.0			—			(8.0	)		—			39.0
Chapter 11 and U.K. Administration related reorganization expenses		21.1			—			—			—			21.1
Equity earnings of unconsolidated affiliates		—			(1.6	)		(7.8	)		—			(9.4	)
Restructuring expense, net		3.3			0.1			22.4			—			25.8
Other (income) expense, net		(2.6	)		(32.0	)		34.3			—			(0.3	)

Earnings (loss) before income taxes and equity earnings of subsidiaries		(106.9	)		77.2			(9.1	)		—			(38.8	)
Income tax expense		1.0			1.1			27.5			—			29.6

Earnings (loss) before equity earnings of subsidiaries		(107.9	)		76.1			(36.6	)		—			(68.4	)
Equity earnings of subsidiaries		39.5			13.5			—			(53.0	)		—

Net earnings (loss)	$	(68.4	)	$	89.6		$	(36.6	)	$	(53.0	)	$	(68.4	)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Federal-Mogul Corporation

Notes to Condensed Consolidated Financial Statements

Unaudited Consolidating Condensed Balance Sheet

March 31, 2007


	Unconsolidated
	Parent			Guarantor Subsidiaries		Non- Guarantor Subsidiaries		Eliminations			Consolidated
ASSETS
Current assets:
Cash and equivalents	$	11.7		$	—	$	312.3	$	—		$	324.0
Accounts receivable, net		224.8			320.0		597.6		—			1,142.4
Inventories, net		99.0			285.7		518.5		—			903.2
Prepaid expenses and other current assets		58.7			33.5		187.4		—			279.6

Total current assets		394.2			639.2		1,615.8		—			2,649.2
Property, plant and equipment, net		218.6			472.0		1,362.6		—			2,053.2
Goodwill and indefinite-lived intangible assets		482.3			577.6		147.2		—			1,207.1
Definite-lived intangible assets, net		14.9			71.9		164.3		—			251.1
Investment in subsidiaries		7,265.0			2,995.4		—		(10,260.4	)		—
Intercompany accounts, net		(4,369.2	)		3,621.0		748.2		—			—
Asbestos-related insurance recoverable		—			159.5		700.6		—			860.1
Prepaid pension costs and other noncurrent assets		48.1			18.8		202.7		—			269.6

	$	4,053.9		$	8,555.4	$	4,941.4	$	(10,260.4	)	$	7,290.3

LIABILITIES AND SHAREHOLDERS’ EQUITY (DEFICIT)
Current liabilities:
Short-term debt, including current portion of long-term debt	$	373.0		$	—	$	123.1	$	—		$	496.1
Accounts payable		93.5			103.8		344.5		—			541.8
Accrued liabilities		119.9			67.2		320.6		—			507.7
Current portion of postemployment benefit liability		52.6			—		14.3		—			66.9
Other current liabilities		44.6			13.1		63.9		—			121.6

Total current liabilities		683.6			184.1		866.4		—			1,734.1

Liabilities subject to compromise		4,199.1			353.2		1,262.0		—			5,814.3

Long-term debt		—			—		26.4		—			26.4
Postemployment benefits		753.9			—		345.4		—			1,099.3
Long-term portion of deferred income taxes		—			—		95.7		—			95.7
Other accrued liabilities		70.9			7.5		89.3		—			167.7
Minority interest in consolidated subsidiaries		47.8			6.4		—		—			54.2
Shareholders' equity (deficit)		(1,701.4	)		8,004.2		2,256.2		(10,260.4	)		(1,701.4	)

	$	4,053.9		$	8,555.4	$	4,941.4	$	(10,260.4	)	$	7,290.3

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Federal-Mogul Corporation

Notes to Condensed Consolidated Financial Statements

Consolidating Condensed Balance Sheet

December 31, 2006


	Unconsolidated
	Parent			Guarantor Subsidiaries		Non- Guarantor Subsidiaries			Eliminations			Consolidated
ASSETS
Current assets:
Cash and equivalents	$	9.2		$	—	$	350.1		$	—		$	359.3
Accounts receivable, net		188.9			268.2		535.5			—			992.6
Inventories, net		98.6			282.5		511.5			—			892.6
Prepaid expenses and other current assets		50.6			33.3		164.3						248.2

Total current assets		347.3			584.0		1,561.4			—			2,492.7

Property, plant and equipment, net		227.1			474.1		1,377.4			—			2,078.6
Goodwill and indefinite-lived intangible assets		482.3			577.7		145.3			—			1,205.3
Definite-lived intangible assets, net		15.5			73.1		165.7			—			254.3
Investment in subsidiaries		7,264.8			3,006.4		—			(10,271.2	)		—
Intercompany accounts, net		(4,369.4	)		3,471.0		898.4			—			—
Asbestos-related insurance recoverable		—			160.2		698.8			—			859.0
Prepaid pension costs and other noncurrent assets		48.0			19.3		221.9			—			289.2

	$	4,015.6		$	8,365.8	$	5,068.9		$	(10,271.2	)	$	7,179.1

LIABILITIES AND SHAREHOLDERS’ EQUITY (DEFICIT)
Current liabilities:
Short-term debt, including current portion of long-term debt	$	371.1		$	—	$	111.0		$	—		$	482.1
Accounts payable		78.8			82.4		326.8			—			488.0
Accrued liabilities		103.1			59.0		272.9			—			435.0
Current portion of postemployment benefit liability		52.6			—		15.3			—			67.9
Other current liabilities		49.3			10.3		122.1			—			181.7

Total current liabilities		654.9			151.7		848.1			—			1,654.7

Liabilities subject to compromise		4,198.2			353.2		1,262.0			—			5,813.4

Long-term debt		—			—		26.7			—			26.7
Postemployment benefits		769.0			0.1		342.0			—			1,111.1
Long-term portion of deferred income taxes		—			—		81.8			—			81.8
Other accrued liabilities		92.4			—		92.7			—			185.1
Minority interest in consolidated subsidiaries		49.0			6.3		(1.1	)		—			54.2
Shareholders' equity (deficit)		(1,747.9	)		7,854.5		2,416.7			(10,271.2	)		(1,747.9	)

	$	4,015.6		$	8,365.8	$	5,068.9		$	(10,271.2	)	$	7,179.1

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Federal-Mogul Corporation

Notes to Condensed Consolidated Financial Statements

Unaudited Consolidating Condensed Statement of Cash Flows

Three Months Ended March 31, 2007


	(Unconsolidated)
	Parent			Guarantor Subsidiaries			Non- Guarantor Subsidiaries			Eliminations		Consolidated
	(Millions of Dollars)
Net Cash Provided From (Used By) Operating Activities	$	(33.1	)	$	61.0		$	22.0		$	—	$	49.9

Expenditures for property, plant and equipment		(2.3	)		(11.6	)		(40.8	)		—		(54.7	)
Net proceeds from sale of property, plant and equipment		—			—			16.9			—		16.9

Net Cash Used By Investing Activities		(2.3	)		(11.6	)		(23.9	)		—		(37.8	)

Proceeds from borrowings on DIP credit facility		90.0			—			—			—		90.0
Principal payments on DIP credit facility		(88.1	)		—			—			—		(88.1	)
Increase in short-term debt		—			—			9.4			—		9.4
Decrease in long-term debt		—			—			(1.2	)		—		(1.2	)
Payments on factoring arrangements		—			—			(58.7	)		—		(58.7	)
Debt issuance fees		(0.3	)		—			—			—		(0.3	)
Change in intercompany accounts		34.8			(49.4	)		14.6			—		—

Net Cash Provided From (Used By) Financing Activities		36.4			(49.4	)		(35.9	)		—		(48.9	)
Effect of foreign currency exchange rate fluctuations on cash		1.5			—			—			—		1.5

Increase (decrease) in cash and equivalents	$	2.5		$	—		$	(37.8	)	$	—	$	(35.3	)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

Federal-Mogul Corporation

Notes to Condensed Consolidated Financial Statements

Unaudited Consolidating Condensed Statement of Cash Flows

Three Months Ended March 31, 2006


	(Unconsolidated)
	Parent			Guarantor Subsidiaries			Non- Guarantor Subsidiaries			Eliminations		Consolidated
	(Millions of Dollars)
Net Cash Provided From (Used By) Operating Activities	$	(18.2	)	$	97.1		$	(24.2	)	$	—	$	54.7

Expenditures for property, plant and equipment		(6.8	)		(15.3	)		(8.6	)		—		(30.7	)
Net proceeds from sale of property, plant and equipment		—			—			2.7			—		2.7
Net proceeds from sale of business		—			—			4.0			—		4.0

Net Cash Used By Investing Activities		(6.8	)		(15.3	)		(1.9	)		—		(24.0	)

Proceeds from borrowings on DIP credit facility		124.7			—			—			—		124.7
Principal payments on DIP credit facility		(153.0	)		—			—			—		(153.0	)
Decrease in short-term debt		—			—			(0.7	)		—		(0.7	)
Decrease in long-term debt		—			—			(0.6	)		—		(0.6	)
Net change in restricted cash		(1.0	)		—			—			—		(1.0	)
Change in intercompany accounts		57.4			(81.8	)		24.4			—		—

Net Cash Provided From (Used By) Financing Activities		28.1			(81.8	)		23.1			—		(30.6	)

Effect of foreign currency exchange rate fluctuations on cash		8.3			—			—			—		8.3

Increase (decrease) in cash and equivalents	$	11.4		$	—		$	(3.0	)	$	—	$	8.4

ITEM 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Overview

Federal-Mogul is a leading supplier of a broad range of vehicular parts, accessories, modules and systems to the automotive, small engine, heavy-duty, marine, railroad, aerospace and industrial markets, including customers in both the original equipment (“OE”) market and the replacement market (“aftermarket”). Federal-Mogul has established an expansive global presence and conducts its operations through various manufacturing, distribution and technical centers that are wholly-owned subsidiaries or partially-owned joint ventures, organized into five primary reporting segments; Powertrain, Sealing Systems, Vehicle Safety and Performance, Aftermarket Products and Services, and Corporate. The Company has operations in established markets including Canada, France, Germany, Italy, Japan, United Kingdom, and the United States, and emerging markets including Brazil, China, Czech Republic, Hungary, India, Korea, Mexico, Poland, Thailand and Turkey. 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 OE and aftermarket applications, including engine bearings, pistons, piston pins, rings, cylinder liners, valve train and transmission products, connecting rods, sealing systems, element resistant systems protection sleeving products, electrical connectors and sockets, disc pads and brake shoes, and ignition, lighting, fuel, wiper and chassis products. The Company's principal customers include many of the world's original equipment manufacturers (“OEM”) of vehicles and industrial products and aftermarket retailers and wholesalers. 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. The Company's principal customers include many of the world's original equipment manufacturers (“OEM”) of vehicles and industrial products and aftermarket retailers and wholesalers.

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. In addition, customers continue to require periodic price 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 a more detailed description of the Company’s business, products, industry, operating strategy and associated risks, refer to the Company’s Annual Report on Form 10-K for the year ended December 31, 2006.

Voluntary reorganization under Chapter 11 and U.K. Administration

The Company and all of its wholly-owned United States subsidiaries filed voluntary petitions on October 1, 2001 for reorganization under Chapter 11 of the United States Bankruptcy Code in the Bankruptcy Court. Also on October 1, 2001, certain of the Company’s United Kingdom subsidiaries filed voluntary petitions for reorganization under Chapter 11 of the Bankruptcy Code with the Bankruptcy Court, and filed petitions for Administration under the United Kingdom Insolvency Act of 1986 in the High Court. The High Court, in November 2006, approved the discharge of the Administration Proceedings for those U.K. subsidiaries that entered into Company Voluntary Arrangements.

The Restructuring Proceedings were initiated in response to a sharply increasing number of asbestos-related claims and their demand on the Company’s cash flows and liquidity. Under the Restructuring Proceedings, the Debtors have been developing and are implementing a plan to address the asbestos-related claims against them.

Consequences of the Restructuring Proceedings

Solicitation packages containing the Third Amended Plan of Reorganization and Disclosure Statement (the “Third Amended Plan”), various supporting documents and a ballot, if appropriate, were mailed on July 12, 2004 to known creditors of the Company and to holders of common and preferred stock interests in the Company. The overwhelming majority of the classes of claims and interests voted to accept the Third Amended Plan. For the few classes of claims that voted to reject the Third Amended Plan, the Unsecured Creditors Committee, the Asbestos Claimants Committee, the Future Asbestos Claimants Representative, the Agent for the Pre-petition Bank Lenders and the Equity Security Holders Committee (collectively referred to as the “Plan Proponents”) intended to either amend the Third Amended Plan so as to obtain such classes’ accepting votes or seek to confirm the Third Amended Plan over the objection of such classes.

Unsecured creditors, including trade creditors, of the U.S. Debtors have the option to either receive shares of the reorganized Company or receive cash distributions under the Plan equal to 35% of their allowed claims, payable in three annual installments, provided that the aggregate payout of all allowed unsecured claims against the U.S. Debtors does not exceed $258 million. Any excess above this amount could result in a reduction in the percentage distribution that the unsecured creditors of the U.S. Debtors ultimately receive.

The Administrators of the U.K. Debtors and the Plan Proponents, on September 26, 2005, entered into an agreement outlining the terms and conditions of distributions to the creditors of the U.K. Debtors (“U.K. Settlement Agreement”). Prior to this agreement, the Company had agreed to sell certain long-term intercompany notes held by T&N Limited (“Loan Notes”) to Deutsche Bank as a means to fund expected distributions to creditors. In accordance with terms of the U.K. Settlement Agreement, the Company elected in December 2005 to retain the Loan Notes. Concurrently, the Loan Notes were transferred from the U.K. Debtors to a combination of a newly created non-debtor wholly-owned subsidiary of the Company and the U.S. parent, as provided in the Loan Note Sale Agreement. A copy of the U.K. Settlement Agreement was filed with the SEC on Form 8-K on September 30, 2005.

The Bankruptcy Court may confirm the plan of reorganization only upon making certain findings required by the Bankruptcy Code, and the plan may be confirmed over the dissent of non-accepting creditors and equity security holders if certain requirements of the Bankruptcy Code are met. The payment rights and other entitlements of pre-petition creditors and equity security holders may be substantially altered by any plan of reorganization confirmed in the Chapter 11 Cases. The pre-petition creditors of some Debtors may be treated differently than those of other Debtors under the proposed Plan. The Company expects the Plan will be confirmed at the confirmation hearing scheduled for June 18, 2007.

Asbestos Liabilities and Related Insurance Recoverable

T&N Ltd. (formerly T&N, plc), during the year ended December 31, 1996, purchased for itself and its then defined global subsidiaries a £500 million layer of insurance which will be triggered should the aggregate costs of claims made or brought after June 30, 1996, where the exposure occurred prior to that date, exceed £690 million. The Company, during the year ended December 31, 2000, concluded that the aggregate cost of the claims filed after June 30, 1996 would exceed the trigger point and recorded an insurance recoverable asset under the T&N policy of $577 million. The recorded insurance recoverable was $701 million as of March 31, 2007. One of the three reinsurers, European International Reinsurance Company Ltd. (“EIR”), in December 2001, filed suit in a London, England court to challenge the validity of its insurance contract with the T&N Companies. As a result of this lawsuit, a claim was made against the broker (Sedgwick) that assisted in procuring this policy for breach of its duties as a broker. This trial commenced in October 2003. The parties were able to reach a settlement prior to the

conclusion of the trial. As a result of this settlement, the Company recorded a $38.9 million asbestos charge during 2003. Under the terms of the settlement, EIR would be liable for 65.5% of its one-third share of the reinsurance policy. By separate agreement, Sedgwick agreed to be liable for an additional 17.25% of the EIR share of the reinsurance policy. T&N Ltd. has also agreed to indemnify the insurer for sums paid under the policy for which the insurer is liable to T&N Ltd. for which the insurer has no recovery from the reinsurers or Sedgwick. The settlement agreements referenced above are being held in escrow pending approval by the Bankruptcy Court and the Administrators of T&N Ltd. of those portions of the above-described settlement agreements that affect the Debtors. A motion seeking the Bankruptcy Court's approval of the settlement was filed on March 1, 2004.

Both Abex and Wagner maintained separate product liability insurance coverage for most of the time that each manufactured products that contained asbestos. This coverage is shared with other third-party companies. The ultimate realization of insurance proceeds is directly related to the amount of related covered valid claims against the Company. If the ultimate asbestos claims are higher than the recorded liability, the Company expects the ultimate insurance recoverable to be higher than the recorded amount. If the ultimate asbestos claims are lower than the

recorded liability, the Company expects the ultimate insurance recoverable to be lower than the recorded amount. While the Restructuring Proceedings and the proposed settlement with Cooper will impact the timing and amount of the asbestos claims and the insurance recoverable, there has been no change to the recorded amounts since the initiation of the Restructuring Proceedings, other than to reflect cash received under this policy, due to the uncertainties created by the Restructuring Proceedings. Accordingly, the recorded amounts for this insurance recoverable asset could change materially based upon events that occur from the Restructuring Proceedings.

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 on Form 10-K for the year ended December 31, 2006.

Consolidated Results

Net sales by reporting segment were:


	Three Months Ended March 31
	2007		2006
	(Millions of Dollars)
Powertrain	$	649	$	568
Sealing Systems		130		124
Vehicle Safety and Performance		198		185
Aftermarket Products and Services		740		723
Corporate		—		—

	$	1,717	$	1,600

The percentage of net sales by group and region are listed below. “SS”, “VSP” and “APS” represent Sealing Systems, Vehicle Safety and Performance, and Aftermarket Products and Services, respectively.


	Three Months Ended March 31
	Powertrain		SS		VSP		APS		Total
2007
Americas	21	%	66	%	43	%	73	%	49	%
Europe	72	%	33	%	55	%	25	%	47	%
Asia	7	%	1	%	2	%	2	%	4	%
2006
Americas	28	%	69	%	46	%	75	%	54	%
Europe	70	%	31	%	53	%	23	%	44	%
Asia	2	%	0	%	1	%	2	%	2	%

Gross margin by reporting segment was:


	Three Months Ended March 31
	2007			2006
	(Millions of Dollars)
Powertrain	$	78		$	83
Sealing Systems		9			12
Vehicle Safety and Performance		50			46
Aftermarket Products and Services		173			165
Corporate		(2	)		(21	)

	$	308		$	285

Net sales increased by $117 million, or 7.3%, to $1,717 million for the first quarter of 2007 from $1,600 million in the same period of 2006. Improved volumes contributed $39 million in additional sales, and the acquisition of a controlling interest in Federal-Mogul Goetze (“FMG”) increased sales by $32 million. The impact of the U.S. dollar weakening against the Euro increased revenues reported by the Company’s European operations by $58 million, in addition to $2 million in favorable movements in other foreign currencies. These increases more than offset customer price reductions of $14 million.

In October 2006, as part of the discharge of U.K. Administration, the Company settled its U.K. pension liabilities and was relieved of responsibility for all U.K. pension benefit obligations. Prior to settlement, the Company was incurring pension expense for the related employees of approximately $11 million per month; $8 million recorded as cost of goods sold, and $3 million recorded as selling, general and administrative expense (“SG&A”). Once the pension was settled, the Company no longer recorded any charges relating to its U.K. pension plans.

Gross margin increased by $23 million to $308 million, or 17.9% of sales for the first quarter of 2007 from $285 million, or 17.8% of sales in the same period of 2006. Increases in margin due to volume and product mix of $7 million, improved manufacturing productivity and operational efficiency of $7 million, foreign currency of $10 million, and the impact of settlement of the U.K. pension plans were partially offset by customer price reductions of $14 million and increased raw material costs of $13 million.

Reporting Segment Results – Three Months Ended March 31, 2007 compared to March 31, 2006

The following table provides a reconciliation of changes in sales and gross margin for the three months ended March 31, 2007 compared with the three months ended March 31, 2006 for each of the Company’s reporting segments. “SS”, “VSP” and “APS” represent Sealing Systems, Vehicle Safety and Performance, and Aftermarket Products and Services, respectively.


	Powertrain			SS			VSP			APS			Corporate			Total
	(Millions of Dollars)
Sales
Three-months ended March 31, 2006	$	568		$	124		$	185		$	723		$	—		$	1,600
Sales volumes		21			4			7			7			—			39
Customer pricing		(8	)		(1	)		(4	)		(1	)		—			(14	)
Acquisition		32			—			—			—			—			32
Foreign currency		36			3			10			11			—			60

Three-months ended March 31, 2007	$	649		$	130		$	198		$	740		$	—		$	1,717


Gross Margin
Three-months ended March 31, 2006	$	83		$	12		$	46		$	165		$	(21	)	$	285
Sales volumes / mix		3			—			5			(1	)		—			7
Customer pricing		(8	)		(1	)		(4	)		(1	)		—			(14	)
Productivity, net of inflation		3			—			4			5			(5	)		7
Raw materials sourcing		(10	)		(2	)		(4	)		3			—			(13	)
Settlement of U.K. pensions		—			—			—			1			24			25
Acquisition		1			—			—			—			—			1
Foreign currency		6			—			3			1			—			10

Three-months ended March 31, 2007	$	78		$	9		$	50		$	173		$	(2	)	$	308

Powertrain

Sales increased by $81 million, or 14.3%, to $649 million for the first quarter of 2007 from $568 million in the same period of 2006. The Powertrain group generates about 70% of its revenue in Europe where the weakening of the U.S. dollar priarily against the euro increased reported sales by $36 million. Sales volumes increased by $21 million and the acquisition of a controlling interest in FMG in May 2006 contributed additional sales of $32 million. Continued customer pricing pressure reduced sales by $8 million.

Although sales volumes increased $21 million globally, weaker market demand in North America from both light vehicle and heavy duty OEMs reduced sales volumes by about $20 million. The most significant weakening occurred in North American heavy duty production as a result of the non-recurrence of 2006 prebuilds in advance of changes in emissions regulations that took effect at the end of 2006. The overall decline in North American volumes was more than offset by increased demand from both light and commercial vehicle OEMs in Europe of about $40 million, including the impact of new program launches.

Gross margin decreased by $5 million to $78 million, or 12.0% of sales, for the first quarter of 2007 compared to $83 million, or 14.5% of sales for the first quarter of 2006. Foreign currency movements increased gross margin by $6 million. The favorable impact of volume, mix and productivity in excess of labor and benefits inflation contributed a further $6 million, which was more than offset by raw material cost inflation of $10 million and customer price reductions of $8 million.

Sealing Systems

Sales increased by $6 million, or 4.8%, to $130 million for the first quarter of 2007 from $124 million in the same period of 2006. Approximately 33% of Sealing Systems’ revenues are generated in Europe and the resulting foreign currency movements increased sales by $3 million. European volumes increased slightly as a result of stronger OEM production, while in North America volumes remained largely flat as the general OEM production decline was offset by higher demand for OE Service (“OES”).

Gross margin decreased by $3 million, to $9 million, or 7.0% of sales, for the first quarter of 2007 compared to $12 million, or 9.8% of sales for the first quarter of 2006. This decrease was due largely to raw material inflation of $2 million and unfavorable customer pricing of $1 million.

Vehicle Safety and Performance

Sales increased by $13 million, or 7.0%, to $198 million for the first quarter of 2007 from $185 million in the same period of 2006. Approximately 55% of VSP sales are in Europe, where foreign currency movements increased sales by $10 million. Sales volumes increased by $7 million, partially offset by customer pricing reductions of $4 million. In North America, higher demand for OES, combined with new program launches mostly offset weaker OEM production in both light vehicle and heavy duty markets. Sales increased slightly in Europe due to stronger OEM production in both light and commercial vehicles.

Gross margin was $50 million, or 25.2% of sales, for the first quarter of 2007 compared to $46 million, or 24.6% of sales, for the first quarter of 2006. Higher sales volumes increased margin by $5 million. Improved productivity, net of inflation, of $4 million and favorable foreign currency of $3 million were more than offset by raw materials inflation of $4 million and customer pricing reductions of $4 million.

Aftermarket Products and Services

Sales increased by $17 million, or 2.3%, to $740 million for the first quarter of 2007, from $723 million in the same period of 2006. This change was due primarily to $7 million in increased sales volumes and $11 million in favorable foreign currency.

Gross margin was $173 million, or 23.3% of sales, for the first quarter of 2007 compared to $165 million, or 22.9% of sales, in the same period of 2006. This increase is primarily a result of improvements in distribution costs of $5 million, and $3 million in lower cost of sourced components.

Corporate

Corporate expenses fell by $19 million principally due to the cessation of the U.K. pension charge following settlement in October 2006 of the U.K. pension liabilities. Prior to settlement, the Company was incurring approximately $8 million per month in pension expense for the related employees.

Selling, General and Administrative Expenses

SG&A expenses were $207 million, or 12.1% of net sales, for the first quarter of 2007 as compared to $228 million, or 14.2% of net sales, for the same quarter of 2006. Selling, general and administrative expenses decreased primarily due to cost savings measures.

Included in SG&A expenses were research and development (“R&D”) costs, including product and validation costs, of $44 million for the quarter ended March 31, 2007 compared with $41 million for the same period in 2006. As a percentage of OE sales, R&D was 4.5% and 4.7% for the quarters ended March 31, 2007 and 2006, respectively. 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. Federal-Mogul’s research and development activities are conducted at the Company's major research centers in Burscheid, Germany; Nuremberg, Germany; Wiesbaden, Germany; Bad Camberg, Germany; Chapel, United Kingdom; Plymouth, Michigan; Skokie, Illinois, Ann Arbor, Michigan and Yokohama, Japan.

Interest Expense, net

Net interest expense was $50 million in the first quarter of 2007 compared to $39 million for the same quarter of 2006. The increase is due to higher average interest rates on all debt, and the loss of interest income of $7 million on the restricted U.K. cash balance of approximately $700 million held during 2006.

As a condition of granting the amended DIP credit facility priority over the collateral interest of the Senior Credit Agreements, the Bankruptcy Court ordered that the noteholders receive, in cash, adequate protection payments equal to one-half of one percent (0.5%) of the outstanding notes per year. These cash payments, which approximate $2.6 million per quarter, are recorded as interest expense in the statement of operations. All cash adequate protection payments made to the noteholders are provisional in nature and are subject to recharacterization, credit against allowed claims or other relief if the Bankruptcy Court were to ultimately conclude that the noteholders were not entitled to such payments.

In connection with the Restructuring Proceedings and in accordance with SOP 90-7, the Company ceased recording interest expense on its outstanding pre-petition Notes, Medium-Term Notes and Senior Notes effective October 1, 2001.

Restructuring Activities

The following is a summary of the Company’s consolidated restructuring reserves and related activity as of and for the three months ended March 31, 2007.


	Powertrain			SS			VSP			APS			Corporate		Total
	(Millions of dollars)
Balance of reserves at December 31, 2006	$	22.1		$	10.0		$	0.4		$	7.6		$	—	$	40.1
Provisions		6.8			2.6			1.3			5.5			0.1		16.3
Reversals		(0.1	)		(0.1	)		—			—			—		(0.2	)
Payments		(9.8	)		(4.9	)		(0.7	)		(2.3	)		—		(17.7	)
Foreign currency		—			0.1			—			0.1			—		0.2

Balance of reserves at March 31, 2007	$	19.0		$	7.7		$	1.0		$	10.9		$	0.1	$	38.7

The Company’s restructuring reserve balances are principally comprised of severance and employee-related costs.

Adjustment of Assets to Fair Value

During the three month periods ended March 31, 2007 and 2006, the Company recorded charges of $0.3 million and $20.1 million, respectively, to adjust property, plant and equipment to their estimated fair values in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” The fair value of property, plant and equipment is based upon estimated discounted future cash flows and estimates of salvage value. The impairment charge represents the difference between the estimated fair values and the carrying value of the subject assets.

Impairment charges by reporting segment are as follows:


	March 31
	2007		2006
	Millions of Dollars
Powertrain	$	—	$	13.6
Sealing Systems		—		6.5
Vehicle Safety and Performance		—		—
Aftermarket Products and Services		0.3		—
Corporate		—		—

	$	0.3	$	20.1

Chapter 11 and U.K. Administration Related Reorganization Expenses

During the three months ended March 31, 2007 and 2006, the Company recorded Chapter 11 and U.K. Administration related reorganization expenses of $13.6 million and $21.1 million, respectively. These expenses fluctuate largely based upon the necessity for professional services by third-party advisors in connection with the Restructuring Proceedings.


	Three Months Ended March 31
	2007		2006
	(Millions of Dollars)
Professional fees directly related to the filing	$	11.7	$	17.3
Critical employee retention costs		1.9		3.8

	$	13.6	$	21.1

Cash payments for Chapter 11 and U.K. Administration related reorganization expenses totaled $14.9 million and $29.3 million for the three months ended March 31, 2007 and 2006, respectively.

Income Tax Expense

The Company adopted FASB Interpretation No. 48,Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109 (“FIN 48”) as of January 1, 2007. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in companies financial statements in accordance with FASB Statement No. 109,Accounting for Income Taxes. As a result, the Company applies a more-likely-than-not recognition threshold for all tax uncertainties. FIN 48 only allows the recognition of those tax benefits that have a greater than 50% likelihood of being sustained upon examination by the taxing authorities. As a result of implementing FIN 48, the company recognized a $13.8 million decrease in the reserve for unrecognized tax benefits, which was accounted for as a reduction to the January 1, 2007 total shareholders’ deficit.

Litigation and Environmental Contingencies

For a summary of material litigation and environmental contingencies, refer to Note 16 of the consolidated financial statements, “Litigation and Environmental Matters”.

Liquidity and Capital Resources

Cash Flow

Cash flow provided from operating activities was $50 million for the first quarter of 2007, compared to cash provided from operating activities of $55 million in the same for the comparable period of 2006.

Cash flow used by investing activities was $38 million in the first three months of 2007. Capital expenditures of $55 million were partially offset by proceeds from the sale of property, plant and equipment of $17 million.

Cash flow used by financing activities was $49 million for the first three months of 2007 primarily resulting from cash used by the Company’s factoring arrangements.

Chapter 11 Financing

The amended DIP credit facility contains restrictive covenants. The more significant of these covenants include the maintenance of certain levels of earnings before interest, taxes, depreciation and amortization and limitations on quarterly capital expenditures. Additional covenants include, but are not limited to, restrictions on the early retirement of debt, additional borrowings, payment of dividends and the sale of assets or businesses.

The Company has pledged 100% of the capital stock of certain U.S. subsidiaries, 65% of capital stock of certain foreign subsidiaries and certain intercompany loans to secure the Senior Credit Agreements of the Company. Certain of such pledges also extend to the Notes, Medium-Term Notes and Senior Notes. In addition, certain subsidiaries of the Company have guaranteed the senior debt (refer to Note 19, “Consolidating Condensed Financial Information of Guarantor Subsidiaries.”)

The Company's ability to obtain cash adequate to fund its needs depends generally on the results of its operations, restructuring initiatives, the Bankruptcy Court’s approval of management’s plans and the availability of financing. Management believes that cash on hand, cash flow from operations, and available borrowings under its DIP credit facility will be sufficient to fund capital expenditures and meet its post-petition operating obligations through the anticipated date of emergence from Chapter 11 in the U.S., expected in mid-2007. In connection with emerging from Chapter 11 Bankruptcy, the Company will be required to negotiate its debt financing structure, including the repayment of the DIP credit facility. In the event the Company does not emerge from Chapter 11 prior to the expiration of the DIP credit facility, the Company would be required to renegotiate this facility. In the longer term, the Company believes that the benefits from its announced restructuring programs and favorable resolution of its asbestos liability through Chapter 11 will provide adequate long-term cash flows. However, there can be no assurance that such initiatives are achievable in this regard or that the terms available for any future financing, if required, would be available or favorable to the Company. Also, resolutions of certain obligations, particularly asbestos obligations, are impacted by factors outside the Company’s control. Given these uncertainties, the Company’s auditors have raised substantial doubt regarding the Company’s ability to continue as a going concern.

At March 31, 2007, the Company was in compliance with all debt covenants under its existing DIP credit facility. Based on current forecasts, the Company expects to be in compliance through the expiration of the facility and any extention thereof. Changes in the business environment, market factors, macro-economic factors, or the Company’s ability to achieve its forecasts and other factors outside of the Company’s control, could adversely impact its ability to remain in compliance with debt covenants. If the Company were to not be in compliance at a measurement date, the Company would be required to renegotiate its facility. No assurance can be provided as to the impact of such actions.

Other Liquidity and Capital Resource Items

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 for the purpose of manufacturing and marketing automotive parts including pistons, pins, piston rings, 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 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. 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. As of March 31, 2007, the total amount of the contingent guarantee, were all triggering events to occur, approximated $55 million. Management believes that this contingent guarantee is substantially less than the estimated current fair value of the joint venture partner’s interest in the affiliate. If this put option is exercised at its estimated current fair value, such exercise would have a material effect on the Company’s liquidity. Any value in excess of the minimum guaranteed amount of the put option would be the subject of negotiation between the Company and its joint venture partner.

In accordance with SFAS No. 150,Accounting for Certain Financial Instruments with Characteristics of BothLiabilities and Equity, 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 and Spain are party to accounts receivable factoring and discounting arrangements. Gross accounts receivable factored or discounted under these facilities were $290 million and $272 million as of March 31, 2007 and December 31, 2006, respectively. Of those gross amounts, $264 million and $252 million, respectively, were factored without recourse and treated as a sale under Statement of Financial Accounting Standards (“SFAS”) No. 140,Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities. Under terms of these factoring arrangements, the Company is not obligated to draw cash immediately upon the factoring of accounts receivable. Thus, as of March 31, 2007 and December 31, 2006, the Company had outstanding factored amounts of $8 million and $9 million, respectively, for which cash had not yet been drawn. Expenses associated with receivables factored or discounted are recorded in the statement of operations within “other income, net.”

ITEM 3.

QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK

In the normal course of business, the Company is subject to market exposure from changes in foreign currency exchange rates, interest rates and raw material prices. To manage a portion of these inherent risks, the Company purchases various derivative financial instruments and commodity futures contracts to hedge against unfavorable market changes. The Company does not hold or issue derivative financial instruments for trading or speculative purposes.

Foreign Currency Risk

The Company is subject to the risk of changes in foreign currency exchange rates due to its global operations. 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 distributes its products. The Company's operating results are primarily exposed to changes in exchange rates between the U.S. dollar and European currencies.

As currency exchange rates change, translation of the statements of operations of the Company's international businesses into United States dollars affects year-over-year comparability of operating results. The Company does not generally hedge operating translation risks because cash flows from international operations are generally reinvested locally. Changes in foreign currency exchange rates are generally reported as a component of stockholders’ deficit for the Company’s foreign subsidiaries reporting in local currencies and as a component of income for its foreign subsidiaries using the U.S. dollar as the functional currency. The Company’s other comprehensive loss was decreased by $17 million and $6 million for the three months ended March 31, 2007 and 2006, respectively, due to cumulative translation adjustments resulting primarily from changes in the U.S. Dollar to the Euro and British Pound.

The Company, from time to time, manages certain aspects of its foreign currency activities and larger transactions through the use of foreign currency options or forward contracts. The Company generally tries to utilize natural hedges within its foreign currency activities, including the matching of revenues and costs. The Company did not have any foreign currency hedge contracts outstanding at March 31, 2007.

Interest Rate Risk

In connection with the Restructuring Proceedings, the Company entered into a debtor-in-possession (“DIP”) credit facility to supplement liquidity and fund operations during the Restructuring Proceedings. The Company’s current DIP credit facility expires in July 2007, and the interest rate is either the alternate base rate (“ABR”) plus 1¹/4 percentage points or the London Inter-Bank Offered Rate (“LIBOR”) plus 2¹/4 percentage points. The ABR is the greater of either the bank’s base rate or the federal funds rate plus¹/2 percentage point. In addition, the commitment available under the DIP credit facility is mandatorily reduced by a portion of proceeds received from future asset or business divestitures. The amount outstanding from the DIP facility as of March 31, 2007 was approximately $373 million.

Management believes that, due to the level of outstanding borrowings on the Company’s DIP credit facility, interest rate risk to the Company could be material if there are significant adverse changes in interest rates. However, management cannot predict with any certainty the level of interest rate risk that may exist following the completion of the Restructuring Proceedings.

Commodity Price Risk

The Company is dependent upon the supply of certain raw materials used in its production processes; these raw materials 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 these forecasted purchases. The Company monitors its commodity price risk exposures periodically to maximize the overall effectiveness of its commodity forward contracts, including exposures related to natural gas, copper, nickel, lead, 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 122 contracts outstanding with a combined notional value of $94.0 million at March 31, 2007. Unrealized gains of approximately $10 million for the three months ended March 31, 2007 were recorded to “other (income) expense, net.”

Management believes that commodity price risk associated with its outstanding commodity contracts is immaterial due to the low volume of commodity forward contract activity.

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 March 31, 2007, 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 March 31, 2007, at the reasonable assurance level previously described.

The acquisition of the controlling interest in Federal-Mogul Goetze India Limited (“FMG”) expands the Company’s internal control over financial reporting. The evaluation of the effectiveness of the design and operation of our disclosure controls and procedures excluded the internal controls over financial reporting at FMG.

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 March 31, 2007, the Company's management, with the participation of the principal executive and financial officers, has evaluated for disclosure, changes to the Company's internal control over financial reporting that occurred during the fiscal quarter ended March 31, 2007 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 first quarter of 2007.

PART II

OTHER INFORMATION

ITEM 1.

LEGAL PROCEEDINGS

(a)

Contingencies.

Note 16 to the Consolidated Financial Statements, “Litigation and Environmental Matters”, that is included in Part I of this report, is incorporated herein by reference.

ITEM 3.

DEFAULTS UPON SENIOR SECURITIES

Virtually all of the Company’s pre-petition debt is in default due to the Restructuring Proceedings. See Note 2 “Voluntary Reorganization Under Chapter 11 and U.K. Administration” to the Company’s consolidated financial statements.

The Company-Obligated Mandatorily Redeemable Preferred Securities are in default due to the Restructuring Proceedings. See Note 2 “Voluntary Reorganization Under Chapter 11 and U.K. Administration” to the Company’s consolidated financial statements.

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.

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/ G. Michael Lynch
				G. Michael Lynch
		Executive Vice President and Chief Financial Officer, Principal Financial Officer


		By:		/s/ Alan J. Haughie
				Alan J. Haughie
		Vice President, Controller, and Chief Accounting Officer

Dated: May 1, 2007

Positive
Negative
Uncertain
Constraining
Legalese
Litigous
Readability	H.S. freshman Bad

Federal Mogul (FDMLQ) Inactive 10-Q2007 Q1 Quarterly report

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