1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission file number 1-12626
EASTMAN CHEMICAL COMPANY
(Exact name of registrant as specified in its charter)
DELAWARE 62-1539359
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
100 N. EASTMAN ROAD
KINGSPORT, TENNESSEE 37660
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (423) 229-2000
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Number of Shares Outstanding at
Class September 30, 1998
Common Stock, par value $0.01 per share 79,243,594
(including rights to purchase shares of
Common Stock or Participating Preferred Stock)
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PAGE 1 OF 46 TOTAL SEQUENTIALLY NUMBERED PAGES
EXHIBIT INDEX ON PAGE 20
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TABLE OF CONTENTS
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ITEM PAGE
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PART I. FINANCIAL INFORMATION
1. Financial Statements 3 - 8
2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 9-16
PART II. OTHER INFORMATION
1. Legal Proceedings 17
2. Changes in Securities 17
6. Exhibits and Reports on Form 8-K 18
SIGNATURES
Signatures 19
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3
EASTMAN CHEMICAL COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS, COMPREHENSIVE INCOME,
AND RETAINED EARNINGS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
THIRD QUARTER FIRST NINE MONTHS
1998 1997 1998 1997
EARNINGS
Sales $ 1,131 $ 1,145 $ 3,444 $ 3,524
Cost of sales 870 857 2,632 2,693
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Gross profit 261 288 812 831
Selling and general administrative expenses 75 85 235 247
Research and development costs 45 55 139 145
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Operating earnings 141 148 438 439
Interest expense, net 28 26 70 67
Other income, net 10 26 18 31
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Earnings before income taxes 123 148 386 403
Provision for income taxes 43 52 135 145
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Net earnings $ 80 $ 96 $ 251 $ 258
======= ======= ======= =======
Net earnings per share
--Basic earnings per share $ 1.01 $ 1.23 $ 3.18 $ 3.31
======= ======= ======= =======
--Diluted earnings per share $ 1.00 $ 1.22 $ 3.15 $ 3.28
======= ======= ======= =======
COMPREHENSIVE INCOME
Net earnings $ 80 $ 96 $ 251 $ 258
Other comprehensive income (loss) 32 (20) 29 (47)
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Comprehensive income $ 112 $ 76 $ 280 $ 211
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RETAINED EARNINGS
Retained earnings at beginning of period $ 2,179 $ 2,022 $ 2,078 $ 1,929
Net earnings 80 96 251 258
Cash dividends declared (35) (34) (105) (103)
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Retained earnings at end of period $ 2,224 $ 2,084 $ 2,224 $ 2,084
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The accompanying notes are an integral part of these financial statements.
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4
EASTMAN CHEMICAL COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
(DOLLARS IN MILLIONS)
SEPTEMBER 30, DECEMBER 31,
1998 1997
ASSETS
Current assets
Cash and cash equivalents $ 86 $ 29
Receivables 840 793
Inventories 568 511
Other current assets 185 157
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Total current assets 1,679 1,490
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Properties
Properties and equipment at cost 8,457 8,104
Less: Accumulated depreciation 4,451 4,223
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Net properties 4,006 3,881
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Other noncurrent assets 454 407
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Total assets $ 6,139 $ 5,778
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LIABILITIES AND SHAREOWNERS' EQUITY
Current liabilities
Payables and other current liabilities $ 982 $ 954
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Total current liabilities 982 954
Long-term borrowings 1,821 1,714
Deferred income tax credits 439 397
Postemployment obligations 698 724
Other long-term liabilities 221 236
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Total liabilities 4,161 4,025
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Shareowners' equity
Common stock ($0.01 par - 350,000,000 shares authorized;
shares issued - 84,412,160 and 84,144,672) 1 1
Paid-in capital 93 77
Retained earnings 2,224 2,078
Other comprehensive income (loss) (8) (37)
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2,310 2,119
Less: Treasury stock at cost (5,353,123 and 5,889,311 shares) 332 366
------- -------
Total shareowners' equity 1,978 1,753
------- -------
Total liabilities and shareowners' equity $ 6,139 $ 5,778
======= =======
The accompanying notes are an integral part of these financial statements.
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EASTMAN CHEMICAL COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOW
(DOLLARS IN MILLIONS)
FIRST NINE MONTHS
1998 1997
Cash flows from operating activities
Net earnings $ 251 $ 258
----- -----
Adjustments to reconcile net earnings to net
cash provided by operating activities
Depreciation 258 242
Provision for deferred income taxes 16 6
Increase in receivables (45) (54)
Increase in inventories (55) (76)
Increase in incentive pay and
employee benefit liabilities 18 49
Increase (decrease) in liabilities excluding borrowings,
incentive pay, and employee benefit liabilities (4) 91
Other items, net 20 (7)
Total adjustments 208 251
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Net cash provided by operating activities 459 509
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Cash flows from investing activities
Additions to properties and equipment (368) (567)
Acquisitions and investments in joint ventures (32) --
Proceeds from sales of assets 1 19
Capital advances to suppliers (21) (22)
Other items, net -- (2)
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Net cash used in investing activities (420) (572)
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Cash flows from financing activities
Net increase (decrease) in commercial paper borrowings 84 (113)
Proceeds from long-term borrowings 23 295
Dividends paid to shareowners (105) (104)
Treasury stock purchases -- (8)
Other items, net 16 5
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Net cash provided by financing activities 18 75
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Net change in cash and cash equivalents 57 12
Cash and cash equivalents at beginning of period 29 24
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Cash and cash equivalents at end of period $ 86 $ 36
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The accompanying notes are an integral part of these financial statements.
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EASTMAN CHEMICAL COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The accompanying unaudited interim consolidated financial statements have
been prepared by the Company in accordance and consistent with the
accounting policies stated in the Company's 1997 Annual Report on Form 10-K
and should be read in conjunction with the consolidated financial statements
appearing therein. In the opinion of the Company, all adjustments
(consisting only of normal recurring adjustments) necessary for a fair
presentation have been included in the interim consolidated financial
statements. The interim consolidated financial statements are based in part
on approximations and have not been audited by independent accountants.
2. INVENTORIES
SEPTEMBER 30, DECEMBER 31,
(Dollars in millions) 1998 1997
At FIFO or average cost (approximates current cost):
Finished goods $ 444 $ 436
Work in process 147 140
Raw materials and supplies 220 211
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Total inventories at FIFO or average cost 811 787
Reduction to LIFO value (243) (276)
----- -----
Total inventories at LIFO value $ 568 $ 511
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Inventories valued on the LIFO method are approximately 70-75% of total
inventories in each of the periods.
3. HOLSTON DEFENSE CORPORATION
Holston Defense Corporation ("Holston"), a wholly owned subsidiary of the
Company, has, as its sole business, managed the government-owned Holston
Army Ammunition Plant in Kingsport, Tennessee (the "Facility") since 1949
under a series of contracts with the Department of Army (the "DOA"). Holston
is currently managing the Facility under a contract that terminates on
December 31, 1998 (the "Contract"). The DOA has concluded the previously
reported bidding process and has awarded a contract to manage the Facility
to a third party commencing January 1, 1999. Accordingly, Holston will not
continue to manage the Facility after termination of the Contract.
The Contract generally provides for payment of a management fee to Holston
and reimbursement by the DOA of allowable costs incurred by Holston for the
operation of the Facility. Holston's operating results historically have
been insignificant to the Company's consolidated sales and earnings.
Pension and other postretirement benefits are currently provided to
Holston's present and past employees under the terms of Holston's plans. The
Company has previously recognized, in accordance with generally accepted
accounting principles, pension and other postretirement benefit obligations
related to Holston totaling approximately $95 million. The Company expects
that the DOA will reimburse these pension and other postretirement benefit
obligations and such amounts will be credited to earnings at the time of
receipt of reimbursement from the DOA. The reimbursement may or may not
occur in a single payment.
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Termination of Holston's management of the Facility will result in
termination payments to certain Holston employees and will require
additional funding for the acceleration of obligations under the pension and
other postretirement benefits plans. The Company has recognized additional
liabilities of approximately $35 million for termination and pension
curtailment. The recognition of these liabilities had no effect on earnings
because the Company recorded a receivable from the DOA for the reimbursement
of such amounts.
Holston plans to terminate its pension plan in a standard termination as of
January 1, 1999. In order to terminate the pension plan in a standard
termination, the assets of the plan must be sufficient to provide all
benefit liabilities with respect to each participant. Holston is in the
process of determining the amount to be funded. The Company will be
required to advance funds to pay such pension benefit liabilities, as well
as other termination costs, if there are delays in payment or reimbursement
by the DOA of all or portions of these costs.
The Company is negotiating with the DOA the settlement of certain
postretirement benefit obligations. The Company's potential obligation for
these postretirement benefit obligations, if any, in excess of the
negotiated amount will be recognized as a liability at such time that it is
probable and reasonably estimable that projected benefit obligations exceed
assets provided by the DOA. The Company expects that the DOA will reimburse
the Company for all costs associated with termination of the Contract.
Although the DOA's position with respect to similar contracts is that it has
no legal liability for unfunded postretirement benefit costs, other than
pension obligations, and the DOA may disagree with the specific amount of
other postretirement obligations, it is the opinion of the Company, based on
the Contract terms, applicable law, and legal and equitable precedents, that
substantially all of the other postretirement benefit costs will be paid by
the DOA or recovered from the government in related proceedings, and that
the amounts, if any, not paid or recovered, or the advancement of funds by
the Company pending such reimbursement or recovery, should not have a
material adverse effect on the consolidated financial position or results of
operations of the Company.
4. ACQUISITIONS AND INVESTMENTS
In September 1998 Eastman purchased for cash a European manufacturer of
specialty polymers. This transaction is accounted for as a purchase. The
Company expects to substantially complete the purchase accounting in the
fourth quarter 1998. This acquisition is not expected to have a material
effect on financial position or results of operations of the Company.
5. PAYABLES AND OTHER CURRENT LIABILITIES
SEPTEMBER 30, DECEMBER 31,
(Dollars in millions) 1998 1997
Trade creditors $296 $281
Accrued payrolls and vacation 89 99
Accrued variable-incentive compensation 73 92
Accrued pension liabilities 168 140
Accrued taxes 127 95
Other 229 247
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Total $982 $954
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6. LONG-TERM BORROWINGS
During third quarter 1998 the Company issued $23 million tax-exempt bonds
at variable interest rates, the proceeds of which are to be used for the
construction of certain solid waste disposal facilities in Kingsport,
Tennessee. The proceeds from this issuance are included in other noncurrent
assets and are held in trust until such time as needed to fund the
qualifying projects.
7. DIVIDENDS THIRD QUARTER FIRST NINE MONTHS
1998 1997 1998 1997
Cash dividends declared per share $ .44 $ .44 $ 1.32 $ 1.32
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8. EARNINGS PER SHARE
THIRD QUARTER FIRST NINE MONTHS
1998 1997 1998 1997
Shares used for earnings per share
calculation
(in millions):
--Basic 79.1 78.2 78.8 78.0
--Diluted 79.5 78.9 79.5 78.6
Certain shares underlying options outstanding during the third quarters of
1998 and 1997 and at September 30, 1998 and 1997 were excluded from the
computation of diluted earnings per share because the options' exercise
prices were greater than average market price of the common shares. Excluded
from third quarter of 1998 and 1997 calculations were shares underlying
options to purchase 1,462,714 common shares at a range of prices from
$56.8750 to $74.2500 and 569,887 common shares at a range of prices from
$60.4375 to $74.2500, respectively. Excluded from the year to date 1998 and
1997 calculations were shares underlying options to purchase 990,386 common
shares at a range of prices from $56.8750 to $74.2500 and 581,368 common
shares at a range of prices from $57.6250 to $74.2500, respectively.
Additionally, 200,000 shares underlying an option issued to the Chief
Executive Officer in third quarter 1997 were excluded from diluted earnings
per share calculations because the conditions to exercise had not been met
as to any of the shares as of September 30, 1998.
9. ANTITRUST VIOLATION AND SETTLEMENT
On September 30, 1998, Eastman entered into a voluntary plea agreement with
the Department of Justice and agreed to pay an $11 million fine to
resolve a charge brought against the Company for violation of Section One of
the Sherman Act. The charge, which is not deductible for federal income tax
purposes, was recorded in Cost of Sales in the third quarter and will be
paid in installments over a five year period.
10. COMPREHENSIVE INCOME
The Company adopted SFAS No. 130, "Reporting Comprehensive Income" in 1998.
Components of other comprehensive income (loss) are cumulative translation
adjustments and minimum pension liabilities. Amounts of other comprehensive
income (loss) are presented net of applicable taxes. Because cumulative
translation adjustments are considered a component of permanently invested
unremitted earnings of subsidiaries outside the United States, no taxes are
provided on such amounts.
11. SUPPLEMENTAL CASH FLOW INFORMATION
In March 1998 the Company issued 536,188 treasury shares to its Employee
Stock Ownership Plan as partial settlement of the Company's Eastman
Performance Plan payout. The shares issued had a market value of $35 million
and a carrying value of $33 million. In March 1997 the Company issued
611,962 shares of previously unissued common stock with a market value of
$34 million to the Employee Stock Ownership Plan as partial settlement of
the Eastman Performance Plan payout. These noncash transactions are not
reflected in the Consolidated Statements of Cash Flow.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
This Management's Discussion and Analysis of Financial Condition and Results of
Operations should be read in conjunction with the Company's Consolidated
Financial Statements and Management's Discussion and Analysis contained in the
1997 Annual Report on Form 10-K and the unaudited interim consolidated financial
statements included elsewhere in this report. All references to earnings per
share contained in this report are basic earnings per share unless otherwise
noted.
RESULTS OF OPERATIONS
EARNINGS
(Dollars in millions, except THIRD QUARTER FIRST NINE MONTHS
per share amounts) 1998 1997 CHANGE 1998 1997 CHANGE
Operating earnings $ 141 $ 148 (5)% $ 438 $ 439 0%
Net earnings 80 96 (17)% 251 258 (3)%
Net earnings per share
--Basic Earnings Per Share 1.01 1.23 (18)% 3.18 3.31 (4)%
--Diluted Earnings Per Share 1.00 1.22 (18)% 3.15 3.28 (4)%
Higher sales volumes in third quarter for all three segments, including
significantly higher volume for the Core Plastics segment, reflected good demand
overall for the Company's products. However, competitive markets resulting from
global economic conditions and industry overcapacities caused selling prices to
decline, negatively impacting revenues and earnings. Costs for most major raw
materials, including propane feedstock, paraxylene, purified terephthalic acid
("PTA"), ethylene glycol and natural gas, were below 1997 levels. Preproduction
costs for third quarter decreased following the second quarter startup of new
manufacturing facilities in Rotterdam, Argentina and Malaysia, although for nine
months preproduction costs were higher than in 1997.
As a result of good demand and new manufacturing capacity, sales volumes for the
quarter and nine months improved significantly for container plastics and
EASTAPAK polymers with gains experienced in Latin America, North America and
Europe. Although sales volume for fibers products improved for the quarter,
particularly in the Asia Pacific region, volume was still below nine months 1997
and selling prices were lower.
Productivity gains and cost structure improvements achieved as a result of the
Company's Advantaged Cost 2000 initiative and a lower effective tax rate had a
positive effect on results for the quarter and nine months. A stronger U.S.
dollar produced an unfavorable effect on sales denominated in currencies other
than U.S. dollars, although the earnings impact was offset by gains realized on
currency hedging transactions. Operating results for the third quarter and nine
months were negatively impacted by a charge for violation of the Sherman Act. In
1997, third quarter and nine months net earnings were favorably impacted by a
gain from a patent infringement award.
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SUMMARY BY INDUSTRY SEGMENT
SPECIALTY AND PERFORMANCE SEGMENT
THIRD QUARTER FIRST NINE MONTHS
(Dollars in millions) 1998 1997 CHANGE 1998 1997 CHANGE
Sales $635 $645 (2)% $1,898 $1,989 (5)%
Operating earnings 111(1) 116 (4)% 311(1) 364 (15)%
(1) Includes charge of $11 million for violation of the Sherman Act.
Sales volumes were higher during third quarter for most product lines, although
selling prices were generally under pressure. Operating earnings for the segment
overall were positively impacted by significantly lower costs for raw materials
and energy and cost structure improvements, but negatively impacted by
recognition of a charge for violation of the Sherman Act.
Specialty plastics sales volumes improved reflecting good markets and new
applications for EASTAR and SPECTAR. Although acetate tow prices were lower than
third quarter 1997, business conditions for acetate tow improved with higher
sales volume third quarter. Coatings, inks and resins sales volumes for the
quarter were strong, particularly for solvents, but the strong competitive
environment and industry overcapacity pressured selling prices. Performance
chemicals sales and earnings declined for third quarter and nine months,
reflecting the effect of discontinued businesses, industry overcapacity,
competitive pricing and recognition of a fine for violation of the Sherman Act.
Sales and earnings for fine chemicals improved third quarter, reflecting cost
recovery related to custom manufacturing projects.
CORE PLASTICS SEGMENT
THIRD QUARTER FIRST NINE MONTHS
(Dollars in millions) 1998 1997 CHANGE 1998 1997 CHANGE
Sales $335 $325 3% $1,024 $994 3%
Operating earnings (loss) 3 (10) - 25 (35) -
Container plastics results for third quarter and nine months reflected
substantially higher sales volume for EASTAPAK polymers following the second
quarter startup of new manufacturing facilities in Rotterdam and Argentina.
Preproduction costs for third quarter decreased, although for nine months were
higher than in 1997. EASTAPAK polymers selling prices, although significantly
higher for nine months, were pressured in third quarter by industry
overcapacity. Polyethylene selling prices and margins were negatively impacted
by the effect of excess industry capacities for ethylene and polyethylene.
However, this was offset partially by increased sales of specialty grade
polyethylene performance polymers and lower raw materials cost. Segment earnings
were positively impacted by cost structure improvements.
CHEMICAL INTERMEDIATES SEGMENT
THIRD QUARTER FIRST NINE MONTHS
(Dollars in millions) 1998 1997 CHANGE 1998 1997 CHANGE
Sales $161 $175 (8)% $522 $541 (4)%
Operating earnings 27 42 (36)% 102 110 (7)%
Generally lower selling prices attributable to excess industry capacity and
competitive market conditions negatively impacted sales and earnings for the
quarter and nine months, but the effect was partially offset by higher volumes,
cost structure improvements and favorable raw materials and energy costs.
(For supplemental analysis of Specialty and Performance, Core Plastics, and
Chemical Intermediates segment results, see Exhibit 99.01 to this Form 10-Q.)
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SUMMARY BY CUSTOMER LOCATION
SALES BY REGION
THIRD QUARTER FIRST NINE MONTHS
(Dollars in millions) 1998 1997 CHANGE 1998 1997 CHANGE
United States and Canada $736 $763 (4)% $2,268 $2,310 (2)%
Asia Pacific 106 119 (11) 310 390 (21)
Europe, Middle East, and Africa 188 187 1 590 581 2
Latin America 101 76 33 276 243 14
Sales in the United States for third quarter 1998 were $696 million, down 3%
from 1997 third quarter sales of $718 million. For nine months, sales in the
United States were $2.14 billion compared to $2.18 billion in 1997. For the
quarter and nine months, significant sales volume improvements were offset by
selling price declines reflecting global economic conditions.
Sales outside the United States for third quarter 1998 were $435 million, up 2%
from 1997 third quarter sales of $427 million. Sales outside the United States
were 38% of total sales in third quarter 1998 compared with 37% for third
quarter 1997. For nine months, sales outside the United States were $1.31
billion, a decrease of 3% from 1997 sales of $1.34 billion. Decreased sales in
Asia Pacific for nine months are mainly a result of lower sales volumes and
prices for acetate tow resulting from excess industry capacity, although for the
quarter, acetate tow volumes improved. Some decline in Asia Pacific is also
attributable to the region's weakened economies. Sales in Latin America reflect
strong demand and new capacity for EASTAPAK polymers following the second
quarter startup of a new manufacturing site in Argentina. A strong U.S. dollar
against foreign currencies resulted in unfavorable currency exchange effects,
primarily in Europe.
SUMMARY OF CONSOLIDATED RESULTS
THIRD QUARTER FIRST NINE MONTHS
(Dollars in millions) 1998 1997 CHANGE 1998 1997 CHANGE
SALES $1,131 $1,145 (1)% $3,444 $3,524 (2)%
Sales volumes for most product lines and regions improved for third quarter,
with significant improvement in the Core Plastics segment. However, the effect
of increased volumes was offset by generally lower selling prices reflecting
global economic conditions. For nine months overall volume was moderately ahead
of 1997 but the effect of generally lower selling prices and a shift in the mix
of products sold resulted in lower sales. For the quarter and nine months, sales
were negatively affected by the strength of the U.S. dollar against foreign
currencies, primarily in Europe.
THIRD QUARTER FIRST NINE MONTHS
(Dollars in millions) 1998 1997 CHANGE 1998 1997 CHANGE
GROSS PROFIT $ 261 $ 288 (9)% $ 812 $ 831 (2)%
As a percentage of sales 23.1% 25.2% 23.6% 23.6%
Although lower raw materials and energy costs and productivity gains had a
positive impact on gross profit, declining selling prices and a charge for
violation of the Sherman Act caused a decline in gross profit for the quarter
and nine months.
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THIRD QUARTER FIRST NINE MONTHS
(Dollars in millions) 1998 1997 CHANGE 1998 1997 CHANGE
SELLING AND GENERAL
ADMINISTRATIVE EXPENSES $ 75 $ 85 (12)% $235 $247 (5)%
As a percentage of sales 6.6% 7.4% 6.8% 7.0%
The decrease in selling and general administrative expenses reflects timing of
expenditures and a reduction in labor hours.
THIRD QUARTER FIRST NINE MONTHS
(Dollars in millions) 1998 1997 CHANGE 1998 1997 CHANGE
RESEARCH AND
DEVELOPMENT COSTS $ 45 $ 55 (18)% $139 $145 (4)%
As a percentage of sales 4.0% 4.8% 4.0% 4.1%
Due to timing of expenditures, research and development costs were lower for the
quarter, but were relatively unchanged for nine months.
THIRD QUARTER FIRST NINE MONTHS
(Dollars in millions) 1998 1997 CHANGE 1998 1997 CHANGE
INTEREST COSTS $32 $31 $97 $91
LESS CAPITALIZED INTEREST 4 5 27 24
--- --- --- ---
NET INTEREST EXPENSE $28 $26 8% $70 $67 4%
=== === === ===
Interest costs were higher for the quarter and nine months as a result of an
increase in long-term borrowings consistent with the Company's capital expansion
and operating activities.
THIRD QUARTER FIRST NINE MONTHS
(Dollars in millions) 1998 1997 CHANGE 1998 1997 CHANGE
OTHER INCOME, NET $10 $26 (62)% $18 $31 (42)%
Other income and other charges include interest income, royalty income, gains
and losses on asset sales, results from equity investments, foreign exchange
transactions, and other items. Amounts for third quarter 1997 and nine months
1997 include a gain from a patent infringement award.
LIQUIDITY, CAPITAL RESOURCES AND OTHER FINANCIAL DATA
FINANCIAL INDICATORS 1998 1997
For the first nine months
Ratio of earnings to fixed charges 4.2x 4.6x
At the period ended September 30 and December 31
Current ratio 1.7x 1.6x
Percent of long-term borrowings to total capital 48% 49%
Percent of floating-rate borrowings to total borrowings 16% 12%
CASH FLOW FIRST NINE MONTHS
(Dollars in millions) 1998 1997
Net cash provided by (used in)
Operating activities $ 459 $ 509
Investing activities (420) (572)
Financing activities 18 75
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Net change in cash and cash equivalents $ 57 $ 12
===== =====
Cash and cash equivalents at end of period $ 86 $ 36
===== =====
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Cash provided by operating activities decreased from nine months 1997 due to
changes in receivables and inventories and timing of expenditures, including
those related to pension funding. Cash used in investing activities declined as
a result of reduced capital expansion activity in 1998, slightly offset by the
acquisition of a specialty polymers business. Cash provided by financing
activities in 1998 reflects an increase in commercial paper borrowings and
proceeds received from a $23 million issuance of tax-exempt bonds. Cash provided
by financing activities in 1997 reflects treasury stock purchases and proceeds
received from a $300 million issuance of 7.60% debentures due February 1, 2027
which were used to repay commercial paper borrowings outstanding at that time.
Also reflected in cash flows from financing activities is the payment of
dividends in both years.
CAPITAL EXPENDITURES AND OTHER COMMITMENTS
Eastman anticipates that total capital expenditures in 1998 will be
approximately $500-550 million and depreciation expense is expected to be
approximately $350 million. For 1999 the Company estimates that capital
expenditures will be approximately $450-500 million and depreciation is expected
to increase somewhat due to full year depreciation on facilities which began
operations in 1998. Long-term commitments related to planned capital
expenditures are not material.
LIQUIDITY
Eastman has access to an $800 million revolving credit facility ("Credit
Facility") expiring in December 2000. Although the Company does not have any
amounts outstanding under the Credit Facility, any such borrowings would be
subject to interest at varying spreads above quoted market rates, principally
LIBOR. The Credit Facility also requires a facility fee on the total commitment
that varies based on Eastman's credit rating. The annual rate for such fee was
.075% as of September 30, 1998. The Credit Facility contains a number of
covenants and events of default, including the maintenance of certain financial
ratios. Eastman was in compliance with all such covenants for all periods.
Eastman utilizes commercial paper, generally with maturities of 90 days or less,
to meet its liquidity needs. The Company's commercial paper, supported by the
Credit Facility, is classified as long-term borrowings because the Company has
the ability and intent to refinance such borrowings long term. As of September
30, 1998 the Company's commercial paper outstanding balance was $296 million at
an effective interest rate of 5.72%. At September 30, 1997 the Company's
commercial paper outstanding balance was $189 million at an effective interest
rate of 5.7%.
During the third quarter 1998 the Securities and Exchange Commission declared
effective the Company's registration statement to issue up to $1 billion of debt
or equity securities. No securities have been sold from this shelf registration.
Also during third quarter the Company issued $23 million tax-exempt bonds at
variable interest rates, the proceeds of which are to be used for the
construction of certain solid waste disposal facilities in Kingsport, Tennessee.
The proceeds from this issuance are held in trust as restricted cash and become
available to the Company as expenditures are made for construction of the
designated solid waste disposal facilities.
The Company repurchased a total of 5,935,301 shares of common stock during 1995,
1996 and 1997 at a cost of $369 million, and is currently authorized to purchase
up to an additional $231 million of its common stock. Repurchased shares may be
used to meet common stock requirements for compensation and benefit plans and
other corporate purposes. In March 1998 the Company issued 536,188 treasury
shares to the Eastman Employee Stock Ownership Plan in partial settlement of the
1997 Eastman Performance Plan obligation.
Existing sources of capital, together with cash flows from operations, are
expected to be sufficient to meet the Company's foreseeable cash flow
requirements.
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DIVIDENDS THIRD QUARTER FIRST NINE MONTHS
1998 1997 1998 1997
Cash dividends declared per share $ .44 $ .44 $ 1.32 $ 1.32
YEAR 2000 ISSUE
The year 2000 issue is the result of computer programs written using two digits
rather than four to define the applicable year. Without corrective action,
programs with time-sensitive software could potentially recognize a date ending
in "00" as the year 1900 rather than the year 2000, causing many computer
applications to fail or create erroneous results. This is a significant issue
for most, if not all, companies, with far reaching implications, some of which
cannot be anticipated or predicted with any degree of certainty. Year 2000
problems could affect many of the Company's processes, including production,
distribution, research and development, financial, administrative and
communications operations.
The Company's date dependent systems can be summarized into three categories:
computerized business systems; computerized distributed control systems for
manufacturing; and other devices using embedded chips.
Internal identification of all business, manufacturing and embedded chip devices
for year 2000 compliance is complete. An outside consultant has evaluated our
identification, assessment, and testing process related to manufacturing and
embedded equipment and concluded that the results of our internal processes are
reliable.
Remediation and final acceptance testing of the Company's existing business
computer systems is on target for completion by yearend 1998. Very few problems
have surfaced in this area, primarily because of the Company's aggressive
implementation of enterprise software and standardized desktop/office software
earlier in this decade.
Parallel assessment and remediation of date dependent manufacturing control
systems and devices is proceeding. Manufacturers of these products are being
contacted to ascertain year 2000 compliance and product compliancy responses
have been received for more than seventy percent of identified products. A
minimal number of devices have been determined to be non-compliant, with most
requiring software upgrades at minimal cost.
A testing plan has been approved by senior management, which will evaluate all
control systems for date sensitive issues and test a representative sample of
manufacturing control systems. The Company's current goal for manufacturing
control systems is to complete assessment, testing and most of the remediation
or workaround solutions on critical control systems early in 1999. However,
because of plant scheduling and equipment lead times, some upgrade work may
occur later in the year. Some low priority embedded devices will not be tested
or remediated but will be managed by contingency plans. Although some risk is
inherent with this plan, the Company believes the risk is controllable with
contingency plans being developed and that this plan does not pose significant
problems for the Company's various manufacturing distributed control systems.
Testing, remediation or workaround solutions for other devices with embedded
chips continues on a schedule with a targeted completion date at end of first
quarter 1999.
As a result of assessments, modifications, upgrades, or replacements planned,
ongoing or already completed, the Company believes the year 2000 issue as it
relates to the Company's own date dependent systems will not pose significant
problems for the Company's business, processes and operations. The Company
believes that the costs of modifications, upgrades, or replacements of software,
hardware, or capital equipment which would not be incurred but for year 2000
compatibility requirements have not and will not have a material impact on the
Company's financial position or results of operations. Overall costs
attributable to the Company's year 2000 efforts, incurred over a period of
several years, are expected to be less than $20 million.
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The Company has identified and is communicating with customers, suppliers, and
other critical service providers to determine if entities with which the Company
transacts business have an effective plan in place to address the year 2000
issue, and to determine the extent of the Company's vulnerability to the failure
of third parties to remediate their own year 2000 issue. The Company has
received affirmative readiness responses from approximately ninety percent of
its materials suppliers and seventy-five percent of other key service providers.
The Company is relying on statements of service and goods suppliers and is not
auditing suppliers' preparation plans. Risks associated with this approach are
being identified and contingency plans will be developed.
Based on current plans and efforts to date, the Company does not anticipate that
year 2000 problems will have a material effect on results of operations or
financial condition. However, the above expectations are subject to
uncertainties. For example, if the Company is unsuccessful in identifying or
remediating all year 2000 problems in its critical operations, or if it is
affected by the inability of suppliers or major customers to continue operations
due to such a problem, then the Company's results of operations or financial
condition could be materially impacted.
HOLSTON DEFENSE CORPORATION
Holston Defense Corporation ("Holston"), a wholly owned subsidiary of the
Company, has managed the government-owned Holston Army Ammunition Plant in
Kingsport, Tennessee (the "Facility") since 1949 under contract with the
Department of Army ("DOA"). The current contract will terminate December 31,
1998 (the "Contract"). The DOA has concluded the previously reported bidding
process and has awarded a contract to manage the Facility to a third party
commencing January 1, 1999. Accordingly, Holston will not continue to manage the
Facility after termination of the Contract.
The Contract provides for reimbursement of allowable costs incurred by Holston.
Reimbursement of certain previously recognized pension and postretirement
benefit costs will be credited to earnings at the time of receipt of
reimbursement from the DOA. The Company has recognized liabilities associated
with Holston's curtailment of pension, other postretirement benefits and other
termination costs in accordance with generally accepted accounting principles.
The recording of previously unrecognized liabilities second quarter had no
effect on earnings because the Company also recorded a receivable from the DOA
for reimbursement of such amounts. The Company expects the DOA to reimburse
substantially all such costs and payments, but delays in reimbursement may
require the Company to advance funds to pay such costs. The Company expects no
significant impact on financial position or results of operations related to
termination of the Contract. See Note 3 to Consolidated Financial Statements.
RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1997 the FASB issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information," which requires enterprises to report
selected information about operating segments and related disclosures about
products and services, geographic areas, and major customers. The Company will
adopt this standard effective with yearend 1998 financial reporting and expects
no material change in its current segment structure.
In February 1998 the FASB issued SFAS No. 132, "Employers' Disclosures about
Pensions and Other Postretirement Benefits," which standardizes and improves
disclosures related to pensions and other postretirement benefits. The Company
will comply with the new disclosure requirements of this standard which become
effective for the Company's yearend 1998 financial reporting.
In June 1998 the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which standardizes the accounting for
derivative instruments, including certain derivative instruments embedded in
other contracts, by requiring that an entity recognize those items as assets or
liabilities in the statement of financial position and measure them at fair
value. The Company is evaluating the effect of this standard on its financial
statements and will comply with requirements of the new standard which become
effective for the Company's 2000 financial reporting cycle. Given current
activities, the Company expects no material effect on net earnings, but the
standard will likely have an impact on other comprehensive income.
Statement of Position ("SOP") 98-1, "Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use," was issued by the American
Institute of Certified Public Accountants in March 1998 and
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requires capitalization of certain internal-use computer software costs which
will subsequently be amortized over a three year period. The Company will comply
with the requirements of this SOP effective for the Company's 1999 financial
reporting. The Company's current practice has been to expense such costs as
incurred. Consequently, the standard will result in a favorable effect on
earnings in the year of adoption.
OUTLOOK
Given the current economic environment, the Company anticipates it will be a
challenge to achieve an improvement in earnings before non-recurring charges for
the fourth quarter 1998. Current global economic conditions and industry
overcapacities are expected to continue to negatively impact selling prices for
many products.
Within the Core Plastics segment, demand and volume for EASTAPAK polymers are
expected to continue to grow. Continued SPECTAR copolymer volume growth is also
expected due to strong demand. Recently introduced polyethylene performance
polymers, MXSTEN and TENITE HIFOR, are expected to continue to gain market
acceptance. Within the Chemical Intermediates segment, the completed oxo plant
expansion is expected to produce continued volume gains.
The Company continues to explore options for diminishing the impact of the
container plastics business on its portfolio, although it is unlikely that any
action will be announced prior to year end 1998.
Interest expense and depreciation are expected to increase and capitalized
interest is expected to decline for the remainder of 1998 following the startup
earlier this year of three new manufacturing facilities.
The Company is making good progress toward its Advantaged Cost 2000 initiative
of $500 million in cost structure improvements by the year 2000. Improvements in
labor and material costs and productivity gains totaling over $100 million were
achieved in 1997. The Company expects to continue its progress through on-going
business process improvements and increased volumes from new and existing
plants.
The above-stated expectations, other forward-looking statements in this report,
and other statements of the Company relating to matters such as cost reduction
targets; additional available manufacturing capacity; capital spending and
depreciation; the year 2000 issue; global economic conditions; and supply and
demand, volumes, price, costs, margins, and sales and earnings expectations and
strategies for individual products, businesses, and segments, as well as for the
whole of the Company, are based upon certain underlying assumptions. These
assumptions are in turn based upon internal estimates and analyses of current
market conditions and trends, management plans and strategies, economic
conditions, and other factors and are subject to risks and uncertainties
inherent in projecting future conditions and results.
The forward-looking statements in this Management's Discussion and Analysis are
based upon the following assumptions and those mentioned in the context of the
specific statements: continued good overall demand for the Company's products;
no significant impact from further deterioration of global economic conditions;
downward pressure on selling prices overall; continued demand growth worldwide
for EASTAPAK polymers; continued capacity additions within the PET industry
worldwide; capacity additions within the ethylene industry worldwide; declines
in preproduction expenses related to new manufacturing facilities; stabilization
of acetate tow demand and volume; availability of key purchased raw materials
with stabilization of or no significant increase in costs; continuing good
market reception of new polyethylene products and continued shift of
polyethylene product mix to less commodity products; availability of recent or
planned manufacturing capacity increases for container plastics, SPECTAR,
coatings, and oxo products; and labor and material productivity gains sufficient
to meet targeted cost structure reductions. Actual results could differ
materially from current expectations if one or more of these assumptions prove
to be inaccurate or are unrealized.
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EASTAPAK, SPECTAR, EASTAR, MXSTEN, and TENITE HIFOR are trademarks of Eastman
Chemical Company.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
As previously announced, on September 30, 1998 Eastman entered into a
voluntary plea agreement with the Department of Justice and agreed to
pay an $11 million fine to resolve a charge brought against the
Company for violation of Section One of the Sherman Act. Under the
agreement, Eastman entered a plea of guilty to one count of
price-fixing for sorbates, a class of food preservatives, from
January 1995 through June 1997. The plea agreement was approved by
the United States District Court for the Northern District of
California in San Francisco on October 21, 1998. The Company
recognized the entire fine in third quarter 1998 and will pay the
fine in installments over a period of five years.
As previously reported, in May 1997 the Company received notice from
the Tennessee Department of Environment and Conservation ("TDEC")
alleging that the manner in which hazardous waste was fed into
certain boilers at the Tennessee Eastman facility in Kingsport,
Tennessee violated provisions of the Tennessee Hazardous Waste
Management Act. Based upon subsequent communications with the TDEC
and the U.S. Environmental Protection Agency, the Company believes
that these agencies may be contemplating enforcement proceedings
which, if commenced, could result in monetary sanctions in excess of
the $100,000 threshold of Regulation S-K, Item 103, Instruction 5.C.
under the Securities Exchange Act of 1934 for reporting such
contemplated proceedings in this Report.
The Company's operations are parties to or targets of lawsuits,
claims, investigations, and proceedings, including product liability,
personal injury, patent, commercial, contract, environmental,
antitrust, health and safety, and employment matters, which are being
handled and defended in the ordinary course of business. While the
Company is unable to predict the outcome of these matters, it does
not believe, based upon currently available facts, that the ultimate
resolution of any of such pending matters, including the TDEC
allegations described in the preceding paragraph, will have a
material adverse effect on the Company's financial position or
results of operations.
ITEM 2. CHANGES IN SECURITIES
(c) On July 1, 1998, the Company granted options to purchase an
aggregate of 816 shares of its common stock on or after January 1,
1999 at an exercise price of $61.375 per share. Such options were
granted to non-employee directors who elected under the 1996
Non-Employee Director Stock Option Plan to receive options in lieu of
all or a portion of their semi-annual cash retainer fee. The Company
issued the options in reliance upon the exemption from registration of
Section 4(2) of the Securities Act of 1933.
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits filed as part of this report are listed in the Exhibit
Index appearing on page 20.
(b) Reports on Form 8-K
The Company did not file any reports on Form 8-K during the
quarter ended September 30, 1998.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Eastman Chemical Company
Date: October 28, 1998 By: /s/ Allan R. Rothwell
----------------------------------
Allan R. Rothwell
Senior Vice President and
Chief Financial Officer
(On behalf of the Registrant and as
Principal Financial Officer)
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EXHIBIT INDEX
EXHIBIT DESCRIPTION SEQUENTIAL
NUMBER PAGE
NUMBER
3.01 Amended and Restated Certificate of Incorporation of Eastman
Chemical Company (incorporated herein by reference to Exhibit 3.01
to Eastman Chemical Company's Registration Statement on Form S-1,
File No. 33-72364, as amended)
3.02 Amended and Restated By-laws of Eastman Chemical Company, as
amended October 1, 1994 (incorporated by reference to Exhibit 3.02
to Eastman Chemical Company's Annual Report on Form 10-K for the
year ended December 31, 1994)
4.01 Form of Eastman Chemical Company Common Stock certificate
(incorporated herein by reference to Exhibit 3.02 to Eastman
Chemical Company's Annual Report on Form 10-K for the year ended
December 31, 1993)
4.02 Stockholder Protection Rights Agreement dated as of December 13,
1993, between Eastman Chemical Company and First Chicago Trust
Company of New York, as Rights Agent (incorporated herein by
reference to Exhibit 4.4 to Eastman Chemical Company's Registration
Statement on Form S-8 relating to the Eastman Investment Plan, File
No. 33-73810)
4.03 Indenture, dated as of January 10, 1994, between Eastman Chemical
Company and The Bank of New York, as Trustee (incorporated herein
by reference to Exhibit 4(a) to Eastman Chemical Company's current
report on Form 8-K dated January 10, 1994 (the "8-K"))
4.04 Form of 6 3/8% Notes due January 15, 2004 (incorporated herein by
reference to Exhibit 4(c) to the 8-K)
4.05 Form of 7 1/4% Debentures due January 15, 2024 (incorporated herein
by reference to Exhibit 4(d) to the 8-K)
4.06 Officers' Certificate pursuant to Sections 201 and 301 of the
Indenture (incorporated herein by reference to Exhibit 4(a) to
Eastman Chemical Company's Current Report on Form 8-K dated June 8,
1994 (the "June 8-K"))
4.07 Form of 7 5/8% Debentures due June 15, 2024 (incorporated herein by
reference to Exhibit 4(b) to the June 8-K)
4.08 Form of 7.60% Debentures due February 1, 2027 (incorporated herein
by reference to Exhibit 4.08 to Eastman Chemical Company's Annual
Report on Form 10-K for the year ended December 31, 1996 (the "1996
10-K"))
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EXHIBIT INDEX
EXHIBIT DESCRIPTION SEQUENTIAL
NUMBER PAGE
NUMBER
4.09 Officer's Certificate pursuant to Sections 201 and 301 of the
Indenture related to 7.60% Debentures due February 1, 2027
(incorporated herein by reference to Exhibit 4.09 to the 1996 10-K)
4.10 Credit Agreement, dated as of December 19, 1995 (the "Credit
Agreement") among Eastman Chemical Company, the Lenders named
therein, and The Chase Manhattan Bank, as Agent (incorporated
herein by reference to Exhibit 4.08 to Eastman Chemical
Company's Annual Report on Form 10-K for the year ended
December 31, 1995)
*10.01 Eastman ESOP Excess Plan (as amended) 22
*10.02 Eastman Executive Deferred Compensation Plan (as amended) 32
12.01 Statement re: Computation of Ratios of Earnings to Fixed Charges 45
27.01 Financial Data Schedule (for SEC use only)
99.01 Supplemental Business Segment Information 46
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*Management contract or compensatory plan or arrangement filed pursuant to Item
601(b)(10)(ii) of Regulation S-K.
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