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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2001
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ___________________ to ___________________
Commission file number 333-76473
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EQUISTAR CHEMICALS, LP
(Exact name of registrant as specified in its charter)
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Delaware 76-0550481
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1221 McKinney Street, 77010
Suite 700, Houston, Texas (Zip Code)
(Address of principal executive offices)
Registrant's telephone number, including area code: (713) 652-7200
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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 [ ]
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PART I. FINANCIAL INFORMATION
EQUISTAR CHEMICALS, LP
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
CONSOLIDATED STATEMENTS OF INCOME
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------- ------------------------
MILLIONS OF DOLLARS 2001 2000 2001 2000
- ------------------- ------ ------ ------ ------
SALES AND OTHER OPERATING REVENUES:
Unrelated parties $1,239 $1,426 $2,552 $2,862
Related parties 361 473 821 895
------ ------ ------ ------
1,600 1,899 3,373 3,757
OPERATING COSTS AND EXPENSES:
Cost of sales:
Unrelated parties 1,194 1,257 2,507 2,588
Related parties 328 377 738 744
Selling, general and administrative expenses 45 49 91 93
Research and development expense 10 10 20 19
Amortization of goodwill 9 8 17 16
Unusual charges - - - - 22 - -
------ ------ ------ ------
1,586 1,701 3,395 3,460
------ ------ ------ ------
Operating income (loss) 14 198 (22) 297
Interest expense (45) (45) (91) (91)
Interest income - - 1 - - 2
Other income (expense), net 1 (2) 6 - -
------ ------ ------ ------
NET INCOME (LOSS) $ (30) $ 152 $ (107) $ 208
====== ====== ====== ======
See Notes to Consolidated Financial Statements.
1
EQUISTAR CHEMICALS, LP
CONSOLIDATED BALANCE SHEETS
JUNE 30, DECEMBER 31,
MILLIONS OF DOLLARS 2001 2000
- ------------------- -------- --------
ASSETS
Current assets:
Cash and cash equivalents $ 57 $ 18
Accounts receivable:
Trade, net 477 568
Related parties 134 190
Inventories 542 506
Prepaid expenses and other current assets 21 50
------ ------
Total current assets 1,231 1,332
Property, plant and equipment, net 3,759 3,819
Investment in PD Glycol 52 53
Goodwill, net 1,069 1,086
Other assets 280 292
------ ------
Total assets $6,391 $6,582
======= ======
LIABILITIES AND PARTNERS' CAPITAL
Current liabilities:
Accounts payable:
Trade $ 380 $ 426
Related parties 34 61
Current maturities of long-term debt 190 90
Other accrued liabilities 150 166
------ ------
Total current liabilities 754 743
Long-term debt, less current maturities 2,058 2,158
Other liabilities 149 141
Commitments and contingencies
Partners' capital:
Partners' accounts 3,432 3,540
Accumulated other comprehensive loss (2) - -
------ ------
Total partners' capital 3,430 3,540
------ ------
Total liabilities and partners' capital $6,391 $6,582
====== ======
See Notes to Consolidated Financial Statements.
2
EQUISTAR CHEMICALS, LP
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED
JUNE 30,
-------------------------------
MILLIONS OF DOLLARS 2001 2000
- ------------------- -------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $(107) $ 208
Adjustments to reconcile net income (loss) to net
cash provided by operating activities:
Depreciation and amortization 159 152
Decrease (increase) in accounts receivable 145 (81)
Increase in inventories (34) (43)
(Decrease) increase in accounts payable (73) 98
Decrease in other accrued liabilities (16) (90)
Net change in other working capital accounts 29 9
Net (gain) loss on disposition of property, plant and equipment (3) 2
Other (5) 4
----- -----
Net cash provided by operating activities 95 259
----- -----
CASH FLOWS FROM INVESTING ACTIVITIES:
Expenditures for property, plant and equipment (53) (48)
Purchase of business from AT Plastics, Inc. (7) - -
Proceeds from sales of assets 4 3
----- -----
Net cash used in investing activities (56) (45)
----- -----
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowing under lines of credit - - 20
Repayment of long-term debt - - (42)
Distributions to partners - - (230)
----- -----
Net cash used in financing activities - - (252)
----- -----
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 39 (38)
Cash and cash equivalents at beginning of period 18 108
----- -----
Cash and cash equivalents at end of period $ 57 $ 70
===== =====
See Notes to Consolidated Financial Statements.
3
EQUISTAR CHEMICALS, LP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. BASIS OF PREPARATION
The accompanying unaudited consolidated financial statements have been prepared
in accordance with accounting principles generally accepted in the United States
of America for interim financial information and with the instructions to Form
10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of
the information and footnotes required by accounting principles generally
accepted in the United States of America for complete financial statements. In
the opinion of management, all adjustments, consisting only of normal, recurring
adjustments considered necessary for a fair presentation, have been included.
For further information, refer to the consolidated financial statements and
notes thereto for the year ended December 31, 2000 included in the Equistar
Chemicals, LP ("Equistar" or "Partnership") 2000 Annual Report on Form 10-K
pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934. Certain
amounts from prior periods have been reclassified to conform to the current
period presentation.
2. COMPANY OPERATIONS
Equistar is a Delaware limited partnership, which commenced operations on
December 1, 1997. Equistar is owned 41% by Lyondell Chemical Company
("Lyondell"), 29.5% by Millennium Chemicals Inc. ("Millennium), and 29.5% by
Occidental Petroleum Corporation ("Occidental").
Equistar owns and operates the petrochemicals and polymers businesses
contributed by Lyondell, Millennium and Occidental ("Contributed Businesses")
which consist of 18 manufacturing facilities primarily on the U.S. Gulf Coast
and in the U.S. Midwest. The petrochemicals segment manufactures and markets
olefins, oxygenated products, aromatics and specialty products. Olefins include
ethylene, propylene and butadiene, and oxygenated products include ethylene
oxide, ethylene glycol, ethanol and methyl tertiary butyl ether ("MTBE"). The
petrochemicals segment also includes the production and sale of aromatics,
including benzene and toluene. The polymers segment manufactures and markets
polyolefins, including high-density polyethylene ("HDPE"), low-density
polyethylene ("LDPE"), linear low-density polyethylene ("LLDPE"), polypropylene,
and performance polymers, all of which are used in the production of a wide
variety of consumer and industrial products. The performance polymers include
enhanced grades of polyethylene, including wire and cable insulating resins, and
polymeric powders. Effective June 1, 2001, Equistar expanded its wire and cable
business through the acquisition of the low- and medium-voltage power cable
materials business of AT Plastics, Inc. Equistar accounted for the acquisition
as a purchase, allocating $5 million of the purchase price to property, plant
and equipment and $2 million to inventory.
3. UNUSUAL CHARGES
Equistar discontinued production at its Port Arthur, Texas polyethylene facility
on February 28, 2001 and shut down the facility. The asset values of the Port
Arthur production units were previously adjusted as part of a $96 million
restructuring charge recognized in 1999. During the first quarter 2001,
Equistar recorded a $22 million additional charge, which included environmental
remediation liabilities of $7 million (see Note 8), severance benefits of $5
million, pension benefits of $2 million, and other exit costs of $3 million.
The severance and pension benefits covered approximately 125 people employed at
the Port Arthur facility. The remaining $5 million of the charge relates
primarily to the write down of certain inventories. Payments of $3 million and
$1 million for severance and exit costs, respectively, were made through June
30, 2001.
4
4. INVENTORIES
The components of inventories consisted of the following:
JUNE 30, DECEMBER 31,
MILLIONS OF DOLLARS 2001 2000
- ------------------- -------- ------------
Finished goods $ 266 $ 273
Work-in-process 24 16
Raw materials 159 123
Materials and supplies 93 94
----- -----
Total inventories $ 542 $ 506
===== =====
5. PROPERTY, PLANT AND EQUIPMENT, NET
The components of property, plant and equipment, at cost, and the related
accumulated depreciation consisted of the following:
JUNE 30, DECEMBER 31,
MILLIONS OF DOLLARS 2001 2000
- ------------------- -------- ------------
Land $ 81 $ 78
Manufacturing facilities and equipment 5,849 5,769
Construction in progress 105 134
------ ------
Total property, plant and equipment 6,035 5,981
Less accumulated depreciation 2,276 2,162
------ ------
Property, plant and equipment, net $3,759 $3,819
====== ======
6. LONG-TERM DEBT
Long-term debt consisted of the following:
JUNE 30, DECEMBER 31,
MILLIONS OF DOLLARS 2001 2000
- ------------------- -------- ------------
Bank credit facilities:
5-year revolving credit facility $ 820 $ 820
Other debt obligations:
Medium-term notes (due 2001-2005) 121 121
9.125% Notes due 2002 100 100
8.50% Notes due 2004 300 300
6.50% Notes due 2006 150 150
8.75% Notes due 2009 598 598
7.55% Debentures due 2026 150 150
Other 9 9
------ ------
Total long-term debt 2,248 2,248
Less current maturities 190 90
------ ------
Total long-term debt, net $2,058 $2,158
====== ======
In March 2001, Equistar secured an amendment to its credit facility making
certain financial ratio requirements less restrictive. As a result of the
amendment, the interest rate on the credit facility was increased from LIBOR
plus 5/8 of 1% to LIBOR plus 8/10 of 1%.
Equistar expects to implement a new financing package in the third quarter of
2001. The financing will include an underwritten secured $1.0 billion credit
facility with term and revolving credit facilities. The financing also
contemplates $500 million of 7-year, non-call senior unsecured notes, which will
rank pari passu with existing
5
Equistar notes. The term and revolving credit facilities will extend the
maturity of Equistar's existing credit facility. In addition, given the poor
current business environment, Equistar anticipates that certain financial ratio
requirements will be less restrictive in the term and revolving credit
facilities. The senior unsecured notes will be offered only to qualified
institutional buyers. Such notes will not be registered under the Securities Act
of 1933 and may not be offered or sold in the United States absent registration
or an application exemption from registration.
Lyondell remains a guarantor of certain Equistar debt. The consolidated
financial statements (unaudited) of Lyondell are filed as an exhibit to
Equistar's Quarterly Report on Form 10-Q for the quarterly period ended June 30,
2001.
7. DERIVATIVE FINANCIAL INSTRUMENTS
Equistar enters into over-the-counter "derivatives", or price swap contracts,
for crude oil with Occidental Energy Marketing, Inc., a subsidiary of
Occidental, to help manage its exposure to commodity price risk with respect to
crude-oil related raw material purchases.
As of January 1, 2001, Equistar adopted Statement of Financial Accounting
Standards ("SFAS") No. 133, Accounting for Derivative Instruments and Hedging
Activities, as amended by SFAS No. 138, Accounting for Certain Derivative
Instruments and Certain Hedging Activities. Under SFAS No. 133, all derivative
instruments are recorded on the balance sheet at fair value. Currently, Equistar
primarily uses cash flow hedges. Gains or losses from changes in the fair value
of the derivative used in a cash flow hedge are deferred in accumulated other
comprehensive income, to the extent the hedge is effective, and subsequently
reclassified to earnings to offset the impact of the forecasted transaction.
Equistar's Partnership Governance Committee has authorized Equistar to enter
into certain hedge transactions, but does not permit speculative positions.
Equistar formally documents all relationships between hedging instruments and
hedged items, as well as its risk management objectives and strategy for
undertaking the hedge. This process includes specific identification of the
hedging instrument and the hedge transaction, the nature of the risk being
hedged and the method for assessing the hedging instrument's effectiveness.
Both at the inception of the hedge and on an ongoing quarterly basis, Equistar
assesses whether the derivatives that are used in hedging transactions are
highly effective in offsetting changes in cash flows of hedged items.
At December 31, 2000, price swap contracts covering 5.1 million barrels of crude
oil were outstanding. The carrying value and fair market value of these
derivative instruments at December 31, 2000 represented a liability of $13
million and was based on quoted market prices. The related loss was deferred on
the consolidated balance sheet. On January 1, 2001, in accordance with the
transition provisions of SFAS No. 133, Equistar reclassified the deferred loss
of $13 million to accumulated other comprehensive income as a transition
adjustment, representing the cumulative effect of an accounting change (see Note
9).
As of June 30, 2001, the outstanding price swap contracts, which mature from
July 2001 through March 2002, covered 7.2 million barrels of crude oil. The
contracts were recognized at their fair value on June 30, 2001, resulting in an
unrealized loss of $2 million, of which 97% was deemed effective and recognized
in accumulated other comprehensive income. The ineffective portion, which was
less than $1 million, was recorded as a component of cost of sales in the
consolidated statements of income. The $2 million loss recorded in accumulated
other comprehensive income includes the unrecognized portion of the transition
adjustment and is expected to be reclassified to the consolidated statements of
income from July 2001 through March 2002.
During the second quarter 2001, Equistar entered into put options covering 1.9
million barrels of crude oil. The put options were not treated as hedges for
financial reporting purposes, but are intended to reduce Equistar's crude oil-
based raw material costs. As of June 30, 2001, the outstanding put option
contracts, which mature from August 2001 through December 2001, covered 1.7
million barrels of crude oil.
6
The following table summarizes activity affecting the fair value of derivative
instruments for the three and six months ended June 30, 2001:
FOR THE THREE FOR THE SIX
MONTHS ENDED MONTHS ENDED
MILLIONS OF DOLLARS JUNE 30, 2001 JUNE 30, 2001
- ------------------- ------------- -------------
Accumulated other comprehensive income (loss):
Balance at beginning of period $(2) $- -
January 1, 2001 transition adjustment -
reclassification of December 31, 2000 deferred loss - - (13)
Unrealized gains on derivative instruments 8 18
Reclassification of realized gains on
maturing derivative instruments to earnings (8) (7)
--- ----
Unrealized loss on derivative instruments at June 30, 2001 $(2) $ (2)
=== ====
8. COMMITMENTS AND CONTINGENCIES
Commitments--Equistar has various purchase commitments for materials, supplies
and services incident to the ordinary conduct of business. In the aggregate,
such commitments are not at prices in excess of current market.
Indemnification Arrangements--Lyondell, Millennium and Occidental have each
agreed to provide certain indemnifications to Equistar with respect to the
petrochemicals and polymers businesses contributed by the partners. In
addition, Equistar agreed to assume third party claims that are related to
certain pre-closing contingent liabilities that are asserted prior to December
1, 2004 for Lyondell and Millennium, and May 15, 2005 for Occidental, to the
extent the aggregate thereof does not exceed $7 million to each partner, subject
to certain terms of the respective asset contribution agreements. As of June
30, 2001, Equistar had incurred a total of $17 million for these uninsured
claims and liabilities. Equistar also agreed to assume third party claims that
are related to certain pre-closing contingent liabilities that are asserted for
the first time after December 1, 2004 for Lyondell and Millennium, and for the
first time after May 15, 2005 for Occidental.
Environmental--Equistar's policy is to be in compliance with all applicable
environmental laws. Equistar is subject to extensive environmental laws and
regulations concerning emissions to the air, discharges to surface and
subsurface waters and the generation, handling, storage, transportation,
treatment and disposal of waste materials. Some of these laws and regulations
are subject to varying and conflicting interpretations. Equistar cannot
accurately predict future developments, such as increasingly strict requirements
of environmental laws, inspection and enforcement policies and compliance costs
therefrom which might affect the handling, manufacture, use, emission or
disposal of products, other materials or hazardous and non-hazardous waste.
Equistar's accrued liability for environmental matters as of June 30, 2001 was
$7 million and related to the Port Arthur facility, which was permanently shut
down on February 28, 2001.
The eight-county Houston/Galveston region has been designated a severe non-
attainment area for ozone by the U.S. Environmental Protection Agency ("EPA").
As a result, the Texas Natural Resource Conservation Commission ("TNRCC") has
submitted a plan to the EPA to reach and demonstrate compliance with the ozone
standard by November 2007. Ozone is a product of the reaction between volatile
organic compounds ("VOCs") and nitrogen oxides ("NOx") in the presence of
sunlight, and is a principal component of smog. The proposed plans for meeting
the ozone standard focus on significant reductions in NOx emissions. NOx
emission reduction controls must be installed at each of Equistar's six plants
located in the Houston/Galveston region during the next several years, well in
advance of the 2007 deadline. Compliance with the plan will result in increased
capital investment, which could be between $150 million and $300 million before
the 2007 deadline, as well as higher annual operating costs for Equistar. The
timing and amount of these expenditures are subject to regulatory and other
uncertainties, as well as obtaining the necessary permits and approvals.
Equistar has been actively involved with a number of organizations to help solve
the ozone problem in the most cost-effective manner and, in January 2001,
Equistar and an organization composed of industry participants filed a lawsuit
against the TNRCC to encourage adoption of their alternative plan to achieve the
same air quality improvement with less negative economic impact on the region.
In
7
June 2001, the parties entered into a consent order with respect to the lawsuit.
Pursuant to the consent order, the TNRCC agreed to review, by June 2002, the
scientific data for ozone formation in the Houston/Galveston region. If the
TNRCC scientific review supports the industry group proposal, the TNRCC has
agreed to revise the NOx emission reduction requirements set forth in its
original plan. Such revision of the NOx emission reduction requirements would
reduce Equistar's estimated capital investments required to comply with the
plans for meeting the ozone standard.
In the United States, the Clean Air Act Amendments of 1990 set minimum levels
for oxygenates, such as MTBE, in gasoline sold in areas not meeting specified
air quality standards. However, while studies by federal and state agencies and
other organizations have shown that MTBE is safe for use in gasoline, is not
carcinogenic and is effective in reducing automotive emissions, the presence of
MTBE in some water supplies in California and other states due to gasoline
leaking from underground storage tanks and in surface water from recreational
water craft has led to public concern that MTBE may, in certain limited
circumstances, affect the taste and odor of drinking water supplies, and thereby
lead to possible public concerns.
Certain federal and state governmental initiatives have sought either to rescind
the oxygenate requirement for reformulated gasoline or to restrict or ban the
use of MTBE. Such actions, to be effective, would require (i) a waiver of the
state's oxygenate mandate, (ii) Congressional action in the form of an amendment
to the Clean Air Act or (iii) replacement of MTBE with another oxygenate such as
ethanol, a more costly, untested, and less widely available additive.
California has twice sought a waiver of its oxygenate mandate. California's
request was denied by both the Clinton Administration and the Bush
Administration. At the federal level, a blue ribbon panel appointed by the EPA
issued its report on July 27, 1999. That report recommended, among other
things, reducing the use of MTBE in gasoline. During 2000, the EPA announced
its intent to seek legislative changes from Congress to give the EPA authority
to ban MTBE over a three-year period. Such action would only be granted through
amendments to the Clean Air Act. Additionally, the EPA is seeking a ban of MTBE
utilizing rulemaking authority contained in the Toxic Substance Control Act. It
would take at least three years for such a rule to issue. In January 2001,
however, senior policy analysts at the U.S. Department of Energy presented a
study stating that banning MTBE would create significant economic risk. The
study did not identify any benefits from banning MTBE. Additionally, in early
2001, after a thorough evaluation of MTBE conducted in connection with proposed
amendments to the 1998 European Council directive on gasoline and diesel fuel
specifications, the European Union concluded that the use of MTBE in gasoline
does not present a health risk to the community or a risk to the environment,
and decided not to restrict the use of MTBE in the European Union. The EPA
initiatives mentioned above or other governmental actions could result in a
significant reduction in Equistar's MTBE sales. Equistar has developed
technologies to convert its process to produce alternate gasoline blending
components should it be necessary to reduce MTBE production in the future.
General-The Partnership is also subject to various lawsuits and proceedings.
Subject to the uncertainty inherent in all litigation, management believes the
resolution of these proceedings will not have a material adverse effect upon the
financial statements or liquidity of Equistar.
In the opinion of management, any liability arising from the matters discussed
in this Note is not expected to have a material adverse effect on the financial
statements or liquidity of Equistar. However, the adverse resolution in any
reporting period of one or more of these matters discussed in this Note could
have a material impact on Equistar's results of operations for that period
without giving effect to contribution or indemnification obligations of co-
defendants or others, or to the effect of any insurance coverage that may be
available to offset the effects of any such award.
8
9. COMPREHENSIVE INCOME
Comprehensive income (loss) consisted of the following:
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------- --------------------------
2001 2000 2001 2000
---- ---- ---- ----
Net income (loss) $ (30) $ 152 $(107) $ 208
----- ----- ----- -----
Other comprehensive income (loss):
SFAS No. 133 transition adjustment - - - - (13) - -
Unrealized gains on derivative
instruments - effective portion 8 - - 18 - -
Reclassification of gains
on derivative instruments to earnings (8) - - (7) - -
Unrealized gains on securities 1 - - - - - -
----- ----- ----- -----
Total other comprehensive income (loss) 1 - - (2) - -
----- ----- ----- -----
Comprehensive income (loss) $ (29) $ 152 $(109) $ 208
===== ===== ===== =====
The transition adjustment represents the cumulative effect of an accounting
change, resulting from the adoption of SFAS No. 133 as of January 1, 2001.
Equistar accounts for certain investments as "available-for-sale" securities in
accordance with the provisions of SFAS No. 115, Accounting for Certain
Investments in Debt and Equity Securities. Accordingly, changes in the fair
value of the investments are recognized in the balance sheet and the unrealized
holding gains and losses are recognized in other comprehensive income.
9
10. SEGMENT AND RELATED INFORMATION
Equistar has two reportable segments in which it operates: (i) petrochemicals;
and (ii) polymers. Summarized financial information concerning Equistar's
reportable segments is shown in the following table:
MILLIONS OF DOLLARS PETROCHEMICALS POLYMERS UNALLOCATED ELIMINATIONS TOTAL
- ------------------- -------------- -------- ----------- ------------ -----
FOR THE THREE MONTHS ENDED JUNE 30, 2001:
Sales and other operating revenues:
Customers $1,084 $ 516 $ - - $ - - $1,600
Intersegment 391 - - - - (391) - -
------------------------------------------------------------
Total sales and operating revenues 1,475 516 - - (391) 1,600
Operating income (loss) 81 (23) (44) - - 14
Interest expense - - - - (45) - - (45)
Other income, net - - - - 1 - - 1
Net income (loss) 81 (23) (88) - - (30)
FOR THE THREE MONTHS ENDED JUNE 30, 2000:
Sales and other operating revenues:
Customers $1,304 $ 595 $ - - $ - - $1,899
Intersegment 466 - - - - (466) - -
------------------------------------------------------------
Total sales and operating revenues 1,770 595 - - (466) 1,899
Operating income (loss) 267 (23) (46) - - 198
Interest expense - - - - (45) - - (45)
Interest income - - - - 1 - - 1
Other expense, net - - - - (2) - - (2)
Net income (loss) 267 (23) (92) - - 152
FOR THE SIX MONTHS ENDED JUNE 30, 2001:
Sales and other operating revenues:
Customers $2,315 $1,058 $ - - $ - - $3,373
Intersegment 849 - - - - (849) - -
------------------------------------------------------------
Total sales and operating revenues 3,164 1,058 - - (849) 3,373
Operating income (loss) 196 (112) (106) - - (22)
Interest expense - - - - (91) - - (91)
Other income, net - - - - 6 - - 6
Net income (loss) 196 (112) (191) - - (107)
FOR THE SIX MONTHS ENDED JUNE 30, 2000:
Sales and other operating revenues:
Customers $2,546 $1,211 $ - - $ - - $3,757
Intersegment 940 - - - - (940) - -
------------------------------------------------------------
Total sales and operating revenues 3,486 1,211 - - (940) 3,757
Operating income (loss) 439 (54) (88) - - 297
Interest expense - - - - (91) - - (91)
Interest income - - - - 2 - - 2
Net income (loss) 439 (54) (177) - - 208
The "Operating income (loss)" amounts presented above in the "Unallocated"
column consist of expenses not allocated to the petrochemicals and polymers
segments, principally general and administrative expenses. Additionally, for
the six months ended June 30, 2001, the $106 million includes $22 million of
unusual charges related to the Port Arthur shutdown costs.
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
OVERVIEW
General--Demand for products in Equistar's petrochemicals and polymers segments
during the first half of 2001 was affected by continuing weakness in the U.S.
economy, a trend that started in the second half of 2000. The U.S. economy grew
at an estimated annual rate of 1% in the first half of 2001 compared to 5% in
the first half of 2000. Crude oil prices, which affect the cost of crude-oil
based raw materials, began to decrease in the first quarter 2001 and continued
in a downward trend in the second quarter 2001 to levels comparable to the prior
year periods. Natural gas costs, which affect the cost of natural gas liquids
("NGL"), another major source of raw materials for Equistar, as well as energy
costs, began to decrease in the second quarter 2001 from the high levels reached
in the first quarter 2001.
Natural gas prices spiked in January 2001 at nearly $10 per million BTUs,
compared to a price range of $1.50 to $2.50 per million BTUs in the period from
1991 to 1999. Since the January 2001 spike, natural gas prices have decreased.
Second quarter 2001 average natural gas prices decreased 33% from first quarter
2001 levels. Nonetheless, second quarter 2001 average natural gas prices were
36% higher than natural gas prices in the second quarter 2000 and average
natural gas prices for the first half of 2001 were almost double those of the
first half of 2000. The high natural gas prices had a significant impact in
reducing the competitive position of North American exports to other regions of
the world. With the recent decreases in natural gas prices, the competitive
position of North American exports has improved, but, as of the end of the
second quarter, had not returned to its historical position. These high natural
gas prices had a significant impact on Equistar's costs in the first six months
of 2001.
The significant increase in NGL costs, lower exports and lower domestic demand
led some producers, including Equistar, to idle plants that primarily use NGLs
as raw materials. In the second quarter 2001, Equistar reduced the state of
readiness of its previously idled Lake Charles, Louisiana plant, which
represents 7% of its ethylene capacity. Industry analysts estimate that U.S.
producers were operating at less than 85% of capacity for the first half of 2001
compared to slightly over 95% in the first half of 2000.
In addition, the ethylene industry is affected by significant capacity
additions. The industry added annual ethylene capacity of 13.4 billion pounds
globally in 2000 and is scheduled to add a record 14.1 billion pounds in 2001,
or nearly 6% in each year. New domestic capacity scheduled for the latter half
of 2001 will add 5% to existing domestic ethylene capacity during a period of
weak demand growth. The combination of weak demand and excess capacity has put
pressure on industry prices and margins in 2001.
NET INCOME--Equistar's net loss of $30 million in the second quarter 2001
compares to net income of $152 million in the second quarter 2000. The decrease
of $182 million primarily reflected lower volumes due to reduced demand and
lower margins in Equistar's petrochemicals segment due to lower prices for
ethylene and co-product propylene. Polymers segment results did not change
significantly.
Equistar's net loss of $107 million for the first six months of 2001 compares to
net income of $208 million for the first six months of 2000. The $315 million
decrease reflects lower volumes and margins in both the petrochemicals and
polymers segments. The lower volumes reflect weaker demand in 2001. The lower
margins were due to the significant effect of higher natural gas costs in the
first quarter 2001 on the cost of NGL-based raw materials and energy costs as
well as lower co-product propylene prices and lower polymers prices. The first
quarter 2001 also included $22 million of costs associated with the shutdown of
the Port Arthur, Texas polyethylene facility.
11
SECOND QUARTER 2001 VERSUS FIRST QUARTER 2001
Equistar's net loss of $30 million in the second quarter 2001 compares to a net
loss of $77 million in the first quarter 2001. Excluding $22 million of Port
Arthur shutdown costs in the first quarter 2001, Equistar's net loss decreased
$25 million. This was primarily due to a $66 million decrease in the operating
loss of the polymers segment, offset in part by a $34 million decrease in the
operating profit of the petrochemicals segment.
The petrochemicals segment reported operating income of $81 million in the
second quarter 2001 compared to $115 million in the first quarter 2001. Second
quarter 2001 petrochemicals sales volumes declined 4% from the first quarter
2001 as the domestic economy continued to weaken. Ethylene and co-product price
decreases were only partly offset by decreases in energy and raw material costs,
resulting in lower margins. Average benchmark ethylene prices were 28.4 cents
per pound in the second quarter 2001, a 12% decrease from the first quarter 2001
average price of 32.1 cents. Pricing for co-products such as propylene,
butadiene and benzene fell even more significantly.
The polymers segment had an operating loss of $23 million in the second quarter
2001 compared to an operating loss of $89 million in the first quarter 2001.
The improvement was the result of polymers prices decreasing less than energy
costs and the cost of ethylene, a major raw material. Polymer price increases
from the first quarter 2001 were still being phased in during April 2001, while
ethylene prices began to decline in March 2001. During April and early May of
2001, margins in the polymer business increased. In late May and June of 2001,
polymer prices began to fall as new polymer capacity impacted the market. Second
quarter 2001 sales volumes for polymers decreased 3% from the first quarter 2001
due to the weak domestic economy.
12
SEGMENT DATA
The following tables reflect selected actual sales volume data, including
intersegment sales volumes, and summarized financial information for Equistar's
business segments.
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------------------ -----------------------------
IN MILLIONS 2001 2000 2001 2000
- ----------- -------- -------- -------- --------
SELECTED PETROCHEMICALS PRODUCTS:
Olefins (pounds) 4,072 4,606 8,313 9,508
Aromatics (gallons) 98 109 188 211
POLYMERS PRODUCTS (pounds) 1,396 1,474 2,837 3,141
MILLIONS OF DOLLARS
- -------------------
SALES AND OTHER OPERATING REVENUES:
Petrochemicals segment $1,475 $1,770 $3,164 $3,486
Polymers segment 516 595 1,058 1,211
Intersegment eliminations (391) (466) (849) (940)
------ ------ ------ ------
Total $1,600 $1,899 $3,373 $3,757
====== ====== ====== ======
COST OF SALES:
Petrochemicals segment $1,393 $1,501 $2,961 $3,043
Polymers segment 520 599 1,133 1,229
Intersegment eliminations (391) (466) (849) (940)
------ ------ ------ ------
Total $1,522 $1,634 $3,245 $3,332
====== ====== ====== ======
OTHER OPERATING EXPENSES:
Petrochemicals segment $ 1 $ 2 $ 7 $ 4
Polymers segment 19 19 37 36
Unallocated 44 46 84 88
Unusual charges - - - - 22 - -
------ ------ ------ ------
Total $ 64 $ 67 $ 150 $ 128
====== ====== ====== ======
OPERATING INCOME (LOSS):
Petrochemicals segment $ 81 $ 267 $ 196 $ 439
Polymers segment (23) (23) (112) (54)
Unallocated (44) (46) (84) (88)
Unusual charges - - - - (22) - -
------ ------ ------ ------
Total $ 14 $ 198 $ (22) $ 297
====== ====== ====== ======
PETROCHEMICALS SEGMENT
REVENUES--Revenues of $1.5 billion in the second quarter 2001 decreased 17%
compared to second quarter 2000 revenues of $1.8 billion due to lower sales
volumes and prices. Sales volumes decreased about 12% due to lower demand,
reflecting the weakness of the U.S. economy. The decrease in sales prices also
reflects the lower demand and excess industry capacity. Benchmark quoted
ethylene prices averaged 28.4 cents per pound in the second quarter 2001, a 10%
decrease compared to the second quarter 2000. Average benchmark propylene
prices decreased 30% compared to the second quarter 2000.
Revenues of $3.2 billion for the first six months of 2001 decreased 9% compared
to the first six months of 2000 as lower 2001 sales volumes were partially
offset by higher average prices in 2001. Sales volumes decreased about 13% due
to weaker business conditions in 2001. Average sales prices in 2001 were
slightly higher primarily due to increases in the first quarter 2001 in response
to high natural gas costs. Prices declined in the second quarter 2001.
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COST OF SALES--Cost of sales of $1.4 billion in the second quarter 2001
decreased 7% compared to $1.5 billion in the second quarter 2000. The decrease
was primarily due to 12% lower volumes and was partly offset by a significant
decrease in co-product propylene prices, resulting in a lower co-product credit
to cost of sales.
Cost of sales of $3.0 billion in the first six months of 2001 decreased 3%
compared to the first six months of 2000. The effect of the 13% decrease in
sales volumes was substantially offset by the significant first quarter 2001
increase in NGL-based raw material costs and energy costs due to the spike in
natural gas costs as well as the decrease in co-product prices.
OPERATING INCOME--Operating income of $81 million in the second quarter 2001
decreased from $267 million in the second quarter 2000 due to lower sales
volumes as well as lower prices and margins, primarily for co-product propylene.
Operating income of $196 million for the first six months of 2001 decreased from
$439 million in the first six months of 2000 due to higher NGL-based raw
material costs and higher energy costs, primarily in the first quarter 2001, as
well as lower sales volumes and lower co-product propylene prices.
POLYMERS SEGMENT
REVENUES--Revenues of $516 million in the second quarter 2001 decreased 13%
compared to $595 million in the second quarter 2000 reflecting an 8% decrease in
average sales prices and a 5% decrease in volumes. The decrease in sales prices
reflected weaker 2001 business conditions and pressure from decreasing raw
material costs. The decline in volumes was tempered by the effect on second
quarter 2000 volumes of a turnaround at the Morris, Illinois facility during
that period.
Revenues of $1.1 billion for the first six months of 2001 decreased almost 13%
compared to $1.2 billion in the first six months of 2000 due to a 10% decrease
in sales volumes and a 3% decrease in average sales prices compared to the first
six months of 2000. The decrease in sales volumes reflects the effect of weaker
demand in the first six months of 2001. The sales price decreases reflect
weaker 2001 business conditions and pressure from decreasing raw material costs.
COST OF SALES--Cost of sales of $520 million in the second quarter 2001
decreased 13% compared to $599 million for the second quarter 2000. The
decrease in 2001 reflected lower raw material costs, primarily ethylene and
propylene, as well as the 5% decrease in volumes.
Cost of sales of $1.1 billion in the first six months of 2001 decreased 8%
compared to $1.2 billion for the first six months of 2000, due to a 10% decrease
in sales volumes in 2001. The decrease in raw material costs in the first six
months of 2001 was not as significant as in the second quarter comparison due to
the first quarter 2001 effect of high natural gas costs on both raw material and
energy costs.
OPERATING INCOME--The polymers segment had an operating loss of $23 million in
both the second quarter 2001 and the second quarter 2000. Although sales prices
decreased in the second quarter 2001, raw material costs also decreased,
offsetting the lower prices and the 5% lower sales volumes.
For the first six months of 2001, the operating loss was $112 million compared
to an operating loss of $54 million in the comparable 2000 period. The
increased operating loss was primarily due to the effect of lower polymers
prices on margins as well as the effect of lower sales volumes and the first
quarter 2001 effect of high natural gas costs.
14
UNALLOCATED ITEMS
The following discusses expenses that were not allocated to the petrochemicals
or polymers segments.
UNUSUAL CHARGES--Equistar discontinued production at its higher-cost Port
Arthur, Texas polyethylene facility on February 28, 2001 and shut down the
facility. Closed production units included a 240 million pounds per year HDPE
reactor and an LDPE reactor with annual capacity of 160 million pounds. These
units and a 300 million pounds per year HDPE reactor mothballed in the fourth
quarter of 1999 have been shut down permanently. The asset values of these
production units were previously adjusted as part of a $96 million restructuring
charge recognized in 1999. During the first quarter 2001, Equistar recorded a
$22 million charge, which included environmental remediation liabilities of $7
million, other exit costs of $3 million and severance and pension benefits of $7
million for approximately 125 people employed at the Port Arthur facility. The
remaining balance primarily related to the write down of certain inventories.
FINANCIAL CONDITION
OPERATING ACTIVITIES--Operating activities provided cash of $95 million in the
first six months of 2001 compared to $259 million in the comparable 2000 period.
The $164 million decrease in the first six months of 2001 primarily reflected
$315 million of lower income from operations, partly offset by a reduction in
2001 working capital. The reduction in working capital in the first six months
of 2001 was primarily due to lower receivables, reflecting lower sales prices
and improved collection efficiency. The decrease in receivables was offset by a
decrease in payables, due to lower raw material costs, and an increase in
inventories. The inventory component of working capital increased $36 million
primarily due to increased levels of raw materials. Raw material inventories
had been minimized at year end due to the high cost of raw materials.
INVESTING ACTIVITIES--Equistar's capital expenditures were $53 million in the
first six months of 2001 and $48 million in the first six months of 2000. In
addition, Equistar purchased the low- and medium-voltage power cable materials
business of AT Plastics, Inc. for $7 million during the second quarter 2001.
Equistar's capital spending for 2001 is currently projected at approximately
$103 million and includes spending for cost reduction and yield improvement
projects. The planned 2001 capital expenditures have been reduced by
approximately 40% from amounts originally budgeted due to the poor current
business environment.
FINANCING ACTIVITIES--There were no distributions to partners in the first six
months of 2001 and Equistar does not currently anticipate making any
distributions to partners for the remainder of 2001. Equistar secured an
amendment to its credit facility in March 2001, making certain financial ratio
requirements less restrictive.
LIQUIDITY AND CAPITAL RESOURCES--Equistar has a $1.25 billion revolving credit
facility that extends until November 2002. At June 30, 2001, Equistar had drawn
$820 million, leaving $430 million available for borrowing. Current maturities
of long-term debt at June 30, 2001 were $190 million.
The credit facility contains covenants that, subject to exceptions, restrict
sale and leaseback transactions, lien incurrence, debt incurrence, sales of
assets and mergers and consolidations, and require Equistar to maintain
specified financial ratios, in all cases as provided in the credit facility.
The breach of these covenants could permit the lenders to declare the loans
immediately payable and to terminate future lending commitments.
Equistar was in compliance with all covenants under its debt instruments as of
June 30, 2001. Equistar expects to implement a new financing package in the
third quarter of 2001. The financing will include an underwritten secured $1.0
billion credit facility with term and revolving credit facilities. The
financing also contemplates $500 million of 7-year, non-call senior unsecured
notes, which will rank pari passu with existing Equistar notes. The term and
revolving credit facilities will extend the maturity of Equistar's existing
credit facility. In addition, given the poor current business environment,
Equistar anticipates that certain financial ratio requirements will be less
restrictive in the term and revolving credit facilities. The senior unsecured
notes will be offered only to qualified institutional buyers. Such notes will
not be registered under the Securities Act of 1933 and may not be offered or
sold in the United States absent registration or an applicable exemption from
registration.
15
Management believes that conditions will be such that cash balances, cash flow
from operations and funding under the existing credit facility will be adequate
to meet anticipated future cash requirements, including scheduled debt
repayments, necessary capital expenditures and ongoing operations.
CURRENT BUSINESS OUTLOOK
Management expects continued poor operating results in the second half of 2001
due to continued weak conditions in global chemical markets. Pricing pressures
are expected to continue for the remainder of the year in Equistar's
petrochemicals and polymers businesses.
ACCOUNTING STANDARDS
In June 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No.
142, Goodwill and Other Intangible Assets. The statement will be effective for
Equistar's calendar year 2002. Under SFAS No. 142, amortization of goodwill to
earnings will be discontinued. However, goodwill will be reviewed for
impairment at least annually and whenever events indicate an impairment may have
occurred. A benchmark assessment of potential impairment also must be completed
within six months after adopting SFAS No. 142. Equistar currently carries $1.1
billion of goodwill on its balance sheet, which is amortized at an annual rate
of $33 million. Equistar is currently evaluating the effect that implementation
of SFAS No. 142 will have on its financial statements.
ITEM 3. DISCLOSURE OF MARKET AND REGULATORY RISK.
Equistar's exposure to market risks is described in Item 7a of its Annual Report
on Form 10-K for the year ended December 31, 2000. Equistar's exposure to
market and regulatory risks has not changed materially in the quarter ended June
30, 2001, except as noted below.
Equistar enters into over-the-counter "derivatives," or price swap contracts,
for crude oil to help manage its exposure to commodity price risk with respect
to crude oil-related raw material purchases. These hedging arrangements have
the effect of locking in, at predetermined prices or ranges of prices and for a
specified period of time, the prices that Equistar will pay for the volumes to
which the hedge relates. As a result, while these hedging arrangements are
structured to reduce its exposure to increases in price associated with the
hedged commodity, they also limit the benefit Equistar might otherwise receive
from any price decreases associated with the hedged commodity. During the
second quarter 2001, Equistar entered into put options covering 1.9 million
barrels of crude oil. The put options were not treated as hedges for
financial reporting purposes, but are intended to reduce Equistar's crude oil-
based raw material costs.
As of June 30, 2001, the outstanding price swap contracts, which mature from
July 2001 through March 2002, covered 7.2 million barrels of crude oil, and are
intended to cover from approximately 25% to 30% of Equistar's estimated crude
oil-related raw material exposures. Based on quoted market prices, Equistar
recorded a liability of $2 million at June 30, 2001 for those contracts.
Assuming a hypothetical 25% decrease in crude oil prices from those in effect at
June 30, 2001, the loss in earnings for the price swap contracts would be
approximately $45 million. As of June 30, 2001, the outstanding put option
contracts, which mature from August 2001 through December 2001, covered 1.7
million barrels of crude oil. Assuming the same hypothetical 25% decrease in
crude oil prices, Equistar's loss in earnings for the put option contracts would
be approximately $10 million. Sensitivity analysis was used for purposes of the
above analyses. The quantitative information about market risk is necessarily
limited because it does not take into account the effects of the underlying
operating transactions. Equistar does not engage in any derivatives trading
activities.
16
FORWARD-LOOKING STATEMENTS
Certain of the statements contained in this report are "forward-looking
statements" within the meaning of the federal securities laws. Although
Equistar believes the expectations reflected in such forward-looking statements
are reasonable, they do involve certain assumptions, risks and uncertainties,
and Equistar can give no assurance that such expectations will prove to have
been correct. Equistar's actual results could differ materially from those
anticipated in these forward-looking statements as a result of certain factors,
including:
. the cyclical nature of the chemical industry,
. uncertainties associated with the economy,
. substantial chemical industry capacity additions resulting in oversupply and
declining prices and margins,
. the availability and cost of raw materials,
. the availability of capital markets,
. current and potential governmental regulatory actions,
. operating interruptions (including leaks, explosions, fires, mechanical
failure, unscheduled downtime, labor difficulties, transportation
interruptions, spills and releases and other environmental risks), and
. Equistar's ability to implement its business strategies, including cost
reductions.
Many of such factors are beyond Equistar's ability to control or predict. Any
of the factors, or a combination of these factors, could materially affect
Equistar's future results of operations and the ultimate accuracy of the
forward-looking statements. These forward-looking statements are not guarantees
of Equistar's future performance, and Equistar's actual results and future
developments may differ materially from those projected in the forward-looking
statements. Management cautions against putting undue reliance on forward-
looking statements or projecting any future results based on such statements or
present or prior earnings levels.
All forward-looking statements in this Form 10-Q are qualified in their entirety
by the cautionary statements contained in this section and in Equistar's Annual
Report on Form 10-K for the year ended December 31, 2000.
17
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
There have been no material developments with respect to Equistar's legal
proceedings previously reported in the Annual Report on Form 10-K for the
year ended December 31, 2000, except as described below.
In April 1997, the Illinois Attorney General's Office filed a complaint
in Grundy County, Illinois Circuit Court seeking monetary sanctions for
releases into the environment at Millennium Chemicals Inc.'s Morris,
Illinois plant in alleged violation of state regulations. The Morris,
Illinois plant was contributed to Equistar on December 1, 1997 in
connection with the formation of Equistar. Equistar now believes that a
civil penalty in excess of $100,000 could result, without giving effect to
contribution or indemnification obligations of others. Equistar does not
believe that the ultimate result of this complaint will have a material
adverse effect on the business or financial condition of Equistar.
The eight-county Houston/Galveston region has been designated a severe non-
attainment area for ozone by the EPA. As a result, the TNRCC has submitted
a plan to the EPA to reach and demonstrate compliance with the ozone
standard by November 2007. On January 19, 2001, Equistar and LYONDELL-
CITGO Refining LP, individually, and Lyondell, individually and as part of
the BCCA Appeal Group (a group of industry participants), filed a lawsuit
against the TNRCC in State District Court in Travis County, Texas to
encourage the adoption of the plaintiffs' alternative plan to achieve the
same air quality improvements as the TNRCC plan, with less negative
economic impact on the region. In June 2001, the parties entered into a
consent order with respect to the lawsuit. Pursuant to the consent order,
the TNRCC agreed to review, by June 2002, the scientific data for ozone
formation in the Houston/Galveston region. If the TNRCC scientific review
supports the industry group proposal, the TNRCC has agreed to revise the
NOx emission reduction requirements set forth in its original plan.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
99 Consolidated Financial Statements (Unaudited) of Lyondell
Chemical Company
(b) Reports on Form 8-K
The following Current Report on Form 8-K was filed during the quarter ended
June 30, 2001 and through the date hereof:
Date of Report Item Nos. Financial Statements
-------------- --------- --------------------
August 1, 2001 5, 7 No
18
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Equistar Chemicals, LP
Dated: August 3, 2001 /s/ JOSEPH M. PUTZ
----------------------------------------
Joseph M. Putz
Acting Controller
(Duly Authorized Officer and
Principal Accounting Officer)
19