Exhibit 99.2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
BUSINESS OVERVIEW
Nature of Operations
Solutia Europe S.A./N.V. ("SESA") is a wholly-owned subsidiary of
Solutia Inc. ("Solutia"). SESA and its subsidiaries make and sell a variety
of high-performance chemical-based materials including performance films for
laminated safety glass and after-market applications; process development
and scale-up services for pharmaceutical fine chemicals; and resale of high
performance polymers and fibers for Solutia's Integrated Nylon segment.
Solutia's Bankruptcy Proceedings
On December 17, 2003, Solutia and its 14 U.S. subsidiaries filed
voluntary petitions for reorganization under Chapter 11 of the U.S.
Bankruptcy Code in the U.S. Bankruptcy Court for the Southern District of
New York. The cases were consolidated for the purpose of joint
administration and were assigned case number 03-17949 (PCB). Solutia's
subsidiaries outside the United States, including SESA, were not included in
the Chapter 11 filing.
The filing was made to restructure Solutia's balance sheet by
reducing indebtedness to appropriate levels, to streamline operations and
reduce costs, in order to allow Solutia to emerge from Chapter 11 as a
viable going concern, and to obtain relief from the negative financial
impact of liabilities for litigation, environmental remediation and certain
postretirement benefits and liabilities under operating contracts, all of
which were assumed at the time of the spinoff of Solutia from the former
Monsanto Company (now known as Pharmacia Corporation, a wholly-owned
subsidiary of Pfizer, Inc.). These factors, combined with the weakened state
of the chemical manufacturing sector, general economic conditions and
continuing high, volatile energy and crude oil costs, have been an obstacle
to Solutia's financial stability and success. While Solutia believes it will
be able to achieve these objectives through the bankruptcy process, there
can be no certainty that it will be successful in doing so.
In order to exit Chapter 11 successfully, Solutia must propose and
obtain confirmation by the bankruptcy court of a plan of reorganization that
satisfies the requirements of the U.S. Bankruptcy Code. Although Solutia
expects to file a plan of reorganization that provides for Solutia's
emergence from bankruptcy as a going concern, there can be no assurance that
a plan of reorganization will be confirmed by the bankruptcy court or that
any such plan will be implemented successfully.
Basis of Presentation
The accompanying unaudited consolidated financial statements
include consolidated and consolidating balance sheets, consolidated and
consolidating statements of operations and consolidated and consolidating
statements of cash flows for SESA and its subsidiaries, each as of and for
the three and twelve months ended December 31, 2004 and December 31, 2003,
respectively. The information contained in the consolidated financial
statements and Management's Discussion and Analysis of Financial Condition
and Results of Operations is unaudited and is presented in a format
prescribed by Section 9(m) of the amended and restated terms and conditions
of SESA's (euro) 200 million, 10% Euro Notes ("Euronotes"). All significant
intercompany transactions and balances between SESA's subsidiaries have been
eliminated in consolidation. However, intercompany transactions and balances
between SESA's subsidiaries and Solutia's other subsidiaries outside of the
consolidated SESA entity have not been eliminated in consolidation. These
unaudited consolidated financial statements should be read in conjunction
with the audited financial statements and notes to consolidated financial
statements included in the Solutia 2004 Annual Report on Form 10-K, filed
with the Securities and Exchange Commission on March 10, 2005.
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The unaudited consolidated financial statements included in Exhibit
99.1 to this Form 8-K have been prepared in accordance with accounting
principles generally accepted in the United States of America and are
presented in U.S. dollars. In addition, the unaudited consolidated financial
statements reflect all adjustments that, in the opinion of management, are
necessary to present fairly the financial position, results of operations,
and cash flows for the interim periods reported. Such adjustments are of a
normal, recurring nature.
SUMMARY OF SIGNIFICANT FOURTH QUARTER 2004 EVENTS
On November 9, 2004, Amendment No. 1 to the Fiscal Agency Agreement
and Terms and Conditions of SESA's Euronotes, due in 2008 was completed and
among other items authorized the potential sale of SESA's pharmaceutical
services business. The amendment requires SESA to use 95% of the net cash
proceeds from any such sale to redeem a portion of the Euronotes.
RESULTS OF OPERATIONS--FOURTH QUARTER 2004 COMPARED WITH FOURTH QUARTER 2003
Net Sales and Earnings Before Interest Expense and Income Taxes (EBIT)
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THREE MONTHS ENDED
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DECEMBER 31,
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(dollars in millions) 2004 2003
---- ----
Net Sales....................................... $125 $ 103
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EBIT............................................ $(32) $(104)
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Charges included in EBIT.................... $(40) $(104)
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The $22 million, or 21 percent, increase in net sales as compared
to the fourth quarter 2003 resulted primarily from higher sales volumes of
approximately 12 percent and favorable currency exchange rate fluctuations
of approximately 10 percent, partially offset by lower average selling
prices of approximately 1 percent. Higher volumes were experienced in
SAFLEX(R) and VANCEVA(R) plastic interlayer products, pharmaceutical
services, and in resale of products for Solutia's Integrated Nylon segment.
The favorable currency impact on net sales was a result of the strengthening
euro in relation to the U.S. dollar in comparison to the fourth quarter
2003. Lower average selling prices were experienced primarily in the
SAFLEX(R) plastic interlayer products in comparison to the fourth quarter
2003 resulting principally from the completion of new sales contracts in a
competitive pricing environment.
The $72 million, or 69 percent, increase in EBIT in comparison to
the fourth quarter 2003 resulted primarily from lower charges, higher net
sales, overall controlled spending and favorable manufacturing variances
resulting from cost containment activities and increased capacity
utilization, partially offset by higher raw material costs. Included in 2004
EBIT were $40 million of impairment charges within the pharmaceutical
services business including approximately $12 million for the write down of
fixed assets and approximately $28 million for the write down of intangible
assets. These charges were precipitated by the declining estimates of
forecasted results given current economic and market conditions within the
pharmaceutical services business environment. Included in 2003 EBIT were
$104 million of charges including asset impairment charges within the
pharmaceutical services business comprised of approximately $18 million for
the write down of fixed assets and approximately $78 million for the write
down of intangible assets; approximately $12 million of restructuring
charges including primarily employee severance and retraining costs,
write-down of assets, and contract termination costs; and a gain of $4
million involving the recovery of receivables, established prior to 1997,
which had previously been written off.
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Interest Expense
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THREE MONTHS ENDED
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DECEMBER 31,
------------
(dollars in millions) 2004 2003
---- ----
Interest Expense............................. $ 6 $ 6
=== ===
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Interest expense remained consistent in total in comparing the
fourth quarter 2004 and 2003; however, there were several offsetting factors
underlying the activity. Interest expense increased as compared to the
fourth quarter 2003 following the increased interest rate on SESA's
Euronotes from 6.25% to 10.00% that occurred as part of its refinancing in
the first quarter of 2004. Interest expense also increased as a result of
the strengthening euro in relation to the U.S. dollar in comparison to the
fourth quarter 2003. Offsetting these increases was the elimination of
interest expense on SESA's approximate $150 million, 5% convertible note
with Solutia that was converted from debt to equity in May 2004.
RESULTS OF OPERATIONS--YEAR ENDED DECEMBER 31, 2004 COMPARED WITH YEAR ENDED
DECEMBER 31, 2003
Net Sales and EBIT
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YEAR ENDED
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DECEMBER 31,
------------
(dollars in millions) 2004 2003
---- ----
Net Sales................................... $465 $ 396
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EBIT........................................ $ (7) $ (78)
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Charges included in EBIT................ $(54) $(104)
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The $69 million, or 17 percent, increase in net sales as compared
to the year ended December 31, 2003 resulted primarily from favorable
currency exchange rate fluctuations of approximately 10 percent and higher
sales volumes of approximately 9 percent, partially offset by lower average
selling prices of approximately 2 percent. The favorable currency impact on
net sales was a result of the strengthening euro in relation to the U.S.
dollar in comparison to the year ended December 31, 2003. Higher volumes
were experienced in SAFLEX(R) and VANCEVA(R) plastic interlayer products,
pharmaceutical services, and in resale of products for Solutia's Integrated
Nylon segment. Lower average selling prices were experienced primarily in
the SAFLEX(R) plastic interlayer products in comparison to the year ended
December 31, 2003 resulting principally from the completion of new sales
contracts in a competitive pricing environment.
The $71 million, or 90 percent, increase in EBIT resulted primarily
from lower charges, higher net sales, overall controlled spending and
favorable manufacturing variances resulting from cost containment activities
and increased capacity utilization, partially offset by higher raw material
and energy costs. Included in 2004 EBIT was $54 million of charges including
impairment charges within the pharmaceutical services business of
approximately $12 million for the write down of fixed assets and
approximately $28 million for the write down of intangible assets. These
charges were precipitated by the declining estimates of forecasted results
given current economic and market conditions within the pharmaceutical
services business environment. Also included in the 2004 charges was a $15
million charge due to the modification of SESA's Euronotes in January 2004
and a $1 million gain for the favorable settlement of reserves established
in 2003 related to the closure of non-strategic facilities. Included in 2003
EBIT were $104 million of charges including asset impairment charges within
the pharmaceutical services business
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including approximately $18 million for the write down of fixed assets and
approximately $78 million for the write down of intangible assets;
approximately $12 million of restructuring charges including primarily
employee severance and retraining costs, write-down of assets, and contract
termination costs; and a gain of $4 million involving the recovery of
receivables, established prior to 1997, which had previously been written
off.
Interest Expense
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YEAR ENDED
----------
DECEMBER 31,
------------
(dollars in millions) 2004 2003
---- ----
Interest Expense............................. $ 27 $ 22
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The $5 million, or 23 percent, increase in interest expense as
compared to the year ended December 31, 2003 resulted principally from the
increased interest rate on SESA's Euronotes from 6.25% to 10.00% that
occurred as part of its refinancing in the first quarter 2004. Interest
expense also increased as a result of the strengthening euro in relation to
the U.S. dollar in comparison to the year ended December 31, 2003. Partially
offsetting these increases was the elimination of interest expense on SESA's
approximate $150 million, 5% convertible note with Solutia that was
converted from debt to equity in May 2004.
FINANCIAL CONDITION AND LIQUIDITY
Total debt of $286 million as of December 31, 2004 decreased by
$119 million as compared to $405 million as of December 31, 2003. This
decrease was principally a result of the conversion from debt to equity of a
convertible note from Solutia Inc. to SESA in 2004 that had an outstanding
balance of $154 million as of December 31, 2003. This conversion of the
convertible note was a non-cash transaction and accordingly was not included
within the Statement of Cash Flows for the year ended December 31, 2004.
Partially offsetting this decrease was a $22 million increase due to
favorable currency exchange rate fluctuations resulting from the
strengthening euro in relation to the U.S. dollar and a net $13 million
increase in the Euronotes due to the January 2004 modification.
SESA's working capital increased by $29 million to $78 million at
December 31, 2004, compared to $49 million at December 31, 2003. The
increase in the working capital position primarily resulted from the lower
outstanding balance of net intercompany payables due to reduced intercompany
activity in 2004.
SESA had shareholders' equity of $168 million at December 31, 2004
compared to $15 million at December 31, 2003. The $153 million increase in
shareholders' equity principally resulted from the conversion from debt to
equity of a convertible note from Solutia Inc. to SESA of $154 million at
the time of conversion in May 2004, inclusive of related accrued interest,
and a $27 million increase due to favorable currency exchange rate
fluctuations resulting from the strengthening euro in relation to the U.S.
dollar, partially offset by the $28 million net loss recorded in 2004. This
net loss was primarily a result of the $40 million of asset impairments
recorded in the pharmaceutical services business in the fourth quarter 2004.
At December 31, 2004 and 2003, SESA's liquidity was in the form of
cash in the amount of $12 million and $14 million, respectively. The decline
in cash principally resulted from the timing of net intercompany
transactions to Solutia entities outside of the consolidated SESA entities.
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