FORM 10-Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For Quarterly period ended June 30, 1998
____________________________
OR
[ ]TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For The transition period from to
_____________ _____________
Commission file number 1-7677
______________________
LSB INDUSTRIES, INC.
____________________________________________________
Exact name of Registrant as specified in its charter
DELAWARE 73-1015226
______________________________ ___________________
State or other jurisdiction of I.R.S. Employer
incorporation or organization Identification No.
16 South Pennsylvania, Oklahoma City, Oklahoma 73107
_______________________________________________________
Address of principal executive offices (Zip Code)
(405) 235-4546
__________________________________________________
Registrant's telephone number, including area code
None
__________________________________________________
Former name, former address and former fiscal year, if
changed since last report.
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
_____ _____
The number of shares outstanding of the Registrant's voting Common
Stock, as of July 31, 1998 was 12,191,786 shares excluding
2,914,190 shares held as treasury stock.
PART I
FINANCIAL INFORMATION
Company or group of companies for which report is filed: LSB
Industries, Inc. and all of its wholly-owned subsidiaries.
The accompanying condensed consolidated balance sheet of LSB
Industries, Inc. at June 30, 1998, the condensed consolidated
statements of operations for the six month and three month periods
ended June 30, 1998 and 1997 and the consolidated statements of
cash flows for the six month periods ended June 30, 1998 and 1997
have been subjected to a review, in accordance with standards
established by the American Institute of Certified Public
Accountants, by Ernst & Young LLP, independent auditors, whose
report with respect thereto appears elsewhere in this Form 10-Q.
The financial statements mentioned above are unaudited and reflect
all adjustments, consisting only of adjustments of a normal
recurring nature, which are, in the opinion of management,
necessary for a fair presentation of the interim periods. The
results of operations for the six months and three months ended
June 30, 1998 are not necessarily indicative of the results to be
expected for the full year. The condensed consolidated balance
sheet at December 31, 1997, was derived from audited financial
statements as of that date.
1
LSB INDUSTRIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Information at June 30, 1998 is unaudited)
(Dollars in thousands)
June 30, December 31,
ASSETS 1998 1997
__________________________________ ___________ __________
Current assets:
Cash and cash equivalents $ 5,502 $ 4,934
Trade accounts receivable, net of allowance 56,154 52,191
Inventories:
Finished goods 31,784 36,429
Work in process 8,311 8,582
Raw materials 23,767 23,189
___________ __________
Total inventory 63,862 68,200
Supplies and prepaid items 8,775 7,595
___________ __________
Total current assets 134,293 132,920
Property, plant and equipment, net (Note 4) 99,866 118,331
Investments and other assets, net of allowance 18,930 19,402
___________ __________
$ 253,089 $ 270,653
=========== ==========
(Continued on following page)
2
<PAGE
LSB INDUSTRIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Information at June 30, 1998 is unaudited)
(Dollars in thousands)
June 30, December 31,
LIABILITIES AND STOCKHOLDERS' EQUITY 1998 1997
____________________________________ ___________ __________
Current liabilities:
Drafts payable $ 963 $ 737
Accounts payable 25,451 28,137
Accrued liabilities 16,445 16,196
Current portion of long-term debt 12,609 15,874
___________ __________
Total current liabilities 55,468 60,944
Long-term debt (Notes 4 and 6) 146,204 165,067
Contingencies (Note 5)
Redeemable, noncumulative convertible
preferred stock, $100 par value; 1,539 shares
issued and outstanding (1,539 in 1997) 146 146
Stockholders' equity (Note 3):
Series B 12% cumulative, convertible
preferred stock, $100 par value;
20,000 shares issued and outstanding 2,000 2,000
Series 2 $3.25 convertible, exchangeable
Class C preferred stock, $50 stated
value; 920,000 shares issued 46,000 46,000
Common stock, $.10 par value; 75,000,000
shares authorized, 15,105,616 shares
issued (15,042,356 in 1997) 1,511 1,504
Capital in excess of par value 38,321 38,257
Accumulated other comprehensive loss (1,609) (1,003)
Accumulated deficit (20,821) (29,773)
___________ __________
65,402 56,985
Less treasury stock, at cost:
Series 2 Preferred, 5,000 shares 200 200
Common stock, 2,679,590 shares
(2,293,390 in 1997) 13,931 12,289
___________ __________
Total stockholders' equity 51,271 44,496
___________ __________
$ 253,089 $ 270,653
=========== ===========
(See accompanying notes)
3
LSB INDUSTRIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
(Dollars in thousands, except per share amounts)
1998 1997
__________ __________
Revenues:
Net sales $ 165,469 $ 162,502
Other income 1,325 3,801
Gain on sale of the Tower (Note 4) 12,993 -
__________ __________
179,787 166,303
Costs and expenses:
Cost of sales 129,173 132,199
Selling, general and administrative 30,816 31,554
Interest 8,839 6,396
__________ __________
168,828 170,149
__________ __________
Income (loss) before provision for
income taxes 10,959 (3,846)
Provision for income taxes 260 125
__________ __________
Net income (loss) $ 10,699 $ (3,971)
========== ==========
Net income (loss) applicable to
common stock (Note 2) $ 9,077 $ (5,593)
========== ==========
Weighted average common shares
outstanding (Note 2):
Basic 12,661,182 12,940,755
Diluted 15,125,465 12,940,755
Income (loss) per common share (Note 2):
Basic $ .72 $ (.43)
========== ===========
Diluted $ .65 $ (.43)
========== ===========
(See accompanying notes)
4
LSB INDUSTRIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended June 30, 1998 and 1997
(dollars in thousands, except per share amounts)
1998 1997
___________ ___________
Revenues:
Net sales $ 87,433 $ 89,268
Other income 213 2,171
___________ ___________
87,646 91,439
Costs and expenses:
Cost of sales 67,054 69,887
Selling, general and administrative 15,210 16,682
Interest 3,981 3,340
___________ ___________
86,245 89,909
___________ ___________
Income before provision (credit) for
income taxes 1,401 1,530
Provision (credit) for income taxes (20) 63
___________ ___________
Net income $ 1,421 $ 1,467
=========== ===========
Net income applicable to
common stock (Note 2) $ 618 $ 648
=========== ===========
Weighted average common shares
outstanding (Note 2):
Basic 12,576,185 12,906,687
Diluted 12,711,735 13,161,676
Income per common share (Note 2):
Basic $ .05 $ .05
=========== ==========
Diluted $ .05 $ .05
=========== ==========
(See accompanying notes)
5
LSB INDUSTRIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
(Dollars in thousands, except per share amounts)
1998 1997
___________ __________
Cash flows from operations:
Net income (loss) $ 10,699 $ (3,971)
Adjustments to reconcile net income (loss)
to cash flows provided (used) by operations:
Depreciation, depletion and amortization:
Property, plant and equipment 6,021 5,141
Other 677 567
Provision for possible losses
on receivables and other assets 1,071 1,066
Loss (gain) on sale of assets (12,993) 9
Recapture of prior period provisions for
loss on loans receivable secured by real estate - (1,383)
Cash provided (used) by changes in assets
and liabilities:
Trade accounts receivable (4,359) (5,834)
Inventories 3,786 4,540
Supplies and prepaid items (1,580) (716)
Accounts payable (2,598) (6,081)
Accrued liabilities 544 853
___________ _________
Net cash provided (used) by operations 1,268 (7,515)
Cash flows from investing activities:
Capital expenditures (3,837) (5,701)
Principal payments on notes receivable 40 203
Proceeds from sales of equipment and
real estate properties 63 360
Proceeds from sale of the Tower (Note 4) 29,266 -
Increase in other assets (1,269) (2,994)
___________ __________
Net cash provided (used) in investing activities 24,263 (8,132)
Cash flows from financing activities:
Payments on long-term debt (18,581) (23,042)
Long-term and other borrowings - 53,864
Net change in revolving debt (3,290) (13,655)
Net change in drafts payable 226 (17)
Dividends paid (Note 3):
Preferred Stocks (1,622) (1,622)
Common Stock (125) (389)
Purchases of treasury stock (Note 3) (1,642) (535)
Net proceeds from issuance of common stock 71 190
___________ __________
Net cash provided (used) by financing activities (24,963) 14,796
___________ __________
Net increase (decrease) in cash 568 (851)
Cash and cash equivalents at beginning of period 4,934 1,620
_________ __________
Cash and cash equivalents at end of period $ 5,502 $ 769
========= ==========
(See accompanying notes)
6
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
Note 1: Income Taxes At December 31, 1997, the Company had
regular-tax net operating loss ("NOL") carryforwards for tax
purposes of approximately $65 million (approximately $18 million
alternative minimum tax NOLs). Certain amounts of regular-tax NOL
expire beginning in 1999.
The Company's provision for income taxes for the six months ended
June 30, 1998 of $260,000 is for current state income taxes and
federal alternative minimum tax.
Note 2: Earnings Per Share In 1997, the Financial Accounting
Standards Board issued Statement No. 128, Earnings Per Share.
Statement 128 replaced the calculation of primary and fully diluted
earnings per share with basic and diluted earnings per share.
Unlike primary earnings per share, basic earnings per share exclude
any dilutive effect of options, warrants and convertible
securities. Diluted earnings per share is very similar to the
previously reported fully diluted earnings per share. All earnings
per share amounts for all periods have been presented, and where
appropriate, restated to conform to the Statement 128 requirements.
Net income or loss applicable to common stock is computed by
adjusting net income or loss by the amount of preferred stock
dividends. Basic income or loss per common share is based upon the
weighted average number of common shares outstanding during each
period after giving appropriate effect to preferred stock
dividends. Diluted income or loss per share is based on the
weighted average number of common shares and dilutive common
equivalent shares outstanding and the assumed conversion of
dilutive convertible securities outstanding, if any, after
appropriate adjustment for interest, net of related income tax
effects on convertible notes payable, as applicable.
7
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
Note 2: Earnings Per Share (continued) The following table sets forth the
computation of basic and diluted earnings per share: (dollars in thousands,
except per share amounts)
Six Months
ended June 30,
1998 1997
__________ __________
Numerator:
Net income (loss) $ 10,699 $ (3,971)
Preferred stock dividends (1,622) (1,622)
__________ __________
Numerator for 1998 and 1997 basic
and 1997 diluted earnings per
share - income (loss) available
to common stockholders $ 9,077 $ (5,593)
Preferred stock dividends on preferred
stock assumed to be converted in
the first quarter of 1998 818 -
__________ ____________
Numerator for 1998 diluted earnings
per share $ 9,895 $ (5,593)
========== ============
Denominator:
Denominator for basic earnings per
share - weighted-average shares 12,661,182 12,940,755
Effect of dilutive securities:
Employee stock options 128,920 -
Convertible preferred stock 2,331,363 -
Convertible note payable 4,000 -
___________ ____________
Dilutive potential common shares 2,464,283 -
___________ ____________
Denominator for diluted earnings
per share - adjusted weighted-
average shares and assumed
conversions 15,125,465 12,940,755
=========== ===========
Basic earnings per share $ .72 $ (.43)
=========== ============
Diluted earnings per share $ .65 $ (.43)
=========== ============
Three Months
ended June 30,
1998 1997
___________ ____________
$ 1,421 $ 1,467
(803) (819)
_________ __________
$ 618 $ 648
- -
_________ ___________
$ 618 $ 648
========= ===========
12,576,185 12,906,687
131,550 250,989
- -
4,000 4,000
__________ __________
135,550 254,989
---------- ----------
12,711,735 13,161,676
========== ==========
$ .05 $ .05
========== ==========
$ .05 $ .05
========== ==========
8
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
Note 3: Stockholders' Equity The table below provides detail of activity in
the stockholders' equity accounts for the six months ended June 30, 1998:
Common Stock Non- Capital
__________________ redeemable in excess
Par Preferred of par
Shares Value Stock Value
_______ ________ _________ ________
(In thousands)
Balance at December 31, 1997 15,042 $ 1,504 $ 48,000 $ 38,257
Net income
Foreign currency
translation adjustment
Comprehensive income (Note 8)
Exercise of stock options 64 7 64
Dividends declared:
Common Stock ($.01 per share)
Series B 12% preferred
stock ($6.00 per share)
Series 2 preferred
stock ($1.62 per share)
Redeemable preferred
stock ($10.00 per share)
Purchase of treasury stock
________ _________ ________ ________
Balance at June 30, 1998 15,106(1) $ 1,511 $ 48,000 $ 38,321
======= ========= ======= =======
<FN>
(1) Includes 2,680 shares of the Company's Common Stock held in treasury.
Excluding the 2,680 shares held in treasury, the outstanding shares of
the Company's Common Stock at June 30, 1998 were 12,426.
</FN>
Accumulated Retained
Other Com- Earnings Treasury
prehensive (Accumu- Treasury Stock
Income lated Stock- Prefer-
(Loss) deficit) Common red Total
__________ _________ _________ _________ ________
$ (1,003) $(29,773) $(12,289) $ (200) $44,496
10,699 10,699
(606) (606)
-------
10,093
71
(125) (125)
(120) (120)
(1,487) (1,487)
(15) (15)
(1,642)
(1,642)
________ _________ ________ ________
________
$(1,609) $(20,821) $(13,931) $ (200) $51,271
======== ========= ========= ========= =======
9
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
Note 4: Sale of the Tower In March 1998, a subsidiary of the
Company closed the sale of the Tower office building. The Company
realized net proceeds of approximately $29.3 million from the sale
($1.0 million of which is held in escrow until September 1998,
pending expiration of representations and warranties associated
with the sale). Proceeds from the sale were used to retire the
outstanding indebtedness of approximately $12.6 million in March
1998, for which this property served as collateral. Approximately
$15.5 million of the remaining proceeds were used to reduce
indebtedness outstanding under the Company's Revolving Credit
Facility. The Company recognized a gain on the sale of the
property of approximately $13 million in the first quarter of 1998.
Note 5: Commitments and Contingencies
_____________________________
Nitric Acid Project
___________________
In June 1997, two wholly owned subsidiaries of the Company, El
Dorado Chemical Company ("EDC"), and El Dorado Nitrogen Company
("EDNC"), entered into a series of agreements with Bayer
Corporation ("Bayer") (collectively, the "Bayer Agreement"). Under
the Bayer Agreement, EDNC will act as an agent to construct, and
upon completion of construction, will operate a nitric acid plant
(the "EDNC Baytown Plant") at Bayer's Baytown, Texas chemical
facility. EDC has guaranteed the performance of EDNC's obligations
under the Bayer Agreement. Under the terms of the Bayer Agreement,
EDNC is to lease the EDNC Baytown Plant pursuant to a leveraged
lease from an unrelated third party with an initial lease term of
ten years from the date on which the EDNC Baytown Plant becomes
fully operational. Upon expiration of the initial ten-year term
from the date the EDNC Baytown Plant becomes operational, the Bayer
Agreement may be renewed for up to six renewal terms of five years
each; however, prior to each renewal period, either party to the
Bayer Agreement may opt against renewal. It is anticipated that
construction of the EDNC Baytown Plant will cost approximately $65
million and will be completed in the first quarter of 1999.
Construction financing of the EDNC Baytown Plant is being provided
by an unaffiliated lender. Neither the Company nor EDC has
guaranteed any of the lending obligations for the EDNC Baytown
Plant. In connection with the leveraged lease, the Company entered
into an interest rate forward agreement to fix the effective rate
of interest implicit in such lease. As of June 30, 1998, the fair
value of such agreement represented a liability of $5.0 million for
which the Company has posted margin and letters of credit totaling
$5.0 million. Bayer has agreed to reimburse the Company for 50% of
the ultimate cost of the hedging contract associated with the
interest rate forward agreement.
10
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
Debt Guarantee
______________
The Company has guaranteed approximately $2.6 million of
indebtedness of a start-up aviation company, Kestrel Aircraft
Company, in exchange for an ownership interest, to which no value
has been assigned as of June 30, 1998. The Company has made
investments in and advances to the aviation company totaling
$999,000 as of June 30, 1998 and is accruing losses of the aviation
company based on its ownership percentage (40.7% as of June 30,
1998). The Company has recorded losses of $3,078,000 ($769,000
during the first six months of 1998) related to the debt guarantee
and advances. The debt guarantee relates to a $2 million term note
and up to $600,000 of a $2 million revolving credit facility. The
$2 million term note requires interest only payments through
September 1998; thereafter, it requires monthly principal payments
of $11,111 plus interest beginning in October 1998 until it matures
on August 8, 1999, at which time all outstanding principal and
unpaid interest are due. In the event of default of this note, the
Company is required to assume payments on the note with the term
extended until August 2004. The $2 million revolving credit
facility, on which a subsidiary of the Company has guaranteed up to
$600,000 of indebtedness, has an outstanding balance of
$2.0 million at June 30, 1998. At June 30, 1998 principal and
interest payments on such notes were current.
Legal Matters
_____________
Following is a summary of certain legal actions involving the
Company:
A. In 1987, the U.S. Environmental Protection Agency ("EPA")
notified one of the Company's subsidiaries, along with
numerous other companies, of potential responsibility for
clean-up of a waste disposal site in Oklahoma. In 1990, the
EPA added the site to the National Priorities List. Following
the remedial investigation and feasibility study, in 1992 the
Regional Administrator of the EPA signed the Record of
Decision ("ROD") for the site. The ROD detailed EPA's
selected remedial action for the site and estimated the cost
of the remedy at $3.6 million. In 1992, the Company made
settlement proposals which would have entailed a collective
payment by such subsidiaries of the Company of $47,000. The
site owner rejected this offer and proposed a counteroffer of
$245,000 plus a reopener for costs over $12.5 million. The
EPA rejected the Company's offer, allocating 60% of the
cleanup costs to the potentially responsible parties and 40%
to the site operator. The EPA estimated the total cleanup
costs at $10.1 million as of February 1993. The site owner
11
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
rejected all settlements with the EPA, after which the EPA
issued an order to the site owner to conduct the remedial
design/remedial action approved for the site. In August 1997,
the site owner issued an "invitation to settle" to various
parties, alleging the total cleanup costs at the site may
exceed $22 million.
No legal action has yet been filed. The amount of the
Company's cost associated with the clean-up of the site is
unknown due to continuing changes in the estimated total cost
of clean-up of the site and the percentage of the total waste
which was alleged to have been contributed to the site by the
Company. As of June 30, 1998, the Company has accrued an
amount based on a preliminary settlement proposal by the
alleged potential responsible parties; however, there is no
assurance such proposal will be accepted. The amount accrued
is not material to the Company's financial position or results
of operations. This estimate is subject to material change in
the near term as additional information is obtained.
B. A subsidiary of the Company submitted to the State of Arkansas
a "Groundwater Monitoring Work Plan" which was approved by the
State of Arkansas. Pursuant to the Groundwater Monitoring Work
Plan, the subsidiary has performed phase I and II groundwater
investigations, and submitted a risk assessment report to the
State of Arkansas. The risk assessment report is currently
being reviewed by the State of Arkansas. The State of
Arkansas has indicated that additional groundwater monitoring
may be required to better define the extent of groundwater
contamination before a decision is made on a risk based
remedy.
On February 12, 1996, the subsidiary entered into a Consent
Administrative Agreement ("Administrative Agreement") with the
state of Arkansas to resolve certain compliance issues
associated with nitric acid concentrators. Pursuant to the
Administrative Agreement, the subsidiary installed additional
pollution control equipment to address the compliance issues.
The subsidiary was assessed $50,000 in civil penalties
associated with the Administrative Agreement. In the summer of
1996 and then on January 28, 1997, the subsidiary executed
amendments to the Administrative Agreement ("Amended
Agreements"). The Amended Agreements imposed a $150,000 civil
penalty, which penalty has been paid. Since the 1997
amendment, the Chemical Business has been assessed stipulated
penalties of approximately $67,000 by the Arkansas Department
of Pollution Control and Ecology ("ADPC&E") for violations of
certain provisions of the 1997 Amendment. The Chemical
Business believes that the El Dorado Plant has made progress
12
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
in controlling certain off-site emissions; however, such off-
site emissions have occurred and continue to occur from time
to time, which could result in the assessment of additional
penalties against the Chemical Business by the ADPC&E for
violation of the 1997 Amendment.
During May 1997, approximately 2,300 gallons of caustic
material spilled when a valve in a storage vessel failed,
which was released to a storm water drain, and according to
ADPC&E records, resulted in a minor fish kill in a drainage
ditch near EDC's El Dorado, Arkansas, facility ("El Dorado
Facility"). ADPC&E has proposed a Consent Administrative
Agreement ("CAA") to resolve the event. The proposed CAA is
currently being drafted by ADPC&E, and EDC has been advised
that it will include a civil penalty in the amount of $183,700
which includes $42,000 that has already been paid by funding
an environmental project in the community, and $125,000 which
will be paid in the form of environmental improvements at the
El Dorado Plant. EDC has also been advised that the draft of
the proposed CAA will, in addition, require the Chemical
Business to undertake certain additional compliance measures
and equipment improvements related to the El Dorado Plant's
wastewater treatment system.
C. In 1996, a lawsuit was filed against the Company's Chemical
Business by a group of residents of El Dorado, Arkansas,
asserting a citizens' suit against the Chemical Business as a
result of certain alleged violations of the Clean Air Act, the
Clean Water Act, the Chemical Business' air and water permits
and certain other environmental laws, rules and regulations.
The citizens' suit requested the court to order the Chemical
Business to cure such alleged violations, if any, plus
penalties as provided under the applicable statutes. During
the first quarter of 1998 the Company's Chemical Business
entered into a Consent Decree in settlement of the citizen
suit. The Consent Decree was approved by the court during the
second quarter of 1998. Under the terms of the Consent
Decree, the Company's Chemical Business has agreed to, among
other things, (i) the granting of an injunctive relief
requiring its El Dorado Facility to (a) comply with certain
discharge, monitoring and reporting requirements of its waste
water discharge permit, the emission limitations of its air
permit and the notification requirements under certain
sections of certain environmental laws and the statutory
penalties for failure to comply with such notification
requirements, and (b) perform air and water tests to determine
if the El Dorado Facility is meeting certain compliance levels
and, if the tests do not meet the required compliance levels,
to make the necessary corrections thereto so that such
13
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
compliance levels are met, (ii) limitations relating to the El
Dorado Facility's use of its older concentrated nitric acid
plant, (iii) to provide the plaintiffs with copies of certain
documents forwarded to, or received by, appropriate
environmental regulatory agencies by the El Dorado Facility
and summaries of certain test results at the El Dorado
Facility, (iv) pay to the U.S. Treasury $50,000 as a penalty,
and (v) pay certain stipulated penalties under certain
conditions in the event the El Dorado Facility fails to comply
with the terms of the Consent Decree. The $50,000 penalty has
been paid by the Company's Chemical Business to the U.S.
Treasury.
In July 1996, several of the same individuals who are
plaintiffs in the citizens' suit referenced above filed a
toxic tort lawsuit against the Company's Chemical Business
alleging that they suffered certain injuries and damages as a
result of alleged releases of toxic substances from the
Chemical Business' El Dorado, Arkansas manufacturing facility.
In October 1996, another toxic tort lawsuit was filed against
the Company's Chemical Business. This subsequent action
asserted similar damage theories as the previously discussed
toxic tort lawsuit, except this action attempted to have a
class certified to represent substantially all allegedly
affected persons. The plaintiffs sued for an unspecified
amount of actual and punitive damages.
The Company and the Chemical Business maintain an
Environmental Impairment Insurance Policy ("EIL Insurance")
that provides coverage to the Company and the Chemical
Business for certain discharges, dispersals, releases, or
escapes of certain contaminants and pollutants into or upon
land, the atmosphere or any water course or body of water from
the Site, which has caused bodily injury, property damage or
contamination to others or to other property not on the Site.
The EIL Insurance provides limits of liability for each loss
up to $10.0 million and a similar $10.0 million limit for all
losses due to bodily injury or property damage, except $5.0
million for all remediaton expenses, with the maximum limit of
liability for all claims under the EIL Insurance not to exceed
$10.0 million for each loss or remediaton expense and $10.0
million for all losses and remediaton expenses. The EIL
Insurance also provides a retention of the first $500,000 per
loss or remediaton expense that is to be paid by the Company.
The Company's Chemical Business has spent approximately $1.2
million in legal, expert and other costs in connection with
the toxic tort and citizen lawsuits described above. The
Company has been reimbursed under its EIL Insurance
approximately $405,000 of the $1.2 million. The EIL Insurance
14
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
carrier has assumed responsibility for all subsequent legal,
expert and other costs of defense and is paying such legal,
expert and other costs on an on-going basis.
During the second quarter of 1998, the Company's Chemical
Business settled the property damage claims, and proceeded
with an agreement to settle the personal injury claims,
asserted in the class action toxic tort lawsuit. The Company
also completed a settlement of the other toxic tort lawsuit.
The court approved the settlement of the class action claims
relating to alleged property damage. Settlement of the
personal injury claims by the individual claimants that were
asserted in the class action lawsuit does not require court
approval and is in the process of being completed. Settlement
of the class action toxic tort lawsuit and settlement of the
other toxic tort lawsuit require cash payments to the
plaintiffs. Substantially all of such cash settlement
payments are to be or were funded directly by the Company's
EIL Insurance carrier.
The amount of the settlements of the toxic tort cases as
discussed above paid by the EIL Insurance and the amount paid
under the EIL Insurance for legal and other expenses relating
to the defense of the toxic tort cases and the citizen suit
case reduce the coverage amount available under the EIL
Insurance.
D. A civil cause of action has been filed against the Company's
Chemical Business and five (5) other unrelated commercial
explosives manufacturers alleging that the defendants
allegedly violated certain federal and state antitrust laws in
connection with alleged price fixing of certain explosive
products. The plaintiffs are suing for an unspecified amount
of damages, which, pursuant to statute, plaintiffs are
requesting be trebled, together with costs. Based on the
information presently available to the Company, the Company
does not believe that the Chemical Business conspired with any
party, including but not limited to, the five (5) other
defendants, to fix prices in connection with the sale of
commercial explosives. Discovery has only recently commenced
in this matter. The Chemical Business intends to vigorously
defend itself in this matter.
The Company's Chemical Business has been added as a defendant
in a separate lawsuit pending in Missouri. This lawsuit
alleges a national conspiracy, as well as a regional
conspiracy, directed against explosive customers in Missouri
and seeks unspecified damages. The Company's Chemical Business
has been included in this lawsuit because it sold products to
15
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
customers in Missouri during a time in which other defendants
have admitted to participating in an antitrust conspiracy, and
because it has been sued in the preceding described lawsuit.
Based on the information presently available to the Company,
the Company does not believe that the Chemical Business
conspired with any party, to fix prices in connection with the
sale of commercial explosives. The Chemical Business intends
to vigorously defend itself in this matter.
During the third quarter of 1997, a subsidiary of the Company
was served with a lawsuit in which approximately 27 plaintiffs
have sued approximately 13 defendants, including a subsidiary
of the Company alleging personal injury and property damage
for undifferentiated compensatory and punitive damages of
approximately $7,000,000. Specifically, the plaintiffs assert
blast damage claims, nuisance (road dust from coal trucks) and
personal injury claims (exposure to toxic materials in
blasting materials) on behalf of residents living near the
Heartland Coal Company ("Heartland") strip mine in Lincoln
County, West Virginia. Heartland employed the subsidiary to
provide blasting materials and personnel to load and shoot
holes drilled by employees of Heartland. Down hole blasting
services were provided by the subsidiary at Heartland's
premises from approximately August 1991, until approximately
August 1994. Subsequent to August 1994, the subsidiary
supplied blasting materials to the reclamation contractor at
Heartland's mine. In connection with the subsidiary's
activities at Heartland, the subsidiary has entered into a
contractual indemnity to Heartland to indemnify Heartland
under certain conditions for acts or actions taken by the
subsidiary for which the subsidiary failed to take, and
Heartland is alleging that the subsidiary is liable thereunder
for Heartland's defense costs and any losses to or damages
sustained by, the plaintiffs in this lawsuit. Discovery has
only recently begun in this matter, and the Company intends to
vigorously defend itself in this matter. Based on limited
information available, the subsidiary's counsel believes that
the exposure, if any, to the subsidiary related to this
litigation is in the $100,000 range.
The Company, including its subsidiaries, is a party to various
other claims, legal actions, and complaints arising in the ordinary
course of business. In the opinion of management after consultation
with counsel, all claims, legal actions (including those described
above) and complaints are adequately covered by insurance, or if
not so covered, are without merit or are of such kind, or involve
such amounts that unfavorable disposition is not presently expected
16
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
to have a material effect on the financial position of the Company,
but could have a material impact on the results of operations for
a particular quarter or year, if resolved unfavorably.
Note 6: Long-Term Debt In November 1997, the Company's wholly
owned subsidiary, ClimaChem, Inc. ("CCI") completed the sale of
$105 million principal amount of 10 3/4% Senior Notes due 2007 (the
"Old Notes"). In April 1998, CCI exchanged all of the outstanding
Old Notes for registered 10 3/4% Series B Senior Notes due 2007
("New Notes"). The form and terms of the New Notes are the same as
the Old Notes (which they replaced), except for certain limited
exceptions. The New Notes evidence the same debt as the Old Notes
(which they replaced). Interest on the Old Notes until replaced by
the New Notes and interest on the New Notes are payable semiannually in
arrears on June 1 and December 1 of each year, and the principal is
payable in the year 2007. The New Notes are senior unsecured
obligations of CCI and rank pari passu in right of payment to all
existing senior unsecured indebtedness of CCI and its subsidiaries.
The New Notes are effectively subordinated to all existing and
future senior secured indebtedness of CCI.
Except as described below, the New Notes are not redeemable at
CCI's option prior to December 1, 2002. After December 1, 2002,
the New Notes will be subject to redemption at the option of CCI, in
whole or in part, at the redemption prices set forth in the
Indenture, plus accrued and unpaid interest thereon, plus
liquidated damages, if any, to the applicable redemption date. In
addition, until December 1, 2000, up to $35 million in aggregate
principal amount of the New Notes is redeemable, at the option of CCI,
at a price of 110.75% of the principal amount of the New Notes,
together with accrued and unpaid interest, if any, thereon, plus
liquidated damages; provided, however, that at least $65 million in
aggregate principal amount of the New Notes remain outstanding
following such redemption.
In the event of a change of control of the Company or CCI, holders
of the New Notes will have the right to require CCI to repurchase
the New Notes, in whole or in part, at a redemption price of 101%
of the principal amount thereof, plus accrued and unpaid interest,
if any, thereon, plus liquidated damages, if any, to the date of
repurchase.
CCI owns substantially all of the companies comprising the
Company's Chemical and Climate Control Businesses. CCI is a holding
company with no assets or operations other than its investments in
its subsidiaries, and each of its subsidiaries is wholly owned,
directly or indirectly, by CCI. CCI's payment obligations under
the New Notes are fully, unconditionally and joint and severally
17
LSB INDUSTRIES, INC.
NOTES CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
guaranteed by all of the existing subsidiaries of CCI, except for
El Dorado Nitrogen Company ("EDNC"). The assets, equity, and
earnings of EDNC are currently inconsequential to CCI. Separate
financial statements and other disclosures concerning the
guarantors are not presented herein because management has
determined they are not material to investors. Summarized
consolidated balance sheet information of CCI and its subsidiaries
as of December 31, 1997 and June 30, 1998 and the results of
operations for the six month and three month periods ended June 30,
1998 and June 30, 1997, are detailed below.
18
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
Note 6: (continued)
____________________
June 30, December 31,
1998 1997
____________________________
(In thousands)
(unaudited)
Balance sheet data:
Current assets $ 90,904 $ 88,442
Property, plant and equipment 81,974 84,329
Notes receivable from LSB and affiliates 13,443 13,443
Other assets 9,058 14,661
___________ ___________
Total assets $ 195,379 $ 200,875
=========== ===========
Current liabilities $ 35,801 $ 38,004
Long-term debt 122,092 126,346
Other 9,236 9,236
Stockholder's equity 28,250 27,289
___________ ___________
Total liabilities and stockholder's equity $ 195,379 $ 200,875
=========== ===========
Six Months Ended Three Months Ended
June 30, June 30,
1998 1997 1998 1997
________________________________________________
(In thousands) (In thousands)
Operations Data:
Total revenues $ 137,327 $ 138,336 $ 73,900 $ 76,041
Costs and expenses:
Costs of sales 107,439 111,663 57,028 58,811
Selling, general
and administrative 20,348 18,718 10,569 9,688
Interest 6,273 4,255 2,960 2,218
__________ __________ __________ __________
134,060 134,636 70,557 70,697
__________ __________ __________ __________
Income before provision
for income taxes 3,267 3,700 3,343 5,344
Income tax provision 1,700 1,501 1,730 2,212
__________ __________ __________ __________
Net income $ 1,567 $ 2,199 $ 1,613 $ 3,132
========== ========== ========== ==========
19
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
Note 7: Changes in Accounting Effective January 1, 1998, the
Company changed its method of accounting for the costs of computer
software developed for internal use to capitalize costs incurred
after the preliminary project stage as outlined in Statement of
Position 98-1 "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use" ("SOP 98-1"). These costs
capitalized will be amortized over their estimated useful life.
Prior to 1998, these costs were expensed as incurred. The effect
of this change on net income for the first and second quarters of
1998 was not material.
In the second quarter of 1998, the Accounting Standards Executive
Committee of the Securities and Exchange Commission released
Statement of Position 98-5 "Reporting on the Costs of Start-up
Activities" ("SOP 98-5"). SOP 98-5 requires that the costs of
start-up activities, including organization costs, be expensed as
incurred. As of June 30, 1998, the Company has approximately
$328,000 of capitalized costs on its balance sheet classified as
other assets that will have to be written-off as a cumulative
effect of change in accounting pursuant to SOP 98-5 upon adoption.
SOP 98-5 is effective for fiscal years ending after December 15, 1998.
The Company expects to adopt SOP 98-5 no later than the first
quarter of 1999.
In June 1998, the Financial Accounting Standards Board issued
Statement No. 133, Accounting for Derivative Instruments and Hedging
Activities, which is required to be adopted in years beginning after
June 15, 1999. The Statement permits early adoption as of the
beginning of any fiscal quarter after its issuance. The Company has
not yet determined when this new Statement will be adopted. The
Statement will require the Company to recognize all derivatives on the
balance sheet at fair value. Derivatives that are not hedges must
be adjusted to fair value through income. If the derivative is a
hedge, depending on the nature of the hedge, changes in the fair value
of derivatives will either be offset against the change in fair value
of the hedged assets, liabilities, or firm commitments through earnings
or recognized in other comprehensive income until the hedged item is
recognized in earnings. The ineffective portion of a derivative's
change in fair value will be immediately recognized in earnings.
The Company has not yet determined what the effect of statement 131 will
be on the earnings and financial position of the Company.
20
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1998 and 1997
Note 8: Comprehensive Income Effective January 1, 1998, the
Company adopted Financial Accounting Standard No. 130 "Reporting
Comprehensive Income" ("SFAS 130"). The provisions of SFAS 130
require the Company to classify items of other comprehensive income
in the financial statements and display the accumulated balance of
other comprehensive income separately from retained earnings and
additional paid-in capital in the equity section of the balance
sheet. The Company has also made similar reclassifications for all
prior periods for comparative purposes. Other comprehensive losses
for the six month and three month periods ended June 30, 1997, were
approximately $550,000 and $593,000 respectively. After
consideration of the other comprehensive loss items, the
comprehensive loss for the six month period ended June 30, 1997 was
approximately $4,521,000 and the comprehensive income for the three
month period ended June 30, 1997 was approximately $874,000. Other
comprehensive losses for the six month and three month periods
ended June 30, 1998, were approximately $606,000 and $616,000
respectively. After consideration of the other comprehensive loss
items, the comprehensive income for the six month and three month
periods ended June 30, 1998 were $10,093,000 and $805,000
respectively.
21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following Management's Discussion and Analysis of
Financial Condition and Results of Operations ("MD&A") should be
read in conjunction with a review of the Company's June 30, 1998
Condensed Consolidated Financial Statements.
Certain statements contained in this "Management's Discussion
and Analysis of Financial Condition and Results of Operations" may
be deemed forward-looking statements. See "Special Note Regarding
Forward-Looking Statements".
OVERVIEW
General
_______
The Company is pursuing a strategy of focusing on its more
profitable businesses and concentrating on businesses and product
lines in niche markets where the Company has established or
believes it can establish a position as a market leader. In
addition, the Company is seeking to improve its liquidity and
profits through liquidation of selected assets that are on its
balance sheet and on which it is not realizing an acceptable return
and does not reasonably expect to do so. In this connection, the
Company has come to the conclusion that its Automotive and
Industrial Products Businesses are non-core to the Company and the
Company is exploring various alternatives to maximize shareholder
value from these assets.
On August 5, 1998, the Company announced its intent, subject
to satisfactory completion of certain conditions, to spin-off the
Automotive Products Business ("Automotive") to its shareholders as
a dividend. The shares in Automotive would be distributed to LSB
shareholders on a pro-rata basis, with the exact number of shares
of Automotive to be issued in connection with the spin-off to be
determined. The spin-off of Automotive is subject to, among other
things, receipt from the Internal Revenue Service of confirmation
of tax-free treatment, certain Securities and Exchange Commission
filings, arrangement for lines of credit for Automotive, and LSB
Board of Directors' approval. There are no assurances that the
Company will spin-off Automotive.
Information about the Company's operations in different
industry segments for the six months and three months ended June
30, 1998 and 1997 is detailed below.
22
Six Months Three Months
1998 1997 1998 1997
_________ _________ _________ _________
(In thousands)
(Unaudited)
Sales:
Chemical $ 77,523 $ 90,196 $ 44,098 $ 49,597
Climate Control 59,257 47,822 29,321 26,199
Automotive Products 21,198 17,037 10,708 9,045
Industrial Products 7,491 7,447 3,306 4,427
________ ________ ________ _________
$165,469 $162,502 $ 87,433 $ 89,268
Gross profit (1):
Chemical $ 12,309 $ 12,783 $ 7,717 $ 9,399
Climate Control 17,321 13,683 8,985 7,675
Automotive Products 4,966 2,226 2,826 1,117
Industrial Products 1,700 1,611 851 1,190
________ ________ ________ _________
$ 36,296 $ 30,303 $ 20,379 $ 19,381
Operating profit (loss) (2):
Chemical $ 5,611 $ 4,734 $ 4,460 $ 5,379
Climate Control 6,312 4,391 3,500 2,840
Automotive Products 71 (2,889) 478 (1,663)
Industrial Products (518) (710) (214) (45)
________ ________ ________ _________
11,476 5,526 8,224 6,511
General corporate expenses
and other (4,671) (2,976) (2,842) (1,641)
Interest expense (8,839) (6,396) (3,981) (3,340)
Gain on sale of the Tower 12,993 - - -
________ ________ ________ _________
Income (loss) before
provision (credit) for
income taxes $ 10,959 $ (3,846) $ 1,401 $ 1,530
<FN>
(1) Gross profit by industry segment represents net sales less cost of
sales.
(2) Operating profit (loss) by industry segment represents revenues less
operating expenses before deducting general corporate expenses, interest
expense and income taxes and, in 1998, before gain on sale of the Tower.
</FN>
Chemical Business
_________________
Beginning in 1994, the results of operations of the Chemical
Business have been adversely impacted by the high cost of anhydrous
ammonia. From its most recent cyclical low in 1986 through 1993,
the average Gulf Coast price (the "Spot Price") of anhydrous
ammonia was approximately $100 per ton. During 1994 and in each of
the years since, a tightness in supply developed which resulted in
an increase in the Spot Price of anhydrous ammonia to an average of
approximately $195 per ton. The Company believes that the
tightness in supply of anhydrous ammonia that emerged in 1994 was
a result of increased industrial usage as the U.S. economy grew, a
net consolidation of the domestic capacity and a disruption in
supply coming from the former Soviet Union. Although prices for
anhydrous ammonia vary considerably from month to month, the annual
23
average price has remained high for each of the last three years.
The Company currently purchases approximately 220,000 tons of
anhydrous ammonia per year under two contracts, both effective as
of January 1, 1997. The Company's purchase price of anhydrous
ammonia under these contracts can be higher or lower than the Spot
Price of anhydrous ammonia. The higher prices have been partially
passed on to customers; however, the Chemical Business has not been
able to offset the entire cost increase with price increases for
its products resulting in lower gross profit margins during each of
the periods since the increase. The Company believes there is
approximately 2 million tons of additional annual capacity being
constructed in the western hemisphere scheduled for completion in
1998 and 1999. The Company believes this additional capacity may
contribute to a decline in the future market price of anhydrous
ammonia.
During July 1997, a subsidiary of the Company entered into an
agreement with Bayer Corporation ("Bayer") whereby the Company's
subsidiaries would act as agent to construct a nitric acid plant
located within Bayer's Baytown, Texas chemical plant complex. This
plant, when constructed, will be operated by the Company's
subsidiary and will supply nitric acid for Bayer's polyurethane
units under a long-term supply contract. Management estimates
that, after the initial startup phase of operations at the plant,
at full production capacity based on terms of the Bayer Agreement
and based on current market conditions, the plant should generate
approximately $50 million in annual gross revenues. It is
anticipated that the construction of the nitric acid plant at
Bayer's facility in Baytown, Texas, will cost approximately $65
million and construction is scheduled to be completed in the first
quarter of 1999. The Company's subsidiary is to lease the nitric
acid plant pursuant to a leverage lease from an unrelated third
party for an initial term of ten (10) years from the date that the
plant becomes fully operational, and the construction financing of
this plant is being provided by an unaffiliated lender.
In addition, in May 1998, the Company entered into a letter of
intent with Bayer to purchase Bayer's concentrated nitric acid
production unit (the "Unit") located at Bayer's plant in West
Virginia. Under the terms of the letter of intent, the Company
would, if the purchase is completed, pay to Bayer $2.0 million at
closing and the balance payable over six years. If the purchase is
completed, the Company would grant to Bayer a purchase money
mortgage on the Unit and would lease from Bayer the land on which
the Unit is located for a nominal amount. The purchase is subject
to, among other things, completion by the Company of its due
diligence, completion of a final purchase agreement and approval by
the Board of Directors of both parties. Completion of this
transaction, if completed, is to occur on or before December 31,
1999.
The results of operation of the Chemical Business' Australian
subsidiary have been adversely affected due to the recent economic
developments in certain countries in Asia. These economic
24
developments in Asia have had a negative impact on the mining
industry in Australia which the Company's Chemical Business
services. If these adverse economic conditions in Asia continue
for an extended period of time, such could have an adverse effect
on the Company's consolidated results of operations for 1998.
Climate Control
_______________
The Climate Control Business manufactures and sells a broad
range of hydronic fan coil, air handling, air conditioning,
heating, water source heat pump, and dehumidification products
targeted to both commercial and residential new building
construction and renovation.
The Climate Control Business focuses on product lines in the
specific niche markets of hydronic fan coils and water source heat
pumps and has established a significant market share in these
specific markets.
As indicated in the above table, the Climate Control Business
reported improved sales (an increase of 23.9%) and improved
operating profit for the first six months of 1998 as compared to
the first six months of 1997.
Automotive and Industrial Products Businesses
_____________________________________________
As indicated in the above table, during the six months ended
June 30, 1998 and 1997, respectively, the Automotive and Industrial
Products Businesses recorded combined sales of $28.7 million and
$24.5 million, respectively, and reported operating losses (as
defined above) of $.4 million and $3.6 million respectively. The
net investment in assets of these Businesses has decreased
consistently during the last three years and the Company expects to
realize further reductions in future periods. See "Overview -
General" for a discussion of the Company's intent to spin-off the
Automotive Business, subject to numerous conditions precedent.
RESULTS OF OPERATIONS
Six months ended June 30, 1998 vs. Six months ended June 30, 1997
_________________________________________________________________
Revenues
________
Total revenues for the six months ended June 30, 1998 and 1997
were $179.8 million and $166.3 million, respectively (an increase
of $13.5 million). Sales increased $3.0 million and other income
decreased $2.5 million. Additionally, in March 1998, a subsidiary
of the Company closed the sale of an Oklahoma City office building
("the Tower"). The Company recognized a pre-tax gain on the sale
of the Tower of approximately $13.0 million in the first quarter of
1998. The decrease in other income of $2.5 million was primarily
due to non-recurring matters related to the Tower.
25
Net Sales
_________
Consolidated net sales included in total revenues for the six
months ended June 30, 1998 were $165.5 million, compared to $162.5
million for the first six months of 1997, an increase of $3.0
million. This increase in sales resulted principally from: (i)
increased sales in the Climate Control Business of $11.4 million,
primarily due to increased volume in both the heat pump and fan
coil product lines, and (ii) increased sales in the Automotive
Products Business of $4.2 million primarily due to improved volume
of units being shipped to original equipment manufacturers and new
customers, offset by (iii) decreased sales in the Chemical Business
of $12.7 million primarily due to lower sales volume in the U.S. of
agricultural and blasting products and decreased business volume of
its Australian subsidiary.
Gross Profit
____________
Gross profit was 21.9% for the first six months of 1998,
compared to 18.6% for the first six months of 1997. The increase
in the gross profit percentage was due primarily to (i) increased
absorption of costs due to higher production volumes and improved
experience with returns and allowances in the Automotive Products
Business, (ii) lower production costs in the Chemical Business due
to the effect of lower prices of anhydrous ammonia in 1998, and
(iii) lower unabsorbed overhead costs caused by excessive downtime
related to problems associated with mechanical failures at the
Chemical Business' primary manufacturing plant in the first half of
1997.
Selling, General and Administrative Expense
___________________________________________
Selling, general and administrative ("SG&A") expenses as a
percent of net sales were 18.6% and 19.4% in the six month periods
ended June 30, 1998 and 1997, respectively. This decrease is
primarily the result of (i) decreased SG&A expenses compounded by
an increase in sales volume in the Automotive Products Business,
(ii) increased sales volume in the Climate Control Business without
an equivalent corresponding increase in SG&A, (iii) decreased
professional fees related to environmental matters in the Chemical
Business, and (iv) decreased SG&A on the operations of the Tower
since it was sold in March of 1998 but was included for the full
six months in 1997.
Interest Expense
________________
Interest expense for the Company, before deducting capitalized
interest, was approximately $8.8 million during the six months
ended June 30, 1998 compared to approximately $7.5 million during
the six months ended June 30, 1997. During the first six months of
1997, $1.1 million of interest expense was capitalized in
connection with construction of the DSN Plant. The 1998 increase
26
of $1.3 million before the effect of capitalization primarily
resulted from increased borrowings.
Income (Loss) Before Tax
________________________
The Company had income before income taxes of $11.0 million in
the first six months of 1998 compared to a loss before income taxes
of $3.8 million in the six months ended June 30, 1997. The
increased profitability of $14.8 million was primarily due to the
gain on the sale of the Tower and increased sales and gross profits
as previously discussed, partially offset by increased interest
expense.
Provision For Income Taxes
__________________________
As a result of the Company's net operating loss carryforward
for income tax purposes as discussed elsewhere herein and in Note
1 of Notes to Condensed Consolidated Financial Statements, the
Company's provisions for income taxes for the six months ended June
30, 1998 and the six months ended June 30, 1997 are for current
state income taxes and federal alternative minimum taxes.
Three months ended June 30, 1998 vs. Three months ended June 30,
1997.
________________________________________________________________
Revenues
________
Total revenues for the three months ended June 30, 1998 and
1997 were $87.6 million and $91.4 million, respectively (a decrease
of $3.8 million). Sales decreased $1.8 million and other income
decreased $2.0 million. The decrease in other income is primarily
due to non-recurring operations of the Tower after it was sold in
March 1998.
Net Sales
_________
Consolidated net sales included in total revenues for the
three months ended June 30, 1998 were $87.4 million, compared to
$89.3 million for the second quarter of 1997, a decrease of $1.9
million. This decrease in sales resulted principally from: (i)
decreased sales in the Chemical Business of $5.5 million primarily
due to lower sales in the U.S. of agricultural and blasting
products and decreased business volume of its Australian
subsidiary, and (ii) decreased sales in the Industrial Products
Business of $1.1 million due to decreased sales of machine tools,
offset by (iii) increased sales in the Climate Control Business of
$3.1 million due to increased sales in this Business' Heat Pump and
Fan Coil product lines, and (iv) increased sales in the Automotive
27
Products Business of $1.7 million due to increased volume of units
shipped to original equipment manufacturers and new customers.
Gross Profit
____________
Gross profit was 23.3% for the second quarter of 1998,
compared to 21.7% for the second quarter of 1997. The increase in
the gross profit percentage was due primarily to (i) increased
absorption of costs due to higher production volumes in the
Automotive Products Business, and (ii) lower production costs in
the Chemical Business due to the effect of lower prices of
anhydrous ammonia in 1998, and (iii) lower unabsorbed overhead
costs caused by excessive downtime related to problems associated
with mechanical failures at the Chemical Business' primary
manufacturing plant in 1997.
Selling, General and Administrative Expense
___________________________________________
Selling, general and administrative ("SG&A") expenses as a
percent of net sales were 17.4% in the three month period ended
June 30, 1998, compared to 18.7% for the second quarter of 1997.
This decrease is primarily the result of (i) decreased SG&A
expenses compounded by an increase in sales volume in the
Automotive Products Business, (ii) increased sales volume in the
Climate Control Business without an equivalent corresponding
increase in SG&A, (iii) decreased professional fees related to
environmental matters in the Chemical Business, and (iv) decreased
SG&A on the operations of the Tower since it was sold in March of
1998.
Interest Expense
________________
Interest expense for the Company was $4.0 million during the
second quarter of 1998, compared to $3.7 million, before deducting
capitalized interest, during the second quarter of 1997. During
the second quarter of 1997, $.4 million of interest expense was
capitalized in connection with construction of the DSN Plant. The
increase of $.3 million before the effect of capitalization
primarily resulted from increased borrowings.
Income Before Taxes
___________________
The Company had income before income taxes of $1.4 million in
the second quarter of 1998 compared to income before income taxes
of $1.5 million in the three months ended June 30, 1997. The difference
is composed principally of a reduction in other income offset by a
reduction in SG&A.
28
Liquidity and Capital Resources
_______________________________
Cash Flow From Operations
_________________________
Historically, the Company's primary cash needs have been for
operating expenses, working capital and capital expenditures. The
Company has financed its cash requirements primarily through
internally generated cash flow and borrowings under its revolving
credit facilities, and more recently, by issuance of senior
unsecured notes by a wholly owned subsidiary and the sale of the
Tower.
Net cash provided by operations for the six months ended June
30, 1998 was $1.3 million, after $6.7 million for noncash
depreciation and amortization, $1.1 million in provisions for
possible losses on accounts receivable, notes receivable and a loan
guarantee and the $13.0 million gain from the sale of the Tower and
including the following changes in assets and liabilities: (i)
accounts receivable increases of $4.4 million; (ii) inventory
decreases of $3.8 million; (iii) increases in supplies and prepaid
items of $1.6 million; and (iv) decreases in accounts payable and
accrued liabilities of $2.0 million. The increase in accounts
receivable is due to increased sales primarily in the Climate
Control and Automotive Products Businesses (see "Results of
Operations" for discussion of increase in sales) and seasonal sales
of agricultural products in the Chemical Business. The decrease in
inventory was due primarily to a decrease at the Chemical Business
due to seasonal sales of agricultural products and inventory
reductions in the Automotive and Industrial Products Businesses
resulting from liquidation of inventories. Inventory in the
Automotive and Industrial Products Businesses decreased from $29.4
million at December 31, 1997 to $27.3 million at June 30, 1998.
The increase in supplies and prepaid items resulted primarily from
an increase in manufacturing supplies in the Chemical Business.
The decrease in accounts payable and accrued liabilities is
primarily due to reduced seasonal inventory purchases in the
Chemical Business.
Cash Flow From Investing And Financing Activities
_________________________________________________
Cash provided by investing activities for the six months ended
June 30, 1998 included cash proceeds of $29.3 million received on
the sale of the Tower (see Note 4 of Notes to Condensed
Consolidated Financial Statements) offset by $3.8 million in
capital expenditures and $1.3 million used to increase other
assets. The capital expenditures took place primarily in the
Chemical and Climate Control Businesses to enhance production and
29
product delivery capabilities. The increase in other assets
includes a $1.0 million escrow account relating to the sale of the
Tower.
Net cash used by financing activities included (i) payments on
long-term debt of $18.6 million, including the $12.6 million payoff
of the mortgage on the Tower, (ii) net decreases in revolving debt
of $3.3 million, after application of net proceeds of $15.5 million
from the sale of the Tower, (iii) increases in drafts payable of
$.2 million, (iv) dividends of $1.7 million, and (v) treasury stock
purchases of $1.6 million.
During the first six months of 1998, the Company declared and
paid dividends totaling $1,747,000, as follows: (i) $6.00 per
share on each of the outstanding shares of its Series B 12%
Cumulative Convertible Preferred Stock; (ii) $1.625 per share on
each outstanding share of its $3.25 Convertible Exchangeable Class
C Preferred Stock, Series 2; (iii) $.01 per share on each
outstanding share of its Common Stock; and (iv) $10.00 per share on
each outstanding share of its Convertible Noncumulative Preferred
Stock.
Source of Funds
_______________
The Company is a diversified holding Company and its liquidity
is dependent, in large part, on the operations of its subsidiaries
and credit agreements with lenders.
In October 1997, the Company organized a new wholly owned
subsidiary, ClimaChem, Inc. ("ClimaChem"). ClimaChem owns
substantially all of the Company's Chemical and Climate Control
Businesses. On November 26, 1997, ClimaChem issued senior
unsecured notes ("Old Notes") in the aggregate amount of $105
million pursuant to the terms of an indenture (the "Indenture"),
which Old Notes were exchanged for new registered notes in April
1998 ("New Notes"). The terms of the New Notes were the same as
the Old Notes, except for certain limited exceptions. The New
Notes evidence the same debt as the Old Notes (which they
replaced). The Old Notes and the New Notes are collectively called
the "Notes". The Notes are jointly and severally and fully and
unconditionally guaranteed on a senior basis by all, except for one
inconsequential subsidiary, of the existing and all of the future
subsidiaries of ClimaChem. One current subsidiary of ClimaChem,
which is currently inconsequential to ClimaChem, is not a guarantor
of the Notes. The Company is neither an issuer of, nor a guarantor
under, the Notes.
Interest on the Notes is payable semiannually on June 1 and
December 1 of each year, commencing June 1, 1998. The Notes will
30
mature on December 1, 2007, unless earlier redeemed. The Notes are
redeemable at the option of the Company on December 1, 2002 at
105.375% of the principal amount declining to face amount at
December 1, 2005 and thereafter under the terms set forth in the
Indenture. The Notes are effectively subordinated to all secured
indebtedness of ClimaChem and its subsidiaries.
Under the terms of the Indenture, ClimaChem and its
subsidiaries cannot transfer funds to the Company in the form of
cash dividends or other distributions or advances, except for (i)
the amount of taxes that ClimaChem would be required to pay if they
were not consolidated with the Company and (ii) an amount not to
exceed fifty percent (50%) of ClimaChem's net income for the year
in question and (iii) the amount of direct and indirect costs and
expenses incurred by the Company on behalf of ClimaChem pursuant to
a certain services agreement and a certain management agreement to
which ClimaChem and the Company are parties.
The Company and certain of its subsidiaries are parties to a
working capital line of credit evidenced by four separate loan
agreements ("Revolving Credit Agreements") with an unrelated lender
("Lender") collateralized by receivables, inventory, and
proprietary rights of the Company and the subsidiaries that are
parties to the Revolving Credit Agreements and the stock of certain
of the subsidiaries that are borrowers under the Revolving Credit
Agreements. The Revolving Credit Agreements, as amended, provide
for revolving credit facilities ("Revolver") for total direct
borrowings up to $65.0 million, including the issuance of letters
of credit. The Revolver provides for advances at varying
percentages of eligible inventory and trade receivables. The
Revolving Credit Agreements, as amended, provide for interest at
the lender's prime rate plus 1.5% per annum or, at the Company's
option, on the Lender's LIBOR rate plus 3.875% per annum (which
rates are subject to increase or reduction based upon achieving
specified availability and adjusted tangible net worth levels). At
June 30, 1998 the effective interest rate was 10.0%. The term of
the Revolving Credit Agreements is through December 31, 2000, and
is renewable thereafter for successive thirteen month terms. At
June 30, 1998, the availability for additional borrowings, based on
eligible collateral, approximated $36.5 million. Borrowings under
the Revolver outstanding at June 30, 1998, were $16.0 million. The
Revolving Credit Agreements, as amended, require the Company to
maintain certain financial ratios and contain other financial
covenants, including tangible net worth requirements and capital
expenditure limitations. At June 30, 1998, the Company and
ClimaChem were not in compliance with certain of these financial
covenants. In August, 1998, the Company and ClimaChem obtained
waivers for such noncompliance and amendments to reset the
covenants to amounts the Company and ClimaChem expect to achieve in
31
future periods. The annual interest on the outstanding debt under
the Revolver at June 30, 1998 at the rates then in effect would
approximate $1.6 million. The Revolving Credit Agreements also
require the payment of an annual facility fee of 0.5% of the unused
revolver.
In addition to the Revolving Credit Agreements discussed
above, as of June 30, 1998, the Company's wholly-owned subsidiary,
DSN Corporation ("DSN"), is a party to several loan agreements with
a financial company (the "Financing Company") for three projects.
At June 30, 1998, DSN had outstanding borrowings of $12.3 million
under these loans. The loans have repayment schedules of 84
consecutive monthly installments of principal and interest. The
interest rate on each of the loans is fixed and range from 8.2% to
8.9%. Annual interest, for the three notes as a whole, at June 30,
1998, at the agreed to interest rates would approximate $1.1
million. The loans are secured by the various DSN property and
equipment. The loan agreements require ClimaChem to maintain
certain financial ratios, including tangible net worth
requirements. At June 30, 1998, ClimaChem was not in compliance
with the tangible net worth covenant of these agreements. In
August 1998, ClimaChem obtained a waiver for such noncompliance
and a waiver through June 1999 to the extent that noncompliance
is caused by the Management Fee Agreement between LSB and ClimaChem.
The Company expects to be in compliance with these Agreements,
after consideration of the waiver, in future periods
The Company's Australian subsidiary has a revolving credit
working capital facility (the "TES Revolving Facility"). The TES
Revolving Facility is approximately AUS$10.5 million (approximately
US$6.4 million). The TES Revolving Facility allows for borrowings
based on specific percentages of qualified eligible assets. At June
30, 1998, based on the effective exchange rate, the availability
under the TES Revolving Facility was approximately US$6.4 million
(AUS$10.5 million), with approximately US$2.5 million (AUS$4.1
million approximately) being borrowed at June 30, 1998. Such debt
is secured by substantially all the assets of TES, plus an
unlimited guarantee and indemnity from LSB and certain subsidiaries
of TES. The interest rate on this debt is dependent upon the
borrowing option elected by TES and had a weighted average rate of
7.2% at June 30, 1998. TES is in technical noncompliance with a
certain financial covenant contained in the loan agreement
involving the TES Revolving Facility. However, this covenant was
not met at the time of closing of this loan and the Bank of New
Zealand, Australia has continued to extend credit under this
facility. The outstanding borrowing under the TES Revolving
Facility at June 30, 1998, has been classified as due within one
year in the accompanying condensed consolidated financial
statements.
32
Future cash requirements include working capital requirements
for anticipated sales increases in all Businesses and funding for
future capital expenditures. Funding for the higher accounts
receivable resulting from anticipated sales increases will be
provided by cash flow generated by the Company and the revolving
credit facilities discussed elsewhere in this report. Inventory
requirements for the higher anticipated sales activity should be
met by scheduled reductions in the inventories of the Industrial
Products Business and in the inventories of the Automotive Products
Business. Currently the Company is limited to capital expenditures
of $6 million annually under the Revolving Credit Agreements
discussed above. The Company has requested an amendment to
increase permitted annual capital expenditures to $10.0 million.
If this amendment is approved, the Company has planned capital
expenditures of approximately $10.0 million in 1998, primarily in
the Chemical and Climate Control Businesses.
Management believes that cash flows from operations, the
Company's revolving credit facilities, and other sources will be
adequate to meet its presently anticipated capital expenditure,
working capital, debt service, and dividend requirements. The
Company currently has no material commitment for capital
expenditures, except as discussed under "Overview - Chemical
Business" of this "Management's Discussion and Analysis of
Financial Condition and Results of Operations" regarding the letter
of intent with Bayer Corporation to purchase a nitric acid unit.
In addition, the Company's subsidiary has agreed to act as agent to
construct a nitric acid plant as discussed under "Overview -
Chemical Business" of this "Management's Discussion and Analysis of
Financial Condition and Results of Operations". Further, the
Company's Chemical Business may be required to incur additional
capital expenditures as discussed in Note 5 of Notes to Condensed
Consolidated Financial Statements regarding a "Groundwater
Monitoring Work Plan" and the draft of the proposed Consent
Administrative Agreement related to the Chemical Business'
wastewater treatment system. At the date of this report, the cost
of the expenditures for these environmental matters has not been
determined.
Joint Ventures and Options to Purchase
______________________________________
Prior to 1997, the Company, through a subsidiary, loaned $2.8
million to a French manufacturer of HVAC equipment whose product
line is compatible with that of the Company's Climate Control
Business in the USA. Under the loan agreement, the Company has the
option to exchange its rights under the loan for 100% of the
borrower's outstanding common stock. The Company obtained a
security interest in the stock of the French manufacturer to secure
its loan. During 1997 the Company advanced an additional $1
33
million to the French manufacturer bringing the total of the loan
at December 31, 1997 to $3.8 million. As of June 30, 1998 the
balance of the loan remained $3.8 million. As of the date of this
report, the decision has not been made to exercise such option and
the $3.8 million loan, less a $1.5 million valuation reserve, is
carried on the books as a note receivable in other assets.
In 1995, a subsidiary of the Company invested approximately
$2.8 million to purchase a fifty percent (50%) limited partner
interest in an energy conservation joint venture (the "Project").
The Project had been awarded a contract to retrofit residential
housing units at a US Army base which it completed during 1996.
The completed contract was for installation of energy-efficient
equipment (including air conditioning and heating equipment), which
would reduce utility consumption. For the installation and
management, the Project will receive an average of seventy-seven
percent (77%) of all energy and maintenance savings during the
twenty (20) year contract term. The Project spent approximately
$17.5 million to retrofit the residential housing units at the US
Army base. The Project received a loan from a lender to finance
approximately $14.0 million of the cost of the Project. The
Company is not guaranteeing any of the lending obligations of the
Project.
During 1995, the Company executed a stock option agreement to
acquire eighty percent (80%) of the stock of a specialty sales
organization ("Optioned Company"), which owns the remaining fifty
percent (50%) equity interest in the Project discussed above, to
enhance the marketing of the Company's air conditioning products.
The stock option has a four (4) year term, and a total option
granting price of $1.0 million and annual $100,000 payments for
yearly extensions of the stock option thereafter for up to three
(3) years. Through the date of this report the Company has made
option payments aggregating $1.3 million and has loaned the
Optioned Company approximately $1.4 million. The Company has
recorded reserves of $1.1 million against the loans. Upon exercise
of the stock option by the Company, or upon the occurrence of
certain performance criteria which would give the grantors of the
stock option the right to accelerate the date on which the Company
must elect whether to exercise, the Company shall pay certain cash
and issue promissory notes for the balance of the exercise price of
the subject shares. The total exercise price of the subject shares
is $4.0 million, less the amounts paid for the granting and any
extensions of the stock option. As of the date of this report, no
decision to exercise this option has been reached by the Company.
34
Debt Guarantee
______________
The Company and one of its subsidiaries have guaranteed
approximately $2.6 million of indebtedness of a startup aviation
company in exchange for an ownership interest. The debt guarantee
relates to two note instruments. One note for which the subsidiary
had guaranteed up to $600,000 had a balance of approximately $2.0
million as of June 30, 1998. The other note in the amount of $2.0
million requires monthly principal payments of $11,111 plus
interest beginning in October 1998 through August 8, 1999, at which
time all outstanding principal and accrued interest are due. In
the event of default of the $2.0 million note, the Company is
required to assume payments on the note with the term extended
until August 2004. Both notes are current as to principal and
interest as of June 30, 1998.
In the first six months of 1998, the aviation company made
capital calls on its shareholders. In contemplation of a sale of
the aviation company to an additional investor and pursuant to such
capital calls, the Company invested an additional $635,000 and
loaned an additional net amount of $33,000 to the aviation company
in exchange for additional stock. These transactions increased the
Company's ownership interest to approximately 40.7%. Prior to
funding, if any, by third parties, the Company may be requested to
make additional purchases of capital stock of the aviation company
and/or make additional advances.
Availability of Company's Loss Carry-overs
__________________________________________
The Company anticipates that its cash flow in future years
will benefit from its ability to use net operating loss ("NOL")
carry-overs from prior periods to reduce the federal income tax
payments which it would otherwise be required to make with respect
to income generated in such future years. Such benefit, if any is
dependent on the Company's ability to generate taxable income in
future periods, for which there is no assurance. Such benefit if
any, will be limited by the Company's reduced NOL for alternative
minimum tax purposes which is approximately $18 million at June 30,
1998. As of December 31, 1997, the Company had available NOL
carry-overs of approximately $65 million. These NOL carry-overs
will expire beginning in the year 1999. Due to its recent history
of reporting net losses, the Company has established a valuation
allowance on a portion of its NOLs and thus has not recognized the
full benefit of its NOLs in the accompanying Condensed Consolidated
Financial Statements.
35
The amount of these carry-overs has not been audited or
approved by the Internal Revenue Service ("IRS") and, accordingly,
no assurance can be given that such carry-overs will not be reduced
as a result of audits in the future. In addition, the ability of
the Company to utilize these carry-overs in the future will be
subject to a variety of limitations applicable to corporate
taxpayers generally under both the Internal Revenue Code of 1986,
as amended, and the Treasury Regulations. These include, in
particular, limitations imposed by Code Section 382 and the
consolidated return regulations.
Contingencies
The Company has several contingencies that could impact its
liquidity in the event that the Company is unsuccessful in
defending against the claimants. Although management does not
anticipate that these claims will result in substantial adverse
impacts on its liquidity, it is not possible to determine the
outcome.
36
SPECIAL NOTE REGARDING
FORWARD-LOOKING STATEMENTS
Certain statements contained within this report may be deemed
"Forward-Looking Statements" within the meaning of Section 27A of
the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. All statements in
this report other than statements of historical fact are Forward-
Looking Statements that are subject to known and unknown risks,
uncertainties and other factors which could cause actual results
and performance of the Company to differ materially from such
statements. The words "believe", "expect", "anticipate", "intend",
"will", and similar expressions identify Forward-Looking
Statements. Forward-Looking Statements contained herein relate to,
among other things, (i) establish a plan to dispose of non-core
assets, (ii) ability to complete the spin-off of the Automotive
Products Business, (iii) the EDNC Baytown Plant will cost
approximately $65 million, will be completed by the first quarter
of 1999 and, when the EDNC Baytown Plant is fully operational, the
annual sales volume from such plant will be approximately $50.0
million, (iv) ability to meet presently anticipated capital
expenditures, working capital, debt service and dividend
requirements,(v) amount to be spent in 1998 relating to compliance
with federal, state and local Environmental laws at the El Dorado
Facility, (vi) improve liquidity and profits through liquidation of
assets, (vii) anticipated financial performance, (viii) ability to
comply with the Company's general working capital requirements,
(ix) ability to be able to continue to borrow under the Company's
revolving line of credit, (x) ability to use NOL carry-overs from
prior years, (xi) contingencies should not have a material adverse
impact on the Company's liquidity, (xii) ability to be in compliance
with certain financial covenants contained in certain loan agreements,
and (xiii) ability to complete certain settlements. While the Company
believes the expectations reflected in such Forward-Looking Statements
are reasonable, it can give no assurance such expectations will prove
to have been correct. There are a variety of factors which could cause
future outcomes to differ materially from those described in this report,
including, but not limited to, (i) decline in general economic conditions,
both domestic and foreign, (ii) material reduction in revenues, (iii)
inability to collect in a timely manner a material amount of receivables,
(iv) increased competitive pressures, (v) costs cannot be reduced or cost
reduction projects are not completed on schedule, (vi) contracts are not
obtained or projects are not finalized within a reasonable period of time
or on schedule, (vii) inability to dispose of non-core businesses or
assets in a reasonable manner or on reasonable terms due to the inability
to dispose of such on prices or terms satisfactory to the Company or
37
inability to spin-off such businesses due to legal impediments,
(viii) changes in federal, state and local laws and regulations,
especially environmental regulations, or in interpretation of such,
(ix) additional releases (particularly air emissions into the environment),
(x) potential increases in equipment, maintenance, operating or labor costs
not presently anticipated by the Company, (xi) inability to retain management
or to develop new management, (xii) the requirement to use internally
generated funds for purposes not presently anticipated, (xiii)
inability to become profitable, or if unable to become profitable,
the inability to secure additional liquidity in the form of
additional equity or debt, (xiv) the effect of additional
production capacity of anhydrous ammonia in the western hemisphere,
(xv) the cost for the purchase of anhydrous ammonia not reducing or
continuing to increase or the cost for natural gas increases, (xvi)
changes in operating strategy or development plans, (xvii)
inability to fund the expansion of the Company's businesses,
(xviii) adverse results in any of the Company's pending
litigation,(xix) inability to finalize the settlements of the
pending environmental litigation or the Company's insurance does
not cover a substantial portion of such settlements, (xx) NOL
carry-overs are limited or reduced as a result of future audits by
the IRS or being limited or reduced by limitations applicable to
corporate taxpayers, including, without limitation, limitations
imposed by code Section 382 and the consolidated return
limitations, and (xxi) other factors described in "Management's
Discussion and Analysis of Financial Condition and Results of
Operation" contained in this report. Given these uncertainties,
all parties are cautioned not to place undue reliance on such
Forward-Looking Statements. The Company disclaims any obligation
to update any such factors or to publicly announce the result of
any revisions to any of the Forward-Looking Statements contained
herein to reflect future events or developments.
38
Independent Accountants' Review Report
Board of Directors
LSB Industries, Inc.
We have reviewed the accompanying condensed consolidated balance
sheet of LSB Industries, Inc. and subsidiaries as of June 30, 1998,
and the related condensed consolidated statements of operations for
the six month and three month periods ended June 30, 1998 and 1997
and the condensed consolidated statements of cash flows for the six
month periods ended June 30, 1998 and 1997. These financial
statements are the responsibility of the Company's management.
We conducted our reviews in accordance with standards established
by the American Institute of Certified Public Accountants. A
review of interim financial information consists principally of
applying analytical procedures to financial data, and making
inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit conducted
in accordance with generally accepted auditing standards, which
will be performed for the full year with the objective of
expressing an opinion regarding the financial statements taken as
a whole. Accordingly, we do not express such an opinion.
Based on our reviews, we are not aware of any material
modifications that should be made to the accompanying condensed
consolidated financial statements referred to above for them to be
in conformity with generally accepted accounting principles.
We have previously audited, in accordance with generally accepted
auditing standards, the consolidated balance sheet of LSB
Industries, Inc. as of December 31, 1997, and the related
consolidated statements of operations, stockholders' equity and
cash flows for the year then ended (not presented herein); and in
our report dated March 16, 1998, except for the fourth paragraph of
Note 5(A), as to which the date is April 8, 1998, we expressed an
unqualified opinion on those consolidated financial statements. In
our opinion, the information set forth in the accompanying
condensed consolidated balance sheet as of December 31, 1997, is
fairly stated, in all material respects, in relation to the
consolidated balance sheet from which it has been derived.
ERNST & YOUNG LLP
Oklahoma City, Oklahoma
August 14, 1998
39
PART II
OTHER INFORMATION
Item 1. Legal Proceedings
______ _________________
There are no additional material legal proceedings pending
against the Company and/or its subsidiaries not previously reported
by the Company in Item 3 of its Form 10-K for the fiscal period
ended December 31, 1997, which Item 3 is incorporated by reference
herein. The following settlements or material developments have
occurred regarding certain litigation reported in Item 3 of the
Company's Form 10-K for the year ended December 31, 1997:
Roy Carr, et. al v. El Dorado Chemical Company ("Carr Case");
Richard Detraz, et. al v. El Dorado Chemical Company ("Detraz
Case"); Roy A. Carr, Sr., et. al v. El Dorado Chemical Company
("Citizen Suit"), which are or were pending against El Dorado
Chemical Company ("EDC"), a subsidiary of the Company within the
Company's Chemical Business, in the United States District Court,
Western District of Arkansas. During the second quarter of 1998,
EDC (i) settled the Carr Case, (ii) obtained court approval of a
Consent Decree in settlement of the Citizen Suit, and (iii) settled
the Detraz Case.
Under the terms of the Consent Decree in settlement of the
Citizen Suit, which is subject to court approval, EDC has agreed
to, among other things, (i) the granting of injunctive relief
requiring its El Dorado, Arkansas facility("El Dorado Facility") to
(a) comply with certain discharge, monitoring and reporting
requirements of its waste water discharge permit, the emission
limitations of its air permit and the notification requirements
under certain sections of certain environmental laws and the
statutory penalties for failure to comply with such notification
requirements, (b) perform air and water tests to determine if the
El Dorado Facility is meeting certain compliance levels and, if the
tests do not meet the required compliance levels, to make the
necessary corrections so that such compliance levels can be met,
and (c) limitations relating to the El Dorado Facility's use of its
older concentrated nitric acid plant, (ii) provide the plaintiffs
with copies of certain documents forwarded to, or received by,
appropriate environmental regulatory agencies by the El Dorado
Facility and summaries of certain test results at the El Dorado
Facility, (iii) pay to the U.S. Treasury $50,000 as a penalty, and
(iv) pay certain stipulated penalties under certain conditions in
the event the El Dorado Facility fails to comply with the terms of
the Consent Decree. The $50,000 payment to the U.S. Treasury has
been made by the Company's Chemical Business.
40
Under the Carr Case and Detraz Case settlements, certain cash
payments will be or are to be made to the plaintiffs as a result of
such settlements. Substantially all such cash settlement payments
made in the Carr Case and to be made in the Detraz Case have been
funded or are to be funded directly by the Company's EIL Insurance.
See Note 5 to Notes to Condensed Consolidated Financial Statements
and "Special Note Regarding Forward - Looking Statements."
Item 2. Changes in Securities and Use of Proceeds
______ _________________________________________
(a) In April 1998, ClimaChem, Inc. ("ClimaChem"), a subsidiary
of the Company, exchanged its $105 million in 10 3/4% Senior Notes
Due 2007 ("Old Notes") for $105 million of 10 3/4% Series B Senior
Notes Due 2007 ("New Notes") that were registered under the
Securities Act of 1933, as amended (the "Act"). The Old Notes were
sold by ClimaChem to Wasserstein Perella Securities, Inc., who
subsequently resold the Old Notes to qualified institutional buyers
pursuant to Rule 144A under the Act. The form and terms of the New
Notes are the same as the form and terms of the Old Notes (which
they replaced), except the New Notes bear a Series B designation,
have been registered under the Act and, therefore, do not bear
legends restricting their transfer and do not contain certain
provisions relating to liquidated damages which were included in
the Old Notes in certain circumstances relating to the timing of
the exchange offer of the New Notes for the Old Notes. The New
Notes evidence the same debt as the Old Notes (which they replaced)
and were issued and entitled to the benefits of an Indenture, dated
November 26, 1997, between ClimaChem, the Guarantors (as defined in
the Indenture) and BankOne, N.A., as trustee governing the Old
Notes and the New Notes. See Note 6 of Notes to Condensed
Consolidated Financial Statements and "Management Discussion and
Analysis of Financial Condition and Results of Operations".
Item 3. Defaults Upon Senior Securities
______ _______________________________
Not applicable.
41
Item 4. Submission of Matters to a Vote of Security Holders
______ ___________________________________________________
At the Company's 1998 Annual Meeting of Shareholders held on
June 25, 1998, the following nominees to the Board of Directors
were elected as directors of the Company:
Number of
Shares Number of
"Against" and Abstentions
Number of to "Withhold and Broker
Name Shares "For" Authority" Non-Votes
----- ----------- ----------- -----------
Robert C. Brown, M.D. 11,861,713 123,973 0
Gerald J. Gagner 11,861,713 123,973 0
Jack E. Golsen 11,861,613 124,073 0
Horace G. Rhodes 11,861,613 124,073 0
Messrs Brown, Golsen and Rhodes had been serving on the Board
of Directors at the time of the Annual Meeting and were reelected
for a term of three (3) years. Mr. Gagner had been serving as a
director of the Company at the time of the Annual Meeting and was
elected for a term of one (1) year. The following are the
directors whose terms of office continued after such Annual
Meeting: Raymond B. Ackerman, Barry H. Golsen, David R. Goss,
Bernard G. Ille, Donald J. Munson, Jerome D. Shaffer, M.D. and Tony
M. Shelby.
At the Annual Meeting, Ernst & Young, LLP, Certified Public
Accountants, was appointed as independent auditors of the Company
for 1998, as follows:
Number of
Shares
"Against" Number of
and to Abstentions
Number of "Withhold and Broker
Shares "For" Authority" Non-Votes
----------- ---------- -----------
11,930,073 52,191 3,422
Item 5. Other Information
______ _________________
As set forth in the Company's Proxy Statement for its 1998
Annual Meeting of Stockholders, stockholder proposals submitted to
the Company pursuant to Rule 14a-B under the Securities Exchange
Act of 1934, as amended (the "Exchange Act"), for inclusion in the
Company's proxy materials for its 1999 Annual Meeting of
42
Stockholders must be received by the Company no later than January
26, 1999. Under the Company's Bylaws, as amended August 13, 1998,
any stockholder proposal submitted with respect to the Company's
1999 Annual Meeting of Stockholders which is received by the
Company after April 6, 1999 will not be considered to be properly
brought before the 1999 Annual Meeting of Stockholders. Under the
Company's Bylaws existing prior to August 13, 1998, any stockholder
proposal submitted with respect to the Company's 1999 Annual
Meeting of Stockholders which was received by the Company after the
date 50 days prior to the date of the Company's next annual meeting
of stockholders (or in event that less than 60 days notice or
public disclosure of the date of the Company's next annual meeting
of stockholders was given or made to stockholders, after the close
of business on the 10th day following the day on which notice of
the date of the meeting was first mailed or public disclosure was
made) would not be considered to be properly brought before the
next annual meeting of stockholders.
Item 6. Exhibits and Reports on Form 8-K
______ ________________________________
(A) Exhibits. The Company has included the following
exhibits in this report:
3(ii) Bylaws
4.1 Third Amendment to Amended and Restated Loan and Security
Agreement between the Company and BankAmerica Business Credit,
Inc. ("BABC"). Substantially identical amendments have been
entered into by each of L&S Bearing Co. and Summit Machine
Tool Manufacturing Corp. with BABC, and such are hereby
omitted
and will be provided upon the Commission's request.
4.2 Third Amendment to Amended and Restated Loan and Security
Agreement between BABC and Climate Master, Inc., International
Environmental Corporation, El Dorado Chemical Company and
Slurry Explosives Corporation.
15.1 Letter Re: Unaudited Interim Financial Information.
27.1 Financial Data Schedule
(B) Reports of Form 8-K. The Company did not file any
reports on Form 8-K during the quarter ended June 30,
1998.
43
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, as amended, the Company has caused the undersigned, duly-
authorized, to sign this report on its behalf on this 14th day of
August 1998.
LSB INDUSTRIES, INC.
By: /s/ Tony M. Shelby
________________________________
Tony M. Shelby
Senior Vice President of Finance
(Principal Financial Officer)
By: /s/ Jim D. Jones
_________________________________
Jim D. Jones
Vice President, Controller and
Treasurer(Principal Accounting
Officer)
44
EXHIBIT INDEX
_____________
Exhibit Sequential
No. Description Page No.
_______ ___________ __________
3(ii) Bylaws 46
4.1 Third Amendment to Amended and Restated
Loan and Security Agreement between the
Company and BankAmerica Business Credit,
Inc. ("BABC"). Substantially identical
amendments have been entered into by
each of L&S Bearing Co. and Summit
Machine Tool Manufacturing Corp. with
BABC, and such are hereby omitted and
will be provided upon the Commission's
request. 86
4.2 Third Amendment to Amended and Restated
Loan and Security Agreement between BABC
and Climate Master, Inc., International
Environmental Corporation, El Dorado
Chemical Company and Slurry Explosives
Corporation. 95
15.1 Letter Re: Unaudited Interim Financial
Information 104
27.1 Financial Data Schedule 105
45