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, 1999
_____________________________
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 August 6, 1999 was 11,818,759 shares excluding
3,289,957 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, 1999, the condensed consolidated
statements of operations and cash flows for the six month and three
month periods ended June 30, 1999 and 1998 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, except for the loss
provision recognized in the second quarter on firm raw material
purchase commitments and a lower of cost or market adjustment
as discussed in Note 10 to the Condensed Consolidated Financial
Statements, which are, in the opinion of management, necessary
for a fair presentation of the interim periods. The results of
operations for the six months ended June 30, 1999, are not
necessarily indicative of the results to be expected for the full
year. The condensed consolidated balance sheet at December 31,
1998, was derived from audited financial statements as of that
date. Reference is made to the Company's Annual Report on Form 10-K
for the year ended December 31, 1998, for an expanded discussion
of the Company's financial disclosures and accounting policies.
LSB INDUSTRIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Information at June 30, 1999 is unaudited)
(dollars in thousands)
June 30, December 31,
ASSETS 1999 1998
______ ________ ____________
Current assets:
Cash and cash equivalents $ 3,039 $ 1,555
Trade accounts receivable, net 58,143 52,730
Inventories:
Finished goods 27,708 34,236
Work in process 7,930 7,178
Raw materials 21,469 22,431
_________ _________
Total inventory 57,107 63,845
Supplies and prepaid items 10,626 7,809
Long-lived assets to be disposed of
net (Note 9) 4,694 -
_________ _________
Total current assets 133,609 125,939
Property, plant and equipment, net 94,573 99,228
Other assets, net 22,523 23,480
_________ _________
$ 250,705 $ 248,647
========= =========
(continued on following page)
2
LSB INDUSTRIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Information at June 30, 1999 is unaudited)
(dollars in thousands)
June 30, December 31,
LIABILITIES AND STOCKHOLDERS' EQUITY 1999 1998
____________________________________ ____________ ____________
Current liabilities:
Drafts payable $ 296 $ 758
Accounts payable 25,307 24,043
Accrued loss on firm purchase commitments
(Note 10) 7,500 -
Accrued liabilities 16,881 19,006
Current portion of long-term debt 26,020 13,954
__________ __________
Total current liabilities 76,004 57,761
Long-term debt (Note 6) 155,738 155,688
Commitments and Contingencies (Note 5)
Redeemable, noncumulative convertible
preferred stock, $100 par value; 1,463
shares issued and outstanding 139 139
Stockholders' equity (Notes 3 and 7):
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, 15,108,676 shares
issued 1,511 1,511
Capital in excess of par value 39,286 38,329
Accumulated other comprehensive loss - (1,559)
Accumulated deficit (53,687) (35,166)
__________ __________
35,110 51,115
Less treasury stock, at cost:
Series 2 Preferred, 5,000 shares 200 200
Common stock, 3,289,957 shares
(3,202,690 in 1998) 16,086 15,856
__________ __________
Total stockholders' equity 18,824 35,059
__________ __________
$ 250,705 $ 248,647
========== ==========
(see accompanying notes)
3
LSB INDUSTRIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Six Months Ended June 30, 1999 and 1998
(Amounts in thousands, except per share amounts)
1999 1998
___________ ___________
Businesses continuing at June 30,:
Revenues:
Net sales $ 149,578 $ 157,261
Other income (expenses) (147) 1,361
__________ __________
149,431 158,622
Costs and expenses:
Cost of sales (Note 10) 117,385 121,124
Selling, general and administrative 28,859 29,698
Provision for losses on firm purchase
commitments (Note 10) 7,500 -
Interest 8,834 8,602
__________ __________
162,578 159,424
__________ __________
Loss before businesses disposed
of or to be disposed of (13,147) (802)
Businesses disposed of or to be disposed of
(Note 9):
Revenues 6,374 8,172
Operating costs, expenses and interest 8,105 9,404
__________ __________
(1,731) (1,232)
Gain (loss) on disposal of business (1,971) 12,993
__________ __________
(3,702) 11,761
Income (loss) before provision for
income taxes (16,849) 10,959
Provision for income taxes 50 260
__________ __________
Net income (loss) $ (16,899) $ 10,699
========== ==========
Net income (loss) applicable to
common stock (Note 2) $ (18,521) $ 9,077
========== ==========
Weighted average common shares
outstanding (Note 2):
Basic 11,856,472 12,661,182
Diluted 11,856,472 17,456,828
Income (loss) per common share (Note 2):
Basic $ (1.56) $ .72
========== ==========
Diluted $ (1.56) $ .61
========== ==========
(See accompanying notes)
4
LSB INDUSTRIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended June 30, 1999 and 1998
(Amounts in thousands, except per share amounts.)
1999 1998
_____________ ____________
Businesses continuing at June 30:
Revenues:
Net sales $ 79,389 $ 83,972
Other income 62 259
____________ ____________
79,451 84,231
Costs and expenses:
Cost of sales (Note 10) 63,310 63,585
Selling, general and administrative 14,531 14,697
Interest 4,467 3,879
Provision for losses on firm
purchase commitments (Note 10) 7,500 -
____________ ____________
89,808 82,161
____________ ____________
Income (loss) before business disposed
or to be disposed of (10,357) 2,070
Business disposed of or to be disposed of
during 1999 (Note 9):
Revenues 3,506 3,415
Operating costs, expenses and interest 4,267 4,084
____________ __________
(761) (669)
Loss on disposal of business (1,971) -
____________ __________
(2,732) (669)
____________ __________
Income (loss) before credit for
income taxes (13,089) 1,401
Credit for income taxes - (20)
____________ __________
Net income (loss) $ (13,089) $ 1,421
============ ===========
Net income (loss) applicable to
common stock (Note 2) $ (13,895) $ 618
============ ==========
Weighted average common shares
outstanding (Note 2):
Basic 11,835,020 12,576,185
Diluted 11,835,020 12,711,735
Income (loss) per common share (Note 2):
Basic $ (1.17) $ .05
============ ===========
Diluted $ (1.17) $ .05
============ ===========
(see accompanying notes)
5
LSB INDUSTRIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
Six Months ended June 30, 1999 and 1998
(dollars in thousands)
1999 1998
__________ __________
Cash flows from operations:
Net income (loss) $ (16,899) $ 10,699
Adjustments to reconcile net income (loss)
to cash flows provided(used) by operations:
Depreciation, depletion and amortization:
Property, plant and equipment 5,717 6,021
Other 636 677
Provision for possible losses
on receivables and other assets 712 1,071
Inventory write-down and provision for
losses on firm purchase commitments 9,100 -
Loss on sale of assets 23 -
Loss (gain) on businesses disposed of
or to be disposed of 1,971 (12,993)
Cash provided (used) by changes in assets
and liabilities:
Trade accounts receivable (5,669) (4,359)
Inventories 5,429 3,786
Supplies and prepaid items (2,807) (1,580)
Accounts payable 1,044 (2,598)
Accrued liabilities (87) 544
__________ __________
Net cash provided (used) by operations (830) 1,268
Cash flows from investing activities:
Capital expenditures (4,195) (3,837)
Principal payments on loans receivable 480 40
Proceeds from sales of equipment and
real estate properties 3 63
Proceeds from sale of the Tower - 29,266
Increase in other assets (157) (1,269)
__________ __________
Net cash provided (used) by investing activities (3,869) 24,263
Cash flows from financing activities:
Payments on long-term and other debt (4,341) (18,581)
Borrowings on term notes 2,555 -
Net change in revolving debt facilities 10,284 (3,290)
Net change in drafts payable (463) 226
Dividends paid (Note 3):
Preferred Stocks (1,622) (1,622)
Common Stocks - (125)
Purchases of treasury stock (Note 3) (230) (1,642)
Net proceeds from issuance of common stock - 71
___________ _________
Net cash provided (used) by financing activities 6,183 (24,963)
___________ _________
Net increase in cash and cash equivalents
from all activities 1,484 568
Cash and cash equivalents at beginning of period 1,555 4,934
___________ _________
Cash and cash equivalents at end of period $ 3,039 $ 5,502
=========== =========
(see accompanying notes)
6
LSB INDUSTRIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1999 and 1998
Note 1: Income Taxes At December 31, 1998, the Company had regular-
tax net operating loss ("NOL") carryforwards for tax purposes of
approximately $63.8 million (approximately $31.4 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,
1999 of $50,000 is for current state income taxes and federal alternative
minimum tax.
Note 2: Earnings Per Share 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.
The Company has stock options, convertible preferred stock, and a
convertible note payable, which are potentially dilutive. All of these
potentially dilutive securities were antidilutive for the first six
months of 1999 and have thus, been excluded from the computation of
diluted loss per share for the six month and three month periods then
ended.
7
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1999 and 1998
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 Three Months
1999 1998 1999 1998
__________ __________ __________ __________
Numerator:
Numerator for 1998 diluted
earnings per share - net
income (loss) $ (16,899) $ 10,699 $(13,089) $ 1,421
Preferred stock dividends (1,622) (1,622) (806)
(803)
__________ __________ _________ _________
Numerator for 1999 and 1998
basic and 1999 diluted
earnings per share - income
(loss) available to common
stockholders (18,521) 9,077 (13,895) 618
Preferred stock dividends on
preferred stock assumed to
be converted - 1,622 - -
__________ __________ __________ __________
Numerator for 1998 diluted
earnings per share $ (18,521) $ 10,699 $ (13,895) $ 618
========== ========== ========== ==========
Denominator:
Denominator for basic
earnings per share -
weighted-average
shares 11,856,472 12,661,182 11,835,020 12,576,185
Effect of dilutive
securities:
Employee stock options - 128,290 - 131,550
Convertible preferred
stock - 4,662,726 - -
Convertible note payable - 4,000 - 4,000
__________ ___________ __________ __________
Dilutive potential common
shares - 4,795,646 135,550
__________ ___________ __________ __________
Denominator for diluted
earnings per share -
adjusted weighted-
average shares and
assumed conversions 11,856,472 17,456,828 11,835,020 12,711,735
=========== =========== ========== ==========
Basic earnings (loss)
per share $ (1.56) $ .72 $ (1.17) $ .05
=========== =========== =========== ==========
Diluted earnings (loss)
per share $ (1.56) $ .61 $ (1.17) $ .05
=========== =========== =========== =========
8
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months ended June 30, 1999 and 1998
Note 3: Stockholders' Equity. The table below provides detail of activity in
the stockholders' equity accounts for the six months ended June 30, 1999:
Common Stock Non- Capital Accumulated
_______________ redeemable in excess Other Com-
Par Preferred of par prehensive
Shares Value Stock Value Loss
_______ ______ _________ ________ __________
(In thousands)
Balance at December 31,
1998 15,109 $ 1,511 $ 48,000 $ 38,329 $(1,559)
Net loss
Foreign currency trans-
lation adjustment 1,559
Total comprehensive income (Note 8)
Expiration of employee
stock option and
related accrued
compensation 957
Dividends declared:
Series B 12% pre-
ferred stock ($6.00
per share)
Series 2 preferred
stock ($1.625 per
share)
Redeemable preferred
stock ($10.00 per
share)
Purchase of treasury
stock
______ _______ _________ ________ _________
(1)
Balance at June 30,
1999 15,109 $ 1,511 $ 48,000 $ 39,286 $ -0-
======= ======= ======== ======== ========
Treasury
Accumu Treasury Stock
lated Stock Prefer-
Deficit Common red Total
_________ ________ ________ _______
$(35,166) $(15,856) $ (200) $35,059
(16,899) (16,899)
1,559
________
(15,340)
957
(120) (120)
(1,487) (1,487)
(15) (15)
(230) (230)
________ ________ _________ _______
$(53,687) $(16,086) $ (200) $18,824
======== ======= ========= =======
<FN>
(1) Includes 3,290 shares of the Company's Common Stock held in treasury.
Excluding the 3,290 shares held in treasury, the outstanding shares of
the Company's Common Stock at June 30, 1999 were 11,819.
</FN>
9
Note 4: Segment Information
___________________________
Six Months Ended Three Months Ended
June 30, June 30,
____________________ ____________________
1999 1998 1999 1998
____ ____ ____ ____
(in thousands)
(unaudited)
Net sales:
Businesses continuing:
Chemical $ 69,690 $ 69,315 $ 38,945 $ 40,637
Climate Control 56,025 59,257 29,326 29,321
Automotive Products 18,993 21,198 8,888 10,708
Industrial Products 4,870 7,491 2,230 3,306
Business to be disposed of -
Chemical 6,374 8,208 3,506 3,461
_________ _________ __________ __________
$ 155,952 $ 165,469 $ 82,895 $ 87,433
========= ========= ========== =========
Operating profit (loss):
Businesses continuing:
Chemical:
Recurring operations $ 4,125 $ 6,606 $ 2,678 $ 5,027
Inventory write-down and
losses on purchase
commitments (9,100) - (9,100) -
________ _________ _________ _________
(4,975) 6,606 (6,422) 5,027
Climate Control 5,715 6,312 3,008 3,500
Automotive Products (299) 71 (308) 478
Industrial Products (913) (518) (501) (214)
Business to be disposed of -
Chemical (1,488) (995) (643) (567)
_________ _________ _______ _______
(1,960) 11,476 (4,866) 8,224
General corporate expenses
and other (3,841) (4,671) (1,667) (2,842)
Interest expense:
Business to be disposed of (243) (237) (118) (102)
Recurring operations (8,834) (8,602) (4,467) (3,879)
_________ _________ ________ ________
(9,077) (8,839) (4,585) (3,981)
Gain (loss) on business
disposed of or to be
disposed of (1,971) 12,993 (1,971) -
_________ _________ ________ ________
Income (loss) before pro-
vision for income taxes $ (16,849) $ 10,959 $ (13,089) $ 1,401
========== ========= ========= ========
10
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1999 and 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 agreed to act as an agent to construct,
and upon completion of construction, operate a nitric acid plant
(the "EDNC Baytown Plant") at Bayer's Baytown, Texas chemical
facility. The construction of the EDNC Baytown Plant was completed
in May 1999, and EDNC began producing and delivering nitric acid to
Bayer at that date. Sales by EDNC to Bayer out of the EDNC Baytown
Plant production during the quarter ended June 30, 1999, were
approximately $4 million. EDC guaranteed the performance of EDNC's
obligations under the Bayer Agreement. Under the terms of the Bayer
Agreement, EDNC is leasing the EDNC Baytown plant pursuant to a leveraged
lease from an unrelated third party with an initial lease term of ten years.
Upon expiration of the initial ten-year term, 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. Financing of the EDNC Baytown Plant was provided by an unaffiliated
lender. Neither the Company nor EDC has guaranteed any of the repayment
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, 1999,
the Company has deferred approximately $2.9 million associated with such
agreement which will be amortized over the initial term of the lease.
See Note 7, "Changes in Accounting," for the expected accounting upon
adoption of SFAS #133.
In January 1999, the contractor constructing the EDNC Baytown Plant under a
turnkey agreement, informed the Company that it could not complete
construction alleging a lack of financial resources. EDNC at that time
demanded that the contractor's bonding company provide funds necessary for
subcontractors to complete construction. A substantial portion of the costs
to complete the EDNC Baytown Plant ($12.9 million), which were to be funded
by the construction contractor, have been funded by proceeds from the bonding
company; however, the nonperformance by the contractor constructing the EDNC
Baytown Plant increased the cost of the plant which is reflected in higher
rentals under the Company's leveraged lease.
Debt Guarantee
______________
The Company previously guaranteed up to approximately $2.6 million of
indebtedness of a start-up aviation company, Kestrel Aircraft Company
("Kestrel"), in exchange for a 44.9% ownership interest. At December 31,
1998, the Company had accrued the full amount of its commitment under the
debt guarantees and fully reserved its investments and advances to Kestrel.
In the first quarter of 1999, upon demand of the Company's guarantee, the
Company assumed the obligation for a $2.0 million term note, due in equal
monthly principal payments of $11,111, plus interest, through August 2004
11
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1999 and 1998
and funded approximately $500,000 resulting from a subsidiary's partial
guarantee of Kestrel's obligation under a revolving credit facility. In
connection with the demand of the Company to perform under its guarantees,
the Company and the other guarantors formed a new company ("KAC") which
acquired the assets of the aviation company through foreclosure.
The Company and the other shareholders of KAC are attempting to sell the
assets acquired in foreclosure. Proceeds received by the Company, if any,
from the sale of KAC assets will be recognized in the results of operations
when and if realized.
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 the subsidiaries 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 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, 1999, 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. Such amount 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.
The subsidiary's insurance carriers have been notified of this matter;
however, the amount of possible coverage, if any, is not yet determinable.
12
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1999 and 1998
B. On February 12, 1996, the Chemical Business 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 Chemical
Business installed additional pollution control equipment to address the
compliance issues. The Chemical Business 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 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 the El Dorado Plant. In 1998, the ADPC&E
issued a Consent Administrative Order ("1998 CAO") to resolve the event.
The 1998 CAO includes a civil penalty in the amount of $183,700 which
includes $125,000 to be paid over five years in the form of environmental
improvements at the El Dorado Plant. The remaining $58,700 was paid in
1998. The 1998 CAO also requires the Chemical Business to undertake a
facility-wide wastewater evaluation and pollutant source control program
and wastewater facility-wide wastewater minimization program. The
program requires that the subsidiary complete rainwater drain-off studies
including engineering design plans for additional water treatment
components to be submitted to the ADCP&E by August 2000. The construction
of the additional water treatment components shall be completed by August
2001 and the El Dorado plant has been mandated to be in compliance with
final effluent limits on or before February 2002. The wastewater program
is currently expected to require future capital expenditures of
approximately $5.0 million.
C. 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
13
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1999 and 1998
defendants, to fix prices in connection with the sale of commercial
explosives. This litigation has been consolidated, for discovery purposes
only, with several other actions in a multi-district litigation proceeding
in Utah. Discovery in this litigation is in process. 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 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 property damage to their residence and
wells, annoyance and inconvenience, and nuisance as a result of daily
blasting and round-the-clock mining activities. The plaintiffs are
residents living near the Heartland Coal Company ("Heartland") strip mine
in Lincoln County, West Virginia, and an unrelated mining operation
operated by Pen Coal Inc. During 1999, the plaintiffs withdrew all
personal injury claims previously asserted in this litigation. 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 as a result of the
subsidiary's operations. Subject to final documentation, this litigation
has been settled with the subsidiary's payment of approximately $81,000,
which was accrued at June 30, 1999.
The Company, including its subsidiaries, is a party to various other claims,
legal actions, and complaints arising in the ordinary course of business. In
14
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1999 and 1998
the opinion of management after consultation with counsel, all claims, legal
actions (including those described above) and complaints are not presently
probable of material loss, 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 to have a material effect
on the financial position of the Company, but could have a material impact to
the net income (loss) of a particular quarter or year, if resolved
unfavorably.
Note 6: Long-Term Debt
______________________
In November, 1997, the Company's wholly owned subsidiary, ClimaChem,
Inc. ("ClimaChem"), completed the sale of $105 million principal amount
of 10 3/4% Senior Notes due 2007, (the "Notes"). Interest on the Notes
is payable semiannually in arrears on June 1 and December 1 of each
year, and the principal is payable in the year 2007. The Notes are
senior unsecured obligations of ClimaChem and rank pari passu in right
of payment to all existing senior unsecured indebtedness of ClimaChem
and its subsidiaries. The Notes are effectively subordinated to all
existing and future senior secured indebtedness of ClimaChem.
ClimaChem owns substantially all of the companies comprising the
Company's Chemical and Climate Control Businesses. ClimaChem 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 ClimaChem. ClimaChem's payment obligations
under the Notes are fully, unconditionally and joint and severally
guaranteed by all of the existing subsidiaries of ClimaChem, except for
El Dorado Nitrogen Company ("EDNC"). The assets, equity, and earnings
of EDNC are currently inconsequential to ClimaChem. 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 unaudited balance sheet
information of ClimaChem and its subsidiaries as of June 30, 1999 and
December 31, 1998 and the results of operations for the six month and
three month periods ended June 30, 1999 and 1998 are detailed below.
15
June 30, December 31,
1999 1998
_____________ _____________
(in thousands)
Balance sheet data:
Current assets (1)(2) $ 103,785 $ 90,291
Property, plant and equipment, net 78,689 82,389
Income tax receivable 1,750 -
Notes receivable from LSB and affiliates, net 13,443 13,443
Other assets, net 16,083 10,480
___________ ___________
Total assets $ 213,750 $ 196,603
=========== ===========
Current liabilities $ 48,540 $ 35,794
Long-term debt 138,730 127,471
Deferred income taxes 9,755 9,580
Stockholders' equity 16,725 23,758
__________ __________
Total liabilities and stockholders equity $ 213,750 $ 196,603
========== ==========
Six Months Ended Three Months Ended
June 30, June 30,
1999 1998 1999 1998
_________________________________________________
Operations data:
Total revenues $ 132,092 $ 137,327 $ 71,863 $ 73,900
Costs and expenses:
Cost of sales 105,557 107,439 58,387 57,028
Selling, general and
administrative 22,083 20,348 11,202 10,569
Loss on business to be
disposed of 1,971 - 1,971 -
Provision for losses on
firm purchase commit-
ments 7,500 - 7,500 -
Interest 6,647 6,273 3,368 2,960
________ _________ __________ _________
143,758 134,060 82,428 70,557
________ _________ __________ _________
Income (loss) before pro-
vision (credit) for
income taxes (11,666) 3,267 (10,565) 3,343
Provision (credit) for
income taxes (3,074) 1,700 (3,124) 1,730
__________ _________ _________ ________
Net income (loss) $ (8,592) $ 1,567 $ (7,441) $ 1,613
========== ========= ========= =========
16
<FN>
(1) Notes and other receivables from LSB and affiliates are eliminated
when consolidated with LSB.
(2) Current assets include receivables due from LSB which aggregate
$1.6 million and $5.0 million at June 30, 1999, and December 31,
1998, respectively.
</FN>
The Company funded a term and revolving line of credit of a total of
$18.5 million with an asset-based lender for its Automotive Products
Business on May 10, 1999. This facility replaced the Automotive
Products Business' previous loan agreement under the Company's Revolver
and provides for a $2.5 million term loan and a $16.0 million revolving
credit facility (an increase of borrowing ability calculated as of
May 10, 1999, of $3.5 million compared to the Automotive Products
Business' availability under the replaced facility) based on
eligible amounts of accounts receivable and inventory. This
facility provides for interest at a bank's prime rate plus one
percent (1%) per annum, or at the Company's option, the lender's
LIBOR rate plus two and three-quarters percent (2.75%) per annum.
The effective interest rate at June 30, 1999, was 7.93%. The term
of this new facility is through May 7, 2001, and is renewable
thereafter for successive twelve-month terms. As a result of the
terms and conditions of this facility, outstanding borrowings under
the revolving credit facility of $9.2 million at June 30, 1999 and
$.6 million under the term loan are classified as long-term debt
due within one year (borrowings by the Automotive Products Business
under the Company's revolving credit agreements were classified as
long-term debt due after one year in the accompanying condensed
consolidated balance sheets as of December 31, 1998). The
Automotive Products Business was required to secure such loan with
substantially all of its assets. The loan agreement contains
various affirmative and negative covenants, including a requirement
to maintain tangible net worth of not less than $6.4 million. The
Company was required to provide the lender with a $1.0 million
standby letter of credit to further secure such loan. As a result
of this financing, the Company's Revolving Credit Facility, that is
not available to the Automotive Products Business, now provides for
the elimination of its financial covenants so long as the remaining
borrowing group maintains a minimum aggregate availability under
such facility of at least $15 million. As of June 30, 1999, the
remaining borrowing group had availability of $16.4 million.
Note 7: Change in Accounting In June, 1998, the Financial
Accounting Standards Board issued Statement No. 133 ("SFAS #133"),
Accounting for Derivative Instruments and Hedging Activities, which
is required to be adopted in years beginning after June 15, 2000.
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
17
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 10, 1999 and 1998
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
all of the effects of SFAS #133 will be on the earnings and
financial position of the Company; however, the Company expects
that the deferred charges associated with the interest rate forward
agreement discussed in Note 5, "Nitric Acid Project," will be
accounted for as a cash flow hedge upon adoption of SFAS #133, with
the effective portion of the hedge being classified in equity in
accumulated other comprehensive income or loss. The amount
included in accumulated other comprehensive income or loss will be
amortized to income over the initial term of the leveraged lease.
Note 8: Comprehensive Income The Company presents comprehensive income
in accordance with 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. Other
comprehensive income for the six month and three month periods ended
June 30, 1999 and 1998 is detailed below.
Six Months Three Months
Ended June 30, Ended June 30,
______________________ ______________________
1999 1998 1999 1998
_______________________________________________
(in thousands) (in thousands)
Net income (loss) $ (16,899) $ 10,699 $ (13,089) $ 1,421
Foreign currency
translation income (loss) 1,559 (606) 1,337
(616)
_________ _________ _________ _________
Total comprehensive income
(loss) $ (15,340) $ 10,093 $ (11,752) $ 805
========= ======== ========= =========
Note 9: Business Disposed of or to be Disposed of. On May 7,
1999, the Company's wholly owned subsidiary, Total Energy Systems
Limited and its subsidiaries ("TES") entered into an agreement (the
"Asset Sale Agreement") to sell substantially all the assets of TES
("Defined Assets"). Under the Asset Sale Agreement, TES retains its
liabilities and will liquidate such liabilities from the proceeds
of the sale and from the collection of its accounts receivables
which were retained by TES pursuant to the Asset Sale Agreement.
The loss associated with this transaction included in the
accompanying Condensed Consolidated Statements of Operations for
the six months and three months ended June 30, 1999, is
approximately $1,971,000 and is comprised of disposition costs
of approximately $.3 million, the recognition in earnings of
18
LSB INDUSTRIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Six Months Ended June 30, 1999 and 1998
the cumulative foreign currency loss of approximately $1.1 million
at June 30, 1999, and approximately $.6 million related to the
resolution of certain environmental matters.
The Company received approximately $3.4 million at closing on
August 2, 1999, in net proceeds from the assets sold, exclusive of
approximately $.7 million related to an agreed to retention
related to the final reconciliation of the value of the inventory
sold, after paying off $6.4 million bank debt and the purchaser
assuming approximately $1.1 million debt related to certain
capitalized lease obligations. The Company expects to complete the
liquidation of the assets and liabilities retained during the
fourth quarter of 1999.
In March 1998, the Company closed the sale of real estate and
realized proceeds of $29.3 million net of transaction costs and
a gain onthe transaction of approximately $13 million.
Note 10: Inventory Write-down and Loss on Firm Purchase Commitments
___________________________________________________________________
Due to decreased selling prices for certain of the Chemical
Business' nitrogen-based products, the Chemical Business wrote-down
the carrying value of certain inventories at June 30, 1999, by
approximately $1.6 million, representing the cost in excess of
market.
At June 30, 1999, the Chemical Business has firm uncancelable
commitments to purchase anhydrous ammonia pursuant to the terms of two
contracts. The purchase price(s) the Chemical Business will be required
to pay for anhydrous ammonia under one of these contracts, which is for a
significant percentage of the Chemical Business' anhydrous ammonia
requirements, currently exceeds and is expected to continue to exceed the
spot market prices throughout the purchase period. Additionally, the current
excess supply of nitrate-based products caused, in part, by the import of
Russian nitrate, has caused a significant decline in the sales prices, with
no improvement in sales prices expected in the near term. Due to the decline
in sales prices, the cost to produce the nitrate-based products, including
the cost of the anhydrous ammonia to be purchased under the contracts,
exceeds the anticipated future sales prices of such products. As a result,
the accompanying Condensed Consolidated Financial Statements include a loss
provision for anhydrous ammonia required to be purchased during the remainder
of the contracts of approximately $7.5 million. The loss provision recorded
as of June 30, 1999, is based on the forward contract pricing existing
at June 30, 1999. This pricing can move upward or downward in future
periods. Based on forward pricing existing as of August 13, 1999, the
Chemical Business would be required to recognize an additional $400,000
loss. This loss provision estimate may change in the near term.
19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following Management's Discussion and Analysis of Financial Condition
and Results of Operations ("MD&A") should be read in conjunction with the
Company's June 30, 1999 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 core
businesses and concentrating on 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. The Company is also considering the sale of other assets that
are non-core to its Chemical and Climate Control Businesses.
The Company recently concluded its evaluation of the spin-off of
its Automotive Business ("Automotive") to its shareholders as a dividend
and decided that it would not be able to spin-off Automotive. The
Company is continuing to evaluate other methods of reducing or
eliminating its investment in Automotive. As part of its efforts, the
Company has finalized a new credit facility for Automotive. See
"Liquidity & Capital Resources" of this MD&A for a description of the
credit facility.
The Company has further announced that it is negotiating to sell
its Industrial Products Business. The terms of such sale, if any, have
not been finalized, and there are no assurances that the Company will
finalize its negotiations or, if such is finalized, whether the terms
thereof will be acceptable to the Company.
Certain statements contained in this Overview are forward-looking
statements, and future results could differ materially from such
statements.
20
Information about the Company's operations in different industry segments
for the six month and three month periods ended June 30, 1999 and 1998 is
detailed below.
Six Months Ended Three Months Ended
June 30, June 30,
1999 1998 1999 1998
__________ _________ _________ _________
(in thousands)
(unaudited)
Sales:
Businesses continuing:
Chemical $ 69,690 $ 69,315 $ 38,945 $ 40,637
Climate Control 56,025 59,257 29,326 29,321
Automotive Products 18,993 21,198 8,888 10,708
Industrial Products 4,870 7,491 2,230 3,306
Business to be disposed of
Chemical(1) 6,374 8,208 3,506 3,461
________ ________ ________ ________
$155,952 $165,469 $ 82,895 $ 87,433
======== ======== ======== ========
Gross profit (loss) (2):
Businesses continuing:
Chemical $ 11,227 $ 12,150 $ 6,270 $ 7,725
Climate Control 17,313 17,321 8,992 8,985
Automotive Products 4,008 4,966 1,912 2,826
Industrial Products 1,247 1,700 507 851
Business to be disposed of
Chemical(1) (229) 159 (71) ( 8)
________ ________ ________ ________
$ 33,566 $ 36,296 $ 17,610 $ 20,379
======== ======== ======== ========
Operating profit (loss) (3):
Businesses continuing:
Chemical:
Recurring operations $ 4,125 $ 6,606 $ 2,678 $ 5,027
Inventory write-down and
losses on purchase
commitments (9,100) - (9,100) -
________ _______ _______ _______
(4,975) 6,606 (6,422) 5,027
Climate Control 5,715 6,312 3,008 3,500
Automotive Products (299) 71 (308) 478
Industrial Products (913) (518) (501) (214)
Businesses to be disposed of
Chemical(1) (1,488) (995) (643) (567)
________ ________ _______ ______
(1,960) 11,476 (4,866) 8,224
General corporate expenses (3,841) (4,671) (1,667) (2,842)
Interest expense:
Business to be disposed of (243) (237) (118) (102)
Recurring operations (8,834) (8,602) (4,467) (3,879)
________ ________ _______ _______
(9,077) (8,839) (4,585) (3,981)
Gain (loss) on business disposed
of or to be disposed of (1,971) 12,993 (1,971) -
________ ________ _______ _______
Income (loss) before provision
for income taxes $(16,849) $ 10,959 $(13,089) $ 1,401
======== ======== ======== =======
<FN>
(1) On May 7, 1999, the Company's wholly owned Australian
subsidiary, TES, entered into an agreement to sell
21
substantially all of its assets which sale was substantially
completed on August 2, 1999. See Note 9 of Notes to Condensed
Consolidated Financial Statements for further information.
The operating results for TES have been presented separately
in the above table.
(2) Gross profit by industry segment represents net sales less
cost of sales exclusive of the $1.6 million write-down of
inventory.
(3) Operating profit (loss) by industry segment represents revenues
less operating expenses before deducting general corporate expenses,
interest expense and income taxes and before gain on sale of the
Tower in 1998.
</FN>
Chemical Business
_________________
Sales in the Chemical Business (excluding the Australian
subsidiary in which substantially all of its assets were disposed
of in August, 1999) have increased from $69.3 million in the six
months ended June 30, 1998 to $69.7 million in the six months ended
June 30, 1999 and the gross profit (excluding the Australian
subsidiary, the inventory write-down and provision for loss on firm
purchase commitments) has decreased from $12.2 million in 1998 to
$11.2 in 1999. The gross profit percentage (excluding the
Australian subsidiary and the effect of the $1.6 million inventory
adjustment in 1999) has decreased from 17.5% in 1998 to 16.1% in
1999. The decline in sales price exceeded the decline in raw
material costs resulting in a lower gross profit margin.
As of June 30, 1999, the Chemical Business has commitments to
purchase approximately 200,000 tons of anhydrous ammonia under two
contracts. The Company's purchase price of anhydrous ammonia under
these contracts can be higher or lower than the current market spot
price of anhydrous ammonia. Pricing is subject to variations due
to numerous factors contained in these contracts. Based on the
pricing index contained in one of these contracts, it is presently
priced above the current market spot price. As of June 30, 1999,
the Chemical Business has remaining purchase commitments of
approximately 120,000 tons under this contract. The Chemical
Business is required to purchase a minimum of 7,000 tons monthly
under another contract expiring in June 2000.
As stated above, the Chemical Business has commitments to
purchase anhydrous ammonia pursuant to the terms of two contracts.
The purchase price(s) the Chemical Business will be required to pay
for anhydrous ammonia under one of these contracts currently
exceeds and is expected to continue to exceed the spot market
prices throughout the purchase period. Additionally, the current
excess supply of nitrate-based products, caused, in part, by the
import of Russian nitrate, has caused a significant decline in the
sales prices; no improvement in sales prices is expected in the
near term. This decline in sales price has resulted in the cost of
anhydrous ammonia purchased under these contracts when combined
with manufacturing and distribution costs, to exceed anticipated
future sales prices. As a result, the accompanying Condensed
Consolidated Financial Statements include a loss provision for
anhydrous ammonia required to be purchased during the remainder of
the contracts of approximately $7.5 million. The provision for
22
loss at June 30, 1999, is based on the forward contract pricing
existing at June 30, 1999, and estimated market prices for products
to be manufactured and sold during the remainder of the contracts.
This is a forward-looking statement, and there are no assurances that
such estimates will be proven to be accurate. Differences, if any,
in the estimated future cost of anhydrous ammonia and the actual cost
in effect at the time of purchase and differences in the estimated
sales prices and actual sales prices of products manufactured could
cause the Company's operating results to differ from that estimated
in arriving at the loss provision recorded at June 30, 1999. The
Chemical Business currently has an excess inventory of nitrogen-
based products on hand. Additionally, substantial excess stocks of
competing nitrogen products on the market have resulted in a cutback
in the production level at the El Dorado Arkansas facility. There are
no assurances that the Chemical Business will not be required to record
additional loss provisions in the future. Based on the forward pricing
existing as of August 13, 1999, the Chemical Business would be required to
recognize an additional $400,000 loss. See "Special Note Regarding
Forward-Looking Statements."
Due to decreased selling prices for certain of the Chemical
Business' nitrogen-based products, the Chemical Business also wrote
down the carrying value of certain inventories at June 30, 1999, by
approximately $1.6 million, representing the cost in excess of
market value.
In June, 1997, a subsidiary of the Company entered into an
agreement with Bayer Corporation ("Bayer") whereby one of the
Company's subsidiaries agreed to act as agent to construct a nitric
acid plant located within Bayer's Baytown, Texas chemical plant
complex. The construction of the plant was completed during the
quarter ended June 30, 1999. This plant is being operated by the
Company's subsidiary and is supplying nitric acid for Bayer's
polyurethane business under a long-term supply contract. Sales
from this plant were approximately $2.8 million during the quarter
ended June 30, 1999. Management estimates that, at full production
capacity based on terms of the Bayer Agreement and , based on the
price of anhydrous ammonia as of the date of this report, the plant
should generate approximately $35 million to $40 million in annual
gross revenues. Unlike the Chemical Business' regular sales
volume, the market risk on this additional volume is much less
since the contract provides for recovery of costs, as defined, plus
a profit. The Company's subsidiary is leasing the nitric acid plant
pursuant to a leverage lease from an unrelated third party for an
initial term of ten (10) years which began on June 23, 1999. See
"Special Note Regarding Forward-Looking Statements."
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 developments
23
in Asia have had a negative impact on the mining industry in Australia
which the Company's Chemical Business services. As these adverse
economic conditions in Asia have continued, they have had an adverse
effect on the Company's consolidated results of operations. On May 7,
1999, the Company's wholly owned Australian subsidiary entered into an
agreement to sell substantially all of its assets. This transaction
was substantially completed on August 2, 1999. Revenues of the
Australian subsidiary for the six month and three month periods ended
June 30, 1999, and June 30, 1998, were $6.4 million, $8.2 million, $3.5
million, and $3.5 million, respectively. For the year ended December
31, 1998, the Australian subsidiary had revenues of $14.2 million and
a net loss of $2.9 million; $3.7 million net loss for the six months
ended June 30, 1999, including a loss on sale of $2.0 million. See Note
9 of Notes to Condensed Consolidated Financial Statements for further
information concerning this transaction.
Climate Control
_______________
The Climate Control Business manufactures and sells a broad
range of hydronic fan coil, air handling, air conditioning,
heating, water source heat pumps, 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.
Although sales of $56.0 million for the six months ended
June 30, 1999, in the Climate Control Business were approximately
5% less than sales of $59.3 million in the six months ended
June 30, 1998, the gross profit percentage improved from 29.2% in the
first six months of 1998 to 30.9% in the first six months of 1999.
Automotive and Industrial Products Businesses
_____________________________________________
As indicated in the above table, during the six months ended
June 30, 1999 and 1998, respectively, the Automotive and Industrial
Products recorded combined sales of $23.9 million and $28.7
million, respectively, and reported operating losses (as defined
above) of $1.2 million and $.4 million, respectively. The net
investment in assets of these Businesses has decreased during the
last three years and the Company expects to realize further
reductions in future periods. During the quarter ended June 30, 1999,
the Automotive Business converted its investment in a wholly-owned
subsidiary, International Bearings, Inc. ("IBI") to a fifty percent
(50%) non-controlling investment in a joint venture ("the JV")
continuing the industrial bearings business formerly operated by IBI.
Automotive sold its inventory, having a book value of approximately $2.4
million to the JV for approximately $1.5 million cash and $.9 million
in interest bearing notes. Automotive retains an equity interest in
the JV which has not been assigned any value at June 30, 1999. IBI
retained receivables of approximately $600,000 which should be fully
collected during the third quarter 1999.
The Company continues to eliminate certain categories of machines
from the Industrial Products product line by not replacing machines when
sold. The Company previously announced that it is negotiating the sale
24
of its Industrial Products Business. The sale of the Industrial
Products Business is a forward-looking statement and is subject to,
among other things, the buyer's and the Company's lending institutions
agreeing to the terms of the transaction, including the purchase price,
approval of the Company's Board of Directors and negotiation and
finalization of definitive agreements.
RESULTS OF OPERATIONS
Six months ended June 30, 1999 vs. Six months ended June 30, 1998.
_________________________________________________________________
Revenues
________
Total revenues, excluding the gain on the disposition of a
business in 1998, for the six months ended June 30, 1999 and 1998
were $155.8 million and $166.8 million, respectively (a decrease of
$11.0 million). Sales decreased $9.5 million and other revenues
decreased $1.5 million. The decrease in other revenues was
primarily due to nonrecurring operations of the Tower, sold in
March 1998. The Company recognized a pre-tax gain on the sale of
approximately $13.0 million in the first quarter of 1998.
Net Sales
_________
Consolidated net sales included in total revenues for the six
months ended June 30, 1999, were $156.0 million, compared to $165.5
million for the first six months of 1998, a decrease of $9.5
million. This decrease in sales resulted principally from: (i)
decreased sales in the Climate Control Business of $3.2 million due
to decreased sales volume in this Business' Heat Pump product
lines, production line changes and training time for new employees
which slowed production temporarily, (ii) decreased sales in the
Automotive Products Business of $2.2 million, principally resulting
from the presence in 1998 of certain bulk sales to an industrial
user and initial stocking orders from a new retail chain store
customer as well as customer mix, and (iii) decreased sales in the
Industrial Products Business of $2.6 million due to decreased sales
of machine tools, and (iv) decreased sales in the Chemical Business
of $1.5 million primarily due to reduced sales of the Australian
subsidiary and reduced selling prices on the Company's nitrogen
based products due primarily to the import of Russian nitrate
resulting in an over supply of nitrate-based products offset by
sales of nitric acid products pursuant to the Bayer Agreements (see
Note 5 of Notes to Condensed Consolidated Financial Statements).
Gross Profit
____________
Gross profit, excluding the effect of the $1.6 million
inventory write-down discussed in Note 10 of Notes to Condensed
Consolidated Financial Statements, would have been 21.5% for the
first six months of 1999, compared to 21.9% for the first six
months of 1998. The decrease in the gross profit percentage was
primarily the result of decreases in the Chemical and Automotive
Businesses. The decrease in the Chemical Business was primarily
the result of reduced selling prices for the Company's nitrogen
based products. See "Overview Chemical Business" elsewhere in this
25
"Managements Discussion and Analysis of Financial Condition and
Results of Operations" for further discussion of the Chemical
Business' decreased sales. The decrease in the Automotive Business
was primarily due to customer mix.
Selling, General and Administrative Expense
___________________________________________
Selling, general and administrative ("SG&A") expenses as a
percent of net sales from businesses continuing at June 30, 1999,
were 19.3% in the six-month period ended June 30, 1999, compared to
18.9% for the first six months of 1998. This increase is primarily
the result of decreased sales volume in the Climate Control Business,
the Industrial Products Business and, the Automotive Business without
equivalent corresponding decreases in SG&A. Additionally, costs
associated with new start-up operations in 1999, by the Climate Control
Business, having minimal or no sales, contributed to the increase in
dollars as well as expense as a percent of sales.
Interest Expense
________________
Interest expense for the Company was $9.1 million in the first
six months of 1999, compared to $8.8 million for the first six
months of 1998. The increase of $.3 million primarily resulted
from increased borrowings.
Income (Loss) Before Taxes
__________________________
The Company had a loss before income taxes of $16.8 million
in the first six months of 1999 compared to income before income
taxes of $11.0 million in the six months ended June 30, 1998. The
decreased profitability of $27.8 million was primarily due to the
gain on the sale of the Tower in 1998, the lower gross profit, the
loss on disposition of the Australian subsidiary, lower sales, the
inventory write-down and the provision for losses on purchase
commitments, as previously discussed.
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, 1999 and the six months ended June 30, 1998 are for
current state income taxes and federal alternative minimum taxes.
26
Three months ended June 30, 1999 vs. Three months ended June 30, 1998.
_____________________________________________________________________
Revenues
________
Total revenues for the three months ended June 30, 1999, and
1998 were $83.0 million, and $87.6 million, respectively (a
decrease of $4.6 million). Sales decreased $4.5 million and other
income increased $.1 million.
Net Sales
_________
Consolidated net sales included in total revenue for the three
months ended June 30, 1999, were $82.9 million, compared to $87.4
million for the three months ended June 30, 1998. The decrease in
sales resulted principally from: (i) decreased sales in the
Chemical Business (excluding the Australian subsidiary) of
approximately $1.7 million resulting from reduced selling prices
for the Company's nitrogen based products, partially offset by
sales of nitric acid to Bayer Corporation as discussed elsewhere in
this report, (ii) decreased sales by the Automotive Business due to
customer mix in 1999 and certain bulk sales to an industrial user
and initial stocking order from a new retail chain store customer
in 1998, and (iii) decreased sales in the Industrial Products
Business resulting from the effects of the Company limiting the
product lines that it markets as well as diminished demand for the
products of the Business. Sales in the Climate Control Business
was approximately the same in both periods.
Gross Profit
___________
Gross profit, excluding the effect of the $1.6 million
inventory write-down discussed in Note 10 of Notes to Condensed
Financial Statements, would have been 21.2% for the second quarter
of 1999, compared to 23.3% for the comparable quarter of 1998. The
decrease in the gross profit percentage was primarily the result of
decreases in the Chemical and Automotive Businesses. The decrease
in the Chemical Business was the result of reduced selling prices
for the Company's nitrogen based products. The decrease in the
Automotive Business was primarily due to customer mix.
Selling, General and Administrative Expense
___________________________________________
Selling, general and administrative ("SG&A") expenses as a
percent of net sales from businesses continuing at June 30, 1999
were 18.3% in the three months ended June 30, 1999, compared to
17.5% for the three months ended June 30, 1998. The increase in
SG&A as a percent of sales principally resulted from sales
decreasing without a corresponding decrease in SG&A expense and
increased cost of the Company sponsored medical care programs for
its employees due to increased health care costs. SG&A expense
decreased approximately $.2 million while sales decreased $4.5
million.
27
Interest Expense
________________
Interest expense for the Company was $4.6 million in the three
months ended June 30, 1999, compared to $4.0 million for the three
months ended June 30,1998. The increase of $.6 million primarily
resulted from increased borrowings.
Income (Loss) Before Taxes
__________________________
The Company had a loss before income taxes of $13.1 million
in the second quarter of 1999 compared to income before income
taxes of $1.4 million in the second quarter 1998. The decreased
profitability of $14.5 million was primarily due to an inventory
write-down of $1.6 million, the provision for losses of $7.5 million
on firm uncancelable purchase commitments , $2.0 million loss on the
sale of the Australian subsidiaries assets, and decreased gross profit
from sales in the Chemical and Automotive Businesses, as previously
discussed.
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, borrowings under its revolving
credit facilities, and the issuance of senior unsecured notes by
its wholly owned subsidiary, ClimaChem, Inc., in November 1997.
Net cash used by operations for the six months ended June 30,
1999 was $.8 million, after $6.4 million for noncash depreciation
and amortization, $.7 million in provisions for possible losses on
accounts receivable, provision for loss on the disposition of the
Australian subsidiary of $2.0 million, inventory write-down for
$1.6 million, provision for losses on purchase commitments of $7.5
million and including the following changes in assets and
liabilities: (i) accounts receivable increases of $5.7 million; (ii)
inventory decreases of $5.4 million excluding the effect of the write-
down; (iii) increases in supplies and prepaid items of $2.8 million; and
(iv) decreases in accounts payable and accrued liabilities of $1.0
million. The increase in accounts receivable is primarily due to
increased sales and increased days of sales outstanding in the
Climate Control Business and seasonal sales of agricultural
products in the Chemical Business, offset by decreased sales in the
Industrial Products Business. The decrease in inventory was due
primarily to a decrease at the Automotive Products Business due to
liquidation of excessive inventories, including the sale of
approximately $1.6 million of current inventory in connection with
the sale of the business of a subsidiary, offset by increases in
the Climate Control Business in anticipation of higher sales volume
in the heat pump product lines and increases in the Chemical
Business due to reduced sales of the Australian subsidiary.
28
Inventory in the Automotive and Industrial Products Businesses
decreased from $29.0 million at December 31, 1998, to $23.4 million
at June 30, 1999.
Cash Flow From Investing And Financing Activities
__________________________________________________
Cash used by investing activities for the six months ended
June 30, 1999 included $4.2 million in capital expenditures. The
capital expenditures were primarily for the benefit of the Chemical
and Climate Control Businesses to enhance production and product
delivery capabilities.
Net cash provided by financing activities included (i)
payments on long-term debt of $4.4 million, (ii) net increases in
revolving debt of 10.3 million, (iii) the issuance of a $2.6
million term note by the Automotive Business, (iv) decreases in
drafts payable of $.5 million, (v) dividends of $1.6 million, and
(vi) treasury stock purchases of $.2 million.
During the first six months of 1999, the Company declared and
paid the following aggregate dividends: (i) $12.00 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; and (iii) $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.
As of June 30, 1999, the Company and certain of its
subsidiaries, including ClimaChem and its subsidiaries were parties
to a working capital line of credit evidenced by two 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 during the
quarter ended June 30, 1999, 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 .5%
per annum or, at the Company's option, at the Lender's LIBOR rate
plus 2.875% per annum. At June 30, 1999, the effective interest
rate was 7.93%. The term of the Revolving Credit Agreements is
through December 31, 2000, and is renewable thereafter for
successive thirteen month terms. At June 30, 1999, the
availability for additional borrowings, based on eligible
collateral, approximated $16.4 million. Borrowings under the
29
Revolver outstanding at June 30, 1999, were $25.7 million. The
Revolving Credit Agreements, as amended, requires the Company to
maintain certain financial ratios and contain other financial
covenants, including tangible net worth requirements and capital
expenditure limitations; however, with the refinancing of the
Automotive Products Business loan agreement as discussed below, the
Company's financial covenants are eliminated, so long as the
remaining borrowing group maintains a minimum aggregate
availability under the Revolving Credit Facility of $15.0 million.
Should the availability drop below $15 million for three
consecutive business days, the Company would be required to
maintain the financial ratios discussed above. The annual interest
on the outstanding debt under the Revolver at June 30, 1999 at the
rates then in effect would approximate $2.0 million. The Revolving
Credit Agreements also require the payment of an annual facility
fee of 0.5% of the unused revolver and restrict the flow of funds,
except under certain conditions, to subsidiaries of the Company
that are not parties to the Revolving Credit Agreements.
Under the Revolving Credit Agreements discussed above, the
Company and its subsidiaries, other than ClimaChem and its
subsidiaries, have the right to borrow on a revolving basis up to
$6 million, based on eligible collateral. At June 30, 1999, the
Company and its subsidiaries, except ClimaChem and its
subsidiaries, had borrowings under the Revolver approximately equal
to then eligible collateral ($2.3 million).
On May 7, 1999, the Company's Automotive Products Business
entered into a Loan and Security Agreement (the "Automotive Loan
Agreement") with an unrelated lender (the "Automotive Lender")
secured by substantially all assets of the Automotive Products
Business to refinance the Automotive Products Business' working
capital requirements that were previously financed under the
Revolver. The Company was required to provide the Automotive
Lender a $1.0 million standby letter of credit to further secure
the Automotive Loan Agreement. The Automotive Loan Agreement
provides a Revolving Loan Facility (the "Automotive Revolver"),
Letter of Credit Accommodations and a Term Loan (the "Automotive
Term Loan").
The Automotive Revolver provides for total direct borrowings
up to $16.0 million, including the issuance of letters of credit.
The Automotive Revolver provides for advances at varying
percentages of eligible inventory and trade receivables. The
Automotive Revolver provides for interest at the rate from time to
time publicly announced by First Union National Bank as its prime
rate plus one percent (1%) per annum or, at the Company's option,
on the Automotive Lender's LIBOR rate plus two and three-quarters
percent (2.75%) per annum. The Automotive Revolver also requires
the payment of a monthly servicing fee of $3,000 and a monthly
unused line fee equal to 0.5% of the unused credit facility. At
June 30, 1999, the effective interest rate was 8.75% excluding the
effect of the source fee and unused line fee (9.4% considering such
fees). The term of the Automotive Revolver is through May 7, 2001,
and is renewable thereafter for successive twelve-month terms. At
June 30, 1999, outstanding borrowings under the Automotive Revolver
30
were $9.2 million; in addition, the Automotive Products Business
had $1.4 million, based on eligible collateral, available for
additional borrowing under the Automotive Revolver. As a result of
the terms and conditions of this facility, outstanding borrowings
at June 30, 1999, have been classified as long-term debt due within
one year.
The Automotive Loan Agreement restricts the flow of funds,
except under certain conditions, between the Automotive Products
Business and the Company and its subsidiaries.
The Automotive Term Loan is in the original principal amount
of $2,550,000. The Automotive Term Loan is evidenced by a term
promissory note (the "Term Promissory Note") and is secured by all
the same collateral as the Automotive Revolver. The interest rate
of the Automotive Term Loan is the same as the Automotive Revolver
discussed above. The terms of the Term Promissory Note require
sixty (60) consecutive monthly principal installments (or earlier
as provided in the Term Promissory note) of which the first thirty-
six (36) installments shall each be in the amount of $48,611, the
next twenty-two (22) installments shall each be in the amount of
$33,333.33, and the last installment shall be in the amount of the
entire unpaid principal balance. Interest payments are also
required monthly as calculated on the outstanding principal
balance. On May 10, 1999, the Automotive Revolver funded
approximately $9.3 million, and the Automotive Term Loan funded
$2,550,000, the aggregate total of approximately $11.9 million was
simultaneously transferred to the lender in payment of the
Automotive Products Business' balance under the Revolver.
The annual interest on the outstanding debt under the
Automotive revolver and Automotive term loan at June 30, 1999, at
the rates then in effect would approximate $1.1 million.
In addition to the credit facilities discussed above, as of
June 30, 1999, 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, 1999, DSN had outstanding borrowings of $9.6 million under
these loans. The loans have repayment schedules of 84 consecutive
monthly installments of principal and interest through maturity in
2002. 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, 1999, at the agreed to interest rates would
approximate $.8 million. The loans are secured by the various DSN
property and equipment. The loan agreements require the Company to
maintain certain financial ratios, including tangible net worth
requirements. In April 1999, DSN obtained a waiver of the
covenants through June 2000.
As previously discussed, the Company is a holding company and,
accordingly, its ability to pay dividends on its outstanding Common
Stock and Preferred Stocks is dependent in large part on its
ability to obtain funds from its subsidiaries. The ability of the
Company's wholly owned subsidiary, ClimaChem (which owns all of the
stock of substantially all of the Company's subsidiaries comprising
31
the Chemical Business and the Climate Control Business) and its
subsidiaries to transfer funds to the Company is restricted by
certain covenants contained in the Indenture to which they are
parties. Under the terms of the Indenture, ClimaChem and its
subsidiaries cannot transfer funds to the Company, except for (i)
the amount of income taxes that they would be required to pay if
they were not consolidated with the Company, (ii) an amount not to
exceed fifty percent (50%) of ClimaChem's consolidated 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 and ClimaChem's subsidiaries pursuant to a certain
services agreement and a certain management agreement to which the
companies are parties. During 1998 and the first six months of
1999, ClimaChem reported a consolidated net loss of approximately
$2.6 million and $8.6 million, respectively. Accordingly,
ClimaChem and its subsidiaries were unable to transfer funds to the
Company in 1998 and the first six months of 1999, except for
reimbursement of costs and expenses incurred by the Company on
their behalf or in connection with certain agreements.
Due to ClimaChem's net losses for the year 1998 and the
Company's (other than ClimaChem and its subsidiaries) limited
borrowing ability under the Revolver, management recommended to the
Board of Directors and such recommendation was approved, that the
Company discontinue payment of cash dividends on its Common Stock
for periods subsequent to January 1, 1999, until the Board of
Directors determines otherwise. In addition, as of the date of
this report, after consideration of the losses reported in the
accompanying Condensed Consolidated Statements of Operations for
the six months ended June 30, 1999, management has concluded that
the Company does not have adequate liquidity to pay the next
regular quarterly dividend of $.8125 per share on its outstanding
$3.25 Convertible Exchangeable Class C Preferred Stock Series 2 and
will recommend to the Board of Directors that such dividend not be
declared at this time.
Future cash requirements (other than cash dividends) include
working capital requirements for anticipated sales increases in the
Company's core Businesses and funding for future capital
expenditures. Funding for the higher accounts receivable and
higher inventory requirements 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 reductions in the Industrial Products and
Automotive Products Businesses should generate cash to supplement
those Businesses' availability under their respective revolving
credit facilities. In addition, the Company is also considering the
sale of certain assets which it does not believe are critical to
its Chemical and Climate Control Businesses. In 1999, the Company
has planned capital expenditures of approximately $10 million,
primarily in the Chemical and Climate Control Businesses, a certain
amount of which it anticipates will be financed by equipment
finance contracts on a term basis and in a manner allowed under its
various loan agreements. Such capital expenditures include
approximately $1.5 million ($.6 million in the six months ended
June 30, 1999), which the Chemical Business anticipates spending
32
related to environmental control facilities at its El Dorado
Facility, as previously discussed in this report. The Company
currently has no material commitments for capital expenditures.
As previously noted, the Company and its subsidiaries, other
than ClimaChem and subsidiaries of ClimaChem, are primarily
dependent upon their availability under the Revolver, and funds
available from ClimaChem, for their working capital. As described
above, both sources of working capital are limited. As a result,
management has discontinued the repurchase of the Company's stock
until such time as the liquidity and capital resources improves
and will recommend to the Board of Directors that the next regular
quarterly dividend on its preferred stock not be declared.
Management believes that with these actions, and the effect of
certain cost reductions being undertaken, that the Company will
have adequate cash flow to meet its presently anticipated working
capital and debt service requirements. The last sentence of this
paragraph is a forward-looking statement and is subject to the
"Special Note Regarding Forward-Looking Statements."
Subsequent to June 30, 1999, the Company announced it had
decided to discontinue the spin-off of the Automotive Business to
its shareholders. The decision was due primarily to the Automotive
Business' inability to raise additional equity capital as a stand
alone business. The Company has decided to aggressively pursue
consideration of a number of alternative approaches to separate the
Automotive Business from LSB.
During 1998 and pursuant to the Company's previously announced
repurchase plan, the Company purchased 909,300 shares of Common
Stock, for an aggregate purchase price of $3,567,026. From
January 1, 1999, through June 30, 1999, the Company has purchased
under its repurchase plan a total of 87,267 shares of Common Stock
for an aggregate amount of $230,233.
Foreign Subsidiary
__________________
As previously discussed in this report, on August 2, 1999, the
Company substantially completed an agreement to sell substantially
all of the assets of TES, effectively disposing of this portion of
the Chemical Business. Under the terms of the Indenture to which
ClimaChem is bound, the net cash proceeds from the sale of TES, are
required (i) within 270 days from the date of the sale to be
applied to the redemption of the notes issued under the Indenture
or to the repurchase of such notes, or (ii) within 240 days from
the date of such sale, the amount of the net cash proceeds be
invested in a related business of ClimaChem or the Australian
subsidiary or used to reduce indebtedness of ClimaChem. All of the
proceeds received by the Company, through the date of this report
(approximately US$3.5 million), have been applied to reduce the
indebtedness of ClimaChem. The Company expects that the remaining
net proceeds from the disposition of TES will be reinvested in
related businesses of ClimaChem or used to retire additional
indebtedness of ClimaChem.
33
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, which expires June 15, 2005, 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 million to the French manufacturer bringing the
total of the loan to $3.8 million. The $3.8 million loan, less a
$1.5 million valuation reserve, is carried on the books as a note
receivable in other assets. As of the date of this report, the
decision has not been made to exercise its option to acquire the
stock of the French manufacturer.
In 1995, a subsidiary of the Company invested approximately
$2.8 million to purchase a fifty percent (50%) equity 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 Company has decided not to exercise the Option and has allowed
the term of the Option to lapse. Through the date of this report
the Company has made option payments aggregating $1.3 million ($1.0
million of which is refundable) and has loaned the Optioned Company
approximately $1.4 million. The Company has recorded reserves of
$1.5 million against the loans and option payments. The loans and
option payments are secured by the stock and other collateral of
the Optioned Company.
Debt Guarantee
______________
At December 31, 1998, the Company and one of its subsidiaries
had outstanding guarantees of approximately $2.6 million of
indebtedness of a startup aviation company in exchange for an
ownership interest in the aviation company of approximately 45%.
34
During the first quarter of 1999, the Company was called upon
to perform on both guarantees. The Company paid approximately
$500,000 to a lender and assumed an obligation for a $2.0 million
note, which is due in equal monthly principal payments, plus
interest, through August 2004, in satisfaction of the guarantees.
In connection with the demand on the Company to perform under its
guarantee, the Company and the other guarantors formed a new
company ("KAC") which acquired the assets of the aviation company
through foreclosure.
The Company and the other shareholders of KAC are attempting
to sell the assets acquired in foreclosure. Proceeds received by
the Company, if any, from the sale of KAC assets will be recognized
in the results of operations when and if realized.
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 $35 million at June 30,
1999. As of December 31, 1998, the Company had available regular
tax NOL carry-overs of approximately $63.8 million based on its
federal income tax returns as filed with the Internal Revenue
Service for taxable years through 1998. 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.
The amount of these carry-overs has not been audited or
approved by the Internal Revenue Service 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.
Year 2000 Issues
________________
The Year 2000 Issue is the result of computer programs being
written using two digits rather than four to define the applicable
year. Any of the Company's computer programs or hardware that have
date-sensitive software or embedded chips may recognize a date
using "00" as the Year 1900 rather than the Year 2000. This could
result in a system failure or miscalculations causing disruptions
35
of operations, including, among other things, a temporary inability
to process transactions, create invoices, or engage in similar
normal business activities.
Beginning in 1996, the Company undertook a project to enhance
certain of its Information Technology ("IT") systems and install
certain other technologically advanced communication systems to
provide extended functionality for operational purposes. A major
part of the Company's program was to implement a standardized IT
system purchased from a national software distributor at all of the
Company and subsidiary operations, and to install a Local Area
Network ("LAN"). The IT system and the LAN necessitated the
purchase of additional hardware, as well as software. The process
implemented by the Company to advance its systems to be more
"state-of-the-art" had an added benefit in that the software and
hardware changes necessary to achieve the Company's goals are Year
2000 compliant.
Starting in 1996 through June 30, 1999, the Company has
capitalized approximately $1.2 million in costs to accomplish its
enhancement program. The capitalized costs include $.4 million in
external programming costs, with the remainder representing
hardware and software purchases. The Company anticipates that the
remaining cost to complete this IT systems enhancement project will
be less than $50,000, and such costs will be capitalized.
The Company's plan to identify and resolve the Year 2000 Issue
involved the following phases: assessment, remediation, testing,
and implementation. To date, the Company has fully completed its
assessment of all systems that could be significantly affected by
the Year 2000. Based on assessments, the Company determined that
it was required to modify or replace certain portions of its
software and hardware so that those systems will properly utilize
dates beyond December 31, 1999. For its IT exposures which include
financial, order management, and manufacturing scheduling systems,
the Company is 100% complete on the assessment and remediation
phases. As of the date of this report, the Company has completed
its testing and has implemented its remediated systems for all of
its businesses. The assessments also indicated that limited
software and hardware (embedded chips) used in production and
manufacturing systems ("operating equipment") also are at limited
risk. The Company has completed its assessment and identified
remedial action which will be completed in the third quarter 1999.
In addition, the Company has completed its assessment of its
product line and determined that the products it has sold and will
continue to sell do not require remediation to be Year 2000
compliant. Accordingly, based on the Company's current assessment,
the Company does not believe that the Year 2000 presents a material
exposure as it relates to the Company's products.
The Company has queried its significant suppliers,
subcontractors, distributors and other third parties (external
agents). The Company does not have any direct system interfaces
with external agents. To date, the Company is not aware of any
external agent with a Year 2000 Issue that would materially impact
the Company's results of operations, liquidity, or capital
resources. However, the Company has no means of ensuring that
36
external agents will be Year 2000 ready. The inability of external
agents to complete their Year 2000 resolution process in a timely
fashion could materially impact the Company. The effect of non-
compliance by external agents is not determinable at this time.
Management of the Company believes it has an effective program
in place to resolve the remaining aspects of the Year 2000 Issue
applicable to its businesses in a timely manner. If the Company
does not complete the remaining phases of its program, the Year
2000 Issue could have a negative impact on the operations of the
Company; however, management does not believe that, under the most
reasonably likely worst case scenario, such potential impact would
be material.
The Company is creating contingency plans for certain critical
applications. These contingency plans will involve, among other
actions, manual workarounds, increasing inventories, and adjusting
staffing strategies. In addition, disruptions in the economy
generally resulting from Year 2000 Issues could also materially
adversely affect the Company. See "Special Note Regarding Forward-
Looking Statements".
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. The preceding sentence is a forward-looking statement
that involves a number of risks and uncertainties that could cause
actual results to differ materially, such as, among other factors,
the following: the EIL Insurance does not provide coverage to the
Company and the Chemical Business for any material claims made by
the claimants, the claimants alleged damages are not covered by the
EIL Policy which a court may find the Company and/or the Chemical
Business liable for, such as punitive damages or penalties, a court
finds the Company and/or the Chemical Business liable for damages
to such claimants for a material amount in excess of the limits of
coverage of the EIL Insurance or a court finds the Chemical
Business liable for a material amount of damages in the antitrust
lawsuits pending against the Chemical Business in a manner not
presently anticipated by the Company. See Note 5 of Notes to
Condensed Consolidated Financial Statements.
Quantitative and Qualitative Disclosures about Market Risk
__________________________________________________________
General
______
The Company's results of operations and operating cash flows
are impacted by changes in market interest rates and raw material
prices for products used in its manufacturing processes. The
Company also has a wholly owned subsidiary in Australia, for which
the Company has foreign currency translation exposure. The
derivative contracts used by the Company are entered into to hedge
37
these risks and exposures and are not for trading purposes. All
information is presented in U. S. dollars. See Note 9 of Notes to
Consolidated Financial Statements for a discussion of the
Australian subsidiary in 1999.
Interest Rate Risk
__________________
The Company's interest rate risk exposure results from its
debt portfolio which is impacted by short-term rates, primarily
prime rate-based borrowings from commercial banks, and long-term
rates, primarily fixed-rate notes, some of which prohibit
prepayment or require substantial prepayment penalties.
Reference is made to the Company's Annual Report on Form 10-K
for the year ended December 31, 1998, for an expanded analysis of
expected maturities of long-term debt and its weighted average
interest rates and discussion related to raw material price risk.
As of June 30, 1999, the Company's variable rate and fixed
rate debt which aggregated $181.8 million exceeded the debt's fair
market value by approximately $5.3 million. The fair value of the
Company's Senior Notes was determined based on a market quotation
for such securities.
Foreign Currency Risk
_____________________
At June 30, 1999, the Company had a wholly owned subsidiary
located in Australia, for which the functional currency is the
local currency, the Australian dollar. Since the Australian
subsidiary accounts are converted into U.S. dollars upon
consolidation using the end of the period exchange rate, declines
in value of the Australian dollar to the U.S. dollar result in
translation loss to the Company. As a result of the commitment to
sell the Australian subsidiary, which was closed on August 2,
1999, the cumulative foreign currency translation loss of
approximately $1.1 million has been included in the loss on disposal
of the Australian subsidiary at June 30, 1999.
38
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) ability to improve operations and become
profitable on an annualized basis, (ii) establishing a position as
a market leader, (iii) payment of dividends on Preferred Stock, (iv)
the amount of the loss provision for anhydrous ammonia required to be
purchased, (v) declines in the price of anhydrous ammonia, (vi)
availability of net operating loss carry-overs, (vii) amount to be
spent in 1999 relating to compliance with federal, state and local
Environmental laws at the El Dorado Facility, (viii) Year 2000 issues,
(ix) improving liquidity and profits through liquidation of assets or
realignment of assets, (x) the Company's ability to develop or adopt
new and existing technologies in the conduct of its operations, (xi)
anticipated financial performance, (xii) ability to comply with the
Company's general working capital and debt service requirements,
(xiii) ability to be able to continue to borrow under the Company's
revolving line of credit, (xiv) sale of the Industrial Products
Business, (xv) adequate cash flows to meet its presently anticipated
capital requirements, and (xvi) ability of the EDNC Baytown
Plant to generate $35 to $40 million in annual gross revenues once
operational. 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) material increase in interest rates; (iv) inability to
collect in a timely manner a material amount of receivables,
(v) increased competitive pressures, (vi) inability to meet the
"Year 2000" compliance of the computer system by the Company, its
key suppliers, customers, creditors, and financial service
organization, (vii) changes in federal, state and local laws and
regulations, especially environmental regulations, or in
interpretation of such, pending (viii) additional releases
(particularly air emissions into the environment), (ix) material
increases in equipment, maintenance, operating or labor costs not
presently anticipated by the Company, (x) the requirement to use
internally generated funds for purposes not presently anticipated,
(xi) ability to become profitable, or if unable to become
profitable, the inability to secure additional liquidity in the
form of additional equity or debt, (xii) the effect of additional
production capacity of anhydrous ammonia in the western hemisphere,
(xiii) the cost for the purchase of anhydrous ammonia increasing or
39
the Company's inability to purchase anhydrous ammonia on favorable
terms when a current supply contract terminates, (xiv) changes in
competition, (xv) the loss of any significant customer, (xvi)
changes in operating strategy or development plans, (xvii)
inability to fund the working capital and expansion of the
Company's businesses, (xviii) adverse results in any of the
Company's pending litigation, (xix) inability to obtain necessary
raw materials, (xx) inability to recover the Company's investment
in the aviation company, (xxi) Bayer's inability or refusal to
purchase all of the Company's production at the new Baytown nitric
acid plant; (xxii) continuing decreases in the selling price for
the Chemical Business' nitrogen based end products, and (xxiii)
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.
40
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, 1999,
and the related condensed consolidated statements of operations for
the six-month and three-month periods ended June 30, 1999 and 1998,
and the condensed consolidated statements of cash flows for the
six-month periods ended June 30, 1999 and 1998. 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, 1998, 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 February 19, 1999, except for paragraphs (A) and
(C) of Note 5 and Note 14, as to which the date is April 14, 1999,
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, 1998, is fairly stated, in all material respects, in
relation to the consolidated balance sheet from which it has been
derived.
/s/ ERNST & YOUNG LLP
ERNST & YOUNG LLP
Oklahoma City, Oklahoma
August 19, 1999
41
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, 1998, which Item 3 is incorporated by reference
herein.
Item 2. Changes in Securities
______ _____________________
Not applicable.
Item 3. Defaults upon Senior Securities
______ _______________________________
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders
______ ___________________________________________________
At the Company's 1999 Annual Meeting of Shareholders held on
June 24, 1999, 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
____ ___________ ____________ _________
Raymond B. Ackerman 9,724,111 1,652,357 0
Gerald G. Gagner 9,895,048 1,481,420 0
Bernard G. Ille 9,724,425 1,652,043 0
Donald W. Munson 9,724,411 1,652,057 0
Tony M. Shelby 9,894,144 1,481,524 0
Messrs. Ackerman, Ille, Munson and Shelby 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: Robert C. Brown, M.D., Charles H. Burtch, Horace G. Rhodes
and Jerome D. Shaffer, M.D.
42
At the Annual Meeting, Ernst & Young, LLP, Certified Public
Accountants, was appointed as independent auditors of the Company
for 1999, as follows:
Number of
Shares Number of
"Against" and Abstentions
Number of to "Withhold and Broker
Shares "For" Authority" Non-Votes
____________ ____________ __________
10,819,787 547,402 9,279
At the Annual Meeting, the Company's 1998 Employee Stock
Option and Incentive Plan was approved as follows:
Number of
Shares Number of
"Against" and Abstentions
Number of to "Withhold and Broker
Shares "For" Authority" Non-Votes
___________ ____________ ___________
6,209,998 1,916,119 3,250,351
At the Annual Meeting, the Company's Outside Directors Stock
Purchase Plan was approved, as follows:
Number of
Shares Number of
"Against" and Abstentions
Number of to "Withhold and Broker
Shares "For" Authority" Non-Votes
___________ ____________ __________
6,364,697 1,763,541 3,248,230
Item 5. Other Information
______ _________________
Not applicable.
Item 6. Exhibits and Reports on Form 8-K
______ ________________________________
(A) Exhibits. The Company has included the following exhibits
in this report:
4.1 Sixth Amendment dated May 10, 1999, to Amended and
Restated Loan and Security Agreement between BankAmerica
Business Credit, Inc., and Climate Master, Inc.,
International Environmental Corporation, El Dorado Chemical
Company and Slurry Explosive Corporation.
43
4.2 Second Amended and Restated Loan and Security Agreement
dated May 10, 1999, by and between Bank of America National
Trust and Savings Association and LSB Industries, Inc.,
Summit Machine Tool Manufacturing Corp., and Morey Machinery
Manufacturing Corporation.
4.3 Loan and Security Agreement dated May 7, 1999, by and
between Congress Financial Corporation and L&S Automotive
Products Company.
10.1 LSB Industries, Inc. 1998 Stock Option and Incentive
Plan which the Company hereby incorporates by reference from
Exhibit "B" to the LSB Proxy Statement, dated May 24, 1999,
for Annual Meeting of Stockholders.
10.2 LSB Industries, Inc. Outside Directors Stock Option Plan
which the Company hereby incorporates by reference from
Exhibit "C" to the LSB Proxy Statement, dated May 24, 1999,
for Annual Meeting of Stockholders to be held June 24, 1999.
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, 1999.
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 23rd day of August 1999.
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