Exhibit 99.2
-----------------------------------------------------
FLEXSYS GROUP
Combined Financial Statements as of December 31,
2005 and 2004 and for the years ended December 31,
2005, 2004 and 2003 and Independent Auditors'
Report
-----------------------------------------------------
FLEXSYS GROUP
INDEPENDENT AUDITORS' REPORT
To the Shareholders of:
Flexsys Holding BV
Flexsys America LP
Flexsys Rubber Chemicals Ltd.
We have audited the accompanying combined balance sheets of the Flexsys
Group as of December 31, 2005 and 2004, and the related combined statements
of operations, changes in shareholders' equity and comprehensive income and
cash flows for each of the three years in the period ended December 31,
2005. The combined financial statements of the Flexsys Group include the
accounts of Flexsys Holding B.V. and its subsidiaries, and two related
companies Flexsys America L.P. and Flexsys Rubber Chemicals Ltd. These
companies are under common ownership and common management. These combined
financial statements are the responsibility of the companies' management.
Our responsibility is to express an opinion on these combined financial
statements based on our audit.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we
plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate in the circumstances, but
not for the purpose of expressing an opinion on the effectiveness of the
companies' internal control over financial reporting. Accordingly, we
express no such opinion. An audit also includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, such combined financial statements present fairly, in all
material respects, the combined financial position of Flexsys Group at
December 31, 2005 and 2004, and the combined results of its operations and
its cash flows for each of the three years in the period ended December 31,
2005, in conformity with accounting principles generally accepted in the
United States of America.
As discussed in Note 3, during 2005 the company changed from the last-in,
first-out method of inventory accounting to the first-in, first-out method
and, retroactively, restated the 2004 and 2003 financial statements for the
change.
As discussed in Note 13 to the financial statements, the Flexsys Group and
several other major rubber chemical producers, are defendants in several
civil lawsuits and various governmental and related proceedings, alleging
illegal price fixing agreement amongst the defendants.
10 March 2006
/s/ Geert Verstraeten
- -------------------------------
DELOITTE REVISEURS D'ENTREPRISES SC SFD SCRL
Represented by
Geert Verstraeten
Partner
2
FLEXSYS GROUP
FLEXSYS GROUP
COMBINED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
AS OF DECEMBER 31,
--------------------------------------
2005 2004
---- ----
AS RESTATED,
------------
SEE NOTE 3
----------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................................. $ 20,107 $ 15,304
Restricted cash........................................................... - 18,500
Trade receivables, net of allowances of $493 in 2005 and $507 in 2004..... 99,613 114,606
Miscellaneous receivables................................................. 25,587 26,009
Inventories............................................................... 87,024 85,839
Prepaid expenses and other assets......................................... 6,501 13,806
------------- --------------
TOTAL CURRENT ASSETS...................................................... 238,832 274,064
PROPERTY, PLANT AND EQUIPMENT, NET........................................ 220,651 239,767
GOODWILL.................................................................. 92,642 95,256
OTHER INTANGIBLE ASSETS, NET.............................................. 7,637 7,700
OTHER ASSETS ............................................................. 28,685 24,122
DEFERRED INCOME TAXES..................................................... 18,109 26,565
------------- --------------
TOTAL ASSETS.............................................................. $ 606,556 $ 667,474
============= ==============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable ......................................................... $ 31,884 $ 58,660
Accrued liabilities ...................................................... 50,913 74,547
Short term debt .......................................................... 17,971 36,011
Current portion of long term debt......................................... 12,000 7,000
Due to affiliates......................................................... 10,817 10,084
------------- --------------
TOTAL CURRENT LIABILITIES ................................................ 123,585 186,302
LONG TERM DEBT............................................................ 62,017 145,945
LONG TERM INCENTIVES OBLIGATIONS.......................................... 40,212 2,800
OTHER LIABILITIES ........................................................ 17,821 43,172
------------- --------------
TOTAL LIABILITIES......................................................... 243,635 378,219
SHAREHOLDERS' EQUITY:
Contributed capital....................................................... 414,694 414,694
Accumulated other comprehensive loss...................................... (38,328) (55,644)
Accumulated deficit....................................................... (13,445) (69,795)
------------- --------------
TOTAL SHAREHOLDERS' EQUITY................................................ 362,921 289,255
------------- --------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY................................ $ 606,556 $ 667,474
============= ==============
See accompanying Notes to the Combined Financial Statements.
3
FLEXSYS GROUP
FLEXSYS GROUP
COMBINED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS)
YEAR ENDED DECEMBER 31,
---------------------------------------------------
2005 2004 2003
---- ---- ----
AS RESTATED, AS RESTATED,
------------ ------------
SEE NOTE 3 SEE NOTE 3
---------- ----------
NET SALES....................................................... $ 643,349 $ 526,729 $ 505,856
Cost of goods sold.............................................. 451,737 430,180 415,241
----------- ----------- -----------
GROSS PROFIT.................................................... 191,612 96,549 90,615
Marketing and administrative expenses........................... 74,539 33,934 34,506
Research and development expenses............................... 8,039 7,992 9,175
Restructuring charges........................................... 7,206 22,066 34,003
Litigation expenses............................................. 10,178 46,026 38,391
----------- ----------- -----------
OPERATING INCOME / (LOSS)....................................... 91,650 (13,469) (25,460)
Interest income................................................. 2,556 2,206 2,783
Interest expense................................................ (9,424) (8,737) (7,771)
Other expense, net.............................................. (3,257) (3,767) (1,922)
----------- ----------- -----------
PROFIT / (LOSS) BEFORE INCOME TAXES............................. 81,525 (23,767) (32,370)
Income tax expense.............................................. (25,175) (12,210) (8,309)
----------- ----------- -----------
NET PROFIT / (LOSS)............................................. $ 56,350 $ (35,977) $ (40,679)
=========== =========== ===========
See accompanying Notes to the Combined Financial Statements.
4
FLEXSYS GROUP
FLEXSYS GROUP
COMBINED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
AND COMPREHENSIVE INCOME
(DOLLARS IN THOUSANDS)
ACCUMULATED
OTHER TOTAL
ACCUMULATED COMPREHENSIVE SHAREHOLDERS' COMPREHENSIVE
CAPITAL DEFICIT LOSS EQUITY INCOME / (LOSS)
-------------------------------------------------------------------------------
BALANCE, JANUARY 1, 2003 $ 414,694 $ (4,794) $ (59,647) $ 350,253
(AS PREVIOUSLY REPORTED)
Restatement 11,655 11,655
---------- ----------- ------------ ------------
BALANCE, JANUARY 1, 2003 RESTATED 414,694 6,861 (59,647) 361,908
Net loss as restated (40,679) (40,679) $ (40,679)
Foreign currency translation adjustments 9,943 9,943 9,943
Minimum pension liability adjustments (11,191) (11,191) (11,191)
---------- ----------- ------------ ------------ ------------
BALANCE, DECEMBER 31, 2003 414,694 (33,818) (60,895) 319,981 (41,927)
============
Net loss as restated (35,977) (35,977) (35,977)
Foreign currency translation adjustments 8,805 8,805 8,805
Minimum pension liability adjustments (3,554) (3,554) (3,554)
---------- ----------- ------------ ------------ ------------
BALANCE, DECEMBER 31, 2004 414,694 (69,795) (55,644) 289,255 (30,726)
============
Net Profit 56,350 56,350 56,350
Foreign currency translation adjustments (6,759) (6,759) (6,759)
Minimum pension liability adjustments 24,075 24,075 24,075
---------- ----------- ------------ ------------ ------------
BALANCE, DECEMBER 31, 2005 $ 414,694 $ (13,445) $ (38,328) $ 362,921 $ 73,666
========== =========== ============ ============ ============
See accompanying Notes to the Combined Financial Statements.
5
FLEXSYS GROUP
FLEXSYS GROUP
COMBINED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
YEAR ENDED
DECEMBER 31,
---------------------------------------------
2005 2004 2003
---- ---- ----
AS RESTATED, AS RESTATED,
------------ ------------
SEE NOTE 3 SEE NOTE 3
---------- ----------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
OPERATING ACTIVITIES:
Net profit / (loss).................................................... $ 56,350 $ (35,977) $ (40,679)
Adjustments to reconcile net profit/ (loss) to cash provided by (used
in) operations:
Depreciation and amortization................................. 36,231 38,194 37,635
Non-cash litigation contingency............................... -- -- 35,000
Non-cash long term incentive obligation....................... 41,664 2,800 --
Impairment and obsolescence of fixed assets .................. 28 2,638 22,483
Deferred income taxes......................................... 7,381 (3,136) (8,787)
Other, net.................................................... 1,668 2,268 654
Changes in operating assets and liabilities:
Receivables......................................... 6,003 14,707 7,611
Inventories......................................... (5,894) 6,639 455
Accounts payable and accrued liabilities............ (18,091) (14,997) 11,331
Litigation reserve ................................. -- (16,500) --
Other assets and liabilities........................ (4,155) (1,531) (17,035)
---------- ---------- -----------
CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES........................ 121,185 (4,895) 48,668
---------- ---------- -----------
INVESTING ACTIVITIES:
Property and equipment purchases....................................... (32,774) (19,156) (21,826)
Net change in cash related to escrow balances.......................... -- (18,500) 7,784
---------- ---------- -----------
CASH USED IN INVESTING ACTIVITIES...................................... (32,774) (37,656) (14,042)
---------- ---------- -----------
FINANCING ACTIVITIES:
Net change in short-term debt obligations.............................. (13,808) 12,150 (137,610)
Proceeds from issuance of long term debt obligations................... -- 21,204 102,058
Repayment of long term debt obligations................................ (69,897) -- --
---------- ---------- -----------
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES........................ (83,705) 33,354 (35,552)
---------- ---------- -----------
EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS........... 97 586 2,680
---------- ---------- -----------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS....................... 4,803 (8,611) 1,754
CASH AND CASH EQUIVALENTS:
BEGINNING OF YEAR...................................................... 15,304 23,915 22,161
---------- ---------- -----------
END OF YEAR............................................................ $ 20,107 $ 15,304 $ 23,915
========== ========== ===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest.............................................. $ 6,085 $ 7,412 $ 7,533
Cash paid for income taxes.......................................... 19,629 21,578 17,290
See accompanying Notes to the Combined Financial Statements.
6
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
1. ORGANIZATION AND NATURE OF OPERATIONS
The Flexsys Group ("Flexsys" or the "Company") is a global rubber chemicals
joint venture between Solutia Inc. and Akzo Nobel N.V. (collectively the
"Parent Companies") which was formed effective January 1, 1995 and commenced
operations on May 1, 1995. Flexsys is a leading producer of chemicals for
the rubber processing and related industries. Flexsys products go into the
production of rubber tires and other rubber articles, as well as the
manufacture of products such as paints, coatings, and adhesives; water
treatment and mining chemicals; and fuel additives. Flexsys' sales and
receivables are concentrated in the tire industry. The five largest
customers, all of whom are international tire manufacturers, comprised
approximately 50%, 48% and 50% of total sales in 2005, 2004 and 2003,
respectively. The same five customers comprised approximately 49% and 41% of
trade receivables as of December 31, 2005 and 2004, respectively.
On May 1, 1995, the Parent Companies transferred certain net assets of their
respective rubber chemicals businesses, consisting mainly of property and
equipment, inventories, intangible assets, accounts payable, other
liabilities and ownership interests in certain subsidiary companies to
Flexsys. Flexsys recorded these net assets at the historical carrying values
of the Parent Companies at the time of transfer.
The accompanying combined financial statements include the accounts of
Flexsys Holding B.V., a Dutch holding company, and Flexsys America L.P., a
United States limited partnership, and Flexsys Rubber Chemicals Ltd. (United
Kingdom). All significant intercompany transactions and balances have been
eliminated in combination.
Solutia Inc. and Solutia Europe N.V. on the one hand and Akzo Nobel
Chemicals International BV on the other hand each own 50% of the 278
outstanding shares of Flexsys Holding B.V. as of December 31, 2005 and 2004.
The outstanding shares have a par value of 454 Euro each. Total authorized
shares as of December 31, 2005 and 2004 were 875. Flexsys Holding B.V. holds
a 100% ownership interest, directly or indirectly, in the following
subsidiaries:
Flexsys N.V. (Belgium)
Flexsys Coordination Center N.V. (Belgium)
Flexsys S.p.A. (Italy)
Flexsys Industria e Comercio Ltda. (Brazil)
Flexsys AG (Switzerland)
Flexsys KK (Japan)
Flexsys Pte. Ltd. (Singapore)
Flexsys America Co. (USA)
Flexsys SARL (France)
Flexsys Verwaltungs- und Beteiligungsgesellschaft (VuB) GmbH (Germany)
Flexsys Distribution GmbH (Germany)
Flexsys Industriepark Nienburg GmbH (Germany)
Flexsys Verkauf GmbH (Germany)
Flexsys Chemicals (M) Sdn Bhd (Malaysia)
Flexsys Asia Pacific Sdn Bhd (Malaysia)
Flexsys America L.P. is a limited partnership between Solutia, Inc. and Akzo
Nobel Chemicals Inc, as limited partners and Flexsys America Co. as general
partner. Pursuant to the terms of the partnership agreement, net income of
Flexsys America L.P. for the years ended December 31, 2005, 2004 and 2003
was allocated between the following three entities:
Flexsys America Co. 2%
Solutia Inc. 49%
Akzo Nobel Chemicals, Inc. 49%
7
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
Solutia UK Capital Ltd. and Akzo Nobel Chemicals International BV, each own
50% of the 37,382,000 shares of Flexsys Rubber Chemicals Ltd. (United
Kingdom) that are outstanding as of December 31, 2005. The outstanding
shares have a par value of one sterling pound each. The total authorized
shares as of December 31, 2005 and 2004 were 100,000,000.
On December 17, 2003, Solutia, Inc. announced that it and its 14 U.S.
subsidiaries have 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 (Case No. 0317949). Solutia, Inc. and its 14 U.S.
subsidiaries remain in possession of their assets and properties and
continue to operate their businesses and manage their properties as
"debtors-in-possession" pursuant to Sections 1107(a) and 1108 of the U.S.
Bankruptcy Code. On February 14, 2006, Solutia filed with the U.S.
Bankruptcy Court their Plan of Reorganization (the "Plan") and Disclosure
Statement. The Plan and Disclosure Statement set forth the terms of a global
settlement between Solutia, the Official Committee of Unsecured Creditors,
Monsanto Company and Pharmacia. The Plan and Disclosure Statement are
subject to U.S. Bankruptcy Court approval, the approval of various
constituencies in the Chapter 11 cases and the satisfaction of other
contingencies.
In late 2005, Solutia and Akzo Nobel decided to explore the possible sale of
Flexsys. An investment bank has been engaged to conduct the sale process and
has contacted a variety of potential strategic buyers and private equity
firms to assess their interest in the Flexsys business. At this time there
can be no assurance that a definitive agreement will be reached with any
party.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the significant accounting policies used in the preparation of
the accompanying combined financial statements is as follows:
REVENUES - The Company recognizes revenue when persuasive evidence of a sale
arrangement exists, delivery has occurred, the sales price is fixed and
determinable, and collectibility is reasonably assured. These criteria are
met when finished products are shipped to the customers and both title and
the risks and rewards of ownership are transferred, or services have been
rendered and accepted.
CASH AND CASH EQUIVALENTS - Cash and cash equivalents include all highly
liquid investments with original maturity dates of three months or less when
purchased.
INVENTORIES - Inventories are stated at the lower of cost or market. Cost is
determined using the first-in, first-out ("FIFO") method of accounting. The
cost of work in process and finished goods comprise all the costs of
conversion and other costs incurred in bringing the inventories to their
present location and condition. The conversion costs include the cost of
production and the related fixed and variable production overhead costs. As
discussed in Note 3, during 2005 the company changed from the last-in,
first-out ("LIFO") method to the FIFO method of inventory accounting for all
inventories not previously accounted for on the FIFO method. In accordance
with Accounting Principles Board ("APB") Opinion No. 20 ("APB Opinion
20"), Accounting Changes, prior periods have been restated to reflect this
change.
CUSTOMER RECEIVABLES - Accounts receivable are stated at face value less a
provision for doubtful receivables determined on a customer specific basis,
if deemed necessary.
PROPERTY AND EQUIPMENT - Property and equipment is recorded at cost and
depreciated over its estimated useful life using the straight-line method.
The estimated useful lives are 20 to 35 years for buildings and land
improvements and range from 3 to 15 years for machinery and equipment.
Maintenance and repairs are charged to expense as incurred.
GOODWILL AND OTHER INTANGIBLE ASSETS - Under Statement of Financial
Accounting Standards ("SFAS") No. 142, Goodwill and Other Intangible Assets,
goodwill and other intangibles determined to have an infinite life are no
longer amortized; however, these assets are reviewed for impairment on an
annual basis or more frequently if events or changes
8
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
in circumstances indicate that the asset might be impaired. Intangible
assets without an infinite life are recorded at cost less accumulated
amortization. Amortisation of these assets is over a period of 10 years.
LONG-LIVED ASSETS - Under SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, long-lived assets, consisting of property,
plant and equipment, are reviewed for impairment whenever events or changes
in circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash flows
expected to be generated by the asset. If such assets are considered to be
impaired, the impairment to be recognized is measured by the amount by which
the carrying amount of the assets exceeds the recovery amount or fair value,
as defined, of the assets.
RESEARCH AND DEVELOPMENT COSTS - Research and development costs are expensed
when incurred.
LEGAL PROCEEDINGS AND CONTINGENCIES - The Company accrues for contingencies,
including legal proceedings and claims arising out of its business in the
period when it becomes probable that a liability has been incurred and the
amount is reasonably estimable. Amounts are accrued and updated based on
specific circumstances as applicable.
INCOME TAXES - Deferred income taxes are recorded to reflect the tax
consequences on future years of differences between the tax bases of assets
and liabilities and their financial reporting amounts at year-end. A
valuation allowance is established to reduce deferred tax assets if it is
more likely than not, that all, or some portion, of such deferred tax assets
will not be realized.
FINANCIAL INSTRUMENTS - Flexsys enters into foreign exchange forward
contracts to manage its exposure to fluctuations in foreign currency
denominated balance sheet items. This activity is intended to protect
Flexsys from adverse short-term fluctuations in foreign currencies. Gains
and losses resulting from changes in the market value of these contracts are
marked-to-market on a current basis and included in Other Expense - net in
the Combined Statement of Operations.
FOREIGN CURRENCY TRANSLATION - All entities utilize local currencies as
their functional currencies. The entities' asset and liability accounts are
translated into U.S. dollars at current exchange rates and income and
expense accounts are translated at average rates. Any unrealized gains or
losses arising from this translation are charged or credited to the
accumulated other comprehensive loss account included in Shareholders'
Equity.
FOREIGN CURRENCY TRANSACTIONS - Transaction gains or losses due to changes
in the exchange rates between a functional currency and the currency in
which a foreign currency transaction is denominated are included in Other
Expense - net in the Combined Statements of Operations. The aggregate net
losses resulting from these transactions were approximately $1,579 in 2005,
$5,809 in 2004 and $3,496 in 2003.
DIVIDENDS - Dividend distributions are payable to the Parent Companies at
the discretion of the Company within the limits of existing bank covenants.
ESTIMATES - The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the
amounts reported at the date of the financial statements of assets,
liabilities, revenues and expenses and the disclosure of contingencies.
Actual results could differ from those estimates.
RECLASSIFICATIONS - Certain reclassifications have been made to the 2003 and
2004 financial statements to be consistent with the current year's
presentation.
RECENTLY ISSUED ACCOUNTING STANDARDS - In May 2005, the FASB issued SFAS No.
154, Accounting Changes and Error Corrections - a replacement of APB Opinion
No. 20 and FASB Statement No. 3 ("SFAS No. 154"). SFAS No. 154 changes the
requirements for the accounting and reporting of a change in accounting
principle. SFAS No. 154 applies to all voluntary changes in accounting
principle as well as changes required by an accounting pronouncement that do
not otherwise include specific transition provisions. Previously, most
changes in accounting principles were required to be recognized by including
in net income of the period in which the change occurred, the cumulative
effect of changing to
9
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
the new accounting principle. SFAS No. 154 requires retrospective
application to prior periods' financial statements of a change in accounting
principle as if that principle had always been used. SFAS No. 154 will be
effective for fiscal years beginning after December 15, 2005. The impact of
the adoption of SFAS No. 154 will depend upon the nature of accounting
changes Flexsys may initiate in future periods, if any.
In March 2005, the FASB issued Interpretation No. 47, Accounting for
Conditional Asset Retirement Obligations - an interpretation of FASB
Statement No. 143 ("FIN 47"). FIN 47 clarifies that the term "conditional
asset retirement obligation" as used in SFAS No. 143, Accounting for Asset
Retirement Obligations ("SFAS No. 143"), refers to a legal obligation to
perform an asset retirement activity in which the timing and (or) method of
settlement are conditional on a future event that may or may not be within
the control of the entity. The obligation to perform the asset retirement
activity is unconditional even though uncertainty exists about the timing
and (or) method of settlement, including those that may be conditional on a
future event. Accordingly, an entity is required to recognize a liability
for the fair value of a conditional asset retirement obligation if the fair
value of the liability can be reasonably estimated. Uncertainty about the
timing and (or) method of settlement should be factored into the measurement
of the liability when sufficient information exists. FIN 47 also clarifies
when sufficient information to reasonably estimate the fair value of an
asset retirement obligation is considered available. Flexsys has completed
its evaluation process of the requirements of FIN 47 as of December 31,
2005. The adoption of FIN 47 did not have a material impact on Flexsys'
overall results of operations or financial position in 2005.
In November 2004, the FASB issued SFAS No. 151, Inventory Costs, an
Amendment of ARB No. 43, Chapter 4 ("SFAS No. 151"). SFAS No. 151 amends the
guidance in ARB No. 43, Chapter 4, Inventory Pricing, to clarify that
abnormal amounts of idle facility expense, freight, handling costs, and
wasted materials (spoilage) should be recognized as current-period charges
and requires the allocation of fixed production overheads to inventory based
on the normal capacity of the production facilities. This guidance is
effective for Flexsys for inventory costs incurred beginning January 1,
2006. Flexsys does not believe adoption of this amendment will have a
material impact on Flexsys' overall results of operations or financial
position in 2006.
10
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
3. INVENTORIES
Inventories at December 31 consist of the following:
2005 2004
---- ----
AS RESTATED
-----------
Finished goods and work in process $ 65,170 $ 61,659
Raw materials and supplies 21,854 24,180
------------- -------------
Inventories, net $ 87,024 $ 85,839
============= =============
Effective January 1, 2005, the Company changed from the LIFO method to the
FIFO method of inventory accounting with respect to inventories owned by
Flexsys America LP. Prior periods have been restated to reflect this change.
This change in accounting principle was made to provide a better matching of
revenue and related costs of products. It also brought consistency between
the inventory accounting method used by Flexsys America LP and all other
Flexsys Group entities. The cumulative effect of the change in accounting
policy was to move from an Accumulated Deficit as of January 1, 2003 of
$4,794 to an Accumulated Earnings balance of $6,861, a movement of $11,655.
The following balances in the Combined Balance Sheet as of December 31,
2004, the Combined Statements of Operations for the years ended December 31,
2004 and 2003 and the Combined Statements of Changes in Shareholders' Equity
for the years then ended have been restated from amounts previously reported
as follows:
AS PREVIOUSLY REPORTED AS RESTATED
---------------------- -----------
At January 1, 2003
Accumulated (Deficit) / Earnings $ (4,794) $ 6,861
At December 31, 2003
Accumulated Deficit (47,536) (33,818)
At December 31, 2004
Inventories 75,186 85,839
Accumulated Deficit (80,448) (69,795)
For the year ended December 31, 2003:
Cost of goods sold 417,304 415,241
Gross profit 88,552 90,615
Operating loss (27,523) (25,460)
Net loss (42,742) (40,679)
For the year ended December 31, 2004:
Cost of goods sold 427,115 430,180
Gross profit 99,614 96,549
Operating loss (10,404) (13,469)
Net loss (32,912) (35,977)
11
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
4. PROPERTY, PLANT AND EQUIPMENT, NET
Property, plant and equipment, net at December 31 consist of the following:
2005 2004
---- ----
Land and land improvements $ 7,802 $ 8,170
Buildings and building improvements 55,131 59,737
Manufacturing equipment 582,291 617,877
Other equipment 34,564 37,794
Construction in process 29,191 21,465
----------- -----------
Total 708,979 745,043
Less: accumulated depreciation (488,328) (505,276)
----------- -----------
Total property and equipment, net $ 220,651 $ 239,767
=========== ===========
The Company capitalized interest of $377 in 2005, $88 in 2004 and $121 in
2003 related to the construction of assets intended for its own use. The
depreciation expense was $36,164 in 2005, $38,074 in 2004 and $37,581 in
2003.
5. GOODWILL AND OTHER INTANGIBLE ASSETS, NET
Goodwill
Changes in the net carrying value of goodwill for the year ended December 31,
2005 and 2004 are as follows:
NET
CARRYING
VALUE
-----
Balance at January 1, 2004 $ 93,727
Effect of foreign currency translation adjustments 1,529
----------
Balance at December 31, 2004 95,256
Effect of foreign currency translation adjustments (2,614)
----------
Balance at December 31, 2005 $ 92,642
==========
Flexsys tested goodwill for impairment during the fourth quarter of 2005 and
2004 using a present value of future cash flows valuation method. This
process did not result in any impairment being recorded in either year.
12
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
Other Intangible Assets
Other intangible assets are summarized in aggregate as follows as of
December 31:
2005 2004
------------------------------------------------------------------------------
GROSS NET GROSS NET
CARRYING ACCUMULATED CARRYING CARRYING ACCUMULATED CARRYING
VALUE AMORTIZATION VALUE VALUE AMORTIZATION VALUE
------------------------------------------------------------------------------
Infinite Life
Unpatented technology $ 7,231 $ 7,231 $ 7,231 $ 7,231
Trademarks 226 226 199 199
Finite Life
Licenses 900 (720) 180 900 (630) 270
-------- ------- -------- -------- ------- --------
TOTAL OTHER INTANGIBLE ASSETS $ 8,357 $ (720) $ 7,637 $ 8,330 $ (630) $ 7,700
======== ======= ======== ======== ======= ========
There were no material acquisitions of intangible assets and there have been
no changes to amortizable lives or methods during the years ended December
31, 2005 and 2004. Total amortization expense of other intangible assets was
$90 per annum for the years ended December 31, 2005, 2004 and 2003.
Amortization expense for the net carrying amount of finite-lived intangible
assets is estimated to be $90 annually for 2006 and 2007 and $0 each year
thereafter.
6. SHORT TERM DEBT
Short term debt at December 31 consists of the following:
2005 2004
---- ----
Bank overdrafts $ 3,909 $ 1,422
Multi-currency lines of credit 14,062 34,589
------------ ------------
Total short term debt $ 17,971 $ 36,011
============ ============
At December 31, 2005, the group had $165,000 (2004: $175,000) of
uncommitted multi-currency lines of credit available with various banks.
7. LONG TERM DEBT
Long term debt at December 31 consists of the following:
2005 2004
---- ----
Amortising Loan Facility ('Facility A') $ 38,398 $ 48,000
Revolving Credit Facility ('Facility B') 35,619 104,945
------------ ------------
Sub-total 74,017 152,945
Less current portion of long term debt (12,000) (7,000)
------------ ------------
Total long term debt $ 62,017 $ 145,945
============ ============
13
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
On February 14, 2003, Flexsys signed a $200,000 committed multi-currency
term and revolving credit facility. The syndicated facility was available as
of February 14, 2003 for 5 years. The loan was used to re-finance the
existing matured revolving credit facility and for general corporate
purposes and consists of two parts: a $50,000 amortizing loan facility
("Facility A") and a $150,000 revolving credit facility ("Facility B").
Interest on these facilities is payable at LIBOR or EURIBOR rates plus a
margin ranging between 0.60% and 1.75%, based upon certain ratios. Other
fees may be incurred to reimburse the banks for certain costs incurred or
based on the utilization of Facility B.
The Company is in compliance with its covenants as of December 31, 2005.
The outstanding debt as of December 31, 2005 under Facility A and Facility B
matures as follows:
2006 $ 12,000
2007 13,000
2008 49,017
----------
TOTAL $ 74,017
==========
8. RESTRUCTURING
The restructuring charges for the years ended December 31 consisted of the
following components:
2005 2004 2003
---- ---- ----
Nitro plant (US):
Closure of Nitro plant $ 746 $ 13,288 $ 16,452
Discontinuation of business line -- -- 10,409
Other -- 1,335 214
--------- ----------- -----------
Nitro plant subtotal 746 14,623 27,075
Akron (US):
Severance and related termination costs 147 1,074 --
Queeny plant (US):
Closure of Queeny plant 113 -- --
Ruabon plant (UK):
Release of severance and dismantling accrual -- (44) --
Newport Plant (UK):
Severance and other restructuring charges 6,172 4,101 --
Deventer site (The Netherlands):
Severance and other restructuring charges -- (286) 4,091
Brussels Headquarters (Belgium):
Severance and related termination costs -- 3,992 868
Other restructuring: 28 (1,394) 1,969
--------- ----------- -----------
TOTAL RESTRUCTURING CHARGES $ 7,206 $ 22,066 $ 34,003
========= =========== ===========
14
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
The following tables reconcile restructuring charges in 2005 and 2004
between cash and accrual activity. The Ending Accrual balance is included in
Accrued Liabilities in the Combined Balance Sheets in both years.
2005
----
BEGINNING (CASH NON-CASH ENDING
ACCRUAL ACCRUAL PAYMENTS) IMPAIRMENT ACCRUAL
-------------------------------------------------------------------------------
United States
Nitro/Sterling $ 4,134 $ 746 $ (4,697) $ -- $ 183
Akron 184 147 (184) -- 147
Queeny -- 113 (110) -- 3
United Kingdom
Ruabon 310 -- (101) -- 209
Newport 163 6,172 (3,639) (15) 2,681
Benelux
Brussels HQ 1,088 -- (725) -- 363
Other 142 28 -- (105) 65
---------- ----------- ---------- --------- -----------
TOTAL $ 6,021 $ 7,206 $ (9,456) $ (120) $ 3,651
========== =========== ========== ========= ===========
2004
----
BEGINNING (CASH NON-CASH ENDING
ACCRUAL ACCRUAL PAYMENTS) IMPAIRMENT ACCRUAL
-------------------------------------------------------------------------------
United States
Nitro plant $ 6,352 $ 14,623 $ (16,841) $ -- $ 4,134
Akron -- 1,074 (890) -- 184
United Kingdom
Ruabon plant 502 (44) (148) -- 310
Newport plant 866 4,101 (1,478) (3,326) 163
Benelux
Deventer site 296 (286) (10) -- --
Brussels HQ -- 3,992 (2,904) -- 1,088
Other 1,738 (1,394) (202) -- 142
---------- ----------- ---------- --------- -----------
TOTAL $ 9,754 $ 22,066 $ (22,473) $ (3,326) $ 6,021
========== =========== ========== ========= ===========
15
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
United States
- -------------
In March 2003, Flexsys entered into an agreement to cease the production of
a specialty chemical, which was produced at the Nitro, West Virginia Plant,
and will purchase this product from a third party producer. Accordingly,
Flexsys recorded a $10,409 restructuring charge for (1) the write-down of
fixed assets ($7,600), (2) the write-down of spare parts inventory ($500),
and (3) employee severance and related termination costs ($2,309).
In October 2003, citing excess manufacturing capacity in the global rubber
chemical industry, the Flexsys Supervisory Board and Management Board
approved a plan to close the Nitro, West Virginia plant starting in March 31,
2004. Accordingly, Flexsys recorded a $16,666 restructuring reserve for (1)
the write-down of fixed assets ($14,107), (2) the write-down of spare parts
inventory ($1,559), and (3) tolling contract termination expenses ($1,000).
In connection with the closure of the Nitro plant, an additional $13,288
restructuring reserve was recorded during 2004 for (1) employee severance
and related termination costs ($8,373), (2) dismantling and decontamination
($4,327) and (3) other costs ($588).
During 2004, Flexsys recorded a $1,074 restructuring charge relating to the
voluntary and involuntary termination of employees at the Akron location.
All of the employees were notified of their termination and left Flexsys'
employment as of December 31, 2004. The recorded charge relates to employee
severance costs and outplacement assistance paid by Flexsys.
In January 2005, Solutia informed Flexsys that they (Solutia) had decided to
relocate their Skydrol(R) manufacturing operation from the J.F.Queeny site
to another Solutia site. Flexsys, producing Duralink HTS and QDI at Queeny,
would then become the only party with operations at that site. As the
economics of the Queeny site would not be favorable under this scenario,
Flexsys has decided to relocate its operations from Queeny within the same
timeframe as Solutia in a joint exit from the site. Flexsys has recorded
accelerated depreciation of $1,213 (within Cost of Goods Sold) and related
termination costs of $113 in 2005.
United Kingdom
- --------------
On June 13, 2000, Flexsys announced the closure of its Primary Accelerator
manufacturing operations in Ruabon, Wales. The operations related to certain
products were physically shut down during August 2001. Dismantling
operations were substantially completed in 2002. In 2005 and 2004 a further
$101 and $148, respectively, was spent against the reserve on severance
and dismantling costs.
During 2001, the Company decided to shut down the 4NDPA Newport facility and
had recorded a charge of $8,000 for the expected severance and dismantling
costs. In 2003, a further $3,400 was spent against the existing provision.
The 2004 Newport restructuring relates to the IPPD finishing plant for which
a restructuring charge was incurred of $4,101 of which a substantial
portion was allocated to the impairment of fixed assets and the write off of
inventories.
During 2005, Flexsys recorded a further $6,172 restructuring reserve for
(1) dismantling and decontamination ($693), (2) employee severance and
retraining costs ($2,257) and (3) residual costs covered under the site
Operating Agreement ($3,222). A total of $2,681 of this reserve will be
incurred during 2006 consisting of (1) dismantling and decontamination
($246), employee severance costs ($978) and residual costs covered under
the site Operating Agreement ($1,457).
16
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
Benelux Countries
- -----------------
In 2003 a restructuring program was announced at the Flexsys BV site in
Deventer. The restructuring affected the R&D activities located in the
Netherlands. Flexsys continues to perform its R&D activities in Akron, USA.
The restructuring charges relate to termination costs and other charges such
as indemnities paid concerning the termination of contracts with Akzo Nobel.
As of 2004 the restructuring process was finalized and the remaining
provision of $286 was reversed.
In Belgium, 2004 restructuring activity amounted to $3,992 affecting both
Flexsys NV and Flexsys Coordination Center NV and related to employee
severance costs. During 2005 and 2004, amounts of $2,904 and $725 were
spent against this provision.
9. TAXES ON INCOME
The components of deferred taxes in the accompanying Combined Balance Sheets
as of December 31 are as follows:
2005 2004
---- ----
Deferred Tax Assets - Current $ 200 $ 658
Deferred Tax Assets - Non Current 18,109 26,565
Deferred Tax Liabilities - Non Current (4,372) (3,749)
-------------- --------------
Net Deferred Tax $ 13,937 $ 23,474
============== ==============
Deferred tax assets primarily arise from the recognition of future tax
benefits resulting from available net operating loss carry forwards,
accelerated capital allowances on fixed assets and provisions. Deferred tax
assets have been reduced by valuation allowances of $39,031 and $48,503 as
of December 31, 2005 and December 31, 2004, respectively. Net operating loss
carry-forwards available primarily in Belgium and the United Kingdom, amount
to $126,279 and $131,866 as of December 31, 2005 and 2004, respectively,
and can be carried over without limitation in time in these countries.
During 2005, Flexsys Rubber Chemicals Ltd surrendered tax losses of $60,162
under UK Consortium Relief rules to Akzo Nobel and Solutia for no
consideration. The losses surrendered arose during 2005 from the claim of
capital allowances for the year 2004 and prior years. A full valuation
allowance has been provided on all deferred tax assets in this United
Kingdom entity. Deferred tax liabilities primarily arise from temporary
differences between the tax bases of certain assets and liabilities,
primarily fixed assets, goodwill, and deferred charges, and their financial
reporting amounts.
The charge for income taxes is as follows:
2005 2004 2003
---- ---- ----
Current tax expense $ 17,301 $ 15,977 $ 14,768
Deferred tax expense / (benefit) 7,874 (3,767) (6,459)
------------ ------------ ------------
Net income tax expense $ 25,175 $ 12,210 $ 8,309
============ ============ ============
No deferred income taxes are recorded at Flexsys America L.P. since the tax
profits and losses in the limited partnership are reported in the partners'
federal income tax returns. Provision has not been made for undistributed
earnings of international subsidiaries, as those earnings are considered to
be permanently re-invested in the operations of those subsidiaries.
17
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
10. RETIREMENT PLANS
DEFINED BENEFIT PENSION PLANS - Flexsys has defined benefit pension plans
covering substantially all of the employees of the Flexsys entities in the
United Kingdom, Belgium and Germany. Pension accounting is performed based
on independent actuarial calculations in accordance with the provisions of
SFAS No. 87, Employers' Accounting for Pensions. The funded status of the
plans at December 31 is as follows (measurement date is September 30th
except for the United Kingdom where it is December 31st):
2005 2004
---- ----
PLAN STATUS AS OF DECEMBER 31:
Plan assets at fair value $ 98,051 $ 81,093
Projected benefit obligation (117,823) (117,352)
----------- -----------
Funded status $ (19,772) $ (36,259)
=========== ===========
Gross prepaid pension asset $ 25,290 $ 17,564
Gross accrued pension liability (8,155) (15,596)
2005 2004 2003
---- ---- ----
PLAN ACTIVITY FOR THE YEAR ENDED DECEMBER 31:
Total pension cost (net) $ 4,504 $ 1,930 $ 98
Employer contributions 13,043 1,324 1,314
Participant contributions 545 548 304
Benefits paid 4,250 4,607 3,782
WEIGHTED AVERAGE ASSUMPTIONS AT DECEMBER 31:
Weighted average discount rate 4.97% 5.48% 5.51%
Long term rate of return on assets 7.77% 7.78% 7.78%
Weighted average increase in compensation 3.83% 3.86% 3.45%
The accumulated benefit obligation for all defined benefit plans was $86,543
in 2005, $102,204 in 2004 and $89,958 in 2003. A minimum pension liability
adjustment to Other Comprehensive Income of $3,554 in 2004 and $11,191 in
2003 was required for one plan as the accumulated benefit obligation
exceeded the related plan assets and accrued pension liabilities. The Other
Comprehensive Income balance was reduced to zero during 2005 as a result of
a cash contribution of $10,805 made by the Company into the plan.
The assets, projected benefit obligation and accumulated benefit obligation
for the pensions with projected benefit obligations in excess of plan
assets, were $89,618, $110,081 and $78,361 respectively, as of December
31, 2005, $71,248, $108,213 and $93,986, respectively, as of December 31,
2004, and $67,446, $101,154, and $89,958, respectively, as of December
31, 2003. Total pension costs for plans with projected benefit obligations
in excess of the fair value of plan assets were $4,661 in 2005, $2,256 in
2004 and $98 in 2003.
The weighted average asset allocation for the Company's pension plans at
December 31, 2005, by asset category is as follows:
Equity securities 61%
Debt securities 39%
18
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
The investments for the Belgian defined benefit pension plan are mainly made
in debt securities whereas the UK defined benefit pension plan invests in
equity and debt securities through a Fund manager.
The expected rate of return on plan assets is based upon the allocation of
investments.
The following table sets forth the Company's estimated future benefit
payments regarding its defined pension plans:
2006 $ 2,814
2007 3,555
2008 3,878
2009 3,897
2010 3,849
2011-2015 35,653
---------
TOTAL PAYMENTS $ 53,646
=========
The Company's contribution to be paid in 2006 is estimated at $1,698.
POSTRETIREMENT MEDICAL BENEFITS--The Flexsys America LP provides for
reimbursement of limited retiree healthcare benefits to certain union and
non-union employees who meet certain eligibility requirements. This program
is unfunded and the accumulated postretirement benefit obligation at
December 31, 2005, 2004 and 2003 approximated $2,908, $2,773 and $2,860,
respectively, using discount rates of 5.75% in 2005, 6.00% in 2004 and 6.25%
in 2003. The Accumulated Postretirement benefit obligation was recognized as
a liability in the accompanying balance sheets (measurement date November
1st).
The following table sets forth the Company's postretirement benefit cost,
contributions and benefits paid for the years ended December 31st:
2005 2004 2003
---- ---- ----
Benefit cost $ 272 $ 1,097 $ 468
Employer contribution 313 59 37
Benefits paid 313 59 37
The following table sets forth the Company's estimated future benefit
payments:
2006 $ 306
2007 300
2008 260
2009 270
2010 275
2011-2015 1,000
---------
TOTAL PAYMENTS $ 2,411
=========
19
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
Of the $306 expected to be contributed to fund postretirement medical
benefits during 2006, the entire contribution is discretionary, as the plan
is not subject to any minimum regulatory funding requirements. The
contribution is expected to be in the form of cash.
As discussed in Note 8, the Nitro, West Virginia plant was shutdown during
2004. As a part of the shutdown, the retirement eligibility was decreased
from age 58 to age 55 and 10 years of service as of April 1, 2004. Any Nitro
employee who did not meet the eligibility requirements as of that date was
not covered under the plan. As the plant shutdown triggered a curtailment,
the entire prior service cost associated with the Nitro employees of $847
was recognized as an expense in 2004. The shutdown also resulted in a net
decrease in the benefit obligation and a curtailment gain of $32 in 2004.
EMPLOYEE SAVINGS PLAN - Flexsys America L.P. provides a savings plan for
substantially all its regular full-time employees of which employee
contributions are matched in part by Flexsys America L.P.. Matching
contributions charged to expense approximated $700 in 2005, $1,200 in 2004
and $1,400 in 2003.
NONQUALIFIED RETIREMENT PLAN - Flexsys America L.P. provides a nonqualified
defined contribution retirement plan for certain of its employees. Employee
contributions are matched in part by Flexsys. Matching contributions charged
to expense approximated $133 in 2005, $110 in 2004 and $93 in 2003. The
assets of the plan are held in a Rabbi Trust which is in Flexsys America
L.P.'s name. The investments of the trust and related liability are
classified as non-current because they are not for use in the ordinary
course of business.
LONG TERM INCENTIVE PLAN - In 2004, the Company introduced a new Long Term
Incentive Plan. This plan for certain leading employees is based on the
attainment of certain financial goals. The plan covers the financial years
2004 until 2006 and will pay out in 2007.
The goals are Return on Capital Employed ("ROCE") and Earnings before Tax
("EBT"). The pay outs on both the ROCE and the EBT goals are not capped and
are likely to result in a substantial pay-out. As at December 31, 2005, the
Company had accrued an amount of $40,212 representing approximately two
thirds of the estimated pay-out for the three-year period. The plan includes
a change of control clause in which case the pay out will be earlier than
2007.
11. FINANCIAL INSTRUMENTS
Flexsys has various financial instruments, including cash and cash
equivalents, short-term investments, receivables, payables, short-term bank
borrowings, and foreign currency forward and option contracts. The fair
value of Flexsys' cash and cash equivalents, short-term investments,
short-term bank borrowings, and accounts receivable and payable approximates
their carrying value due to the short-term nature of the items. The
estimated fair value of Flexsys' long term debt, based on discounted cash
flow analysis, approximates the recorded value of long term debt.
Flexsys uses foreign currency forward contracts and foreign currency option
contracts to hedge accounts receivable denominated in foreign currencies.
Gains and losses on the forward contracts are recognized based on changes in
exchange rates, as are offsetting foreign exchange gains and losses on such
accounts receivable. Such contracts are generally in connection with
transactions with maturities of less than six months.
As of December 31, 2005 and 2004, the notional amounts of the Company's
outstanding foreign currency forward buy contracts were $255,459 and
$147,599, respectively. The notional amounts of the Company's foreign
currency forward sell contracts were $256,647 and $148,789 at December 31,
2005 and 2004, respectively. The carrying value of the Company's outstanding
foreign exchange contracts and options was a net payable of $266 and $839 at
December 31, 2005 and 2004, respectively.
20
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
Flexsys is exposed to credit risk to the extent of non-performance of
counter-parties to their foreign currency contracts and options described
above. However, the credit ratings of the counter-parties, which consist of
a diversified group of financial institutions, are regularly monitored and
risk of default is considered remote.
12. TRANSACTIONS WITH PARENT COMPANIES
Flexsys engages in significant transactions with its Parent Companies. These
transactions mainly consist of product sales and other operating revenues,
raw materials purchases, production services, marketing, administrative and
research services.
Amounts included in the combined financial statements for the years ended
December 31:
2005 2004 2003
---- ---- ----
Income Statement Related Transactions
- -------------------------------------
Product Sales to:
Akzo Nobel $ 334 $ 774 $ 984
Solutia 52 49 26
Production services and raw materials to:
Solutia 2,135 7,808 9,555
Production services and raw materials from:
Akzo Nobel 26,808 26,205 27,821
Solutia 26,285 25,497 28,430
Marketing, administrative and research received from:
Akzo Nobel 3,316 2,960 3,281
Solutia 67 32 498
Capital charges for use of facilities from:
Akzo Nobel 414 389 403
Solutia 50 58 (84)
Balance Sheet Related Transactions
- ----------------------------------
Purchase of Capital Equipment:
Akzo Nobel $ 627 $ 267
Solutia 1,863 1,636
Accounts receivables from:
Akzo Nobel 277 754
Solutia 27 443
Accounts payables to:
Akzo Nobel 8,578 9,026
Solutia 2,239 1,058
21
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
As mentioned in Note 1, on December 17, 2003 Solutia, Inc. and 14 of its
U.S. subsidiaries filed for voluntary petitions for reorganization under
Chapter 11 of the U.S. Bankruptcy Code. As of December 31, 2005, Flexsys has
recorded a $1,200 allowance for pre-petition net receivables due from
Solutia.
13. COMMITMENTS AND CONTINGENCIES
ANTITRUST LITIGATION
Antitrust authorities in the United States, Europe and Canada are continuing
to investigate past commercial practices in the rubber chemicals industry.
Flexsys remains a subject of such investigation and continues to fully
cooperate with the authorities in the ongoing investigation. In addition, a
number of purported civil class actions on behalf of consumers have been
filed against Flexsys and other producers of rubber chemicals.
U.S. State court actions against Flexsys.
- -----------------------------------------
Flexsys was a defendant in 22 purported class actions filed in various state
courts against Flexsys and other producers of rubber chemicals. Flexsys was
successful in getting many of those cases dismissed by the competent courts
and is presently aware of nine purported class actions that remain pending
in various state courts against Flexsys and other producers of rubber
chemicals seeking actual and treble damages under state law. Seven of these
cases purport to be on behalf of all retail purchasers of tires in the
respective states since as early as 1994 and two of the cases purport to be
on behalf of all retail purchasers of any product containing rubber
chemicals during the same period. All of these cases remain pending in
various procedural stages and no substantive discovery or other actions have
taken place. One case however has passed the stage of class certification:
By Order dated January 4, 2006, the Court of California issued its ruling in
the form of a Tentative Statement of Decision tentatively denying class
certification on several grounds. The Court has now confirmed its ruling in
a final order. Plaintiffs have announced that they intend to appeal from the
decision.
Canadian actions against Flexsys
- --------------------------------
In May 2004, two purported class actions were filed in the Province of
Quebec, Canada, against Flexsys and other rubber chemical producers alleging
that collusive sales and marketing activities of the defendants damaged all
persons in Quebec during the period July 1995 through September 2001.
Plaintiffs seek statutory damages of (CAD) $14,600 along with exemplary
damages of (CAD) $25 per person. In May 2005 a case was filed in Ontario,
Canada against Flexsys and other rubber chemical producers alleging the same
claims as in the Quebec cases and seeking damages of (CAD) $95,000 on
behalf of all persons in Canada injured by the alleged collusive activities
of the defendants. In August 2005, a similar case was filed in British
Columbia seeking unspecified damages under a variety of theories on behalf
of all purchasers of rubber chemicals and products containing rubber
chemicals in British Columbia. No responses are yet due nor have any been
filed by defendants in any of these cases.
Federal court actions by purchasers of rubber chemicals
- -------------------------------------------------------
Eight purported class actions filed in the U.S. District Court for the
Northern District of California on behalf of all individuals and entities
that had purchased rubber chemicals in the United States during the period
January 1, 1995 until October 10, 2002, against Flexsys and a number of
other companies producing rubber chemicals were consolidated into a single
action called In Re Rubber Chemicals Antitrust Litigation (the "Class
Action"). The Class Action alleged price-fixing and sought treble damages
and injunctive relief under U.S. antitrust laws on behalf of all the
plaintiffs. A settlement agreement was approved by the Court on June 21,
2005 releasing Flexsys and its predecessors in interest from any further
liability to the members of the class with respect to the allegations made
in the Class Action complaint.
22
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
RBX Industries, Inc. v. Bayer Corp., Flexsys, et.al., originally filed in
federal court in Pennsylvania in July 2004, was removed to the U.S. District
Court for the Northern District of California. This case alleges that during
the period 1995 through 2001 the defendants conspired through common
marketing and sales practices to cause plaintiffs to pay supra-competitive
prices for rubber chemicals and seeks treble damages. RBX Industries joined
the plaintiff class in the Class Action solely for the purpose of
participating in the above described settlement with Flexsys, Solutia and
Akzo.
In March 2005, Parker Hannifin filed an action in the U.S. District Court
for the Northern District of Ohio making the same allegations as were made
in the Class Action and the RBX Industries case. The case was removed to the
U.S. District Court for the Northern District of California. Parker Hannifin
joined the plaintiff class in the Class Action solely for the purpose of
participating in the above described settlement with Flexsys, Solutia and
Akzo.
Other than potential claims by two direct purchasers of small amounts of
rubber chemicals from Flexsys, who opted out of the Class, the settlement by
Flexsys of the Class Action (approximately $19,000) along with several
private settlements with large customers (approximately $60,000) for all
intents and purposes resolves all claims made in these cases by direct
United States purchasers of rubber chemicals against Flexsys under United
States antitrust laws for activities of Flexsys prior to the dates of the
settlements.
Federal court actions by indirect purchasers of rubber chemicals
- ----------------------------------------------------------------
Another alleged class action was filed in February 2005 in Tennessee state
court on behalf of all purchasers in Tennessee and certain other specified
states that, since January 1, 1994, purchased products (not limited to
tires) produced with rubber processing chemicals sold by the Defendants.
Gordon Ball, a Tennessee attorney, was counsel for plaintiff in this case.
Additionally, in February 2005, Gilman & Pastor LLP named Flexsys in four
lawsuits (in Pennsylvania, New York, Massachusetts, and California) alleging
price-fixing of certain products that Flexsys did not make. Flexsys was
served in Pennsylvania but not in the other states and Gilman & Pastor
agreed that service would not be attempted in those other cases. Flexsys was
dismissed from the Pennsylvania case on June 15, 2005.
Settlements
- -----------
Based on the Company's present understanding of the still outstanding
proceedings described above, Flexsys believes that it has substantial
defenses to these claims and intends to vigorously assert such defenses.
However, in the event that the Company is found to have violated the
applicable antitrust laws, consumer protection or unfair competition laws, a
direct or indirect purchaser may recover treble damages, the costs of suit
and reasonable attorneys' fees. As mentioned above, as of December 31, 2005,
Flexsys has paid a total of $79,000 in settlements. Management believes
that no amounts need to be accrued under SFAS No. 5, Accounting for
Contingencies, for the currently outstanding cases. While the ultimate
outcome and impact on the Company cannot be predicted with certainty,
management believes that the resolution of proceedings still outstanding
will not have a material adverse effect on the combined financial position
of the Company, although results of operations and cash flows could be
impacted in the reporting periods in which such matters are resolved.
DIOXIN
In January, 2005 the Company was serviced in connection with a class action
suit against Flexsys in the U.S. and certain related parties, including
Flexsys, Monsanto Company ("Monsanto"), and Akzo Nobel entities, notably not
including Solutia. The suit alleges that class members have been exposed to
potentially harmful levels of dioxin particles as a result of the production
of dioxin at the facility formerly occupied by Monsanto. The litigation also
claims that Flexsys may have been involved in the generation of dioxin
particles either as a successor to Monsanto or as an operator of certain
equipment at the site.
23
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
The plaintiffs seek, on behalf of themselves and others similarly situated,
compensatory damages based upon theories of nuisance and trespass,
injunctive relief prohibiting further release of dioxin/furan contaminated
dust from the plant, medical monitoring for detection of future adverse
health conditions caused by exposure to dioxins/furans and punitive damages.
The Flexsys companies have tendered their defense and have demanded
indemnification from Monsanto and Pharmacia, Inc ("Pharmacia"). The Flexsys
demand has been rejected and Flexsys has decided to pursue indemnification
as a cross-claim against Pharmacia.
While the ultimate outcome and impact on the Company cannot be predicted
with certainty, management believes that the resolution of proceedings still
outstanding will not have a material adverse effect on the combined
financial position of the Company, although results of operations and cash
flows could be impacted in the reporting periods in which such matters are
resolved.
PATENT DISPUTES
Flexsys believes that two Chinese companies, Sinorgchem and Xinda, are using
Flexsys process technology in China to produce 4-ADPA and 6PPD. Flexsys has
evidence that one of these companies, Sinorgchem, is exporting this product
into jurisdictions where Flexsys has patents, including Korea and the US.
More specifically, Korea Kumho Petrochemical Company ("KKPC") is a Korean
company that purchases 4-ADPA from Sinorgchem and processes it into 6PPD.
KKPC then sells its 6PPD to its sister company, Kumho Tire, and Michelin.
Kumho Tire uses the 6PPD to manufacture tires in Korea, which tires it then
exports to the US. Michelin takes delivery of the 6PPD that it buys from
KKPC in the US and uses it to make tires in the U.S. For this reason,
Flexsys has initiated certain legal proceedings to prevent such exports by
Sinorgchem into these two jurisdictions.
a) Korea: There are two separate PPD related IP litigation proceedings
-----
pending in Korea.
o Flexsys filed a patent infringement action in a Korean
District Court against KKPC. This is a civil action that seeks
monetary damages and injunctive relief. There was a formal
decision Dec 17, 2004 that denied the Flexsys request for
injunction. The basis of the decision was invalidity of the
patent. Flexsys then appealed the District Court decision to
the civil High Court. On October 12, 2005, the High Court
affirmed the decision of the District Court. Flexsys has filed
a notice of appeal to the Supreme Court of Korea.
o The second litigation proceeding in Korea is an invalidation
action filed by Sinorgchem against Flexsys before the Korean
Intellectual Property Tribunal ("IPT"). On September 30, 2005,
the IPT issued a decision largely, but not entirely, agreeing
with Sinorgchem's challenge to the Flexsys '063 patent. Two
dependent claims of the patent were found to be valid. Flexsys
has filed a notice of appeal to the Patent Court of Korea. The
Patent Court decision may also be appealed to the Supreme
Court.
b) U.S.: There are two separate PPD related IP litigation proceedings
----
pending in the US.
o Flexsys filed an International Trade Commission ("ITC") 337
action against Sinorgchem, KKPC, and Sovereign, one of its
distributors. A preliminary decision by the Administrative Law
Judge has been issued on February 17, 2006, which confirmed
the validity of the Flexsys patents and the infringement by
Sinorgchem of those patents. It also confirmed violation by
Sinorgchem and Sovereign of section 337 of the US Tariff Act.
The judge found no violation of said Act by KKPC. Review by
the full ITC Board and the President is expected to take a
further 5 months. The decision may be appealed to the US Court
of Appeals for the Federal Circuit, a process that normally
would take 8 to 12 months.
24
FLEXSYS GROUP
NOTES TO THE COMBINED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
(DOLLARS IN THOUSANDS EXCEPT SHARE AMOUNTS)
o Flexsys filed a patent infringement civil lawsuit in U.S.
District Court of Ohio against Sinorgchem, KKPC, Kumho Tire
Korea, Kumho Tire US and certain distributors. The suit seeks
monetary damages as well as injunctive relief. This action has
been stayed pending resolution of the ITC proceeding described
above.
Loss or partial loss by Flexsys in these legal proceedings represent a risk
to the Company in terms of potential lost sales volumes and gross profit
margin as a result of increased competitive activity.
OTHER LAWSUITS, THREATENED LAWSUITS AND CONTINGENCIES
Flexsys is party to lawsuits, threatened lawsuits, tax contingencies and
other claims arising out of the normal course of business. Management is of
the opinion that any liabilities that may result are adequately accrued for
at December 31, 2005, or would not be significant in relation to Flexsys'
financial position at December 31, 2005, or its results of operations for
the year then ended.
Litigation costs related to all of the above mentioned actions and lawsuits
amounted to approximately $9,000 in 2005.
OTHER COMMITMENTS
During fiscal 2000, Flexsys sold its Akron, Ohio facility and subsequently
leased it back under an operating lease. This transaction resulted in a
deferred gain of $5,900, which is being amortized over the 15-year lease
term.
Future minimum lease payments under the lease of its Akron, Ohio are as
follows:
2006 $ 834
2007 834
2008 834
2009 834
2010 834
Thereafter 3,463
-------
TOTAL $ 7,633
=======
Related rent expense was $834 for each of the years ended December 31,
2005, 2004 and 2003, respectively.
In addition to the lease of the Akron facility, the Company leases certain
facilities and equipment under operating leases. Total rental expense on
these other operating leases was $185, $234 and $207 for the years ended
December 31, 2005, 2004 and 2003, respectively.
At December 31, 2005, Flexsys had various property, plant and equipment and
raw material supply purchase commitments amounting to $121,111 (December
2004: $85,581) which are scheduled for payment within 12 months.
25