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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
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FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED SEPTEMBER 30, 2002
[ ] 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 1-584
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FERRO CORPORATION
(Exact name of registrant as specified in its charter)
AN OHIO CORPORATION, IRS NO. 34-0217820
1000 LAKESIDE AVENUE CLEVELAND, OH 44114
(Address of principal executive offices)
REGISTRANT'S TELEPHONE NUMBER INCLUDING AREA CODE:
216/641-8580
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 [ ]
At November 4, 2002 there were 40,436,963 shares of Ferro common stock,
par value $1.00, outstanding.
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CONDENSED CONSOLIDATED STATEMENTS OF INCOME
FERRO CORPORATION AND SUBSIDIARIES
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
------------ ------------
(UNAUDITED) (UNAUDITED) (UNAUDITED) (UNAUDITED)
2002 2001 2002 2001
---- ---- ---- ----
(dollars in thousands-except per share amounts)
Net Sales........................................... $ 388,807 $ 304,073 $ 1,162,246 $ 896,414
Cost of Sales....................................... 293,577 230,300 866,956 666,302
Selling, Administrative and General Expenses........ 69,937 63,768 213,099 177,476
Other Charges (Credits):
Interest Expense................................. 9,571 7,567 33,182 20,483
Net Foreign Currency (Gain) Loss................. (1,327) (17,159) 349 (17,575)
Other Expense - Net.............................. 3,811 1,121 9,506 6,320
---------- ----------- ------------ -----------
Income Before Taxes........................... 13,238 18,476 39,154 43,408
Income Tax Expense.................................. 3,221 7,047 12,461 16,285
---------- ----------- ------------ -----------
Income from Continuing Operations................... 10,017 11,429 26,693 27,123
Discontinued Operations
Results from Discontinued Operations,
Net of Tax.................................... 2,039 823 6,590 6,107
Gain on Disposal of Discontinued Operation,
Net of Tax.................................... 32,465 -- 32,465 --
---------- ----------- ------------ -----------
34,504 823 39,055 6,107
Net Income.......................................... 44,521 12,252 65,748 33,230
Dividend on Preferred Stock......................... 594 763 1,875 2,333
---------- ----------- ------------ -----------
Net Income Available to Common Shareholders......... $ 43,927 $ 11,489 $ 63,873 $ 30,897
========== =========== ============ ===========
Earnings Per Share Data:
Basic
Income from Continuing Operations............. $ 0.23 $ 0.31 $ 0.66 $ 0.72
Discontinued Operations....................... 0.86 0.03 1.04 0.18
---------- ----------- ------------ -----------
$ 1.09 $ 0.34 $ 1.70 $ 0.90
Diluted
Income from Continuing Operations............. $ 0.23 $ 0.31 $ 0.65 $ 0.72
Discontinued Operations....................... 0.80 0.02 0.97 0.16
---------- ----------- ------------ -----------
$ 1.03 $ 0.33 $ 1.62 $ 0.88
Shares Outstanding:
Average Outstanding.............................. 40,347,707 34,249,361 37,550,340 34,216,688
Average Diluted.................................. 43,010,001 37,071,799 40,443,732 37,081,281
Actual End of Period............................. 40,381,678 34,259,867 40,381,678 34,259,867
See Accompanying Notes to Condensed Consolidated Financial Statements
1
CONDENSED CONSOLIDATED BALANCE SHEETS
FERRO CORPORATION AND SUBSIDIARIES
SEPTEMBER 30, 2002 AND DECEMBER 31, 2001
SEPTEMBER 30 DECEMBER 31
2002 2001
---- ----
(UNAUDITED) (AUDITED)
(dollars in thousands)
ASSETS
Current Assets:
Cash and Cash Equivalents........................................... $ 15,878 $ 15,317
Net Receivables..................................................... 146,154 159,703
Inventories......................................................... 181,642 214,164
Assets of Businesses Held for Sale.................................. 26,150 98,680
Other Current Assets................................................ 153,888 171,473
------------- -------------
Total Current Assets............................................. $ 523,712 $ 659,337
Net Property, Plant & Equipment........................................ 570,423 571,726
Unamortized Intangible Assets.......................................... 429,895 399,320
Other Assets........................................................... 94,552 102,176
------------- -------------
$ 1,618,582 $ 1,732,559
============= =============
LIABILITIES
Current Liabilities:
Notes and Loans Payable............................................. $ 8,731 $ 19,506
Accounts Payable, Trade............................................. 201,585 180,019
Liabilities of Businesses Held for Sale............................. 9,234 34,389
Other Current Liabilities........................................... 229,661 171,312
------------- -------------
Total Current Liabilities........................................ $ 449,211 $ 405,226
Long - Term Debt....................................................... 449,336 829,740
Other Liabilities...................................................... 216,843 197,207
Shareholders' Equity................................................... 503,192 300,386
------------- -------------
$ 1,618,582 $ 1,732,559
============= =============
See Accompanying Notes to Condensed Consolidated Financial Statements
2
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FERRO CORPORATION AND SUBSIDIARIES
NINE MONTHS ENDED
SEPTEMBER 30
------------
2002 2001
---- ----
(UNAUDITED) (UNAUDITED)
(dollars in thousands)
Net Cash Provided by Operating Activities.............................. $ 138,494 $ 116,084
Cash Flow from Investing Activities:
Capital Expenditures for Plant and Equipment........................ (25,545) (34,959)
(Acquisitions) and Divestitures..................................... 132,491 (509,245)
Other Investing Activities.......................................... (2,404) 3,180
-------------- -------------
Net Cash Provided (Used) for Investing Activities...................... 104,542 (541,024)
Cash Flow from Financing Activities:
Issuance of Common Stock............................................ 131,540 --
Net Payments Under Short-Term Facilities............................ (10,775) (46,055)
Net (Repayment) Borrowings Under Short-Term
Capital Markets Facility.......................................... (103,555) 300,000
Net Proceeds from Asset Securitization.............................. 25,434 30,274
Proceeds from (Repayment of) Long-Term Debt......................... (280,752) 204,771
Sale (Purchase) of Treasury Stock................................... 10,324 (4,050)
Cash Dividend Paid.................................................. (17,796) (17,219)
Other Financing Activities.......................................... (478) (9,323)
-------------- --------------
Net Cash (Used) Provided by Financing Activities....................... (246,058) 458,398
Effect of Exchange Rate Changes on Cash................................ 3,583 (246)
------------- --------------
Increase in Cash and Cash Equivalents.................................. 561 33,212
Cash and Cash Equivalents at Beginning of Period....................... 15,317 777
------------- -------------
Cash and Cash Equivalents at End of Period............................. $ 15,878 $ 33,989
============= =============
Supplemental Disclosures:
Cash Paid During the Period for:
Interest, Net of Amounts Capitalized................................ $ 23,581 $ 17,418
Income Taxes........................................................ $ 12,422 $ 8,779
------------- -------------
Cash Flows from Discontinued Operations................................ $ $
Net Cash Provided by Operating Activities........................... 13,087 11,661
Net Cash Used for Investing Activities............................ 519 7,804
Net Cash Provided (Used) by Financing Activities.................... -- --
See Accompanying Notes to Condensed Consolidated Financial Statements
3
FERRO CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
These condensed consolidated financial statements should be read in
conjunction with the consolidated financial statements and notes thereto
included in the Company's annual report on Form 10-K for the fiscal year
ended December 31, 2001. The information furnished herein reflects all
adjustments (consisting of normal recurring adjustments) which are, in the
opinion of management, necessary for fair presentation of the results of
operations for the interim period. Certain amounts in the 2001 financial
statements and accompanying notes have been reclassified to conform to the
2002 presentation. The results for the three and nine months ended September
30, 2002 are not necessarily indicative of the results expected in subsequent
quarters or for the full year.
2. COMPREHENSIVE INCOME
Comprehensive income represents net income adjusted for foreign currency
translation adjustments and minimum pension liability adjustments.
Comprehensive income was $38.7 million and $20.3 million for the three months
ended September 30, 2002 and 2001, respectively, and $76.9 million and $29.4
million for the nine months ended September 30, 2002 and 2001, respectively.
Accumulated other comprehensive loss at September 30, 2002 and December 31,
2001 was $96.5 million and $107.7 million, respectively.
3. INVENTORIES
Inventories consisted of the following:
(dollars in thousands)
SEPTEMBER 30, DECEMBER 31,
2002 2001
---- ----
Raw Materials................................................. $ 43,334 $ 64,147
Work in Process............................................... 17,960 16,745
Finished Goods................................................ 130,836 143,303
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192,130 224,195
LIFO Reserve.................................................. 10,488 10,031
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Net Inventories............................................... $ 181,642 $ 214,164
============= =============
4. FINANCING AND LONG-TERM DEBT
Long-term debt as of September 30, 2002 and December 31, 2001 was as follows:
(dollars in thousands)
SEPTEMBER 30, DECEMBER 31,
2002 2001
---- ----
Senior Notes, 9.125%, due 2009................................ $ 196,171 $ 195,712
Debentures, 7.125%, due 2028.................................. 54,464 54,448
Debentures, 7.625%, due 2013.................................. 24,840 24,833
Debentures, 8.0%, due 2025.................................... 49,474 49,457
Debentures, 7.375%, due 2015.................................. 24,953 24,950
Revolving credit agreements................................... 96,726 372,000
Capital markets term facility................................. -- 103,555
Other......................................................... 2,997 6,422
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449,625 831,377
Less current portion (a)...................................... 289 1,637
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Total......................................................... $ 449,336 $ 829,740
============= =============
(a) Included in notes and loans payable.
4
In September 2001, the Company entered into new unsecured senior credit
facilities. The senior credit facilities included a $373.0 million five-year
revolving credit facility, and a $187.0 million 364-day revolving credit
facility. The 364-day revolving credit facility expired on September 6, 2002.
On September 30, 2002, the Company repaid $131.9 million of the five-year
facility from the proceeds from the sale of its Powder Coatings business,
which effectively reduced the capacity of the facility to $300.0 million. At
September 30, 2002, the Company had $96.7 million outstanding under the
five-year revolving credit facility.
At the Company's option, the borrowing under the five-year revolving credit
facility bears interest at a rate equal to (1) LIBOR, or (2) the greater of
the prime rate established by National City Bank, Cleveland, Ohio, and the
Federal Funds effective rate plus 0.5% (Prime Rate); plus, in each case,
applicable margins based upon a combination of the Company's index debt
rating and the ratio of the Company's total debt to EBITDA (earnings before
interest, taxes, depreciation and amortization). Interest rates in effect at
September 30, 2002, for the five-year revolving credit facility were 3.64%.
The Company's credit facilities contain customary operating covenants that
limit its ability to engage in certain activities, including acquisitions.
Several of the covenants contain additional restrictions based upon the ratio
of total debt to EBITDA (as defined in the credit facilities) or in the event
the Company's senior debt ceases to be rated investment grade by either
Moody's Investor Service (Moody's) or Standard & Poor's Rating Group (S&P).
The credit facilities also contain financial covenants relating to minimum
fixed charge coverage ratios over certain periods of time. The Company's
ability to meet these covenants in the future may be affected by events
beyond its control, including prevailing economic, financial and market
conditions and their effect on the Company's financial position and results
of operations. The Company does have several options available to mitigate
these circumstances, including selected asset sales and the issuance of
additional capital.
Obligations under the revolving credit facilities are unsecured; however, if
the Company's senior debt ceases to be rated as investment grade by either
Moody's or S&P, the Company and its material subsidiaries must grant security
interests in its principal manufacturing properties, pledge 100% of the stock
of domestic material subsidiaries and pledge 65% of the stock of foreign
material subsidiaries, in each case, in favor of the Company's lenders under
such facilities. In that event, liens on principal domestic manufacturing
properties and the stock of domestic subsidiaries will be shared with the
holders of the Company's senior notes and debentures and trust notes and
trust certificates issued under the leveraged lease program.
The Company's level of debt and debt service requirements could have
important consequences to the Company's business operations and uses of cash
flow. In addition, a reduction in overall demand for the Company's products
could adversely affect the Company's cash flows from operations. However, the
Company does have a $300.0 million revolving credit facility of which
approximately $203.3 million was available as of September 30, 2002. This
liquidity, along with the liquidity from the Company's asset securitization
program and the available cash flows from operations, should allow the
Company to meet its funding requirements and other commitments.
In 2000, the Company initiated a $150.0 million five-year program to sell
(securitize), on an ongoing basis, a pool of its trade accounts receivable.
Under this program, certain of the receivables of the Company are sold to a
wholly owned unconsolidated special purpose entity, Ferro Finance Corporation
(FFC). FFC can sell, under certain conditions, an undivided fractional
ownership interest in the pool of receivables to a multi-seller receivables
securitization company (Conduit). Additionally, under this program,
receivables of certain European subsidiaries are sold directly to other
Conduits. At December 31, 2001, $65.3 million had been advanced to the
Company, net of repayments, under this program. In 2002, an additional $25.4
million, net, has been advanced to the Company, resulting in total advances
outstanding of $90.7 million at September 30, 2002. During 2002, $828.0
million of accounts receivable have been sold under the program and $802.6
million of receivables have been collected and remitted to the Conduits, or a
net amount of $25.4 million. The Company and certain European subsidiaries on
behalf of FFC and the Conduits provide service, administration and collection
of the receivables. FFC and
5
the Conduits have no recourse to the Company's other assets for failure of
debtors to pay when due. The accounts receivable securitization facility
contains a provision under which the agent can terminate the facility if the
Company's senior credit rating is downgraded below BB by S&P or Ba2 by
Moody's.
The Company retains interest in the receivables transferred to FFC and
Conduits in the form of a note receivable to the extent that receivables
transferred exceed advances. The note receivable balance was $54.7 million as
of September 30, 2002, and $69.0 million as of December 31, 2001 and is
included in other current assets in the condensed consolidated balance
sheets. The Company and certain European subsidiaries on a monthly basis
measure the fair value of the retained interests at management's best
estimate of the undiscounted expected future cash collections on the
transferred receivables. Actual cash collections may differ from these
estimates and would directly affect the fair value of the retained interests.
5. EARNINGS PER SHARE COMPUTATION
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
------------ ------------
2002 2001 2002 2001
---- ---- ---- ----
Average Basic Shares
Outstanding........................ 40,347,707 34,249,361 37,550,340 34,216,688
Adjustments for Assumed
Conversion of Convertible
Preferred Stock and
Common Stock Options............... 2,662,294 2,822,483 2,893,392 2,864,593
Average Diluted Shares.................. 43,010,001 37,071,799 40,443,732 37,081,281
Basic earnings per share is computed as net income available to common
shareholders divided by average basic shares outstanding. Diluted earnings
per share is computed as net income adjusted for the tax effect associated
with assumed conversion of preferred stock and common stock options to common
stock divided by average diluted shares outstanding.
6. ACQUISITIONS
On September 7, 2001, the Company acquired from OM Group, Inc. (OMG) certain
businesses previously owned by dmc2 Degussa Metals Catalysts Cerdec AG (dmc2)
pursuant to an agreement to purchase certain assets of dmc2, including shares
of certain of its subsidiaries. The businesses acquired included the
electronic materials, performance pigments, glass systems and Cerdec ceramics
businesses of dmc2. The Company paid to OMG in cash a purchase price for
these businesses of approximately $525 million.
A summary of the allocation of the purchase price follows:
(dollars in thousands)
Current assets................................................................. $ 264,511
Property, plant and equipment.................................................. 218,372
Patented Technology............................................................ 3,410
Excess of purchase price over net assets acquired.............................. 224,590
Other assets................................................................... 36,118
---------------
Total assets.............................................................. 747,001
Current liabilities............................................................ 150,130
Long-term liabilities.......................................................... 71,397
---------------
Total liabilities......................................................... 221,527
Cash purchase price............................................................ $ 525,474
===============
6
The purchase price is subject to final settlement of certain adjustments with
respect to working capital and net debt assumed. Any such adjustments will
result in a change to the excess of purchase price over net assets acquired.
The Company financed this transaction with proceeds from credit facilities,
which are described in Note 4 herein.
7. REALIGNMENT AND COST REDUCTION PROGRAMS
The following table summarizes the activities relating to the Company's
realignment and cost reduction programs:
(dollars in thousands)
OTHER
SEVERANCE COSTS TOTAL
--------- ----- -----
Balance as of December 31, 2001............. $ 5,339 $ 202 $ 5,541
Charges..................................... 8,391 389 8,780
Business Combinations....................... 8,631 -- 8,631
Cash payments............................... (6,612) (459) (7,071)
------------ ----------- ------------
Balance as of September 30, 2002............ $ 15,749 $ 132 $ 15,881
=========== ========== ===========
Charges in the nine months ended September 30, 2002 relate to the Company's
ongoing cost reduction and integration programs. Initiated in 2001, these
programs include employment cost reductions in response to a slowdown in
general economic conditions and integration synergy plans relating to the
acquisition of certain businesses of dmc2. Total charges of $3,837 ($3,626 in
the third quarter) and $4,943 ($1,863 in the third quarter) are included in
cost of sales and selling, administrative and general expenses in 2002,
respectively.
Through September 30, 2002 the amount of severance costs paid under the
programs was $14.9 million and approximately 900 employees have actually been
terminated.
The Company anticipates incurring additional charges of approximately $12.0
million over the next several quarters to complete the integration of dmc2
and its other consolidation programs.
8. CONTINGENT LIABILITIES
There are pending against the Company and its consolidated subsidiaries
various lawsuits and claims. In the opinion of management, the ultimate
liabilities resulting from such other lawsuits and claims will not materially
affect the Company's consolidated financial position or results of operations
or liquidity.
7
9. REPORTING FOR SEGMENTS
The Company's reportable segments are Coatings and Performance Chemicals.
Coatings products include tile coating systems, color and glass performance
materials, industrial coatings and electronic materials. Performance
Chemicals consist of polymer additives, pharmaceutical and fine chemicals,
and specialty plastics. The Company measures segment profit for internal
reporting purposes as net operating profit before interest and taxes.
Excluded from net operating profit are discontinued operations and certain
unallocated corporate expenses. A complete reconciliation of segment income
to consolidated income before tax is presented below.
Sales to external customers are presented in the following chart.
Inter-segment sales are not material.
FERRO CORPORATION AND SUBSIDIARIES
SEGMENT DATA
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
------------ ------------
2002 2001 2002 2001
---- ---- ---- ----
(UNAUDITED) (UNAUDITED) (UNAUDITED) (UNAUDITED)
(dollars in thousands)
SEGMENT SALES
Coatings........................... $ 249,975 $ 171,699 $ 746,307 $ 484,391
Performance Chemicals.............. 138,832 132,374 415,939 412,023
---------- --------- ---------- ----------
Total..................................... $ 388,807 $ 304,073 $ 1,162,246 $ 896,414
========== ========= =========== ==========
SEGMENT INCOME
Coatings........................... $ 26,315 $ 11,916 $ 72,568 $ 46,072
Performance Chemicals.............. 9,410 6,780 32,130 29,374
---------- --------- ---------- ----------
Total..................................... $ 35,725 $ 18,696 $ 104,698 $ 75,446
Unallocated expenses (1).................. 10,432 8,691 22,507 22,810
Interest expense.......................... 9,571 7,567 33,182 20,483
Foreign currency (gain) loss.............. (1,327) (17,159) 349 (17,575)
Other expense............................. 3,811 1,121 9,506 6,320
---------- --------- ---------- ----------
Income before taxes................ $ 13,238 $ 18,476 $ 39,154 $ 43,408
========== ========= ========== ==========
GEOGRAPHIC SALES
United States...................... $ 196,240 $ 163,468 $ 582,022 $ 505,882
International...................... 192,567 140,605 580,224 390,532
---------- --------- ---------- ----------
Total ................................... $ 388,807 $ 304,073 $ 1,162,246 $ 896,414
========== ========= =========== ==========
(1) Unallocated expenses consist primarily of corporate costs, charges
associated with employment cost reduction programs and certain integration
costs related to the acquisition of certain businesses of dmc2.
10. NEW ACCOUNTING PRONOUNCEMENTS
In June 2001, the FASB issued Statement No. 142, "Goodwill and Other
Intangible Assets." Statement No. 142 requires that goodwill and intangible
assets with indefinite useful lives no longer be amortized, but instead,
tested for impairment at least annually. The amortization provisions of
Statement No. 142, including nonamortization of goodwill, apply to goodwill
and intangible assets acquired after September 30, 2001. With adoption of
Statement No. 142 in its entirety on January 1, 2002, all of the Company's
goodwill and intangible assets with indefinite lives are no longer being
amortized, but are subject to periodic impairment reviews. The Company
completed its review of intangible assets with indefinite lives under the
provisions of Statement No. 142 and determined that as of January 1, 2002,
no impairment charges were necessary.
8
Had the Company been accounting for goodwill and certain other intangible
assets under the provisions of Statement No. 142 for all prior periods
presented, the Company's net income and earnings per common share would have
been as follows:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
------------ ------------
2002 2001 2002 2001
---- ---- ---- ----
(dollars in thousands)
Net income:
As reported................................. $ 44,521 $ 12,252 $ 65,748 $ 33,230
Add back amortization expense, net of tax... -- 1,060 -- 3,219
---------- ---------- --------- ----------
Adjusted net income......................... $ 44,521 $ 13,312 $ 65,748 $ 36,449
========== ========== ========= ==========
Basic earnings per share:
As reported................................. $ 1.09 $ .34 $ 1.70 $ .90
Add back amortization expense, net of tax... -- .03 -- .10
---------- ---------- --------- ----------
Adjusted basic earnings per share........... $ 1.09 $ .37 $ 1.70 $ 1.00
========== ========== ========= ==========
Diluted earnings per share:
As reported................................. $ 1.03 $ .33 $ 1.62 $ .88
Add back amortization expense, net of tax... -- .03 -- .09
---------- ---------- --------- ----------
Adjusted diluted earnings per share......... $ 1.03 $ .36 $ 1.62 $ .97
========== ========== ========= ==========
In August 2001, the FASB issued Statement No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets," effective prospectively for
fiscal years beginning after December 15, 2001 and accordingly, the Company
has adopted Statement No. 144 as of January 1, 2002. Statement 144
supersedes Statement No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed Of," and the accounting and
reporting provisions of APB Opinion 30, "Reporting the Results of Operations
- Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions"
for the disposal of a segment of business (Opinion 30). The FASB issued
Statement No. 144 to establish a single accounting model for long-lived
assets to be disposed of by sales. Statement 144 broadens the presentation
of discontinued operations in the income statement to include a component of
an entity (rather than a segment of a business). A component of an entity
comprises operations and cash flows that can be clearly distinguished,
operationally and for financial reporting purposes, from the rest of an
entity. Statement 144 also requires that discontinued operations be measured
at the lower of the carrying amount or fair value less cost to sell. The
adoption of Statement No. 144 did not have a material impact on the
Company's financial position or results of operations.
In July 2002, the FASB issued Statement No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." Statement No. 146 applies to
costs from activities such as eliminating or reducing product lines,
terminating employees and contracts, and relocating plant facilities or
personnel. For restructurings initiated after 2002, a commitment to a plan
to exit an activity or dispose of long-lived assets will no longer be enough
to record a one-time charge for most of the anticipated costs. Instead, the
Company will record exit or disposal costs when they are "incurred" and can
be measured at fair value, and they will subsequently adjust the recorded
liability for changes in estimated cash flows.
11. DISCONTINUED OPERATIONS
On September 30, 2002, the Company completed the sale of its Powder Coatings
business unit, previously part of its Coatings segment, in separate
transactions with Rohm and Haas Company and Akzo Nobel Coatings. At
September 30, 2002 and for all periods presented the Powder Coatings
business has been reported as discontinued operations. The $32.5 million
gain on sale is net of income taxes of $22.7 million. In addition, the
Company has classified several other small businesses as discontinued based
on the Company's intent to divest of such businesses over the next year.
These businesses were previously included in the Coatings and Performance
Chemicals segments.
9
Sales from discontinued operations were $60.6 million and $61.2 million for
the three months ended September 30, 2002 and 2001, respectively, and $189.7
million and $194.8 million for the nine months ended September 30, 2002 and
2001, respectively. Earnings before tax from discontinued operations were
$3.1 million and $1.0 million for the three months ended September 30, 2002
and 2001, respectively, and $9.7 million and $9.0 million for the nine
months ended September 30, 2002 and 2001, respectively. Assets of businesses
held for sale are composed primarily of property plant and equipment,
accounts receivable, inventories and intangible assets. Liabilities of
businesses held for sale are composed primarily of trade accounts payable.
The results of the discontinued operations include the operating earnings of
the discontinued units as well as interest expenses, foreign currency gains
or losses, other income or expenses and income taxes directly related to, or
allocated to, the discontinued operations.
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
COMPARISON OF THE THREE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
Third quarter 2002 net sales from continuing operations of $388.8
million were 27.9% higher than the $304.1 million of sales for the
comparable 2001 period. Overall volume increased 19.8% for the quarter,
including the effect of acquisitions. The increased volume was primarily
due to the acquisition of certain businesses of dmc2, which was
completed in September 2001, and higher demand levels in certain
markets, in particular the Asia-Pacific region.
Gross margins from continuing operations were 24.5% of sales compared to
24.3% for the comparable 2001 period. The higher gross margins compared
to the prior year primarily stemmed from successful efforts to lower
costs through integration and consolidation. Charges for integration and
cost reduction programs reduced gross profit by $3.6 million in the
third quarter of 2002 and $1.3 in the third quarter of 2001.
Selling, administrative and general expenses from continuing operations
were $69.9 million in the third quarter of 2002 compared to $63.8
million in the third quarter of 2001. The increase was due primarily to
the inclusion of three months of dmc2 operating expenses in 2002,
compared to only one month in 2001 (the acquisition was completed on
September 7, 2001). In addition, charges from cost reduction and
integration programs were higher in 2002 offset partially by cost
reductions achieved related to the integration of the dmc2 businesses.
The charges for cost reduction and integration programs increased SG&A
expense by $1.9 million in the third quarter of 2002 and $0.7 million in
the third quarter of 2001.
Interest expense from continuing operations was $9.6 million for the
third quarter of 2002, compared to $7.6 million for the third quarter of
2001. The higher interest expenses reflect the financing of the
acquisition of certain of the dmc2 businesses completed September 7,
2001.
Net foreign currency gain from continuing operations for the quarter
ended September 30, 2002 was $1.3 million compared to $17.2 million for
the quarter ended September 30, 2001. The Company realized $16.9 million
of foreign currency gains during the third quarter of 2001 from
contracts initiated for purposes of mitigating the effects of currency
movements on the cash flow requirements of the acquisition of certain
businesses of dmc2.
Other expense (net) from continuing operations for the three months
ended September 30, 2002 was $3.8 million compared to $1.1 million for
the three months ended September 30, 2001. The year-over-year increase
was primarily due to a gain from the sale of property net of certain
costs related to the dmc2 acquisition.
The effective tax rate from continuing operations for the quarter ended
September 30, 2002 was 24.3% versus 38.1% in the same period last year.
The third quarter of 2002 tax rate was favorably impacted by tax
benefits realized from export sales, utilization of net operating loss
carry-forwards that were fully reserved, the impact of equity in
earnings of non-consolidated entities reported net of tax, and increased
earnings in lower tax rate jurisdictions.
Income from continuing operations for the quarter ended September 30,
2002 was $10.0 million or $0.23 per diluted share versus $11.4 million
or $0.31 per diluted share for the quarter ended September 30, 2001
($0.34 per share if FASB Statement No. 142 had been effective for that
period).
Earnings from discontinued operations for the quarter ended September
30, 2002 were $2.0 million compared to $0.8 million for the quarter
ended September 30, 2001. In addition, a gain on the disposal of the
Company's Powder Coatings business of $32.5 million (net of tax) was
recorded in the quarter ended September 30, 2002. The gain in sale has
been revised upward by $1.1 million from the earlier estimate included
in the Company's third quarter earnings release.
11
Net income for the quarter ended September 30, 2002 was $44.5 million or
$1.03 per diluted share versus $12.3 million or $0.33 per diluted share
for the quarter ended September 30, 2001.
QUARTERLY SEGMENT RESULTS
Sales for the Coatings segment were $250.0 million in the third quarter,
up 45.6% from the $171.7 million of sales in the third quarter of 2001.
Segment income was $26.3 million, compared to $11.9 million in the
year-ago quarter. The increase in revenue mainly reflects higher volumes
related to the dmc2 acquisition and continued strength in several key
end markets. The markets providing the strongest year-over-year
increases include the building and renovation, appliance, automotive and
consumer container glass and color. The electronics market continues to
provide mixed results. Demand is strong for solar cell, shielding and
surface finishing applications, but the chip component market, which
represents over half of Ferro electronic materials sales volume, remains
very soft. The 121.0% increase in segment income was largely the result
of increased volumes, internal cost reductions and the benefits of the
dmc2 acquisition.
Sales for the Performance Chemicals segment for the third quarter of
2002 were $138.8 million, up 4.8% from the sales of $132.4 million in
the third quarter of 2001. Segment income was $9.4 million in the third
quarter of 2002, compared to $6.8 million a year ago. Higher sales
volumes were driven by increased demand from several key end markets,
including the building and renovation, appliance, automotive production
and pharmaceutical markets, as compared to the year earlier period.
Segment income increased as a result of higher volumes and successful
efforts to reduce the fixed cost structure over the past year.
GEOGRAPHIC SALES
Sales in the United States were $196.2 million for the three months
ended September 30, 2002, compared to $163.5 million for the three
months ended September 30, 2001. International sales were $192.6 million
for the three months ended September 30, 2002, compared with $140.6
million for the three months ended September 30, 2001. The sales growth
in both of these geographical areas was driven primarily by the dmc2
acquisition. Demand in the United States was also due to stronger
automotive production, construction, appliances and consumer packaging.
International sales have been favorably impacted by strong demand in the
Asia-Pacific region in nearly every market served. Demand levels in
Europe remain sluggish, with the exception of the building and
renovation markets in parts of Eastern Europe.
COMPARISON OF THE NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
Sales from continuing operations for the first nine months of 2002 of
$1,162.2 million were 29.7% higher than sales of $896.4 million for the
comparable 2001 period. Overall volume increased 25.8% during the nine
months ended September 30, 2002, including the effect of acquisitions.
The increased volume was primarily due to the acquisition of certain
businesses of dmc2, which was completed in September 2001 and higher
demand levels in the Asia-Pacific region.
Gross margins from continuing operations were 25.4% of sales for the
first nine months of 2002 compared to 25.7% for the same period in 2001.
The gross margins were adversely impacted by a $3.8 million charge for
cost reduction programs in the nine months of 2002 and $3.3 million in
the nine months of 2001.
Selling, administrative and general expenses from continuing operations
were $213.1 million, compared to $177.5 million for the first nine
months of 2001. The increase was due primarily to the addition of dmc2
operating expenses offset partially by cost reductions achieved related
to the integration of the dmc2 businesses. Charges for cost reduction
and integration programs increased SG&A by $4.9 million in both the
first nine months of 2002 and in the first nine months of 2001.
12
Interest expense from continuing operations was $33.2 million for the
first nine months of 2002, compared to $20.5 million for the first nine
months of 2001. The higher interest expenses reflect the financing of
the acquisition of certain of the dmc2 businesses completed September 7,
2001.
Net foreign currency loss from continuing operations for the nine months
ended September 30, 2002 was $0.3 million versus a gain of $17.6 million
for the nine months ended September 30, 2001. The Company realized $16.9
million of foreign currency gains during the third quarter of 2001 from
contracts initiated for purposes of mitigating the effects of currency
movements on the cash flow requirements of the acquisition of certain
businesses of dmc2.
Other expense (net) from continuing operations for the nine months ended
September 30, 2002 was $9.5 million compared to $6.3 million for the
nine months ended September 30, 2001.
The effective tax rate from continuing operations for the nine months
ended September 30, 2002 was 31.8% versus 37.5% for the nine months
ended September 30, 2001. The first nine months of 2002 was favorably
impacted by tax benefits realized from export sales, utilization of net
operating loss carry-forwards that were fully reserved, the impact of
equity in earnings of non-consolidated entities reported net of tax, and
increased earnings in lower tax rate jurisdictions.
Income from continuing operations for the nine months ended September
30, 2002 was $26.7 million or $0.65 per diluted share versus $27.1
million or $0.72 per diluted share for the nine months ended September
30, 2001 ($0.81 per share if FASB Statement No. 142 had been effective
in that period).
Earnings from discontinued operations for the nine months ended
September 30, 2002 were $6.6 million compared to $6.1 million for the
nine months ended September 30, 2001. In addition, a gain on the
disposal of the Company's Powder Coatings business of $32.5 million (net
of tax) was recorded in the quarter ended September 30, 2002.
Net income for the nine months ended September 30, 2002 was $65.7
million or $1.62 per diluted share versus $33.2 million or $0.88 per
diluted share for the nine months ended September 30, 2001.
NINE-MONTH SEGMENT RESULTS
For the first nine months of 2002, sales in the Coatings segment
increased 54.1% to $746.3 million from $484.4 million in the comparable
2001 period. The increase in revenue primarily reflects higher volumes
related to the dmc2 acquisition and stronger growth in several key
markets, including significant growth in the Asia-Pacific region.
Segment income increased 57.5% to $72.6 million during the first nine
months of 2002 compared to $46.1 million last year. The improvement in
income was largely the result of higher volumes due to the dmc2
acquisition, internal cost reductions and the benefits of the dmc2
acquisition.
Sales in the Performance Chemicals segment increased 1.0% to $415.9
million during the first nine months of 2002 from $412.0 million in the
year-earlier period. The sales increase was caused primarily by
increases in the building and renovation, durable goods, automotive and
consumer packaging markets, offset partially by changes in product mix
and lower prices in certain businesses compared to last year. Income
from the segment increased 9.4% to $32.1 million in the first nine
months of 2002 from $29.4 million last year. The higher income is
primarily the result of the successful efforts to reduce the fixed cost
structure over the past year.
GEOGRAPHIC SALES
Sales in the United States were $582.0 million for the nine months ended
September 30, 2002, compared to $505.9 million during the same 2001
period. International sales were $580.2 million for the nine months
ended September 30, 2002, compared with $390.5 million in the nine
months of 2001. The sales
13
growth in both areas was driven primarily by the dmc2 acquisition.
International sales were also higher due to higher demand levels in the
Asia-Pacific region.
CASH FLOWS
Net cash provided by operating activities was $138.5 million for the
nine months ended September 30, 2002, compared to $116.1 million for the
same period in 2001. The increase in cash flows reflects a substantial
reduction in working capital during 2002, as management emphasized cash
flow generation to be used for debt reduction. Cash provided by
investing activities was $104.5 million for the nine months ended
September 30, 2002 and stemmed primarily from the proceeds from the sale
of the Company's Powder Coatings business of $132.5 million. Cash used
by investing activities was $541.0 million for the nine months ended
September 30, 2001 primarily due to the impact of acquisitions of $509.2
million related primarily to the acquisition of certain businesses of
dmc2. Net cash used by financing activities was $246.1 million for the
nine months ended September 30, 2002 and reflects the repayment of
long-term debt in excess of the proceeds from the issuance of common
stock. Net cash provided by financing activities of $458.4 million for
the nine months ended September 30, 2001 was generated primarily by
borrowings needed for the acquisition of certain businesses of dmc2.
OUTLOOK
Outside of the normal seasonal impact, third quarter demand levels were
relatively flat when compared sequentially with the second quarter 2002.
Construction, automotive production, appliance and the overall Asian
markets continue at healthy demand levels. The electronics market, which
typically experiences seasonal strength in the second half of the year,
is still lagging. The Company expects market conditions to continue to
be affected in the near-term by the sluggish macroeconomic conditions
and the uncertainty of global political events. The Company will
continue to focus on what it can control, which includes reducing costs
and aggressively managing our operations to maximize cash flow. In
addition, due to recent trends and events, we expect that certain costs,
including health care and pension expenses, will increase in 2003.
LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity requirements include primarily debt service,
working capital requirements, capital investments, post-retirement
benefits and dividends. The Company expects to be able to meet its
liquidity requirements from a variety of sources. The Company has a
$300.0 million revolving credit facility, of which $203.3 million was
available as of September 30, 2002. The Company also has an accounts
receivable securitization facility under which the Company may receive
advances of up to $150.0 million, subject to the level of qualifying
accounts receivable. At September 30, 2002 and at December 31, 2001,
$90.7 million and $65.3 million, respectively, was advanced under this
facility and under FASB Statement No. 140, neither the amounts advanced
nor the corresponding receivables sold are reflected in the Company's
consolidated balance sheet. Additionally, the Company maintains a $25.0
million leveraged lease program, accounted for as an operating lease,
pursuant to which the Company leases certain land, buildings, machinery
and equipment for a five-year period through 2005.
Obligations under the revolving credit facilities are unsecured;
however, if the Company's senior debt ceases to be rated as investment
grade by either Moody's Investors Service, Inc. (Moody's) or Standard &
Poor's Rating Group (S&P), the Company and its material subsidiaries
must grant security interests in the Company's respective principal
manufacturing properties, pledge 100% of the stock of material domestic
subsidiaries and pledge 65% of the stock of material foreign
subsidiaries, in each case, in favor of the Company's lenders under such
facilities. In that event, liens on the Company's principal domestic
manufacturing properties and the stock of domestic subsidiaries would be
shared with the holders of the Company's senior notes and debentures and
trust notes and trust certificates issued under a leveraged lease
program. Such liens could reasonably be expected to impair the Company's
ability to obtain financing on commercially reasonable terms. Although,
as of September 30, 2002, the Company had $203.3 million available under
the Company's revolving credit facility, any such future liens may have
a material adverse
14
effect on the Company's ability to satisfy the Company's ongoing capital
resource and liquidity requirements. The accounts receivable
securitization facility contains a provision under which the agent can
terminate the facility if the Company's senior credit rating is
downgraded below BB by S&P or Ba2 by Moody's. We do not believe that a
termination of this facility would be reasonably expected to have a
material adverse effect on the Company's liquidity or the Company's
capital resource requirements.
The rating agencies may, at any time, based on various factors including
changing market, political or socio-economic conditions reconsider the
current rating of the Company's outstanding debt. Based on rating agency
disclosures, we understand that ratings changes within the general
industrial sector are evaluated based on quantitative, qualitative and
legal analyses. Factors considered by the rating agencies include:
industry characteristics, competitive position, management, financial
policy, profitability, capital structure, cash flow production and
financial flexibility. S&P and Moody's have disclosed that the Company's
ability to improve earnings, reduce the Company's level of indebtedness
and strengthen cash flow protection measures, through asset sales,
increased free cash flows from acquisitions or otherwise, will be
factors in their ratings determinations going forward.
On May 15, 2002, the Company completed the sale of 5 million common
shares through a public offering. The net proceeds from the offering of
$131.5 million, net of expenses, incurred through the end of the third
quarter, were used to reduce borrowings under the revolving credit
facility. Based upon the terms of the revolved credit facility, the
amount available for borrowing was reduced by the corresponding amount
of the repayment.
On September 30, 2002, the Company sold its Powder Coatings business
unit in separate transactions with Rohm and Haas Company and Akzo Nobel
Coatings. The cash proceeds of approximately $131.9 million were used to
reduce borrowings outstanding under the revolving credit facility.
The Company's credit facility contains customary operating covenants
that limit its ability to engage in certain activities, including
acquisitions. Several of the covenants contain additional restrictions
based upon the ratio of total debt to EBITDA (earnings before interest,
taxes, depreciation and amortization, as defined in the credit
facilities) or in the event the Company's senior debt ceases to be rated
investment grade by either Moody's or S&P. The credit facilities also
contain financial convenants relating to minimum fixed charge coverage
ratios over certain periods of time. The Company's ability to meet these
covenants in the future may be affected by events beyond its control,
including prevailing economic, financial and market conditions and their
effect on the Company's financial position and results of operations.
The Company does have several options available to mitigate these
circumstances, including selected asset sales and the issuance of
additional capital.
The Company's level of debt and debt service requirements could have
important consequences to our business operations and uses of cash flow.
In addition, a reduction in overall demand for our products could
adversely affect our cash flows from operations. However, the Company
does have a $300.0 million revolving credit facility of which
approximately $203.3 million was available as of September 30, 2002.
This liquidity, along with the liquidity from the Company's asset
securitization program and available cash flows from operations, should
allow the Company to meet its funding requirements and other
commitments. The Company also has potential liquidity requirements
related to payments under our leveraged lease program.
15
ENVIRONMENTAL
Refer to Note 8 of the Condensed Consolidated Financial Statements
included herein for a description of the status of environmental
matters.
IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS AND CRITICAL
ACCOUNTING POLICIES
GOODWILL AND OTHER INTANGIBLE ASSETS
In June 2001, the FASB issued Statement No. 142, "Goodwill and Other
Intangible Assets." Statement No. 142 requires that goodwill and
intangible assets with indefinite useful lives no longer be amortized,
but instead, tested for impairment at least annually. The amortization
provisions of Statement No. 142, including nonamortization of goodwill,
apply to goodwill and intangible assets acquired after September 30,
2001. With adoption of Statement No. 142 in its entirety on January 1,
2002, all of the Company's goodwill and intangible assets with
indefinite lives are no longer being amortized, but are subject to
periodic impairment reviews. Amortization expense related to
finite-lived intangibles was approximately $0.3 million and $0.8 million
for the three and nine months ended September 30, 2002, respectively,
and was $2.1 million and $6.2 million for all intangible assets for the
three and nine months ended September 30, 2001. Amortization expense for
the three and nine months of 2001 would have been $0.4 million and $1.1
million had the provisions of Statement No. 142 been in effect. The
Company completed a review of intangible assets with indefinite lives
under the provisions of Statement No. 142 as of January 1, 2002 and
determined that no impairment charges were necessary on that date.
CRITICAL ACCOUNTING POLICIES
In response to the Securities and Exchange Commission's (SEC) Release No
33-8040, "Cautionary Advice Regarding Disclosure About Critical
Accounting Policies," the Company has identified the critical accounting
policies that are most important to the portrayal of the Company's
financial condition and results of operations. The policies set forth
below require management's most subjective or complex judgments, often
as a result of the need to make estimates about the effect of matters
that are inherently uncertain.
LITIGATION AND ENVIRONMENTAL RESERVES
The Company is involved in litigation in the ordinary course of
business, including personal injury, property damage and environmental
matters. The Company also expends funds for environmental remediation of
both Company-owned and third-party locations. In accordance with
Statement of Financial Accounting Standards (SFAS) No. 5, "Accounting
for Contingencies" and Statement of Position 96-1, "Environmental
Remediation Liabilities," the Company records a loss and establishes a
reserve for litigation or remediation when it is probable that an asset
has been impaired or a liability exists and the amount of the liability
can be reasonably estimated. Reasonable estimates involve judgments made
by management after considering a broad range of information including:
notifications, demands or settlements which have been received from a
regulatory authority or private party, estimates performed by
independent engineering companies and outside counsel, available facts,
existing and proposed technology, the identification of other
potentially responsible parties and their ability to contribute and
prior experience. These judgments are reviewed quarterly as more
information is received and the amounts reserved are updated as
necessary. However, the reserves may materially differ from ultimate
actual liabilities if the loss contingency is difficult to estimate or
if management's judgments turn out to be inaccurate.
INCOME TAXES
Deferred income taxes are provided to recognize the effect of temporary
differences between financial and tax reporting. Deferred income taxes
are not provided for undistributed earnings of foreign consolidated
subsidiaries, to the extent such earnings are reinvested for an
indefinite period of time. The Company has
16
significant operations outside the United States, where substantial
pre-tax earnings are derived, and in jurisdictions where the statutory
tax rate is lower than in the United States. The Company also has
significant cash requirements in the United States to pay interest and
principal on borrowings. As a result, significant tax and treasury
planning and analysis of future operations are necessary to determine
the proper amounts of tax assets, liabilities and tax expense. The
Company's tax assets, liabilities and tax expense are supported by its
best estimates and assumptions of its global cash requirements, planned
dividend repatriations and expectations of future earnings. However, the
amounts recorded may materially differ from the amounts that are
ultimately payable if management's estimates turn out to be inaccurate.
PENSION AND OTHER EMPLOYEE BENEFITS
Certain assumptions are used in the calculation of the actuarial
valuation of the Company-sponsored defined benefit pension plans and
post-retirement benefits. These assumptions include the weighted average
discount rate, rates of increase in compensation levels, expected
long-term rates of return on assets and increases or trends in health
care costs. If actual results are less favorable than those projected by
management, lower levels of pension credit or other additional expense
may be required.
INVENTORY ALLOWANCES
The Company provides for valuation allowances of inventory based upon
assumptions of future demand and market conditions. If actual market
conditions are less favorable than those projected by management,
additional inventory valuation allowances could be required.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
The Company provides for uncollectible accounts receivable based upon
estimates of unrealizable amounts due from specific customers. If actual
realizable accounts receivable are less favorable than those projected
by management, additional allowance for doubtful accounts could be
required.
REALIGNMENT AND COST REDUCTION PROGRAMS
The Company recorded $8.8 million during the nine months ended September
30, 2002 for charges in connection with its cost reduction and
integration programs. The programs affect all businesses across the
Company, and will take no longer than twelve months to complete from
date of commencement. The $8.8 million of charges included $8.4 million
of severance termination benefits for employees affected by plant
closings or capacity reductions, as well as various personnel in
corporate, administrative and shared service functions. Severance
termination benefits were based on various factors including length of
service, contract provisions, local legal requirements and salary
levels. Management estimated the charges based on these factors as well
as projected final service dates. If actual results are different from
original estimates, the Company will adjust the amounts reflected in the
consolidated financial statements.
OFF BALANCE SHEET INDEBTEDNESS
In 2000, the Company initiated a $150.0 million five-year program to
sell (securitize), on an ongoing basis, a pool of its trade accounts
receivable. Under this program, certain of the receivables of the
Company are sold to a wholly-owned unconsolidated special purpose
entity, Ferro Finance Corporation (FFC). FFC can sell, under certain
conditions, an undivided fractional ownership interest in the pool of
receivables to a multi-seller receivables securitization company
(Conduit). Additionally, under this program, receivables of certain
European subsidiaries are sold directly to other Conduits. The Company
and certain European subsidiaries on behalf of FFC and the Conduits
provide service, administration and collection of the receivables. FFC
and the Conduits have no recourse to the Company's other assets for
failure of debtors to pay when due, and in accordance with SFAS No. 140,
no liability is reflected on the Company's balance sheet.
17
The Company retains interest in the receivables transferred to FFC and
Conduits in the form of a note receivable to the extent that receivables
transferred exceed advances. The note receivable balance is included in
other current assets in the balance sheet. The Company and certain
European subsidiaries on a monthly basis measure the fair value of the
retained interests at management's best estimate of the undiscounted
expected future cash collections on the transferred receivables. Actual
cash collections may differ from these estimates and would directly
affect the fair value of the retained interests.
The Company has a lease agreement for certain land, buildings, machinery
and equipment for a five-year period that expires in 2005. The Company
has the option to purchase the assets at the end of the lease term. In
the event the Company chooses not to exercise this option, the Company
is obligated to pay, or is entitled to receive from the lessor, the
difference between the net sales proceeds and the outstanding lease
balance. This lease is treated as an operating lease and as such is not
reflected on the balance sheet of the Company.
VALUATION OF LONG-LIVED ASSETS
The Company's long-lived assets include property, plant, equipment,
goodwill and other intangible assets. Property, plant and equipment are
depreciated over their estimated useful lives, and all long-lived assets
are reviewed for impairment whenever changes in circumstances indicate
the carrying value may not be recoverable and annually for goodwill.
Impairment tests are performed using fair values based upon forecasted
cash flows or, in the case of goodwill, using earnings multiples. If
actual cash flows or earnings multiples change from projections, the
Company may have to record additional impairment charges not previously
recognized.
FORWARD-LOOKING STATEMENTS
Certain statements contained in this Management's Discussion and
Analysis and elsewhere in this report reflect the Company's current
expectations with respect to the future performance of the Company and
may constitute "forward-looking statements" within the meaning of the
federal securities laws. These statements are subject to a variety of
uncertainties, unknown risks and other factors concerning the Company's
operations and business environment, and actual events or results may
differ materially from the events or results discussed in the
forward-looking statements. Factors that could cause or contribute to
such differences include, but are not limited to: the success and costs
of the Company's integration of certain businesses of dmc2; changes in
customer requirements, markets or industries served; changes in interest
rates; changing economic or political conditions; changes in foreign
exchange rates; changes in the prices of major raw materials or sources
of energy; significant technological or competitive developments; the
completion or failure to complete the announced common stock offering;
and the impact of environmental proceedings and regulation.
18
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK FACTORS
The Company's exposure to market risks is primarily limited to interest
rate and foreign currency fluctuation risks. The Company's exposure to
interest rate risk is related primarily to its debt portfolio including
off balance sheet obligations under its accounts receivable
securitization program. The Company's interest rate risk management
objectives are to limit the effect of interest rate changes on earnings,
cash flows and overall borrowing costs. To limit interest rate risk on
borrowings, the Company maintains a percentage of fixed and variable
rate debt within defined parameters. In managing the percentage of fixed
versus variable rate debt, consideration is given to the interest rate
environment and forecasted cash flows. This policy limits exposure from
rising interest rates and allows the Company to benefit during periods
of falling rates. The Company's interest rate exposure is generally
limited to the amounts outstanding under the revolving credit facilities
and amounts outstanding under its receivables securitization program.
Based on the total amount of variable rate indebtedness outstanding at
December 31, 2001, a 1% change in short-term interest rates would have
resulted in a $6.0 million change in expense for the year 2001. A 1%
change in short-term interest rates would have resulted in a $0.6
million change in expense for the third quarter of 2002 and $3.0 million
for the first nine months of 2002.
At September 30, 2002, the Company had $349.9 million of fixed rate debt
outstanding with an average interest rate of 8.4%, all maturing after
2006. The fair market value of these debt securities was approximately
$335.4 million at September 30, 2002.
The Company manages exposures to changing foreign currency exchange
rates principally through the purchase of put options on currencies and
forward foreign exchange contracts. Put options are purchased to offset
the exposure of foreign currency-denominated earnings to a depreciation
in the value of the local currency to the U.S. dollar. The Company's
primary foreign currency put option market exposure is the euro. Foreign
subsidiaries also mitigate the risk of currency fluctuations on the cost
of raw materials denominated in U.S. dollars through the purchase of
U.S. dollars to cover the future payable. A 10% appreciation of the U.S.
dollar versus the corresponding currencies would have resulted in a $1.9
million and a $2.2 million increase in the fair value of these contracts
in the aggregate at September 30, 2002 and December 31, 2001,
respectively. A 10% depreciation of the U.S. dollar would have resulted
in a $1.2 million and $1.7 million decrease in the fair value of the
contracts in the aggregate at September 30, 2002 and December 31, 2001,
respectively.
In September 2001, the Company completed the acquisition of the dmc2
businesses. This acquisition increased the Company's exposure to
fluctuations in foreign currencies versus the U.S. dollar, particularly
in Europe and Asia. At September 30, 2002, the Company had outstanding
put options to sell euros for U. S. dollars having a notional amount of
$23.3 million and an average strike price of $.9124/euro. These forward
and future contracts have a net fair value of approximately $(0.5)
million. The Company also had forward contracts to sell other currencies
with an aggregate notional amount of $29.5 million and essentially no
fair value as of September 30, 2002.
The Company recognizes changes in the value of the put options and
forward exchange contracts using "mark-to-market" accounting.
ITEM 4. CONTROLS AND PROCEDURES
Within the 90 days prior to the date of this report, the Company carried
out an evaluation, under the supervision and with the participation of
the Company's management, including the Chairman and Chief Executive
Officer of the Company and the Chief Financial Officer of the Company,
of the effectiveness of the design and operation of the Company's
disclosure controls and procedures pursuant to Exchange Act Rule 13a-14.
Based upon that evaluation, the Chairman and Chief Executive Officer and
Chief Financial Officer concluded that the Company's disclosure controls
and procedures are effective in timely alerting them to material
information relating to the Company (including its consolidated
subsidiaries) required to be included in the Company's periodic SEC
filings.
19
Subsequent to the evaluation, there were no significant changes in
internal controls or other factors that could significantly affect
internal controls, including any corrective actions with regard to
significant deficiencies and material weaknesses.
20
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
Legal proceedings were reported in the Company's Form 10-K for the year
ended December 31, 2001 and are also covered in Footnote 8 to the
Condensed Consolidated Financial Statements contained herein.
ITEM 2. CHANGE IN SECURITIES.
No change.
ITEM 3. DEFAULT UPON SENIOR SECURITIES.
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
ITEM 5. OTHER INFORMATION.
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) The exhibits listed in the attached Exhibit Index are filed pursuant
to Item 6(a) of the Form 10-Q.
(b) The Company did not file any reports on Form 8-K during the
three-month period ended September 30, 2002.
21
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.
FERRO CORPORATION
(Registrant)
Date: November 14, 2002
/s/ HECTOR R. ORTINO
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Hector R. Ortino
Chairman and Chief Executive Officer
Date: November 14, 2002
/s/ BRET W. WISE
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Bret W. Wise
Senior Vice President and Chief Financial Officer
Date: November 14, 2002
/s/ J. WILLIAM HEITMAN
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J. William Heitman
Vice President, Finance
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EXHIBIT INDEX
The following exhibits are filed with this report or are incorporated here by
reference to a prior filing in accordance with Rule 12b-32 under the Securities
Exchange Act of 1934. (Asterisk denotes exhibits filed with this report.)
Exhibit:
(2) Plan of acquisition, reorganization, arrangement, liquidation or succession
(a) Asset Purchase Agreement, dated August 2, 2002, among Rohm and Haas
Company, on one hand, and Ferro Corporation, Ferro Spain S.A., Ferro
(Great Britain) Ltd., Ruhr-Pulverlack GmbH, and Ferro-Ruhr-Pulver
Nordiska AB, on the other hand. (All appendices, other than Appendix
A, Definitions, have been omitted, and Ferro Corporation will furnish
to the Commission, upon request, a copy of any omitted appendix.)
(Reference is made to Exhibit 2.1 to Ferro Corporation's Form 8-K
filed November 14, 2002, which Exhibit is incorporated here by
reference.)
(b) Purchase Agreement, dated August 2, 2002, among International Paint,
Inc., on one hand, and Ferro Corporation, Ferro Enamel Argentina S.A.
and Ferro Mexicana S.A. de C.V., on the other hand. (All appendices,
other than Appendix A, Definitions, have been omitted, and Ferro
Corporation will furnish to the Commission, upon request, a copy of
any omitted appendix.) (Reference is made to Exhibit 2.2 to Ferro
Corporation's Form 8-K filed November 14, 2002, which Exhibit is
incorporated here by reference.)
(c) Purchase Agreement, dated August 2, 2002, between Akzo Nobel Sino
Coatings B.V. and Ferro Corporation. (All appendices, other than
Appendix A, Definitions, have been omitted, and Ferro Corporation will
furnish to the Commission, upon request, a copy of any omitted
appendix.) (Reference is made to Exhibit 2.3 to Ferro Corporation's
Form 8-K filed November 14, 2002, which Exhibit is incorporated here
by reference.)
(d) Share Purchase Agreement, dated August 2, 2002, between Akzo Nobel
Coatings International B.V. and Ferro Corporation. (All appendices,
other than Appendix A, Definitions, have been omitted, and Ferro
Corporation will furnish to the Commission, upon request, a copy of
any omitted appendix.) (Reference is made to Exhibit 2.4 to Ferro
Corporation's Form 8-K filed November 14, 2002, which Exhibit is
incorporated here by reference.)
(3) Articles of Incorporation and by-laws
(a) Eleventh Amended Articles of Incorporation. (Reference is made to
Exhibit (3)(a) to Ferro Corporation's Quarterly Report on Form 10-Q for
the three months ended June 30, 1998, which Exhibit is incorporated here
by reference.)
(b) Certificate of Amendment to the Eleventh Amended Articles of
Incorporation of Ferro Corporation filed December 28, 1994. (Reference
is made to Exhibit (3)(b) to Ferro Corporation's Quarterly Report on
Form 10-Q for the three months ended June 30, 1998, which Exhibit is
incorporated here by reference.)
(c) Certificate of Amendment to the Eleventh Amended Articles of
Incorporation of Ferro Corporation filed January 19, 1998. (Reference is
made to Exhibit (3)(c) to Ferro Corporation's Quarterly Report on Form
10-Q for the three months ended June 30, 1998, which Exhibit is
incorporated here by reference.)
(d) Amended Code of Regulations. (Reference is made to Exhibit (3)(d) to
Ferro Corporation's Quarterly Report on Form 10-Q for the three months
ended June 30, 1998, which Exhibit is incorporated here by reference.)
(4) Instruments defining rights of security holders, including indentures
(a) Amended and Restated Shareholder Rights Agreement between Ferro
Corporation and National City Bank, Cleveland, Ohio, as Rights Agent,
dated as of December 10, 1999. (Reference is made to Exhibit 4(k) to
Ferro Corporation's Form 10-K for the year ended December 31, 1999,
which Exhibit is incorporated here by reference.)
(b) The rights of the holders of Ferro's Debt Securities issued and to be
issued pursuant to a Senior Indenture between Ferro and J. P. Morgan
Trust Company, National Association (successor-in-interest to Chase
Manhattan Trust Company, National Association) as Trustee, are described
in the Senior Indenture, dated March 25, 1998. (Reference is made to
Exhibit 4(c) to Ferro Corporation Quarterly Report on Form 10-Q for the
three months ended March 31, 1998, which Exhibit is incorporated here by
reference.)
(c) Form of Security (7-1/8% Debentures due 2028). (Reference is made to
Exhibit 4(a-1) to Ferro Corporation's Form 8-K filed March 31, 1998,
which Exhibit is incorporated here by reference.)
(d) Officer's Certificate dated December 20, 2001, pursuant to Section 301
of the Indenture dated as of March 25, 1998, between the Company and
J. P. Morgan Trust Company, National Association (the
successor-in-interest to Chase Manhattan Trust Company, National
Association), as Trustee (excluding exhibits thereto). (Reference is
made to Exhibit 4.1 to Ferro Corporation's Form 8-K filed December 21,
2001, which Exhibit is incorporated here by reference.)
(e) Form of Global Note (9-1/8% Senior Notes due 2009). (Reference is made
to Exhibit 4.2 to Ferro Corporation's Form 8-K filed December 21, 2001,
which Exhibit is incorporated here by reference.)
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The Company agrees, upon request, to furnish to the Securities and
Exchange Commission a copy of any instrument authorizing long-term debt
that does not authorize debt in excess of 10% of the total assets of the
Company and its subsidiaries on a consolidated basis.
*(11) Computation of Earnings Per Share.
(99) Certifications of Principal Executive Officer and Principal Financial
Officer Pursuant to 18 U.S.C. 1350.
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