UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2006
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 001-13255
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SOLUTIA INC.
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(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 43-1781797
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(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.)
INCORPORATION OR ORGANIZATION)
575 MARYVILLE CENTRE DRIVE, P.O. BOX 66760, ST. LOUIS, MISSOURI 63166-6760
- --------------------------------------------------------------- ----------
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
(314) 674-1000
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(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS
TO BE FILED BY SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
DURING THE PRECEDING TWELVE 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
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INDICATE BY CHECK MARK WHETHER THE REGISTRANT IS A LARGE ACCELERATED
FILER, AN ACCELERATED FILER OR A NON-ACCELERATED FILER. SEE DEFINITION OF
"ACCELERATED FILER" AND "LARGE ACCELERATED FILER" IN RULE 12b-2 OF THE
EXCHANGE ACT (CHECK ONE):
LARGE ACCELERATED FILER ACCELERATED FILER X NON-ACCELERATED FILER .
--- --- ---
INDICATE BY CHECK MARK WHETHER THE REGISTRANT IS A SHELL COMPANY (AS
DEFINED IN RULE 12b-2 OF THE EXCHANGE ACT). YES NO X
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INDICATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE ISSUER'S CLASSES
OF COMMON STOCK, AS OF THE LATEST PRACTICABLE DATE.
OUTSTANDING AT
CLASS SEPTEMBER 30, 2006
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COMMON STOCK, $0.01 PAR VALUE 104,459,578 SHARES
- ----------------------------- ------------------
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
(DOLLARS AND SHARES IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------- -------------
2006 2005 2006 2005
---- ---- ---- ----
NET SALES ......................................................... $ 738 $ 661 $2,181 $2,105
Cost of goods sold................................................. 635 584 1,874 1,825
------ ------ ------ ------
GROSS PROFIT....................................................... 103 77 307 280
Marketing expenses................................................. 33 34 101 100
Administrative expenses............................................ 24 22 68 68
Technological expenses............................................. 11 11 35 33
Amortization expense............................................... -- 1 1 1
------ ------ ------ ------
OPERATING INCOME................................................... 35 9 102 78
Equity earnings from affiliates.................................... 7 13 28 48
Interest expense (a)............................................... (29) (20) (79) (64)
Other income, net.................................................. 4 2 11 7
Loss on debt modification.......................................... -- -- (8) --
Reorganization items, net.......................................... (19) (15) (51) (35)
------ ------ ------ ------
INCOME (LOSS) BEFORE INCOME TAX EXPENSE............................ (2) (11) 3 34
Income tax expense................................................. 4 5 11 18
------ ------ ------ ------
INCOME (LOSS) FROM CONTINUING OPERATIONS........................... (6) (16) (8) 16
Income from Discontinued Operations, net of tax.................... 50 1 58 4
------ ------ ------ ------
NET INCOME (LOSS).................................................. $ 44 $ (15) $ 50 $ 20
====== ====== ====== ======
BASIC AND DILUTED EARNINGS (LOSS) PER SHARE:
Income (Loss) from Continuing Operations........................... $(0.06) $(0.15) $(0.08) $ 0.15
Income from Discontinued Operations................................ 0.48 0.01 0.56 0.04
------ ------ ------ ------
Net Income (Loss).................................................. $ 0.42 $(0.14) $ 0.48 $ 0.19
====== ====== ====== ======
BASIC AND DILUTED WEIGHTED AVERAGE SHARES OUTSTANDING.............. 104.5 104.5 104.5 104.5
====== ====== ====== ======
<FN>
(a) Interest expense excludes unrecorded contractual interest expense of $8
for the three months ended September 30, 2006 and 2005, and $24 for the
nine months ended September 30, 2006 and 2005.
See accompanying Notes to Condensed Consolidated Financial Statements.
1
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
CONDENSED CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME (LOSS)
(DOLLARS IN MILLIONS)
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------- -------------
2006 2005 2006 2005
---- ---- ---- ----
NET INCOME (LOSS)................................................ $ 44 $ (15) $ 50 $ 20
OTHER COMPREHENSIVE INCOME (LOSS):
Net unrealized gain (loss) on derivative instruments, net of tax (1) 4 (2) 4
Currency translation adjustments ................................ (34) (1) (22) (8)
------ ------ ------ ------
COMPREHENSIVE INCOME (LOSS)...................................... $ 9 $ (12) $ 26 $ 16
====== ====== ====== ======
See accompanying Notes to Condensed Consolidated Financial Statements.
2
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
CONDENSED CONSOLIDATED STATEMENT OF FINANCIAL POSITION
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
SEPTEMBER 30, DECEMBER 31,
2006 2005
---- ----
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................................. $ 154 $ 107
Trade receivables, net of allowances of $8 in 2006 and $7 in 2005......... 325 246
Miscellaneous receivables ................................................ 77 95
Inventories............................................................... 302 254
Prepaid expenses and other assets......................................... 32 34
Assets of discontinued operations......................................... -- 69
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TOTAL CURRENT ASSETS...................................................... 890 805
PROPERTY, PLANT AND EQUIPMENT, net of accumulated depreciation of
$2,567 in 2006 and $2,482 in 2005.................................... 781 770
INVESTMENTS IN AFFILIATES................................................. 198 205
GOODWILL.................................................................. 89 76
IDENTIFIED INTANGIBLE ASSETS, net ........................................ 31 28
OTHER ASSETS.............................................................. 109 100
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TOTAL ASSETS.............................................................. $ 2,098 $1,984
======= =======
LIABILITIES AND SHAREHOLDERS' DEFICIT
CURRENT LIABILITIES:
Accounts payable ......................................................... $ 221 $ 218
Accrued liabilities ...................................................... 238 223
Short-term debt .......................................................... 650 300
Liabilities of discontinued operations.................................... 2 26
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TOTAL CURRENT LIABILITIES ................................................ 1,111 767
LONG-TERM DEBT ........................................................... 203 247
OTHER LIABILITIES ........................................................ 263 248
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TOTAL LIABILITIES NOT SUBJECT TO COMPROMISE............................... 1,577 1,262
LIABILITIES SUBJECT TO COMPROMISE ........................................ 1,949 2,176
SHAREHOLDERS' DEFICIT:
Common stock (authorized, 600,000,000 shares, par value $0.01)
Issued: 118,400,635 shares in 2006 and 2005........................... 1 1
Additional contributed capital........................................ 56 56
Treasury stock, at cost (13,941,057 shares in 2006 and 2005).......... (251) (251)
Net deficiency of assets at spinoff....................................... (113) (113)
Accumulated other comprehensive loss...................................... (117) (93)
Accumulated deficit....................................................... (1,004) (1,054)
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TOTAL SHAREHOLDERS' DEFICIT............................................... (1,428) (1,454)
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TOTAL LIABILITIES AND SHAREHOLDERS' DEFICIT............................... $ 2,098 $ 1,984
======= =======
See accompanying Notes to Condensed Consolidated Financial Statements.
3
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(DOLLARS IN MILLIONS)
(UNAUDITED)
NINE MONTHS ENDED
SEPTEMBER 30,
-------------
2006 2005
---- ----
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
OPERATING ACTIVITIES:
Net income..................................................................... $ 50 $ 20
Adjustments to reconcile net income to Cash From Operations:
Income from discontinued operations, net of tax........................... (58) (4)
Depreciation and amortization............................................. 83 84
Restructuring expenses and other charges (gains).......................... 3 3
Amortization of deferred credits.......................................... (6) (6)
Other, net................................................................ (2) (3)
Deferred Income Taxes..................................................... 2 7
Equity earnings from affiliates........................................... (28) (48)
Changes in assets and liabilities:
Income taxes payable................................................. 1 (16)
Trade receivables.................................................... (80) 7
Inventories.......................................................... (43) (6)
Accounts payable..................................................... 12 (19)
Other assets and liabilities......................................... 60 4
Liabilities subject to compromise:
Pension plan liabilities....................................... (153) 22
Other postretirement benefits liabilities...................... (45) (35)
Other liabilities subject to compromise........................ (9) (18)
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CASH USED IN OPERATING ACTIVITIES - CONTINUING OPERATIONS...................... (213) (8)
CASH PROVIDED BY OPERATING ACTIVITIES - DISCONTINUED OPERATIONS................ 2 6
----- -----
CASH USED IN OPERATING ACTIVITIES.............................................. (211) (2)
----- -----
INVESTING ACTIVITIES:
Property, plant and equipment purchases........................................ (75) (47)
Acquisition and investment payments............................................ (16) --
Investment and property disposals.............................................. 5 4
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CASH USED IN INVESTING ACTIVITIES - CONTINUING OPERATIONS...................... (86) (43)
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES - DISCONTINUED OPERATIONS...... 69 (4)
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CASH USED IN INVESTING ACTIVITIES.............................................. (17) (47)
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FINANCING ACTIVITIES:
Net change in short-term debt obligations...................................... 350 --
Payments on long-term debt obligations......................................... (51) --
Net change in cash collateralized letters of credit............................ -- 17
Deferred debt issuance costs................................................... (17) (1)
Other financing activities..................................................... (7) --
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CASH PROVIDED BY FINANCING ACTIVITIES - CONTINUING OPERATIONS.................. 275 16
----- -----
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS............................... 47 (33)
CASH AND CASH EQUIVALENTS:
BEGINNING OF YEAR.............................................................. 107 115
----- -----
END OF PERIOD.................................................................. $ 154 $ 82
===== =====
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash payments for reorganization items......................................... $ (46) $ (48)
===== =====
See accompanying Notes to Condensed Consolidated Financial Statements.
4
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
1. NATURE OF OPERATIONS AND BANKRUPTCY PROCEEDINGS
Nature of Operations
Solutia Inc., together with its subsidiaries (referred to herein as
"Solutia" or the "Company"), is a global manufacturer and marketer of a
variety of high-performance chemical-based materials. Solutia is a world
leader in performance films for laminated safety glass and after-market
applications; specialties such as water treatment chemicals, heat transfer
fluids and aviation hydraulic fluids; and an integrated family of nylon
products including high-performance polymers and fibers.
Prior to September 1, 1997, Solutia was a 100% owned subsidiary of the
former Monsanto Company (now known as Pharmacia Corporation, a 100% owned
subsidiary of Pfizer, Inc. ("Pharmacia")). On September 1, 1997, Pharmacia
distributed all of the outstanding shares of common stock of Solutia as a
dividend to Pharmacia stockholders (the "Solutia Spinoff"). As a result of the
Solutia Spinoff, on September 1, 1997, Solutia became an independent publicly
held company and its operations ceased to be owned by Pharmacia. A net
deficiency of assets of $113 resulted from the Solutia Spinoff.
Bankruptcy Proceedings
Overview
- --------
On December 17, 2003, Solutia Inc. and its 14 U.S. subsidiaries (the
"Debtors") filed voluntary petitions for reorganization under Chapter 11 of
the U.S. Bankruptcy Code (the "Chapter 11 Cases") in the U.S. Bankruptcy Court
for the Southern District of New York (the "Bankruptcy Court"). 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 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 to 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
post-retirement benefits (the "Legacy Liabilities") and liabilities under
operating contracts, all of which were assumed at the time of the Solutia
Spinoff. 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.
Under Chapter 11, Solutia is operating its businesses as a
debtor-in-possession ("DIP") under court protection from creditors and
claimants. Since the Chapter 11 filing, orders sufficient to enable Solutia to
conduct normal business activities, including the approval of Solutia's DIP
financing, have been entered by the Bankruptcy Court. While Solutia is subject
to Chapter 11, all transactions not in the ordinary course of business require
the prior approval of the Bankruptcy Court.
On January 16, 2004, pursuant to authorization from the Bankruptcy Court,
Solutia entered into a $525 DIP credit facility. This DIP facility consisted
of (i) a $50 multiple draw term loan; (ii) a $300 single draw term loan, which
was drawn in full on the effective date of the facility; and (iii) a $175
borrowing-based revolving credit facility, which included a $150 letter of
credit subfacility. The DIP credit facility was subsequently amended on March
1, 2004, July 20, 2004 and June 1, 2005. A fourth amendment was entered into
on March 17, 2006, all with Bankruptcy Court approval. The fourth amendment,
among other things, (i) increased the DIP facility from $525 to $825; (ii)
extended the term of the DIP facility from June 19, 2006 to March 31, 2007;
(iii) decreased the interest rate on the term loan component of the DIP
facility from LIBOR plus 425 basis points to LIBOR plus 350 basis points; (iv)
increased certain thresholds allowing the Debtors to retain more of the
proceeds from certain dispositions
5
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
and other extraordinary receipts; (v) approved the disposition of certain
assets of the Debtors; (vi) allowed refinancing of, and certain amendments to,
Solutia Europe S.A./N.V.'s outstanding Euronotes; and (vii) amended certain
financial and other covenants. The fourth amendment also contains a number of
other modifications required to make the remaining terms of the DIP facility
consistent with the amendments set forth above. The DIP credit facility, as
amended, currently consists of: (a) a $650 million fully-drawn term loan; and
(b) a $175 million borrowing-based revolving credit facility, which includes a
$150 million letter of credit subfacility.
As a consequence of the Chapter 11 filing, pending litigation against
Solutia is generally stayed, and no party may take any action to collect its
pre-petition claims except pursuant to order of the Bankruptcy Court. November
30, 2004 was the last date by which holders of pre-petition date claims
against the Debtors could file such claims. Any holder of a claim that was
required to file such claim by November 30, 2004, and did not do so may be
barred from asserting such claim against the Debtors and, accordingly, may not
be able to participate in any distribution on account of such claim.
Differences between claim amounts identified by the Debtors and claims filed
by claimants will be investigated and resolved in connection with the Debtors'
claims resolution process, and only holders of claims that are ultimately
allowed for purposes of the Chapter 11 case will be entitled to distributions.
Solutia has not yet fully completed its analysis of all the proofs of claim.
Since the settlement terms of allowed claims are subject to a confirmed plan
of reorganization, the ultimate distribution with respect to allowed claims is
not presently ascertainable.
On February 14, 2006, the Debtors filed with the Bankruptcy Court their
Joint Plan of Reorganization (the "Plan") and Disclosure Statement (the
"Disclosure Statement"). The Plan and Disclosure Statement along with the
Relationship Agreement (as defined below) and the Retiree Settlement
Agreement, entered into among Solutia, the Official Committee of Unsecured
Creditors (the "Unsecured Creditors' Committee") and Official Committee of
Retirees appointed in the Debtors' Chapter 11 Cases (the "Retirees'
Committee"), Monsanto Company ("Monsanto"), certain retirees and the other
parties thereto (the "Retiree Settlement"), set forth the terms of a global
settlement (the "Global Settlement") between Solutia, the Unsecured Creditors'
Committee, the Retirees' Committee, Monsanto and Pharmacia. The Global
Settlement provides for, among other things, the reallocation of certain
Legacy Liabilities among Solutia, Monsanto and Pharmacia and the treatment
various constituencies in the Chapter 11 Cases will receive under the Plan.
The Disclosure Statement contains a description of the events that led up to
the Debtors' bankruptcy filings, the actions the Debtors have taken to improve
their financial situation while in bankruptcy and a current description of the
Debtors' businesses. The reallocation of liabilities between Solutia and
Monsanto is set forth in a Relationship Agreement (the "Relationship
Agreement") to be entered into between Solutia and Monsanto upon confirmation
of the Plan. The Relationship Agreement was filed with the Bankruptcy Court on
February 14, 2006 as an exhibit to the Plan.
Solutia also issued a press release on February 14, 2006 announcing the
filing of the Plan and Disclosure Statement with the Bankruptcy Court. The
press release was furnished to the Securities and Exchange Commission in a
Form 8-K filed on February 14, 2006. The Plan, including the Relationship
Agreement and Retiree Settlement Agreement, and the Disclosure Statement were
furnished as exhibits to a Form 8-K filed on February 21, 2006.
The Plan, which incorporates the Relationship Agreement and Retiree
Settlement, is subject to approval by the Bankruptcy Court in accordance with
the Bankruptcy Code as well as various other conditions and contingencies,
some of which are not within the control of Solutia, and therefore are subject
to change and are not binding upon any party. The Disclosure Statement remains
subject to change pending a hearing in the Bankruptcy Court to consider the
legal adequacy of the Disclosure Statement. Once the Disclosure Statement is
approved by the Bankruptcy Court, it will be distributed to all constituencies
entitled to vote on the Plan. Solutia cannot provide any assurance that any
plan of reorganization ultimately confirmed by the Bankruptcy Court, or any
disclosure statement ultimately approved by the Bankruptcy Court, will be
consistent with the terms of the Plan and Disclosure Statement. The previously
scheduled Disclosure Statement hearing has been adjourned, and the Bankruptcy
Court has not yet rescheduled the hearing.
6
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
If confirmed, the Plan will provide Solutia with significant relief from
the Legacy Liabilities Solutia was required to assume in the Solutia Spinoff.
These Legacy Liabilities included: (1) retiree medical, retiree life insurance
and retiree disability benefits ("Retiree Welfare Benefits") for those
individuals who retired or became disabled prior to the Solutia Spinoff
("Pre-Spin Retirees"); (2) environmental remediation costs related to
activities of the chemicals business of Pharmacia that occurred prior to the
Solutia Spinoff; and (3) toxic tort litigation costs relating to chemical
exposure associated with the activities of Pharmacia that occurred prior to
the Solutia Spinoff.
Under the Plan, Solutia would emerge from bankruptcy as an independent
publicly held company ("reorganized Solutia"). The Plan provides for $250 of
new investment in reorganized Solutia. This new investment will be in the form
of a rights offering to certain unsecured creditors, who will be given the
opportunity to purchase 22.7 percent of the common stock in reorganized
Solutia. Monsanto will backstop the rights offering, meaning it will commit to
purchase up to the entire $250 of stock, to the extent the stock is not
purchased by eligible unsecured creditors in the rights offering.
Of this $250 new investment, $175 would be set aside in a Voluntary
Employees' Beneficiary Association ("VEBA") Retiree Trust to fund the Retiree
Welfare Benefits for those Pre-Spin Retirees who receive these benefits from
Solutia, and $50 would be used to fund reorganized Solutia's environmental
remediation commitments in Anniston, Alabama and Sauget, Illinois, as
described below. The remaining $25 would be available for reorganized Solutia
to pay any of the Legacy Liabilities that it is retaining.
Under the Plan and Relationship Agreement, as between Monsanto and
Solutia, Monsanto would be responsible, with certain exceptions, for all
current and future tort litigation costs arising from the conduct of
Pharmacia's chemical business prior to the Solutia Spinoff, including
litigation arising from exposure to polychlorinated biphenyls ("PCBs") and
other chemicals. In addition, Monsanto would accept financial responsibility
for environmental remediation obligations at all sites for which Solutia was
required to assume responsibility as part of the Solutia Spinoff but which
were never owned or operated by Solutia. These include more than 50 sites with
active remediation projects and approximately 200 additional known sites and
off-site disposal facilities, as well as sites that have not yet been
identified. Finally, Monsanto would share financial responsibility with
Solutia for off-site remediation costs in Anniston, Alabama and Sauget,
Illinois. Under this cost-sharing mechanism, the first $50 would be paid from
the proceeds of the rights offering (as described above), Monsanto would pay
the next $50 (less amounts it has paid for remediation at these sites during
the Chapter 11 Cases, which totaled over $30 as of January 31, 2006), Solutia
would be responsible for the next $325 in costs, and any further costs would
be shared equally between Solutia and Monsanto. Under certain circumstances,
Solutia would be able to defer paying a portion of its shared responsibility
with respect to the Anniston and Sauget sites in excess of $30 in any calendar
year, up to $25 in the aggregate. Any deferred amounts would be paid by
Monsanto, but subject to repayment by Solutia at a later date. The Plan and
Relationship Agreement provide that Solutia will continue to pay its annual
installment and education fund obligations relating to the August 2003
Anniston PCBs settlement and education fund obligations relating to the
Anniston Partial Consent Decree (as described in Note 10).
The Plan incorporates the terms of the Retiree Settlement Agreement,
which was negotiated with the Retirees' Committee, which represents more than
23,000 former employees of Pharmacia and Solutia and their dependents.
Although the Retiree Settlement Agreement includes benefit modifications, the
Plan, through the $175 from the rights offering that will be allocated to the
VEBA Trust, provides significant current funding which will greatly improve
Solutia's ability to meet these benefit obligations going forward. Under the
Retiree Settlement Agreement, retirees will retain certain company-provided
medical benefits, although the cost to retirees for such benefits will
increase. Many retirees will retain their company-provided life insurance
benefits, although some will experience a reduction in the benefit provided.
The Retiree Settlement Agreement also maintains Solutia's rights according to
a separate 2001 settlement and a post-settlement retiree medical plan, to make
certain changes, including the elimination of company-provided medical
benefits for certain groups of retirees that also are eligible for Medicare
coverage. In accordance with such rights, on October 18, 2006, Solutia and the
Retirees' Committee submitted a joint stipulation to the Bankruptcy Court
seeking its approval authorizing the Debtors, pursuant to Section
1114(e)(1)(B) of the Bankruptcy Code and the terms of the Forsberg settlement
and post-settlement plan, to
7
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
terminate effective January 1, 2007 medical benefits for certain retirees
who are Medicare eligible, and if not Medicare eligible, to terminate
medical benefits on the earlier (a) the date such retirees or participants
become Medicare eligible if such date is on or after January 1, 2007 or (b)
October 19, 2016. On October 30, 2006, an objection to this stipulation was
filed. If the objection is not consensually resolved, this matter will be
scheduled for hearing by the Bankruptcy Court.
In consideration of the benefit modifications being accepted by retirees
pursuant to the Retiree Settlement Agreement, the Plan contemplates that the
retirees would receive an allowed unsecured claim in the aggregate amount of
$35 in Solutia's bankruptcy case. The common stock in reorganized Solutia
received on account of this claim would be deposited in the VEBA Trust and
used to pay Retiree Welfare Benefits. This deposit would be in addition to the
$175 that would be contributed to the VEBA Trust from the proceeds of the
rights offering. The VEBA Trust would be a bankruptcy-remote entity and would
be managed by an independent trustee.
The Plan also provides for the assumption and extension of certain
commercial and operating agreements between Solutia and Monsanto. The Plan
seeks a release for Monsanto and Pharmacia from certain pre-Solutia Spinoff
liabilities, including those related to Retiree Welfare Benefits.
In the Disclosure Statement, Solutia estimated that the amount of allowed
general unsecured claims in its Chapter 11 case will be approximately $800 to
$1,000, the enterprise value of reorganized Solutia will be approximately
$2,000 to $2,300 and the reorganization equity value of reorganized Solutia
will be approximately $700 to $1,100. However, these amounts are estimates and
it is possible that the actual general unsecured claims pool, enterprise value
and equity value of reorganized Solutia will be outside of these estimated
ranges.
The Plan contains details regarding how the claims of each class of
creditors and interest holders will be treated. The Plan provides for
repayment of Solutia's secured debt and debtor-in-possession financing from an
exit financing package to be arranged by Solutia and does not require
termination of Solutia's pension plans. In consideration for its contributions
under the Plan, resolution of its claim in the Chapter 11 Cases and the
settlement of ongoing and potential litigation, among other things, Monsanto
would receive common stock in reorganized Solutia. If Monsanto is required to
make the full new money investment under the rights offering, Monsanto's
equity interest in reorganized Solutia is expected to range from approximately
45 percent to 49 percent, depending on the actual amount of allowed general
unsecured claims. The holders of allowed general unsecured claims would
receive the remainder of the common stock in reorganized Solutia, as described
below.
Based on the mid-point of the equity value of reorganized Solutia
described above, the Plan provides for distributions of common stock in
reorganized Solutia to holders of allowed unsecured claims in an amount
estimated at between 48 percent and 56 percent of their allowed claims.
However, this is only an estimated range of recoveries. Solutia is unable to
predict precisely what recovery the Plan will provide to these holders of
unsecured claims or how any potential modifications to the Plan will impact
these recoveries. Therefore, actual recoveries may be materially different
from these estimates. Furthermore, the equity interests received by holders of
allowed unsecured claims will be subject to dilution as a result of the
incentive stock option plan that is expected to be adopted by Solutia pursuant
to the Plan. The ultimate ownership interests in reorganized Solutia held by
Monsanto and other holders of unsecured claims will depend on, among other
factors, the amount of allowed unsecured claims in the bankruptcy case and the
number of rights exercised by unsecured creditors in the rights offering.
The Plan does not provide for distributions to the holders of Solutia's
existing equity. Under the Plan, Solutia's existing shares of common stock, as
well as options and warrants to purchase its common stock, would be cancelled
and holders of Solutia's common stock, including options and warrants to
purchase Solutia's common stock, would receive no consideration for that stock
or those options and warrants. Although the Plan does not provide for any
distributions to holders of Solutia's existing equity, the Official Committee
of Equity Security Holders in Solutia's bankruptcy case has filed a complaint
against Pharmacia and Monsanto, and an objection to the proofs of claim filed
by Monsanto and Pharmacia in Solutia's bankruptcy, arguing that holders of
Solutia's existing equity are entitled to a distribution on the basis of
several legal theories.
8
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
In order to exit Chapter 11, Solutia must propose and confirm a plan of
reorganization that satisfies the requirements of the U.S. Bankruptcy Code. As
provided by the U.S. Bankruptcy Code, Solutia had the exclusive right to
propose a plan of reorganization for 120 days following the Chapter 11 filing
date. The Bankruptcy Court has subsequently approved several extensions of the
exclusivity period. Most recently, on October 4, 2006, the Court entered a
Bridge Order extending the exclusivity period to the date upon which the Court
makes a final determination on the Debtors' Motion to extend such period. The
motion is currently set for hearing on November 16, 2006. Although Solutia
expects to receive further extensions of the exclusivity period, no assurance
can be given that any such future extension requests will be granted by the
Bankruptcy Court. Moreover, although Solutia has filed the Plan which provides
for Solutia's emergence from bankruptcy as a going concern, there can be no
assurance that the Plan, or any other plan of reorganization, will be
confirmed by the Bankruptcy Court or that any such plan will be implemented
successfully.
Basis of Presentation
- ---------------------
These financial statements should be read in conjunction with the audited
consolidated financial statements and notes to consolidated financial
statements included in Solutia's 2005 Annual Report on Form 10-K ("2005 Form
10-K"), filed with the Securities and Exchange Commission ("SEC") on March 15,
2006.
The condensed consolidated financial statements have been prepared in
accordance with Statement of Position 90-7 ("SOP 90-7"), Financial Reporting
by Entities in Reorganization Under the Bankruptcy Code, and on a going
concern basis, which assumes the continuity of operations and reflects the
realization of assets and satisfaction of liabilities in the ordinary course
of business. Continuation of the Company as a going concern is contingent
upon, among other things, Solutia's ability (i) to comply with the terms and
conditions of its DIP financing; (ii) to obtain confirmation of a plan of
reorganization under the U.S. Bankruptcy Code; (iii) to return to
profitability; (iv) to generate sufficient cash flow from operations; and
(v) to obtain financing sources to meet the Company's future obligations.
These matters create uncertainty about the Company's ability to continue as
a going concern. The condensed consolidated financial statements do not
reflect any adjustments relating to the recoverability and classification of
recorded asset amounts or the amounts and classification of liabilities that
might result from the outcome of these uncertainties. Additionally, a
confirmed plan of reorganization could materially change amounts reported in
the condensed consolidated financial statements, which do not give effect to
all adjustments of the carrying value of assets and liabilities that are
necessary as a consequence of reorganization under Chapter 11.
The accompanying unaudited condensed consolidated financial statements
reflect all adjustments that, in the opinion of management, are necessary to
present fairly the financial position, results of operations, comprehensive
income (loss), and cash flows for the interim periods reported. Such
adjustments are of a normal, recurring nature. In addition, footnote
disclosures which would substantially duplicate the disclosures in the
audited consolidated financial statements have been omitted in the
accompanying unaudited condensed consolidated financial statements. The
results of operations for the three and nine month periods ended September
30, 2006 are not necessarily indicative of the results to be expected for
the full year.
Condensed Consolidating Financial Statements
- --------------------------------------------
Condensed consolidating financial statements for Solutia and subsidiaries
in reorganization and subsidiaries not in reorganization as of September 30,
2006 and December 31, 2005, and for the three and nine months ended September
30, 2006 and September 30, 2005 are presented below. These condensed
consolidating financial statements include investments in subsidiaries carried
under the equity method.
9
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONSENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2006
SOLUTIA AND SUBSIDIARIES SOLUTIA AND
SUBSIDIARIES IN NOT IN SUBSIDIARIES
REORGANIZATION REORGANIZATION ELIMINATIONS CONSOLIDATED
-------------- -------------- ------------ ------------
NET SALES................................. $ 614 $248 $(124) $ 738
Cost of goods sold........................ 550 212 (127) 635
------------------------------------------------------------------
GROSS PROFIT.............................. 64 36 3 103
Marketing, administrative and
technological expenses.................. 53 15 -- 68
Amortization expense...................... (1) 1 -- --
------------------------------------------------------------------
OPERATING INCOME.......................... 12 20 3 35
Equity earnings (loss) from affiliates.... 64 (1) (56) 7
Interest expense.......................... (22) (7) -- (29)
Other income, net......................... 10 -- (6) 4
Reorganization items, net................. (19) -- -- (19)
------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES......... 45 12 (59) (2)
Income tax expense........................ 3 2 (1) 4
------------------------------------------------------------------
INCOME (LOSS) FROM CONTINUING
OPERATIONS.............................. 42 10 (58) (6)
Income from discontinued operations,
net of tax.............................. 2 48 -- 50
------------------------------------------------------------------
NET INCOME ............................... $ 44 $ 58 $ (58) $ 44
==================================================================
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006
SOLUTIA AND SUBSIDIARIES SOLUTIA AND
SUBSIDIARIES IN NOT IN SUBSIDIARIES
REORGANIZATION REORGANIZATION ELIMINATIONS CONSOLIDATED
-------------- -------------- ------------ ------------
NET SALES................................. $1,804 $723 $(346) $2,181
Cost of goods sold........................ 1,613 623 (362) 1,874
------------------------------------------------------------------
GROSS PROFIT.............................. 191 100 16 307
Marketing, administrative and
technological expenses.................. 161 43 -- 204
Amortization expense...................... -- 1 -- 1
------------------------------------------------------------------
OPERATING INCOME.......................... 30 56 16 102
Equity earnings (loss) from affiliates.... 116 (3) (85) 28
Interest expense.......................... (61) (18) -- (79)
Other income, net......................... 27 3 (19) 11
Loss on debt modification................. (8) -- -- (8)
Reorganization items, net................. (51) -- -- (51)
------------------------------------------------------------------
INCOME BEFORE INCOME TAXES................ 53 38 (88) 3
Income tax expense ....................... 4 8 (1) 11
------------------------------------------------------------------
INCOME (LOSS) FROM CONTINUING
OPERATIONS.............................. 49 30 (87) (8)
Income from discontinued operations,
net of tax.............................. 1 57 -- 58
------------------------------------------------------------------
NET INCOME................................ $ 50 $ 87 $ (87) $ 50
==================================================================
10
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2005
SOLUTIA AND SUBSIDIARIES SOLUTIA AND
SUBSIDIARIES IN NOT IN SUBSIDIARIES
REORGANIZATION REORGANIZATION ELIMINATIONS CONSOLIDATED
-------------- -------------- ------------ ------------
NET SALES................................. $ 538 $222 $ (99) $ 661
Cost of goods sold........................ 501 188 (105) 584
------------------------------------------------------------------
GROSS PROFIT.............................. 37 34 6 77
Marketing, administrative and
technological expenses.................. 53 15 (1) 67
Amortization expense...................... 1 -- -- 1
------------------------------------------------------------------
OPERATING INCOME (LOSS)................... (17) 19 7 9
Equity earnings (loss) from affiliates.... 25 (1) (11) 13
Interest expense.......................... (14) (6) -- (20)
Other income, net......................... 9 1 (8) 2
Reorganization items, net................. (16) 1 -- (15)
------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES ........ (13) 14 (12) (11)
Income tax expense ....................... 1 4 -- 5
------------------------------------------------------------------
INCOME (LOSS) FROM CONTINUING
OPERATIONS.............................. (14) 10 (12) (16)
Income (loss) from discontinued
operations, net of tax.................. (1) 2 -- 1
------------------------------------------------------------------
NET INCOME (LOSS)......................... (15) 12 (12) (15)
==================================================================
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005
SOLUTIA AND SUBSIDIARIES SOLUTIA AND
SUBSIDIARIES IN NOT IN SUBSIDIARIES
REORGANIZATION REORGANIZATION ELIMINATIONS CONSOLIDATED
-------------- -------------- ------------ ------------
NET SALES................................. $1,733 $674 $(302) $2,105
Cost of goods sold........................ 1,578 569 (322) 1,825
------------------------------------------------------------------
GROSS PROFIT.............................. 155 105 20 280
Marketing, administrative and
technological expenses.................. 158 44 (1) 201
Amortization expense...................... 1 -- -- 1
------------------------------------------------------------------
OPERATING INCOME (LOSS)................... (4) 61 21 78
Equity earnings (loss) from affiliates.... 89 (3) (38) 48
Interest expense.......................... (46) (18) -- (64)
Other income, net......................... 19 8 (20) 7
Reorganization items, net................. (33) (2) -- (35)
------------------------------------------------------------------
INCOME BEFORE INCOME TAXES ............... 25 46 (37) 34
Income tax expense ....................... 3 15 -- 18
------------------------------------------------------------------
INCOME FROM CONTINUING OPERATIONS......... 22 31 (37) 16
Income (loss) from discontinued
operations, net of tax.................. (2) 6 -- 4
------------------------------------------------------------------
NET INCOME................................ 20 37 (37) 20
==================================================================
11
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
CONDENSED CONSOLIDATING BALANCE SHEET AS OF SEPTEMBER 30, 2006
SOLUTIA AND SUBSIDIARIES SOLUTIA AND
SUBSIDIARIES IN NOT IN SUBSIDIARIES
REORGANIZATION REORGANIZATION ELIMINATIONS CONSOLIDATED
-------------- -------------- ------------ ------------
ASSETS
Current assets ................................... $ 548 $ 423 $ (81) $ 890
Property, plant and equipment, net................ 661 120 -- 781
Investment in subsidiaries and affiliates......... 469 218 (489) 198
Goodwill and identified intangible assets, net.... 100 20 -- 120
Other assets...................................... 59 50 -- 109
-----------------------------------------------------------------------
TOTAL ASSETS................................... $ 1,837 $ 831 $(570) $ 2,098
=======================================================================
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current liabilities .............................. $ 1,014 $158 $ (61) $ 1,111
Long-term debt.................................... -- 203 -- 203
Other liabilities................................. 193 70 -- 263
-----------------------------------------------------------------------
TOTAL LIABILITIES NOT SUBJECT TO COMPROMISE....... 1,207 431 (61) 1,577
LIABILITIES SUBJECT TO COMPROMISE................. 2,058 -- (109) 1,949
TOTAL SHAREHOLDERS' EQUITY (DEFICIT).............. (1,428) 400 (400) (1,428)
-----------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY
(DEFICIT)....................................... $ 1,837 $831 $(570) $ 2,098
=======================================================================
CONDENSED CONSOLIDATING BALANCE SHEET AS OF DECEMBER 31, 2005
SOLUTIA AND SUBSIDIARIES SOLUTIA AND
SUBSIDIARIES IN NOT IN SUBSIDIARIES
REORGANIZATION REORGANIZATION ELIMINATIONS CONSOLIDATED
-------------- -------------- ------------ ------------
ASSETS............................................
Current assets.................................... $ 447 $ 430 $ (72) $ 805
Property, plant and equipment, net................ 674 96 -- 770
Investment in subsidiaries and affiliates......... 388 213 (396) 205
Goodwill and identified intangible assets, net.... 100 4 -- 104
Other assets...................................... 62 38 -- 100
-----------------------------------------------------------------------
TOTAL ASSETS............................. $ 1,671 $ 781 $(468) $ 1,984
=======================================================================
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current liabilities............................... $ 644 $ 176 $(53) $ 767
Long-term debt.................................... -- 247 -- 247
Other liabilities................................. 201 47 -- 248
-----------------------------------------------------------------------
TOTAL LIABILITIES NOT SUBJECT TO COMPROMISE....... 845 470 (53) 1,262
LIABILITIES SUBJECT TO COMPROMISE ................ 2,280 -- (104) 2,176
TOTAL SHAREHOLDERS' EQUITY (DEFICIT).............. (1,454) 311 (311) (1,454)
-----------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY
(DEFICIT)....................................... $ 1,671 $ 781 $(468) $ 1,984
=======================================================================
12
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006
SOLUTIA AND SUBSIDIARIES SOLUTIA AND
SUBSIDIARIES IN NOT IN SUBSIDIARIES
REORGANIZATION REORGANIZATION ELIMINATIONS CONSOLIDATED
-------------- -------------- ------------ ------------
Net Cash Provided by (Used in) Operating
Activities...................................... $(254) $ 43 $ -- $(211)
Net Cash Provided by (Used in) Investing
Activities...................................... (72) 55 -- (17)
Net Cash Provided by (Used in) Financing
Activities...................................... 347 (72) -- 275
-----------------------------------------------------------------------
Net Increase in Cash and Cash Equivalents......... 21 26 -- 47
Cash and Cash Equivalents:
Beginning of year............................... 18 89 -- 107
-----------------------------------------------------------------------
End of period................................... $ 39 $115 $ -- $ 154
=======================================================================
CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005
SOLUTIA AND SUBSIDIARIES SOLUTIA AND
SUBSIDIARIES IN NOT IN SUBSIDIARIES
REORGANIZATION REORGANIZATION ELIMINATIONS CONSOLIDATED
-------------- -------------- ------------ ------------
Net Cash Provided by (Used in) Operating
Activities...................................... $ (42) $ 40 $ -- $ (2)
Net Cash Used in Investing Activities............. (34) (13) -- (47)
Net Cash Provided by (Used in) Financing
Activities...................................... 32 (16) -- 16
-----------------------------------------------------------------------
Net Increase (Decrease) in Cash and Cash
Equivalents..................................... (44) 11 -- (33)
Cash and Cash Equivalents:
Beginning of year............................... 50 65 -- 115
-----------------------------------------------------------------------
End of period................................... $ 6 $ 76 $ -- $ 82
=======================================================================
2. SIGNIFICANT ACCOUNTING POLICIES
Financial Statement Presentation
The condensed consolidated financial statements have been prepared in
accordance with Statement of Position 90-7 ("SOP 90-7"), Financial Reporting
by Entities in Reorganization Under the Bankruptcy Code, and on a going
concern basis, which assumes the continuity of operations and reflects the
realization of assets and satisfaction of liabilities in the ordinary course
of business. However, as a result of the Chapter 11 bankruptcy proceedings,
such realization of assets and satisfaction of liabilities are subject to a
significant number of uncertainties that have not been reflected in the
condensed consolidated financial statements.
Basis of Consolidation
The condensed consolidated financial statements include the accounts of
Solutia and its majority-owned subsidiaries. All significant intercompany
transactions and balances have been eliminated in consolidation. Companies
in which Solutia has a significant interest but not a controlling interest
are accounted for under the equity method of accounting and included in
Investments in Affiliates in the Condensed Consolidated Statement of
Financial Position. Solutia's proportionate share of these companies' net
earnings or losses is reflected in Equity Earnings (Loss) from Affiliates in
the Condensed Consolidated Statement of Operations. In accordance with
Financial Accounting Standards Board ("FASB") Interpretation No. 46,
Consolidation of Variable Interest Entities,
13
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
as amended, variable interest entities in which Solutia is the primary
beneficiary are consolidated within the condensed consolidated financial
statements.
Use of 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 reported amounts
of assets and liabilities and the disclosure of contingent assets and
liabilities at the date of the financial statements which affect revenues and
expenses during the period reported. Estimates are adjusted when necessary to
reflect actual experience. Significant estimates were used to account for
restructuring reserves, environmental reserves, self-insurance reserves,
employee benefit plans, intangible assets, income taxes, asset impairments and
contingencies. Actual results, particularly with respect to those matters
affected by the Chapter 11 bankruptcy proceedings, could materially differ
from those estimates.
Cash and Cash Equivalents
Cash and cash equivalents consist of cash and temporary investments with
maturities of three months or less when purchased.
Inventory Valuation
Inventories are stated at cost or market, whichever is less. Actual cost
is used to value raw materials and supplies. Standard cost, which approximates
actual cost, is used to value finished goods and goods in process. Standard
cost includes direct labor and raw materials, and manufacturing overhead based
on normal capacity. The cost of inventories in the United States, excluding
supplies (74 percent as of September 30, 2006, and 73 percent as of December
31, 2005) is determined by the last-in, first-out ("LIFO") method, which
generally reflects the effects of inflation or deflation on cost of goods sold
sooner than other inventory cost methods. The cost of inventories outside the
United States, as well as supplies inventories in the United States, is
determined by the first-in, first-out ("FIFO") method.
Property, Plant and Equipment
Property, plant and equipment are recorded at cost. The cost of plant and
equipment is depreciated over 5 to 35 years for buildings and improvements and
3 to 15 years for machinery and equipment, by the straight-line method.
Periodically, Solutia conducts a complete shutdown of certain manufacturing
units ("turnaround") to perform necessary inspections, repairs and
maintenance. Costs associated with significant turnarounds, which include
estimated costs for material, labor, supplies and contractor assistance, are
accrued ratably during the period between each planned activity, which
generally occur every 2 to 3 years.
Intangible Assets
Intangible assets that have finite useful lives are amortized on a
straight-line basis over their useful lives, generally periods ranging from 5
to 20 years. Goodwill and indefinite-lived intangible assets are assessed
annually for impairment in the fourth quarter, or more frequently if changes
in circumstances indicate they may not be recoverable.
Impairment of Long-Lived Assets
Impairment tests of long-lived assets are made when conditions indicate a
possible loss. Impairment tests are based on a comparison of undiscounted cash
flows to the recorded value of the asset. If an impairment is indicated, the
asset value is written down to its fair value based upon market prices or, if
not available, upon discounted cash value, at an appropriate discount rate.
14
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
Environmental Remediation
Costs for remediation of waste disposal sites are accrued in the
accounting period in which the obligation is probable and when the cost is
reasonably estimable. Environmental liabilities are not discounted, and they
have not been reduced for any claims for recoveries from third parties. In
those cases where third-party indemnitors have agreed to pay any amounts and
management believes that collection of such amounts is probable, the amounts
are reflected as receivables in the condensed consolidated financial statements.
Self-Insurance and Insurance Recoveries
Solutia maintains self-insurance reserves to reflect its estimate of
uninsured losses. Self-insured losses are accrued based upon estimates of the
aggregate liability for claims incurred using certain actuarial assumptions
followed in the insurance industry, Solutia's historical experience and
certain case specific reserves as required, including estimated legal costs.
The maximum extent of the self-insurance provided by Solutia is dependent upon
a number of factors including the facts and circumstances of individual cases
and the terms and conditions of the commercial policies. Solutia has purchased
commercial insurance in order to reduce its exposure to workers' compensation,
product, general, automobile and property liability claims. Policies for
periods prior to the spinoff are shared with Pharmacia. This insurance has
varying policy limits and deductibles.
Insurance recoveries are estimated in consideration of expected losses,
coverage limits and policy deductibles. When recovery from an insurance policy
is considered probable, a receivable is recorded.
Revenue Recognition
Solutia's primary revenue-earning activities involve producing and
delivering goods. Revenues are considered to be earned when Solutia has
completed the process by which it is entitled to such revenues. The following
criteria are used for revenue recognition: persuasive evidence that an
arrangement exists, delivery has occurred, selling price is fixed or
determinable and collection is reasonably assured. In the case of the
Pharmaceutical Services business, revenues are primarily recorded as services
are rendered.
Allowance for Doubtful Accounts
The provisions for losses on uncollectible trade receivables are
determined primarily on the basis of past collection experience applied to
ongoing evaluations of Solutia's receivables and evaluations of the risks of
uncollectibility.
Distribution Costs
Solutia includes inbound freight charges, purchasing and receiving costs,
inspection costs, warehousing costs, internal transfer costs and the other
costs of its distribution network in Cost of Goods Sold in the Condensed
Consolidated Statement of Operations.
Shipping and Handling Costs
Amounts billed for shipping and handling are included in Net Sales and
the costs incurred for these activities are included in Cost of Goods Sold in
the Condensed Consolidated Statement of Operations.
15
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
Derivative Financial Instruments
In accordance with Statement of Financial Accounting Standards ("SFAS")
No. 133, Accounting for Derivative Instruments and Hedging Activities, as
amended, all derivatives, whether designated for hedging relationships or
not, are recognized in the Condensed Consolidated Statement of Financial
Position at their fair value.
Currency forward and option contracts are used to manage currency
exposures for financial instruments denominated in currencies other than the
entity's functional currency. Solutia has chosen not to designate these
instruments as hedges and to allow the gains and losses that arise from
marking the contracts to market to be included in Other Income, net in the
Condensed Consolidated Statement of Operations.
Natural gas forward and option contracts are used to manage some of the
exposure for the cost of natural gas. These market instruments are designated
as cash flow hedges. The mark-to-market gain or loss on qualifying hedges is
included in Accumulated Other Comprehensive Loss in the Condensed Consolidated
Statement of Financial Position to the extent effective, and reclassified into
Cost of Goods Sold in the Condensed Consolidated Statement of Operations in
the period during which the hedged transaction affects earnings. The
mark-to-market gains or losses on ineffective portions of hedges are
recognized in Cost of Goods Sold immediately.
Income Taxes
Solutia accounts for income taxes using the asset and liability method.
Under this method, deferred tax assets and liabilities are recognized for the
future tax consequences of temporary differences between the carrying amounts
and tax bases of assets and liabilities at enacted rates. Solutia determines
the appropriateness of valuation allowances in accordance with the "more
likely than not" recognition criteria outlined in SFAS No. 109, Accounting for
Income Taxes.
Currency Translation
The local currency has been used as the functional currency for nearly
all worldwide locations. The financial statements for most of Solutia's
ex-U.S. operations are translated into U.S. dollars at current or average
exchange rates. Unrealized currency translation adjustments are included in
Accumulated Other Comprehensive Loss in the Condensed Consolidated Statement
of Financial Position.
Earnings (Loss) per Share
Basic earnings (loss) per share is a measure of operating performance
that assumes no dilution from securities or contracts to issue common stock.
Diluted earnings (loss) per share is a measure of operating performance by
giving effect to the dilution that would occur if securities or contracts to
issue common stock were exercised or converted.
Stock Option Plans
As of January 1, 2006, Solutia adopted SFAS No. 123 (revised 2004),
Share-Based Payment ("SFAS No. 123(R)"), using the modified prospective
method, which requires measurement of compensation cost for all stock-based
awards at fair value on the date of grant and recognition of compensation
over the service period for awards expected to vest. The fair value of stock
options is determined using the Black-Scholes valuation model, which is
consistent with valuation techniques previously utilized for options in
footnote disclosures required under SFAS No. 123, Accounting for Stock Based
Compensation, as amended by SFAS No. 148, Accounting for Stock-Based
Compensation--Transition and Disclosure. Such value is recognized as expense
over the service period, net of estimated forfeitures, using the
straight-line method under SFAS No. 123(R). The estimation of stock awards
that will ultimately vest requires judgment, and to the extent actual
results or updated estimates differ from
16
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
our current estimates, such amounts will be recorded as a cumulative
adjustment in the period estimates are revised. Additionally, Solutia
believes that its plan of reorganization will provide for cancellation of
its existing shares of common stock, as well as options and warrants to
purchase its common stock, and that it is unlikely that holders of options
to purchase Solutia's common stock will receive any consideration for those
options in such a plan of reorganization.
Recently Issued Accounting Pronouncements
In July 2006, the Financial Accounting Standards Board ("FASB") issued
FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes, ("FIN
48"). FIN 48 creates a single model to address uncertainty in tax positions
and clarifies the accounting for income taxes by prescribing the minimum
recognition threshold a tax position is required to meet before being
recognized in the financial statements. FIN 48 also provides guidance on
derecognition, measurement, classification, interest and penalties, accounting
in interim periods, disclosure and transition. In addition, FIN 48 eliminates
income taxes from the scope of SFAS No. 5, Accounting for Contingencies.
FIN 48 is effective for fiscal years beginning after December 15, 2006
(i.e., effective January 1, 2007 for Solutia). Differences between the amounts
recognized in the statements of financial position prior to the adoption of
FIN 48 and the amounts reported after adoption will be accounted for as a
cumulative effect adjustment recorded to the beginning balance of retained
earnings. The cumulative effect adjustment would not apply to those items that
would not have been recognized in earnings, such as the effect of adopting FIN
48 on tax positions related to business combinations. Solutia is currently
evaluating the impact of FIN 48 on the consolidated financial statements.
In September 2006, the FASB issued SFAS No. 158, Employers' Accounting
for Defined Benefit Pension and Other Postretirement Plans ("SFAS No. 158").
SFAS No. 158 requires the recognition of the funded status of pension and
other postretirement benefit plans on the balance sheet. The overfunded or
underfunded status would be recognized as an asset or liability on the balance
sheet with changes occurring during the current year reflected through the
comprehensive income portion of equity. Further, SFAS No. 158 requires the
unrecognized transition asset or obligation, gains or losses, and prior
service costs to be recognized as a component of other comprehensive income,
net of tax. The Statement will also require the measurement of the funded
status of a plan to match that of the date of the Company's fiscal-year-end
financial statements, eliminating the use of earlier measurement dates
previously permissible. The portions of SFAS No. 158 relating to the
recognition of the funded status of a plan and the unrecognized components of
net periodic benefit cost are effective for fiscal years ending after December
15, 2006 (i.e., effective December 31, 2006 for Solutia). Solutia is currently
evaluating the financial impact of SFAS No. 158 on the consolidated financial
statements.
In September 2006, the FASB issued FASB Staff Position AUG AIR-1,
Accounting For Planned Major Maintenance Activities ("FSP AUG AIR-1"), that
eliminates the acceptability of the accrue-in-advance method of accounting for
planned major maintenance activities. This staff position is effective for
fiscal years beginning after December 15, 2006 (i.e., effective January 1,
2007 for Solutia) and requires retrospective application to all prior period
results presented. The Company has been accruing for certain major maintenance
activities associated with periodic major overhauls and maintenance of
equipment under the accrue-in-advance method. Solutia is currently evaluating
the financial impact of FSP AUG AIR-1 on the consolidated financial
statements.
3. LIABILITIES SUBJECT TO COMPROMISE AND REORGANIZATION ITEMS, NET
Liabilities Subject to Compromise
Under Chapter 11 of the U.S. Bankruptcy Code, certain claims against
Solutia in existence prior to the filing of the petitions for relief under the
federal bankruptcy laws are stayed while Solutia continues business operations
as a debtor-in-possession. These estimated claims are reflected in the
Condensed Consolidated Statement of Financial Position as Liabilities Subject
to Compromise as of September 30, 2006 and December 31, 2005 and are
summarized in the table below. Such claims remain subject to future
adjustments. Adjustments may result from
17
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
actions of the bankruptcy court, negotiations with claimants, rejection or
assumption of executory contracts, determination of value of any collateral
securing claims, reconciliation of proofs of claim or other events.
Solutia has received approval from the Bankruptcy Court to pay or
otherwise honor certain of its pre-petition obligations, including (i) certain
pre-petition compensation to employees and employee-equivalent independent
contractors; (ii) business expenses of employees; (iii) obligations under
employee benefit plans; (iv) employee payroll deductions and withholdings; (v)
costs and expenses incident to the foregoing payments (including
payroll-related taxes and processing costs); (vi) certain pre-petition
workers' compensation claims, premiums and related expenses; (vii) certain
pre-petition trust fund and franchise taxes; (viii) pre-petition claims of
certain contractors, freight carriers, processors, customs brokers and related
parties; (ix) customer accommodation programs; and (x) pre-petition claims of
critical vendors in the ordinary course of business. Accordingly, these
pre-petition items have been excluded from Liabilities Subject to Compromise
as of September 30, 2006 and December 31, 2005, as applicable.
The amounts subject to compromise consisted of the following items:
SEPTEMBER 30, DECEMBER 31,
2006 2005
---- ----
Postretirement benefits (a)............................... $ 900 $1,098
Litigation reserves (b)................................... 111 136
Accounts payable (c)...................................... 116 118
Environmental reserves (d)................................ 81 82
Other miscellaneous liabilities........................... 73 74
6.72% debentures due 2037 (e)............................. 150 150
7.375% debentures due 2027 (e)............................ 300 300
11.25% notes due 2009 (f)................................. 223 223
Other (g)................................................. 43 43
------ ------
716 716
Unamortized debt discount and debt issuance costs......... (48) (48)
------ ------
TOTAL DEBT SUBJECT TO COMPROMISE..................... 668 668
------ ------
TOTAL LIABILITIES SUBJECT TO COMPROMISE................... $1,949 $2,176
====== ======
<FN>
(a) Postretirement benefits include Solutia's domestic (i) qualified pension
plan liabilities of $348 and $501 as of September 30, 2006 and December
31, 2005, respectively; (ii) non-qualified pension plan liabilities of
$19 as of both September 30, 2006 and December 31, 2005; and (iii) other
postretirement benefits liabilities of $533 and $578 as of September 30,
2006 and December 31, 2005, respectively. Pursuant to a bankruptcy court
order, Solutia made payments with respect to other postretirement
obligations of approximately $70 in the nine months ended September 30,
2006. Solutia also made $161 of contributions to its qualified pension
plan pursuant to IRS funding requirements in the nine months ended
September 30, 2006.
(b) An automatic stay has been imposed against the commencement or
continuation of legal proceedings against Solutia outside of the
bankruptcy court process. Consequently, Solutia's accrued liability
with respect to pre-petition legal proceedings has been classified as
subject to compromise as of September 30, 2006 and December 31, 2005.
During the second quarter 2006 Solutia transferred out of liabilities
subject to compromise $20 of litigation reserves related to the PENNDOT
litigation matter that were no longer deemed uncertain as a result of a
favorable court ruling (as further described in Note 10). Pursuant to a
bankruptcy court order, Solutia made a scheduled payment of $5 in the
third quarter 2006 with respect to the Anniston litigation settlement
reached in 2003.
(c) Pursuant to bankruptcy court orders, Solutia settled certain accounts
payable liabilities subject to compromise in the nine months ended
September 30, 2006.
(d) Represents remediation obligations related primarily to properties that
are not owned or operated by Solutia, including non-owned properties
adjacent to plant sites and certain owned offsite disposal locations. See
Note 10 for further disclosure with respect to ongoing legal proceedings
concerning environmental liabilities subject to compromise.
18
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
(e) While operating during the Chapter 11 bankruptcy proceedings, Solutia
has ceased recording interest on its 6.72% debentures due 2037 and its
7.375% debentures due 2027. The amount of contractual interest expense
not recorded in the nine months ended September 30, 2006 was
approximately $24.
(f) Pursuant to a bankruptcy court order, Solutia is required to continue
payments of the contractual interest on its 11.25% notes due 2009 as a
form of adequate protection under the U.S. Bankruptcy Code; provided,
however, that Solutia's official committee of unsecured creditors (the
"Creditors' Committee") has the right at any time, and Solutia has the
right at any time after the payment of the contractual interest made in
July 2005, to seek to terminate Solutia's obligation to continue making
the interest payments. Solutia or the Creditors' Committee could
successfully terminate all or part of Solutia's interest payment
obligations only after a showing that the noteholders are not entitled
to adequate protection, which would depend, among other things, on the
value of the collateral securing the notes as of December 17, 2003, and
whether that value is decreasing during the course of Solutia's
bankruptcy case. The amount of contractual interest paid with respect
to these notes was approximately $25 in the nine months ended September
30, 2006, and the accrued interest related to these notes was included
in Accrued Liabilities classified as not subject to compromise as of
September 30, 2006 and December 31, 2005.
(g) Represents the debt obligation incurred upon the consolidation of the
assets and liabilities of a synthetic lease structure consolidated as
part of the adoption of FASB Interpretation No. 46, Consolidation of
Variable Interest Entities. The obligation represents the synthetic lease
arrangement with respect to Solutia's headquarters building.
Reorganization Items, Net
Reorganization items, net are presented separately in the Condensed
Consolidated Statement of Operations and represent items of income, expense,
gain or loss that are realized or incurred by Solutia because it is in
reorganization under Chapter 11 of the U.S. Bankruptcy Code.
Reorganization items, net consisted of the following items:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------- -------------
2006 2005 2006 2005
---- ---- ---- ----
Professional fees (a) ........................ $(13) $(13) $(40) $(37)
Severance and employee retention costs (b)... (1) (2) (4) (10)
Adjustments to allowed claim amounts (c) ..... -- 1 2 (10)
Settlements of pre-petition claims (d) ....... -- -- -- 29
Other ........................................ (5) (1) (9) (7)
---- ---- ---- ----
TOTAL REORGANIZATION ITEMS, NET .............. $(19) $(15) $(51) $(35)
==== ==== ==== ====
<FN>
(a) Professional fees for services provided by debtor and creditor
professionals directly related to Solutia's reorganization proceedings.
(b) Expense provisions related to (i) employee severance costs incurred
directly as part of the Chapter 11 reorganization process and (ii) a
retention plan for certain Solutia employees approved by the bankruptcy
court.
(c) Adjustments to record certain pre-petition claims at estimated amounts of
the allowed claims.
(d) Represents the difference between the settlement amount of certain
pre-petition obligations and the corresponding amounts previously
recorded.
4. STOCK OPTION PLANS
Solutia has two stock-based incentive plans under which awards are
available for grants to officers and employees; the Solutia Inc. 2000
Stock-Based Incentive Plan ("2000 Plan") and the Solutia Inc. 1997 Stock-Based
Incentive Plan ("1997 Plan"). The 2000 Plan authorizes up to 5,400,000 shares
and the 1997 Plan up to 7,800,000 shares of Solutia common stock for grants of
non-qualified and incentive stock options, stock appreciation rights,
restricted stock awards and bonus stock awards. The shares used may be newly
issued shares, treasury shares or a combination. Under both plans, the
exercise price of a stock option must be no less than the fair market value of
Solutia's common stock on the option grant date. Additionally, the plans
provide that the term of any stock option
19
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
granted may not exceed 10 years. At September 30, 2006, approximately
2,187,693 shares from the 2000 Plan and 2,235,314 shares from the 1997 Plan
remained available for grants.
During the nine months ended September 30, 2006, no options were
granted to current executive officers and other senior executives as a
group, or to other employees. Total shares covered by options granted under
the plans to current executive officers and other senior executives as a
group totaled 3,011,000, and those to other employees totaled 10,016,592,
through September 30, 2006. The options granted to Solutia's executive
officers and other senior executives are primarily performance options that
become exercisable upon the earlier of achievement of specified share price
targets or the ninth anniversary of the option grant. The options granted to
the other management employees are time-based. They generally become
exercisable in thirds, one-third on each of the first three anniversaries of
the option grant date.
The Solutia Inc. Non-Employee Director Compensation Plan provides
incentives to non-employee members of Solutia's board of directors. This plan
authorizes up to 400,000 shares for grants of non-qualified stock options and
for grants of deferred shares in payment of all or a portion of the annual
retainer for the non-employee directors. Only treasury shares may be used.
Under this plan, the exercise price of a stock option must be no less than the
fair market value of Solutia's common stock on the grant date and the term of
any stock option granted under the plan may not exceed 10 years. At September
30, 2006, 25,174 shares of Solutia's common stock remained available for
grants under the plan. There were no options or deferred shares granted in the
nine months ended September 30, 2006 as all non-employee director compensation
is now paid in cash.
As of January 1, 2006, Solutia adopted SFAS No. 123 (revised 2004),
Share-Based Payment ("SFAS No. 123(R)"), using the modified prospective
method, which requires measurement of compensation cost for all stock-based
awards at fair value on the date of grant and recognition of compensation over
the service period for awards expected to vest. The fair value of stock
options is determined using the Black-Scholes valuation model, which is
consistent with valuation techniques previously utilized for options in
footnote disclosures required under SFAS No. 123, Accounting for Stock Based
Compensation, as amended by SFAS No. 148, Accounting for Stock-Based
Compensation--Transition and Disclosure. Such value is recognized as expense
over the service period, net of estimated forfeitures, using the straight-line
method under SFAS No. 123(R). The estimation of stock awards that will
ultimately vest requires judgment, and to the extent actual results or updated
estimates differ from our current estimates, such amounts will be recorded as
a cumulative adjustment in the period estimates are revised. Additionally,
Solutia believes that its plan of reorganization will provide for cancellation
of its existing shares of common stock, as well as options and warrants to
purchase its common stock, and that it is unlikely that holders of options to
purchase Solutia's common stock will receive any consideration for those
options in such a plan of reorganization.
There were no options granted or exercised during the nine months ended
September 30, 2006. Accordingly, no compensation cost with respect to such
activities was recognized in the Condensed Consolidated Statement of
Operations in the nine months ended September 30, 2006. However, to the
extent that the remaining service periods of unvested options granted prior
to January 1, 2006 extend past the adoption date of SFAS No. 123(R), the
residual unamortized fair value originally calculated for footnote
disclosures required under SFAS No. 123, net of estimated forfeitures, is
now recognized on a straight-line basis over such remaining periods.
Compensation cost and all related effects within the Condensed Consolidated
Statement of Operations and Condensed Consolidated Statement of Cash Flows
associated with these unvested options was less than $1 during the nine
months ended September 30, 2006. Additionally, there was less than $1 of
total unrecognized compensation cost related to these unvested options as of
September 30, 2006 to be recognized over a weighted-average recognition
period of less than one year.
Prior to January 1, 2006, Solutia applied SFAS No. 123 as amended by
SFAS No. 148, which allowed Solutia to continue following the guidance of
Accounting Principles Board ("APB") Opinion No. 25, Accounting for Stock
Issued to Employees, for measurement and recognition of stock-based
transactions with employees. Accordingly, no compensation cost was
recognized for Solutia's option plans in the Condensed Consolidated
20
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
Statement of Operations during such periods, as all options granted under
the plans had an exercise price equal to the market value of Solutia's stock
on the date of the grant. The effect would have been less than $1 on net
income and no change on income per share had the determination of
compensation cost for these plans been based on the fair value at the grant
dates for awards under these plans, consistent with SFAS No. 123, for the
nine months ended September 30, 2005.
A summary of Solutia's stock option plans for the nine months ended
September 30, 2006 is as follows:
WEIGHTED-
WEIGHTED- AVERAGE AGGREGATE
AVERAGE REMAINING INTRINSIC
OPTIONS EXERCISE PRICE CONTRACTUAL LIFE VALUE(a)
---------------------------------------------------------------------
Outstanding at January 1, 2006........ 17,323,551 $15.80 -- --
Granted............................ -- 0.00 -- --
Exercised.......................... -- 0.00 -- --
Expired............................ (947,076) 15.33 -- --
---------------------------------------------------------------------
Outstanding at March 31, 2006. 16,376,475 $15.82 1.7 $(253)
Granted............................ -- 0.00 -- --
Exercised.......................... -- 0.00 -- --
Expired............................ (2,667,774) 16.49 -- --
---------------------------------------------------------------------
Outstanding at June 30, 2006.......... 13,708,701 $15.68 1.8 $(209)
---------------------------------------------------------------------
Granted............................. -- 0.00 -- --
Exercised........................... -- 0.00 -- --
Expired............................. (660,957) 17.43 -- --
---------------------------------------------------------------------
Outstanding at September 30, 2006..... 13,047,744 $15.60 1.6 $(197)
=====================================================================
Exercisable at September 30, 2006..... 12,884,944 $15.73 1.5 $(197)
<FN>
(a) Intrinsic value for stock options is calculated based on the
difference between the exercise price of the underlying awards
and the quoted market price of Solutia's common stock as of
the reporting date.
5. ACQUISITION AND DIVESTITURE
Discontinued Operations
On May 23, 2006, Solutia's 100% owned subsidiary, Solutia Europe
S.A./N.V. ("SESA"), agreed to sell its pharmaceutical services business to
Dishman Pharmaceuticals & Chemicals Ltd. ("Dishman") pursuant to a Stock and
Asset Purchase Agreement dated as of May 23, 2006 between SESA and Dishman.
Closing of the sale occurred on August 22, 2006 and included the transfer of
all economic benefits and liabilities of the pharmaceutical services
business from August 1, 2006 through the closing date. Under the terms of
the agreement, Dishman purchased 100 percent of the stock of the
pharmaceutical services business, as well as certain other assets used in
the pharmaceutical services business, for $77, subject to certain purchase
price adjustments. Dishman also assumed substantially all of the liabilities
relating to the pharmaceutical services business, other than certain
liabilities that arose prior to the closing of the transaction and
liabilities under certain employment agreements. SESA agreed, subject to
certain exceptions, that for a period of three years after the closing of
the transaction neither it nor its affiliates will compete with the
pharmaceutical services business or solicit for employment certain employees
of the pharmaceutical services business and their current affiliates.
The pharmaceutical services business was a component of the Performance
Products segment prior to the classification as discontinued operations.
Solutia recorded a gain on the sale of the pharmaceutical services business of
$49. Further, Solutia used $51 of the proceeds from the sale to pay down
SESA's (euro) 200 million credit facility entered into on July 26, 2006 and
closed on August 1, 2006 (as described in Note 12).
21
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
The carrying amounts of assets and liabilities from discontinued
operations have been classified as current in the Condensed Consolidated
Statement of Financial Position and consisted of the following:
SEPTEMBER 30, DECEMBER 31,
2006 2005
---- ----
ASSETS:
Trade receivables............................................ $ -- $ 7
Miscellaneous receivables.................................... -- 1
Inventories.................................................. -- 13
Prepaid expenses and other assets............................ -- 1
Property, plant and equipment, net........................... -- 34
Identified intangible assets, net............................ -- 7
Other assets................................................. -- 6
----- -----
Assets of discontinued operations................... $ -- $ 69
===== =====
LIABILITIES:
Accounts payable............................................. $ -- $ 4
Accrued liabilities.......................................... 2 17
Other liabilities............................................ -- 5
----- -----
Liabilities of discontinued operations.............. $ 2 $ 26
===== =====
The operating results of the pharmaceutical services business have been
reported separately as discontinued operations, net of tax, in the Condensed
Consolidated Statement of Operations for each period presented. Net sales and
income from discontinued operations are as follows:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------- -------------
2006 2005 2006 2005
---- ---- ---- ----
Net sales .................................... $ 5 $ 15 $ 42 $ 51
Income (loss) before income taxes............. 50 1 54 5
Income tax expense (benefit).................. -- -- (4) 1
---- ---- ---- ----
INCOME FROM DISCONTINUED OPERATIONS........... $ 50 $ 1 $ 58 $ 4
==== ==== ==== ====
Solutia recorded a gain on the sale of the pharmaceutical services
business of $49. The gain on sale was exempt from tax outside the United
States and no gain was realized for United States tax purposes.
Acquisition
On March 1, 2006, pursuant to a stock purchase agreement among Solutia,
Vitro S.A. de C.V. ("Vitro") and Vitro Plan S.A. de C.V. ("Vitro Plan"), a
100% owned subsidiary of Vitro, Solutia acquired Vitro Plan's 51 percent
stake in Quimica M, S.A. de C.V. ("Quimica") (originally formed in 1996 as a
joint venture between Vitro, Vitro Plan, and Monsanto) for approximately $20
in cash. As a result of this acquisition, Solutia became the sole owner of
Quimica and its plastic interlayer plant located in Puebla, Mexico. Pursuant
to the purchase agreement, Solutia also entered into supply agreements with
Vitro Flex S.A. de C.V. and Vitro Automotriz S.A. de C.V. to provide their
requirements for most SAFLEX(R) plastic interlayer products for up to five
years. This acquisition reflects Solutia's commitment to meet the growing
global demand for its SAFLEX(R) and VANCEVA(R) plastic interlayer products.
22
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
The allocation of purchase price to the assets acquired and liabilities
assumed resulted in Solutia's acquisition or assumption of total current
assets of $18, non-current assets of $32, goodwill of $5, amortizable
contract-based intangible assets of $4, current liabilities of $11 and
non-current liabilities of $7. The contract-based intangible assets are
being amortized over their estimated useful lives of 5 years. Results of
operations for Quimica were included in Solutia's results of operations from
the acquisition date in the Performance Products segment. The results of
operations for the acquired business were not material to Solutia's
consolidated results of operations.
6. GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill
Goodwill of $89 and $76 at September 30, 2006 and December 31, 2005,
respectively, was allocated to the Performance Products segment. This $13
increase in goodwill as of September 30, 2006 was a result of the Quimica
acquisition (as further described in Note 5), of which $5 resulted from the
2006 acquisition and $8 resulted from the original acquisition in 1996 that
was previously accounted for under the equity method of accounting.
Identified Intangible Assets
Identified intangible assets generally are comprised of (i) amortizable
contract-based intangible assets with finite useful lives, and (ii)
indefinite-lived trademarks not subject to amortization. These intangible
assets are summarized in aggregate as follows:
SEPTEMBER 30, 2006 DECEMBER 31, 2005
----------------------------------- ------------------------------------
GROSS NET GROSS NET
CARRYING ACCUMULATED CARRYING CARRYING ACCUMULATED CARRYING
VALUE AMORTIZATION VALUE VALUE AMORTIZATION VALUE
----------------------------------- ------------------------------------
Amortized intangible assets..... $ 12 $ (7) $ 5 $ 8 $ (6) $ 2
Trademarks...................... 26 -- 26 26 -- 26
----------------------------------- ------------------------------------
TOTAL IDENTIFIED INTANGIBLE
ASSETS.......................... $ 38 $ (7) $ 31 $ 34 $ (6) $ 28
=================================== ====================================
There were no changes to amortizable lives or methods during the nine
months ended September 30, 2006. In addition, amortization expense for the net
carrying amount of finite-lived intangible assets is estimated to be $2
annually from 2006 through 2010.
7. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS
SEPTEMBER 30, DECEMBER 31,
INVENTORIES 2006 2005
---- ----
Finished goods................................................ $ 242 $ 236
Goods in process.............................................. 168 131
Raw materials and supplies.................................... 98 93
----- -----
Inventories, at FIFO cost..................................... 508 460
Excess of FIFO over LIFO cost................................. (206) (206)
----- -----
TOTAL INVENTORIES............................................. $ 302 $ 254
===== =====
Inventories at FIFO approximate current cost.
23
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
SEPTEMBER 30, DECEMBER 31,
ACCRUED LIABILITIES 2006 2005
---- ----
Wages and benefits............................................ $ 54 $ 54
Accrued rebates and sales returns/allowances.................. 16 22
Accrued interest.............................................. 10 23
Other......................................................... 153 124
----- -----
TOTAL ACCRUED LIABILITIES..................................... $ 233 $ 223
===== =====
8. INVESTMENT IN AFFILIATE
At September 30, 2006, Solutia participated in one principal 50/50 joint
venture comprised of interests in Flexsys Holding B.V., Flexsys America L.P.
and Flexsys Rubber Chemicals Ltd. (collectively "Flexsys"), for which Solutia
applies the equity method of accounting. Summarized financial information for
100 percent of the Flexsys joint venture is as follows:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
-----------------------------------------
2006 2005 2006 2005
---- ---- ---- ----
Net sales.................................................. $150 $159 $466 $493
Gross profit .............................................. 35 48 128 160
Operating income .......................................... 21 23 81 84
Net income ................................................ 15 14 55 60
9. RESTRUCTURING RESERVES
Solutia recorded approximately $1 of decommissioning and dismantling
costs in Reorganization Items, net, primarily in the Integrated Nylon segment
during the three months ended September 30, 2006, and Solutia recorded
approximately $3 of future contractual payments in Reorganization Items, net
related to the termination of a third party manufacturing agreement within the
Performance Products segment. In addition, Solutia recorded approximately $2
of severance and retraining costs in the three months ended September 30, 2006
in Reorganization Items, net and Marketing and Administrative expenses
involving headcount reductions. Solutia also recorded approximately $1 of
asset write-downs in Reorganization Items, net within the Performance Products
segment.
Solutia recorded approximately $3 of decommissioning and dismantling
costs in the nine months ended September 30, 2006 primarily as a result of the
shut-down of its acrylic fibers business in 2005, and approximately $3 of
asset write-downs. Solutia also recorded approximately $3 of future
contractual payments related to the termination of a third party manufacturing
agreement. These costs were all recorded within Reorganization Items, net with
approximately $4 in the Integrated Nylon segment and approximately $5 in the
Performance Products segment. In addition, Solutia recorded approximately $5
of severance and retraining costs in the nine months ended September 30, 2006
with approximately $3 in Reorganization Items, net, and approximately $2 in
Marketing and Administrative expenses involving headcount reductions recorded
throughout the organization.
24
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
A summary of restructuring activity during the three and nine months
ended September 30, 2006 is as follows:
FUTURE
DECOMMISSIONING/ CONTRACTUAL EMPLOYMENT ASSET WRITE-
DISMANTLING PAYMENTS REDUCTIONS DOWNS TOTAL
----------------------------------------------------------------------------
Balance at December 31, 2005......... $ 2 $ -- $ 2 $ -- $ 4
Charges taken...................... 2 -- 2 1 5
Amounts utilized................... (2) -- (3) (1) (6)
----------------------------------------------------------------------------
Balance at March 31, 2006............ $ 2 -- $ 1 $ -- $ 3
Charges taken...................... -- -- 1 1 2
Amounts utilized................... (1) -- (1) (1) (3)
----------------------------------------------------------------------------
Balance at June 30, 2006............. $ 1 -- $ 1 $ -- $ 2
Charges taken...................... 1 3 2 1 7
Amounts utilized................... (1) -- (2) (1) (4)
----------------------------------------------------------------------------
BALANCE AT SEPTEMBER 30, 2006........ $ 1 $ 3 $ 1 $ -- $ 5
============================================================================
Solutia cannot forecast the level of future restructuring charges due to
the inherent uncertainty involved in operating as a debtor-in-possession under
Chapter 11 bankruptcy protection.
10. CONTINGENCIES
Litigation
Because of the size and nature of its business, Solutia is a party to
numerous legal proceedings. Most of these proceedings have arisen in the
ordinary course of business and involve claims for money damages. In addition,
at the time of its spinoff from Pharmacia, Solutia assumed the defense of
specified legal proceedings and agreed to indemnify Pharmacia for obligations
arising in connection with those proceedings. Solutia has determined that
these defense and indemnification obligations to Pharmacia are pre-petition
obligations under the U.S. Bankruptcy Code that Solutia is prohibited from
performing, except pursuant to a confirmed plan of reorganization. As a
result, Solutia has ceased performance of these obligations. Solutia's
cessation of performance may give rise to a pre-petition unsecured claim
against Solutia which Pharmacia may assert in Solutia's Chapter 11 bankruptcy
case. This estimated unsecured claim amount was classified as a liability
subject to compromise as of September 30, 2006 and December 31, 2005 in the
amount of $116 and $136, respectively.
Solutia's 2003 Form 10-K/A described a number of legal proceedings in
which Solutia was a named defendant or was defending solely due to its
indemnification obligations referred to above. Solutia is prohibited from
performing with respect to these obligations, and developments, if any, in
these matters are currently managed by other named defendants. Accordingly,
Solutia has ceased reporting on the status of those legal proceedings. The
legal proceedings which are in this category are (i) Owens v. Monsanto; (ii)
Payton v. Monsanto; (iii) other Anniston cases; and (iv) premises based
asbestos litigation. Legal proceeding activities are currently being funded by
Monsanto for these matters. Monsanto's funding of these legal activities may
give rise to a claim against Solutia which Monsanto may assert in Solutia's
bankruptcy case.
25
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
Following is a summary of legal proceedings that Solutia or its equity
affiliate continue to manage that could result in an outcome that is material
to the condensed consolidated financial statements:
LEGAL PROCEEDINGS IN SOLUTIA'S BANKRUPTCY CASE
- ----------------------------------------------
JPMORGAN ADVERSARY PROCEEDING
On May 27, 2005, JPMorgan, as indenture trustee for Solutia's
debentures due 2027 and 2037 (the "Prepetition Indenture"), filed an
adversary proceeding (the "JPM Proceeding") against Solutia in Solutia's
bankruptcy case. In its adversary proceeding, JPMorgan asserted five causes
of action seeking declaratory judgments to establish the validity and
priority of the purported security interest of the holders of the 2027 and
2037 debentures, and one cause of action pursuant to section 363 of the
Bankruptcy Code asserting that the alleged security interests lacked
adequate protection. The JPM Proceeding relates to Solutia's 2002 and 2003
refinancings of its credit facilities. When Solutia refinanced its credit
facilities in 2002, the 2027 and 2037 debentures obtained a pro rata secured
interest in certain of Solutia's assets as a result of the application of
the "equal and ratable" provisions of the Prepetition Indenture. On October
8, 2003, Solutia restructured its credit facilities, reduced its outstanding
secured indebtedness below the threshold level that initially triggered the
"equal and ratable" provisions of the Prepetition Indenture and, as a
result, the 2027 and 2037 debentures returned to their original unsecured
status. JPMorgan alleges that the October 8, 2003 refinancing had no effect
on the security interests and liens that were created in 2002, and argues
further that, even if it did, those liens should be reinstated as a matter
of equity. The Unsecured Creditors' Committee and the Ad Hoc Solutia Trade
Claims Committee have intervened in the JPM Proceeding in support of Solutia
and the Ad Hoc Committee of Solutia Noteholders has intervened in the JPM
Proceeding in support of JPMorgan. Trial of the JPM Proceeding concluded on
July 10, 2006. Post-trial briefs were submitted by the parties in August
2006. The Bankruptcy Court has not yet made a ruling in the JPM Proceeding.
EQUITY COMMITTEE ADVERSARY PROCEEDING AGAINST MONSANTO AND PHARMACIA
On March 7, 2005, the Official Committee of Equity Security Holders
("Equity Committee") in Solutia's bankruptcy case filed a complaint against
Pharmacia and Monsanto and objections to the proofs of claim filed by
Pharmacia and Monsanto in Solutia's bankruptcy case (the "Equity Committee
Complaint"). In the Equity Committee Complaint, the Equity Committee seeks to
avoid certain obligations assumed by Solutia at the time of its spinoff from
Pharmacia. The Equity Committee Complaint alleges, among other things, that
the Solutia Spinoff was a fraudulent transfer under the Bankruptcy Code
because Pharmacia forced Solutia to assume excessive liabilities and
insufficient assets such that Solutia was destined to fail from its inception.
Pharmacia and Monsanto filed a motion to dismiss the Equity Committee
Complaint for, among other things, lack of standing or, in the alternative, to
stay the adversary proceeding. On August 4, 2005, the Debtors filed with the
Bankruptcy Court their Statement and Reservation of Rights in Response to the
Equity Committee's Complaint and Objection to Claims, in which the Debtors
expressed their view that the issues and disputes raised in the Equity
Committee Complaint would be resolved through the Plan confirmation process.
During a hearing held on April 11, 2006, the Bankruptcy Court issued a bench
ruling denying Pharmacia and Monsanto's motion to dismiss the Equity Committee
Complaint. The Ad Hoc Committee of Solutia Noteholders and the Ad Hoc Solutia
Trade Claims Committee have intervened in this adversary proceeding in support
of the Equity Committee. Solutia and the Unsecured Creditors' Committee have
intervened in this adversary proceeding as neutral parties due to the
importance of this proceeding with respect to Solutia's bankruptcy case. On
September 14, 2006, the Court ruled that while the Equity Committee did not
have standing to pursue these claims on behalf of the Debtors, it had standing
to pursue its own objections to the claims of Monsanto and Pharmacia. On
October 17, 2006, the Bankruptcy Court entered an Order adjourning this
adversary proceeding until December 13, 2006 and allowing the Equity
Committee, Pharmacia, and Monsanto to submit this matter to mediation in a
good faith effort to reach a consensual resolution of the issues between the
parties. All proceedings related to this adversary proceeding have been stayed
until November 30, 2006, unless the parties agree to extend such date further.
26
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
LEGAL PROCEEDINGS OUTSIDE SOLUTIA'S BANKRUPTCY CASE
- ---------------------------------------------------
ANNISTON PARTIAL CONSENT DECREE
On August 4, 2003, the U.S. District Court for the Northern District of
Alabama approved a Partial Consent Decree in an action captioned United States
of America v. Pharmacia Corporation (p/k/a Monsanto Company) and Solutia. This
Partial Consent Decree provides for Pharmacia and Solutia to sample certain
residential properties and remove soils found on those properties if PCBs are
at a level of 1 part per million ("ppm") or above, to conduct a Remedial
Investigation and Feasibility Study to provide information for the selection
by the EPA of a cleanup remedy for the Anniston, Alabama PCB site, and to pay
EPA's past response costs and future oversight costs related to this work. The
decree also provided for the creation of an educational trust fund of
approximately $3 to be funded over a 12-year period to provide supplemental
educational services for school children in west Anniston.
A subsequent dispute arose between the EPA and Solutia regarding the
scope and application of the automatic stay arising as a result of Solutia's
Chapter 11 filing to the remaining obligations under the Partial Consent
Decree. On April 19, 2004, the District Court held that the Partial Consent
Decree enforces police and regulatory powers under the Comprehensive
Environmental Response, Compensation, and Liability Act ("CERCLA") and, as a
result, the automatic stay provisions of the U.S. Bankruptcy Code are
inapplicable to Solutia's obligations under the Partial Consent Decree. On
April 30, 2004, the United States Bankruptcy Court for the Southern District
of New York entered a Stipulation and Agreed Order in which the EPA and
Solutia stipulated that the automatic stay is applicable to certain of the
Partial Consent Decree's requirements. Solutia filed a motion asking the
District Court to reconsider its order and to bring it into accord with the
Stipulation and Agreed Order consented to by the EPA and entered by the
Bankruptcy Court. On September 9, 2004, the District Court denied Solutia's
motion and declared that the automatic stay is inapplicable to Solutia's
obligations under the Consent Decree to perform site work. Solutia appealed
this ruling to the Eleventh U.S. Circuit Court of Appeals, which dismissed
the appeal for lack of jurisdiction.
On June 30, 2005, the United States District Court for the Northern
District of Alabama issued an order (the "PCB Order") authorizing
co-defendants Pharmacia and Solutia to "suspend" performance of the PCB
clean-up at the Anniston site under the Anniston Consent Decree, upon the
filing of a motion by either defendant requesting that relief. The PCB Order
found that Solutia and Pharmacia entered into the Anniston Consent Decree, and
that the court approved that Anniston Consent Decree, based on the
understanding that the defendants' rights to pursue other liable parties for
contribution would not be impaired by the EPA. The PCB Order further found
that the EPA's planned settlements with certain Anniston foundries would thus
deprive the defendants of one of the material considerations for entering into
the Anniston Consent Decree.
In July 2006, Solutia and Pharmacia reached an agreement with EPA that
clarifies the extent of remaining obligations under the Anniston Consent
Decree and the coordination of that work with the Lead Site clean-up being
performed by others, and by which Solutia and Pharmacia will forego the
opportunity to suspend their obligations under the Anniston Consent Decree
pursuant to the PCB Order. Solutia and Pharmacia preserved their rights under
this agreement to continue to argue that the contribution protection afforded
certain other potentially responsible parties performing Lead Site clean-up
should not be effective as to Solutia and Pharmacia.
PENNDOT CASE
- ------------
Solutia's Annual Report on Form 10-K/A for the year ended December 31,
2003 described a case then pending in the Commonwealth Court of Pennsylvania
by the Commonwealth of Pennsylvania against Pharmacia seeking damages for PCB
contamination in the Transportation and Safety Building ("T&S Building") in
Harrisburg, Pennsylvania, that it claimed necessitated the demolition of the
T&S Building. Solutia was not a named defendant in this litigation and
therefore took no action to stay the litigation in connection with its Chapter
11 proceedings. Solutia assumed the defense of this litigation at the time of
its spin-off from Pharmacia. Solutia determined that its obligation to defend
and indemnify Pharmacia with regard to this litigation was a pre-petition
obligation that Solutia
27
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
was prohibited from performing, except pursuant to a confirmed plan of
reorganization. Therefore, Solutia ceased defending Pharmacia with respect
to this litigation. Solutia did, however, provide a $20 letter of credit to
secure a portion of Pharmacia's obligations with respect to an appeal bond
issued with respect to the case.
On May 25, 2006 the Supreme Court of Pennsylvania issued its ruling on
the appeal in this case, reversing in whole and remanding in part the decision
of the trial court against Pharmacia. With respect to those claims that were
reversed and remanded, the Supreme Court of Pennsylvania significantly limited
the amount of damages that could be awarded, and the $20 letter of credit
securing the appeal bond was released. Based upon this ruling, Solutia
recognized a gain in its Condensed Consolidated Statement of Operations during
the second quarter 2006 from the reversal of a significant portion of the
existing litigation reserve with respect to this matter.
FLEXSYS RELATED LITIGATION
Antitrust authorities in the United States, Europe and Canada are
continuing to investigate past commercial practices in the rubber chemicals
industry. Flexsys, Solutia's joint venture with Akzo Nobel N.V. ("Akzo"),
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.
State court actions against Flexsys. Solutia 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. Solutia is not
named as a defendant in any of these cases. All of these cases remain pending
in various procedural stages and no substantive discovery or other actions
have taken place.
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)
$14.6 along with exemplary damages of (CAD) $0.000025 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 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. In September 2006, the
parties tentatively reached a global settlement in which Flexsys will pay
approximately (CAD) $2.4 to resolve all four pending class actions in Canada.
The settlement must still be approved by the courts. Solutia is not a named
defendant in any of these cases.
Federal court actions by indirect purchasers of rubber chemicals. On
January 14, 2006, Solutia became aware of a newly filed case, Pearman, Benson
and Immerman v. Crompton Corp., Flexsys, Solutia, et al., in the United States
District Court for the Eastern District of Tennessee at Greenville,
purportedly filed on behalf of consumers in 37 states of products produced
with rubber chemicals for the period 1994 through the present under the
Tennessee Trade Practices Act. Solutia was initially named in the suit but was
voluntarily dismissed without prejudice on February 3, 2006. On April 28,
2006, Solutia received notice that this case was voluntarily dismissed,
without prejudice, by the plaintiffs.
Federal court actions alleging violations of federal securities laws.
Between approximately July and September 2003, six purported shareholder class
actions were filed in the U.S. District Court for the Northern District of
California against Solutia, its then and former chief executive officers and
its then chief financial officer. The complaints were consolidated into a
single action called In Re Solutia Securities Litigation, and a consolidated
complaint, which named two additional defendants, Solutia's then current and
past controllers, was filed. The
28
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
consolidated complaint alleged that from December 16, 1998 to October 10,
2002, Solutia's accounting practice of incorporating Flexsys' results into
Solutia's financial reports violated federal securities laws by misleading
investors as to Solutia's actual results and causing inflated prices to be
paid by purchasers of Solutia's publicly traded securities during the
period. The plaintiffs sought damages and any equitable relief that the
court deemed proper. The consolidated action was automatically stayed with
respect to Solutia by virtue of Section 362(a) of the U.S. Bankruptcy Code.
In March 2005 the court issued a final order dismissing with prejudice the
complaint against the individual defendants, which became final when the
plaintiffs failed to file an appeal of the dismissal within the applicable
appeals period, and the case was dismissed without prejudice as against
Solutia pending resolution of the bankruptcy case.
Shareholder Derivative Suits. Two purported shareholder derivative
suits were filed in the Missouri Circuit Court for the Twenty-First Judicial
Circuit of St. Louis County against certain of Solutia's current and past
directors, chief executive officers, chief financial officer and former vice
chairman. Solutia is included as a nominal defendant. The plaintiffs seek
damages on behalf of Solutia for the individual defendants' alleged breaches
of fiduciary duty, abuse of control, gross mismanagement, waste of corporate
assets and unjust enrichment, arising out of Flexsys' alleged participation
in the price fixing of rubber chemicals and Solutia's incorporation of
Flexsys' purportedly inflated financial results arising from the alleged
price-fixing into Solutia's financial statements. These two shareholder
derivative suits were consolidated into a single action, In re Solutia Inc.
Derivative Litigation. On December 29, 2003, the court entered an Order in
the consolidated action staying the litigation with respect to all
defendants, including Solutia. In August 2004, the court involuntarily
dismissed the case for lack of prosecution. In late 2004, plaintiffs' filed
a motion to reinstate the actions which motion remains pending with no
further action yet taken by plaintiffs.
CASH BALANCE PLAN LITIGATION
Since October 2005, three cases have been filed by participants in the
Solutia Inc. Employees' Pension Plan (the "Pension Plan") alleging that the
Pension Plan: (1) violates the Employee Retirement Income Security Act of 1974
("ERISA") prohibitions on reducing rates of benefit accrual based on age; (2)
results in the impermissible forfeiture of accrued benefits under ERISA; (3)
violates ERISA's present value calculation rules for determining lump sum
distributions; and (4) violates the minimum accrual requirements of ERISA. The
cases were captioned Davis, et al. v. Solutia, Inc. Employees' Pension Plan,
Scharringhausen, et al. v. Solutia, Inc. Employees' Pension Plan, et al. and
Juanita Hammond, et al. v. Solutia, Inc. Employees' Pension Plan. The
Scharringhausen plaintiffs voluntarily dismissed their case on April 24, 2006.
None of the Debtors, and no individual or entity other than the Pension Plan,
has been named as a defendant in any of these cases. The plaintiffs in each of
these cases sought to obtain injunctive and other equitable relief (including
money damages awarded by the creation of a common fund) on behalf of
themselves and the nationwide putative class of similarly situated current and
former participants in the Pension Plan for whose pension benefits the Pension
Plan is responsible.
The Hammond and Davis plaintiffs have consolidated their actions, and
their counsel are cooperating in the representation of the putative class. On
September 1, 2006, the Court consolidated the Hammond and Davis actions with
cash balance pension plan cases pending in the Southern District of Illinois
against Monsanto Company and the Monsanto Company Pension Plan (Walker et al.
v. The Monsanto Pension Plan, et al.) and the Pharmacia Cash Balance Pension
Plan, Pharmacia Corporation, Pharmacia and Upjohn, Inc., and Pfizer Inc.
(Donaldson v. Pharmacia Cash Balance Pension Plan, et al.). A consolidated
class action complaint was filed by all of the plaintiffs on September 4,
2006, in which the plaintiffs alleged three separate causes of action against
the Pension Plan: (1) the Pension Plan allegedly violates ERISA by terminating
interest credits at the age of 55; (2) the Pension Plan was allegedly
improperly backloaded in violation of ERISA; and (3) the Pension Plan was
allegedly discriminatory on the basis of age.
29
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
The Pension Plan moved to dismiss all of the pending actions in the
consolidated case for plaintiffs' failure to exhaust administrative remedies
and failure to join Solutia as a necessary and indispensable party and
those motions are pending. Motions for class certification are due to be
filed by the end of 2006. The Pension Plan intends to continue to vigorously
defend itself against any and all claims asserted in the consolidated
litigation.
OTHER LEGAL PROCEEDINGS
- -----------------------
Dickerson v. Feldman. On October 7, 2004, a purported class action
captioned Dickerson v. Feldman, et al. was filed in the United States
District Court for the Southern District of New York against a number of
defendants, including former officers and employees of Solutia and Solutia's
Employee Benefits Plans Committee and Pension and Savings Funds Committee.
Solutia was not named as a defendant. The action alleged breach of fiduciary
duty under ERISA and sought to recover alleged losses to the Solutia Inc.
Savings and Investment Plan ("SIP Plan") during the period from December 16,
1998 to the date the action was filed. The investment of SIP Plan assets in
Solutia's common stock is alleged to have been imprudent because of the
risks and liabilities related to Solutia's legacy environmental and
litigation liabilities and because of Flexsys' alleged involvement in the
matters described above under "Flexsys Related Litigation." The action
sought monetary payment to the SIP Plan to recover the losses resulting from
the alleged breach of fiduciary duties, as well as injunctive and other
appropriate equitable relief, reasonable attorney's fees and expenses, costs
and interest. In addition, the plaintiff in this action filed a proof of
claim for $269 against Solutia in the U.S. Bankruptcy Court for the Southern
District of New York.
The plaintiff sought to withdraw the reference of their ERISA claim
from the Bankruptcy Court to the District Court so that the proof of claim
and the class action could be considered together by the District Court. On
February 11, 2005, Solutia filed an objection to the motion to withdraw the
reference. On March 11, 2005, the District Court denied without prejudice
Dickerson's motion to withdraw the reference. The Dickerson plaintiffs
subsequently amended their initial complaint to add several current officers
and directors of Solutia as defendants. On July 5, 2005, the defendants
filed motions to dismiss Dickerson's amended complaint. In early September
2005, Dickerson filed an amended proof of claim against Solutia increasing
Dickerson's claim from $269 to $290, based on his amended complaint.
Dickerson also filed a motion for class certification of his proof of claim.
On March 30, 2006, the District Court granted the defendants' motion to
dismiss on grounds that the Dickerson plaintiffs lacked standing to sue and
that the complaint failed to state a claim on which relief may be granted. The
dismissal of Dickerson's cause of action resulted in dismissal of the entire
purported class action, including claims asserted on behalf of the unnamed
purported class members. On April 3, 2006, Dickerson filed an appeal of this
dismissal with the United States Court of Appeals for the Second Circuit.
Briefs have been submitted; the appeal is still pending and oral argument is
expected to be heard as early as the fourth quarter of 2006.
Solutia Inc. v. FMC Corporation. On October 14, 2003, Solutia filed an
action captioned Solutia Inc. v. FMC Corporation ("FMC") in Circuit Court in
St. Louis County, Missouri, against FMC over the failure of purified
phosphoric acid technology provided by FMC to Astaris, the 50/50 joint venture
formed by Solutia and FMC, which was sold to Israeli Chemicals Limited in
2005. On February 20, 2004, Solutia voluntarily dismissed the state court
action and filed an adversary proceeding against FMC in the Bankruptcy Court.
FMC filed with the Bankruptcy Court a motion to withdraw the reference. The
motion was granted, and, as a result, the matter is now pending in the U.S.
District Court for the Southern District of New York. FMC filed a motion to
dismiss Solutia's action based upon an alleged lack of standing. On March 29,
2005, the New York District Court granted in part and denied in part FMC's
motion to dismiss. Specifically, the court dismissed with prejudice three of
Solutia's causes of action for breach of contract. The New York District Court
denied FMC's motion to dismiss Solutia's other causes of action for breach of
warranty, breach of fiduciary duty, negligent misrepresentation, fraud and
fraud in the inducement. In this action, FMC does not have a counterclaim
against Solutia or Astaris.
30
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
On July 31, 2006, the District Court entered its order regarding FMC's
motion for summary judgment, by ruling that Solutia's breach of fiduciary duty
claim would be allowed to proceed, but only on a limited basis. The Court
overruled the parties' motions for summary judgment on the remaining claims.
The Court has set this matter for a bench trial to begin on April 3, 2007.
The sale of substantially all of the assets of Astaris to Israeli
Chemicals Limited, as further described in Solutia's Annual Report on Form
10-K for the year ended December 31, 2005, did not affect the claims asserted
by Solutia against FMC in this proceeding. Solutia is vigorously pursuing this
action.
Ferro Antitrust Investigation. Competition authorities in Belgium and
several other European countries are investigating past commercial practices
of certain companies engaged in the production and sale of butyl benzyl
phthalates ("BBP"). One of the BBP producers under investigation by the
Belgian Competition Authority ("BCA") is Ferro Belgium sprl, a European
subsidiary of Ferro Corporation ("Ferro"). Ferro's BBP business in Europe
was purchased from Solutia in 2000. Solutia received an indemnification
notice from Ferro and has exercised its right, pursuant to the purchase
agreement relating to Ferro's acquisition of the BBP business from Solutia,
to assume and control the defense of Ferro in proceedings relating to these
investigations. On July 7, 2005, the BCA Examiner issued a Statement of
Objections regarding its BBP investigation in which Solutia Europe S.A/N.V.
("Solutia Europe"), a European non-Debtor subsidiary of Solutia, along with
Ferro Belgium sprl and two other producers of BBP, is identified as a party
under investigation with respect to its ownership of the BBP business from
1997 until the business was sold to Ferro in 2000. Solutia Europe's written
comments to the Statement of Objections were submitted on August 31, 2005
and presented at an oral hearing before the BCA on September 6, 2005. The
Examiner submitted its Reasoned Report to the BCA on December 22, 2005.
Solutia is not named as a party under investigation in the Reasoned Report.
Solutia Europe will have an opportunity to submit comments to the BCA on the
Reasoned Report in writing and at a subsequent oral hearing on a date that
has not yet been determined by the BCA. Solutia and Solutia Europe are fully
cooperating with the BCA in this investigation.
Texas Commission on Environmental Quality Administrative Enforcement
Proceeding. On August 11, 2006, the Executive Director of the Texas
Commission on Environmental Quality commenced an administrative enforcement
proceeding against Solutia by filing a petition with the Texas Commission on
Environmental Quality. The petition alleges certain violations of the State
of Texas air quality program. The Executive Director requests that an
administrative penalty, the amount of which is immaterial, be assessed and
that Solutia undertake corrective actions to ensure compliance with the
Texas Health and Safety Code and the rules of the Commission in connection
with alleged self-reported unauthorized emission events and deviations of
air permits. Solutia answered the petition on September 1, 2006, asserted
affirmative defenses and requested a contested enforcement case hearing.
Solutia is pursuing settlement discussions with the Commission. No date has
yet been set for a hearing.
Environmental Liabilities
Environmental compliance and remediation costs and other environmental
liabilities incurred by Solutia generally fall into two broad categories:
(a) those related to properties currently owned or operated by Solutia and
(b) those related to properties that are not owned by Solutia, including
non-owned properties adjacent to plant sites and certain owned offsite
disposal locations. For the owned and operated sites, Solutia had an accrued
liability of $78 and $71 as of September 30, 2006 and December 31, 2005,
respectively, for solid and hazardous waste remediation, which represents
Solutia's best estimate of the underlying obligation. In addition, this
balance also includes post-closure costs at certain of Solutia's operating
locations. This liability is not classified as subject to compromise in the
Condensed Consolidated Statement of Financial Position because, irrespective
of the bankruptcy proceedings, Solutia will be required to comply with
environmental requirements in the conduct of its business, regardless of
when the underlying environmental contamination occurred. However, Solutia
ultimately intends to seek recovery against other potentially responsible
parties at certain of these locations.
31
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
Solutia had an accrued liability of $81 as of September 30, 2006 and
$82 as of December 31, 2005 for properties not owned or operated by Solutia.
This liability is classified as subject to compromise in the Condensed
Consolidated Statement of Financial Position as of both September 30, 2006
and December 31, 2005, as Solutia currently believes it constitutes a
pre-petition claim that will be discharged in the bankruptcy process. Under
the Plan and Relationship Agreement, as between Monsanto and Solutia,
Monsanto will accept financial responsibility for environmental remediation
obligations at all sites for which Solutia was required to assume
responsibility at the Solutia Spinoff but which were never owned or operated
by Solutia. This includes more than 50 sites with active remediation
projects and approximately 200 additional known sites and off-site disposal
facilities, as well as sites that have not yet been identified. Finally,
Monsanto will share financial responsibility with Solutia for off-site
remediation costs in Anniston, Alabama and Sauget, Illinois. Remediation
activities are currently being funded by Monsanto for certain of these
properties not owned or operated by Solutia. Monsanto's funding of these
remediation activities may give rise to a claim against Solutia which
Monsanto may assert in Solutia's Chapter 11 bankruptcy case. In addition,
Solutia has not adjusted its recorded environmental liabilities classified
as subject to compromise for ongoing remediation activities at these sites
since the inception of Solutia's bankruptcy case.
In addition to the bankruptcy proceedings, Solutia's environmental
liabilities are also subject to changing governmental policy and
regulations, discovery of unknown conditions, judicial proceedings, method
and extent of remediation, existence of other potentially responsible
parties and future changes in technology. Solutia believes that the known
and unknown environmental matters, including matters classified as subject
to compromise for which Solutia may ultimately assume responsibility, when
ultimately resolved, which may be over an extended period of time, could
have a material effect on the condensed consolidated financial position,
liquidity and profitability of Solutia.
Impact of Chapter 11 Proceedings
- --------------------------------
During the reorganization process, substantially all pending litigation
against Solutia and its subsidiaries that filed for reorganization under
Chapter 11 ("Debtors") is stayed, as well as the majority of all other
pre-petition claims. Exceptions would generally include pre-petition claims
addressed by the bankruptcy court, as well as fully secured claims. Such
claims may be subject to future adjustments. Adjustments may result from
actions of the bankruptcy court, negotiations, assumption or rejection of
executory contracts, determination as to the value of any collateral
securing claims, proofs of claims or other events. Additional pre-petition
claims not currently reflected in the condensed consolidated financial
statements may be identified through the proof of claim reconciliation
process. The amount of pre-petition claims ultimately allowed by the
bankruptcy court with respect to contingent claims may be materially
different from the amounts reflected in the condensed consolidated financial
statements. Generally, claims against Debtors arising from actions or
omissions prior to their filing date may be subject to compromise in
connection with a plan of reorganization. The ultimate resolution of all of
these claims may be settled through negotiation as compared to court
proceedings, with the result being that Solutia may retain certain
obligations currently classified as subject to compromise in the Condensed
Consolidated Statement of Financial Position.
32
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
11. PENSION PLANS AND OTHER POSTRETIREMENT BENEFITS
Components of Net Periodic Benefit Cost
For the three and nine months ended September 30, 2006 and 2005,
Solutia's pension and healthcare and other benefit costs were as follows:
PENSION BENEFITS
----------------
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------- -------------
2006 2005 2006 2005
---- ---- ---- ----
Service costs for benefits earned........ $ 1 $ 2 $ 3 $ 5
Interest costs on benefit obligation..... 16 18 48 53
Assumed return on plan assets............ (15) (17) (45) (50)
Prior service costs ..................... -- -- -- 1
Recognized net loss...................... 3 4 6 10
Curtailment and settlement net charges .. -- 7 -- 7
---- ---- ---- ----
TOTAL.................................... $ 5 $ 14 $ 12 $ 26
==== ==== ==== ====
HEALTHCARE AND OTHER BENEFITS
-----------------------------
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------- -------------
2006 2005 2006 2005
---- ---- ---- ----
Service costs for benefits earned........ $ 1 $ 1 $ 3 $ 4
Interest costs on benefit obligation..... 8 9 23 26
Prior service costs ..................... (3) (3) (8) (8)
Recognized net loss...................... 1 4 3 11
Curtailment gain......................... -- (4) -- (4)
---- ---- ---- ----
TOTAL.................................... $ 7 $ 7 $ 21 $ 29
==== ==== ==== ====
Employer Contributions
According to IRS funding rules, Solutia will be required to make
approximately $179 in pension contributions to its U.S. qualified pension plan
in 2006. Approximately $161 of these required 2006 contributions were made in
the nine months ended September 30, 2006. Solutia also expects to be required
to fund approximately $5 in pension contributions for its foreign pension
plans in 2006.
12. DEBT OBLIGATIONS
DIP Amendments
Solutia amended its DIP financing facility on March 17, 2006 with
bankruptcy court approval. This amendment, among other things, (i) increased
the DIP facility from $525 to $825; (ii) extended the term of the DIP facility
from June 19, 2006 to March 31, 2007; (iii) decreased the interest rate on the
term loan component of the DIP facility from LIBOR plus 425 basis points to
LIBOR plus 350 basis points; (iv) increased certain thresholds allowing the
Debtors to retain more of the proceeds from certain dispositions and other
extraordinary receipts; (v) approved the disposition of certain assets of the
Debtors; (vi) allowed refinancing of, and certain amendments to, SESA's
outstanding Euronotes; and (vii) amended certain financial and other
covenants. The amendment also contains a number of other changes and other
modifications required to make the remaining terms of the DIP facility
consistent with the amendments set forth above.
33
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
Solutia analyzed the modifications of the DIP facility in March 2006 in
accordance with the provisions of Emerging Issues Task Force ("EITF") No.
02-04, Determining Whether a Debtor's Modification or Exchange of Debt
Instruments is within the Scope of FASB Statement No. 15, and EITF No. 96-19,
Debtor's Accounting for a Modification or Exchange of Debt Instruments, and
recorded a charge of approximately $8 to record the write-off of debt issuance
costs and to record the DIP facility as modified at its fair value. In
addition, $1 of unamortized debt issuance costs associated with the DIP
facility were written off at the time of modification in March 2006.
Euronotes Refinancing
On July 26, 2006, Solutia's indirect 100% owned subsidiary Solutia
Services International S.C.A./Comm. V.A ("SSI"), a subsidiary of SESA, entered
into a (euro) 200 million Facility Agreement (the "Facility Agreement")
guaranteed by SESA and CPFilms Vertriebs GmbH, a subsidiary of SESA. Closing
of the Facility Agreement occurred on August 1, 2006. SESA used the proceeds
of the Facility Agreement to refinance all of its (euro) 200 million of 10
percent Senior Secured Notes (the "Euronotes") on August 1, 2006 at a
prepayment premium of 3 percent, as required pursuant to the Euronotes, for a
total redemption amount of approximately (euro) 215 million, including accrued
interest. The Euronotes were refinanced to reduce the interest rate, extend
the term of the indebtedness and facilitate certain dispositions by Solutia,
including the sale of its pharmaceutical services business as described in
Note 5.
The Facility Agreement has a five-year term, with a termination date of
July 31, 2011 and an adjustable rate structure which is EURIBOR plus 275 basis
points. The margin is subject to adjustment upon the occurrence of certain
events specified in the Facility Agreement or upon SESA and its subsidiaries
attaining certain financial benchmarks. The Facility Agreement consists of a
(euro) 160 million term loan and a (euro) 40 million term loan. The (euro) 40
million term loan was repaid from the proceeds of the sale of Solutia's
pharmaceutical services business (as further described in Note 5). The
Facility Agreement is secured by substantially all of the assets of SESA and
its subsidiaries. The Facility Agreement also contains other customary terms
and conditions, including certain financial covenants relating to the
performance of SESA and its subsidiaries.
On September 15, 2006, the parties amended the Facility Agreement to
reflect certain non-material modifications to the Facility Agreement.
34
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
13. SEGMENT DATA
Solutia, together with its subsidiaries, is a global manufacturer and
marketer of a variety of high-performance chemical-based materials, which are
used in a broad range of consumer and industrial applications. Solutia manages
its business in two segments: Performance Products and Integrated Nylon. The
Performance Products segment is a world leader in performance films for
laminated safety glass and after-market applications, and specialties such as
water treatment chemicals, heat transfer fluids and aviation hydraulic fluid.
The Integrated Nylon
segment consists of an integrated family of nylon products including
high-performance polymers and fibers. The major products by reportable
segment are as follows:
PERFORMANCE PRODUCTS INTEGRATED NYLON
-------------------- ----------------
SAFLEX(R) and VANCEVA(R) plastic interlayer Nylon intermediate "building block"
chemicals
Polyvinyl butyral for KEEPSAFE(R) and KEEPSAFE
MAXIMUM(R) laminated window glass Nylon resins and polymers, including
VYDYNE(R) and ASCEND(R)
LLUMAR(R), VISTA(R), GILA(R) and FORMULA ONE(R)
professional and retail window films Carpet fibers, including the WEAR-DATED(R)
and ULTRON(R) brands
THERMINOL(R) heat transfer fluids
Industrial nylon fibers
DEQUEST(R) water treatment chemicals
SKYDROL(R) aviation hydraulic fluids and SKYKLEEN(R)
brand of aviation solvents
ASTROTURF(R), CLEAN MACHINE(R) and CLEARPASS(R) entrance
matting and automotive spray suppression flaps
Solutia evaluates the performance of its operating segments based on
segment earnings before interest expense and income taxes ("EBIT"), which
includes marketing, administrative, technological and amortization expenses,
gains and losses from asset dispositions and restructuring charges, and other
income and expense items that can be directly attributable to the segment.
Certain expenses and other items that are managed outside the segments are
excluded. These unallocated items consist primarily of corporate expenses,
equity earnings from affiliates, other income and expense items,
reorganization items, gains and losses from asset dispositions and
restructuring charges that are not directly attributable to the operating
segment. There were no inter-segment sales in the periods presented below.
35
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
Segment data from continuing operations for the three and nine months
ended September 30, 2006 and 2005 are as follows:
THREE MONTHS ENDED SEPTEMBER 30,
-----------------------------------------------
2006 2005
----------------- -----------------
NET PROFIT NET PROFIT
SALES (LOSS) SALES (LOSS)
----- ------ ----- ------
SEGMENT:
Performance Products................ $291 $ 31 $277 $ 36
Integrated Nylon.................... 447 14 384 (10)
---- ---- ---- ----
SEGMENT TOTALS...................... 738 45 661 26
RECONCILIATION TO CONSOLIDATED TOTALS:
Corporate expenses.............. (13) (16)
Equity earnings from affiliates. 7 13
Interest expense................ (29) (20)
Other income, net............... 2 --
Reorganization items, net....... (14) (14)
CONSOLIDATED TOTALS: ---- ----
NET SALES....................... $738 $661
==== ---- ==== ----
LOSS BEFORE INCOME TAXES $ (2) $(11)
==== ====
NINE MONTHS ENDED SEPTEMBER 30,
-----------------------------------------------
2006 2005
----------------- -----------------
NET PROFIT NET PROFIT
SALES (LOSS) SALES (LOSS)
----- ------ ----- ------
SEGMENT:
Performance Products.................. $ 885 $ 119 $ 843 $ 105
Integrated Nylon...................... 1,296 4 1,262 3
------ ----- ------ -----
SEGMENT TOTALS........................ 2,181 123 2,105 108
RECONCILIATION TO CONSOLIDATED TOTALS:
Corporate expenses................ (26) (41)
Equity earnings from affiliates... 28 46
Interest expense.................. (79) (64)
Other income, net................. 5 1
Loss on debt modification......... (8) --
Reorganization items, net......... (40) (16)
CONSOLIDATED TOTALS: ------ ------
NET SALES......................... $2,181 $2,105
====== ----- ====== -----
INCOME BEFORE INCOME TAXES........ $ 3 $ 34
===== =====
36
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
14. CONDENSED CONSOLIDATING FINANCIAL STATEMENTS
CPFilms Inc., Monchem International, Inc., Monchem, Inc., Solutia
Systems, Inc., Solutia Investments, LLC and Solutia Business Enterprises,
Inc., 100% owned subsidiaries of Solutia (the "Guarantors"), are guarantors of
Solutia's 11.25% Senior Secured Notes due 2009 (the "Notes"). In connection
with the completion of the October 2003 credit facility, Solutia Investments,
LLC and Solutia Business Enterprises, Inc. became guarantors of the Notes
through cross-guarantor provisions. Solutia's obligations under the October
2003 facility were paid in full with the proceeds of the DIP facility dated
January 16, 2004, which payment did not affect the Guarantors' obligations in
respect of the Notes. Certain other 100% owned subsidiaries of Solutia (the
"DIP Guarantors") guaranteed the final DIP facility (as well as a smaller,
interim DIP facility put in place as of December 19, 2003), but the DIP
Guarantors were not required by the cross-guarantor provisions to guarantee
the Notes.
The Guarantors fully and unconditionally guarantee the Notes on a joint
and several basis. The following condensed consolidating financial statements
present, in separate columns, financial information for: Solutia Inc. on a
parent only basis carrying its investment in subsidiaries under the equity
method; Guarantors on a combined, or where appropriate, consolidated basis,
carrying investments in subsidiaries which do not guarantee the debt (the
"Non-Guarantors") under the equity method; Non-Guarantors on a combined, or
where appropriate, consolidated basis; eliminating adjustments; and
consolidated totals as of September 30, 2006 and December 31, 2005, and for
the three and nine months ended September 30, 2006 and 2005. The eliminating
adjustments primarily reflect intercompany transactions, such as interest
income and expense, accounts receivable and payable, advances, short and
long-term debt, royalties and profit in inventory eliminations. Solutia has
not presented separate financial statements and other disclosures concerning
the Guarantors as such information is not material and would substantially
duplicate disclosures included elsewhere in this report.
37
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 2006
PARENT ONLY NON- CONSOLIDATED
SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC.
------------ ---------- ---------- ------------ ------------
NET SALES................................ $565 $49 $248 $(124) $738
Cost of goods sold....................... 524 26 213 (128) 635
-------------------------------------------------------------------------
GROSS PROFIT............................. 41 23 35 4 103
Marketing expenses....................... 20 5 8 -- 33
Administrative expenses.................. 16 2 6 -- 24
Technological expenses................... 8 1 2 -- 11
Amortization expense..................... -- -- -- -- --
-------------------------------------------------------------------------
OPERATING INCOME (LOSS).................. (3) 15 19 4 35
Equity earnings from affiliates.......... 83 53 -- (129) 7
Interest expense......................... (21) -- (18) 10 (29)
Other income, net........................ 4 4 11 (15) 4
Reorganization items, net................ (19) -- -- -- (19)
-------------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES ....... 44 72 12 (130) (2)
Income tax expense ..................... 2 -- 3 (1) 4
-------------------------------------------------------------------------
INCOME (LOSS) FROM CONTINUING
OPERATIONS............................. 42 72 9 (129) (6)
Income from discontinued
operations, net of tax................. 2 -- 48 -- 50
-------------------------------------------------------------------------
NET INCOME............................... $ 44 $72 $ 57 $(129) $ 44
=========================================================================
CONDENSED CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME
THREE MONTHS ENDED SEPTEMBER 30, 2006
PARENT ONLY NON- CONSOLIDATED
SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC.
------------ ---------- ---------- ------------ ------------
NET INCOME............................... $ 44 $ 72 $ 57 $(129) $ 44
OTHER COMPREHENSIVE LOSS:
Net unrealized loss on derivative
instruments, net of tax................ (1) -- -- -- (1)
Currency translation adjustments......... (34) (35) (36) 71 (34)
-------------------------------------------------------------------------
COMPREHENSIVE INCOME..................... $ 9 $ 37 $ 21 $ (58) $ 9
=========================================================================
38
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 2005
PARENT ONLY NON- CONSOLIDATED
SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC.
------------ ---------- ---------- ------------ ------------
NET SALES................................ $489 $49 $223 $(100) $661
Cost of goods sold....................... 478 23 189 (106) 584
-------------------------------------------------------------------------
GROSS PROFIT............................. 11 26 34 6 77
Marketing expenses....................... 20 6 8 -- 34
Administrative expenses.................. 13 2 7 -- 22
Technological expenses................... 10 1 -- -- 11
Amortization expense..................... 1 -- -- -- 1
-------------------------------------------------------------------------
OPERATING INCOME (LOSS).................. (33) 17 19 6 9
Equity earnings (loss) from affiliates... 47 11 (1) (44) 13
Interest expense......................... (15) -- (12) 7 (20)
Other income, net........................ 2 6 9 (15) 2
Reorganization items, net................ (15) -- -- -- (15)
-------------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES ....... (14) 34 15 (46) (11)
Income tax expense ...................... -- -- 5 -- 5
-------------------------------------------------------------------------
INCOME (LOSS) FROM CONTINUING
OPERATIONS............................. (14) 34 10 (46) (16)
Income (loss) from discontinued
operations, net of tax................. (1) -- 2 -- 1
-------------------------------------------------------------------------
NET INCOME (LOSS)........................ $ (15) $34 $ 12 $ (46) $(15)
=========================================================================
CONDENSED CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME (LOSS)
THREE MONTHS ENDED SEPTEMBER 30, 2005
PARENT ONLY NON- CONSOLIDATED
SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC.
------------ ---------- ---------- ------------ ------------
NET INCOME (LOSS)........................ $(15) $34 $12 $(46) $(15)
OTHER COMPREHENSIVE INCOME (LOSS):
Net unrealized gain on derivative
instruments, net of tax................ 4 -- 1 (1) 4
Currency translation adjustments......... (1) (1) (2) 3 (1)
-------------------------------------------------------------------------
COMPREHENSIVE INCOME (LOSS).............. $(12) $33 $11 $(44) $(12)
=========================================================================
39
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
NINE MONTHS ENDED SEPTEMBER 30, 2006
PARENT ONLY NON- CONSOLIDATED
SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC.
------------ ---------- ---------- ------------ ------------
NET SALES.................................. $1,646 $154 $727 $(346) $2,181
Cost of goods sold......................... 1,534 76 626 (362) 1,874
-------------------------------------------------------------------------
GROSS PROFIT............................... 112 78 101 16 307
Marketing expenses......................... 58 19 24 -- 101
Administrative expenses.................... 45 7 16 -- 68
Technological expenses..................... 30 2 3 -- 35
Amortization expense....................... -- -- 1 -- 1
-------------------------------------------------------------------------
OPERATING INCOME (LOSS).................... (21) 50 57 16 102
Equity earnings (loss) from affiliates..... 179 81 (3) (229) 28
Interest expense........................... (61) -- (41) 23 (79)
Other income, net.......................... 14 12 26 (41) 11
Loss on debt modification.................. (8) -- -- -- (8)
Reorganization items, net.................. (51) -- -- -- (51)
-------------------------------------------------------------------------
INCOME BEFORE INCOME TAX EXPENSE .......... 52 143 39 (231) 3
Income tax expense ........................ 3 -- 9 (1) 11
-------------------------------------------------------------------------
INCOME (LOSS) FROM CONTINUING
OPERATIONS............................... 49 143 30 (230) (8)
Income from discontinued
operations, net of tax................... 1 -- 57 -- 58
-------------------------------------------------------------------------
NET INCOME................................. $ 50 $143 $ 87 $(230) $50
=========================================================================
CONDENSED CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME
NINE MONTHS ENDED SEPTEMBER 30, 2006
PARENT ONLY NON- CONSOLIDATED
SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC.
------------ ---------- ---------- ------------ ------------
NET INCOME................................. $ 50 $143 $ 87 $(230) $ 50
OTHER COMPREHENSIVE LOSS:
Net unrealized loss on derivative
instruments, net of tax.................. (2) -- -- -- (2)
Currency translation adjustments........... (22) (26) (26) 52 (22)
-------------------------------------------------------------------------
COMPREHENSIVE INCOME....................... $ 26 $117 $ 61 $(178) $ 26
=========================================================================
40
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
NINE MONTHS ENDED SEPTEMBER 30, 2005
PARENT ONLY NON- CONSOLIDATED
SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC.
------------ ---------- ---------- ------------ ------------
NET SALES.................................. $1,589 $141 $678 $(303) $2,105
Cost of goods sold......................... 1,511 64 573 (323) 1,825
-------------------------------------------------------------------------
GROSS PROFIT............................... 78 77 105 20 280
Marketing expenses......................... 58 18 24 -- 100
Administrative expenses.................... 43 6 19 -- 68
Technological expenses..................... 30 2 1 -- 33
Amortization expense....................... 1 -- -- -- 1
-------------------------------------------------------------------------
OPERATING INCOME (LOSS).................... (54) 51 61 20 78
Equity earnings (loss) from affiliates..... 157 35 (3) (141) 48
Interest expense........................... (47) -- (38) 21 (64)
Other income, net.......................... 1 17 30 (41) 7
Reorganization items, net.................. (33) -- (2) -- (35)
-------------------------------------------------------------------------
INCOME BEFORE INCOME TAXES ................ 24 103 48 (141) 34
Income tax expense ........................ 2 -- 16 -- 18
-------------------------------------------------------------------------
INCOME FROM CONTINUING OPERATIONS.......... 22 103 32 (141) 16
Income (loss) from discontinued
operations, net of tax................... (2) -- 6 -- 4
-------------------------------------------------------------------------
NET INCOME................................. $ 20 $103 $ 38 $(141) $ 20
=========================================================================
CONDENSED CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME
NINE MONTHS ENDED SEPTEMBER 30, 2005
PARENT ONLY NON- CONSOLIDATED
SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC.
------------ ---------- ---------- ------------ ------------
NET INCOME................................. $ 20 $103 $ 38 $(141) $20
OTHER COMPREHENSIVE INCOME (LOSS):
Net unrealized loss on derivative
instruments, net of tax.................. 4 -- -- -- 4
Currency translation adjustments........... (8) (11) (17) 28 (8)
-------------------------------------------------------------------------
COMPREHENSIVE INCOME....................... $ 16 $ 92 $ 21 $(113) $16
=========================================================================
41
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
CONDENSED CONSOLIDATING BALANCE SHEET
SEPTEMBER 30, 2006
PARENT ONLY NON- CONSOLIDATED
SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC.
------------ ---------- ---------- ------------ ------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents........................... $ 25 $ 13 $ 116 $ -- $ 154
Trade receivables, net.............................. 8 182 135 -- 325
Intercompany receivables............................ 116 758 114 (988) --
Miscellaneous receivables........................... 49 1 27 -- 77
Inventories......................................... 171 30 117 (16) 302
Prepaid expenses and other current assets........... 20 -- 9 3 32
Assets of discontinued operations................... -- -- -- -- --
----------------------------------------------------------------------
TOTAL CURRENT ASSETS................................ 389 984 518 (1,001) 890
PROPERTY, PLANT AND EQUIPMENT, NET.................. 579 82 120 -- 781
INVESTMENTS IN AFFILIATES........................... 2,436 262 11 (2,511) 198
GOODWILL............................................ -- 72 17 -- 89
IDENTIFIED INTANGIBLE ASSETS, NET................... 1 26 4 -- 31
INTERCOMPANY ADVANCES............................... 128 1,238 952 (2,318) --
OTHER ASSETS........................................ 59 -- 50 -- 109
----------------------------------------------------------------------
TOTAL ASSETS........................................ $ 3,592 $2,664 $1,672 $(5,830) $ 2,098
======================================================================
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Accounts payable.................................... $ 170 $ 6 $ 46 $ (1) $ 221
Intercompany payables............................... 111 11 139 (261) --
Accrued liabilities................................. 160 15 63 -- 238
Short-term debt..................................... 650 -- -- -- 650
Intercompany short-term debt........................ 1 -- 191 (192) --
Liabilities of discontinued operations.............. -- -- 2 -- 2
----------------------------------------------------------------------
TOTAL CURRENT LIABILITIES........................... 1,092 32 441 (454) 1,111
LONG-TERM DEBT...................................... -- -- 203 -- 203
INTERCOMPANY LONG-TERM DEBT......................... -- -- 635 (635) --
OTHER LIABILITIES................................... 192 1 70 -- 263
----------------------------------------------------------------------
TOTAL LIABILITIES NOT SUBJECT TO COMPROMISE......... 1,284 33 1,349 (1,089) 1,577
LIABILITIES SUBJECT TO COMPROMISE................... 3,736 411 21 (2,219) 1,949
SHAREHOLDERS' EQUITY (DEFICIT):
Common stock........................................ 1 -- -- -- 1
Additional contributed capital ..................... 56 -- -- -- 56
Treasury stock...................................... (251) -- -- -- (251)
Net (deficiency) excess of assets at spinoff and
subsidiary capital................................ (113) 2,220 302 (2,522) (113)
Accumulated other comprehensive loss................ (117) -- -- -- (117)
Accumulated deficit................................. (1,004) -- -- -- (1,004)
----------------------------------------------------------------------
TOTAL SHAREHOLDERS' EQUITY (DEFICIT)................ (1,428) 2,220 302 (2,522) (1,428)
----------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT) $ 3,592 $2,664 $1,672 $(5,830) $ 2,098
======================================================================
42
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
CONDENSED CONSOLIDATING BALANCE SHEET
DECEMBER 31, 2005
PARENT ONLY NON- CONSOLIDATED
SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC.
------------ ---------- ---------- ------------ ------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents......................... $ 1 $ 15 $ 91 $ -- $ 107
Trade receivables, net............................ 7 118 121 -- 246
Intercompany receivables.......................... 115 754 89 (958) --
Miscellaneous receivables......................... 67 -- 28 -- 95
Inventories....................................... 142 31 94 (13) 254
Prepaid expenses and other assets................. 23 -- 8 3 34
Assets of discontinued operations................. -- -- 69 -- 69
----------------------------------------------------------------------
TOTAL CURRENT ASSETS.............................. 355 918 500 (968) 805
PROPERTY, PLANT AND EQUIPMENT, NET................ 589 84 97 -- 770
INVESTMENTS IN AFFILIATES......................... 2,291 209 13 (2,308) 205
GOODWILL.......................................... -- 72 4 -- 76
IDENTIFIED INTANGIBLE ASSETS, net................. 2 26 -- -- 28
INTERCOMPANY ADVANCES............................. 128 1,238 703 (2,069) --
OTHER ASSETS...................................... 62 -- 38 -- 100
----------------------------------------------------------------------
TOTAL ASSETS...................................... $ 3,427 $2,547 $1,355 $(5,345) $ 1,984
======================================================================
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Accounts payable.................................. $ 167 $ 9 $ 43 $ (1) $ 218
Intercompany payables............................. 108 12 111 (231) --
Accrued liabilities............................... 143 13 67 -- 223
Short-term debt................................... 300 -- -- -- 300
Intercompany short-term debt...................... -- -- 182 (182) --
Liabilities of discontinued operations............ 1 -- 25 -- 26
----------------------------------------------------------------------
TOTAL CURRENT LIABILITIES......................... 719 34 428 (414) 767
LONG-TERM DEBT.................................... -- -- 247 -- 247
INTERCOMPANY LONG-TERM DEBT....................... -- -- 401 (401) --
OTHER LIABILITIES................................. 201 -- 47 -- 248
----------------------------------------------------------------------
TOTAL LIABILITIES NOT SUBJECT TO COMPROMISE....... 920 34 1,123 (815) 1,262
LIABILITIES SUBJECT TO COMPROMISE................. 3,961 407 21 (2,213) 2,176
SHAREHOLDERS' EQUITY (DEFICIT):
Common stock...................................... 1 -- -- -- 1
Additional contributed capital ................... 56 -- -- -- 56
Treasury stock.................................... (251) -- -- -- (251)
Net (deficiency) excess of assets at spinoff and
subsidiary capital.............................. (113) 2,106 211 (2,317) (113)
Accumulated other comprehensive loss.............. (93) -- -- -- (93)
Accumulated deficit............................... (1,054) -- -- -- (1,054)
----------------------------------------------------------------------
TOTAL SHAREHOLDERS' EQUITY (DEFICIT).............. (1,454) 2,106 211 (2,317) (1,454)
----------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY
(DEFICIT)....................................... $ 3,427 $2,547 $1,355 $(5,345) $ 1,984
======================================================================
43
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30, 2006
PARENT ONLY NON- CONSOLIDATED
SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC.
------------ ---------- ---------- ------------ ------------
CASH PROVIDED BY (USED IN) OPERATIONS.............. $(259) $ 5 $ 43 $ -- $(211)
----------------------------------------------------------------------
INVESTING ACTIVITIES:
Property, plant and equipment purchases............ (50) (4) (24) -- (78)
Acquisition, net of cash acquired.................. (23) -- 7 -- (16)
Property disposals and investment proceeds......... 5 -- 72 -- 77
----------------------------------------------------------------------
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES.... (68) (4) 55 -- (17)
----------------------------------------------------------------------
FINANCING ACTIVITIES:
Net change in short-term debt obligations.......... 350 -- -- -- 350
Payments on long-term debt obligations............. -- -- (51) -- (51)
Deferred debt issuance costs....................... (8) -- (9) -- (17)
Other financing activities......................... -- -- (7) -- (7)
Changes in investments and advances from
(to) affiliates.................................. 9 (3) (6) -- --
----------------------------------------------------------------------
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES.... 351 (3) (73) -- 275
----------------------------------------------------------------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS... 24 (2) 25 -- 47
CASH AND CASH EQUIVALENTS:
BEGINNING OF YEAR.................................. 1 15 91 -- 107
----------------------------------------------------------------------
END OF PERIOD...................................... $ 25 $13 $116 $ -- $ 154
======================================================================
44
SOLUTIA INC.
(DEBTOR-IN-POSSESSION)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30, 2005
PARENT ONLY NON- CONSOLIDATED
SOLUTIA INC. GUARANTORS GUARANTORS ELIMINATIONS SOLUTIA INC.
------------ ---------- ---------- ------------ ------------
CASH PROVIDED BY (USED IN) OPERATIONS............... $(103) $ 59 $ 42 $ -- $ (2)
----------------------------------------------------------------------
INVESTING ACTIVITIES:
Property, plant and equipment purchases............. (30) (7) (14) -- (51)
Other investing activities.......................... 3 -- 1 -- 4
----------------------------------------------------------------------
CASH USED IN INVESTING ACTIVITIES................... (27) (7) (13) -- (47)
----------------------------------------------------------------------
FINANCING ACTIVITIES:
Net change in cash collateralized letters of credit. 17 -- -- -- 17
Changes in investments and advances from (to)
affiliates........................................ 72 (55) (17) -- --
Deferred debt issuance costs........................ (1) -- -- -- (1)
----------------------------------------------------------------------
CASH PROVIDED BY (USED IN) FINANCING
ACTIVITIES........................................ 88 (55) (17) -- 16
----------------------------------------------------------------------
INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS....................................... (42) (3) 12 -- (33)
CASH AND CASH EQUIVALENTS:
BEGINNING OF YEAR................................... 43 7 65 -- 115
----------------------------------------------------------------------
END OF PERIOD....................................... $ 1 $ 4 $ 77 $ -- $ 82
======================================================================
45
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This section includes forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. These forward-looking statements include all statements
regarding expected future financial position, results of operations,
profitability, cash flows and liquidity. Important factors that could cause
actual results to differ materially from the expectations reflected in the
forward-looking statements herein include, among others, Solutia's ability to
develop, confirm and consummate a Chapter 11 plan of reorganization; Solutia's
ability to reduce its overall leveraged position; the potential adverse impact
of Solutia's Chapter 11 filing on its operations, management and employees,
and the risks associated with operating businesses under Chapter 11
protection; Solutia's ability to comply with the terms of its
debtor-in-possession ("DIP") financing facility; customer response to
Solutia's Chapter 11 filing; general economic, business and market conditions;
customer acceptance of new products; raw material and energy costs or
shortages; limited access to capital resources; currency and interest rate
fluctuations; increased competitive and/or customer pressure; gain or loss of
significant customers; compression of credit terms with suppliers; exposure to
product liability and other litigation; changes in cost of environmental
remediation obligations and other environmental liabilities; changes in
accounting principles generally accepted in the U.S.; ability to implement
cost reduction initiatives in a timely manner; geopolitical instability; and
changes in pension and other postretirement assumptions.
OVERVIEW
Summary of Significant Third Quarter 2006 Events
Reorganization Strategy
- -----------------------
In the third quarter 2006, Solutia continued its stated reorganization
strategy with a focus on the principal objectives of (i) managing the
businesses to enhance Solutia's performance; (ii) making changes to
Solutia's asset portfolio to maximize the value of the estate; (iii)
achieving reallocation of "legacy liabilities"; and (iv) negotiating an
appropriate capital structure. Solutia took steps in 2006 to enhance its
financial performance including using the tools of Chapter 11 and making
changes to its asset portfolio, as explained below. Solutia also continues
to pursue a reallocation of legacy liabilities in the Chapter 11 proceeding
through negotiations with the other constituents in the Chapter 11 case.
Solutia will also be working in 2006 to establish a proper capital structure
upon emergence from Chapter 11. However, as a result of the numerous
uncertainties and complexities inherent in Solutia's Chapter 11 proceedings,
its ability and timing of emergence from Chapter 11 are subject to
significant uncertainty.
PERFORMANCE ENHANCEMENT
Solutia benefited in the third quarter of 2006 from several actions
implemented earlier in the Chapter 11 reorganization process designed to
enhance its performance. These included implementing significant general and
administrative expense reductions; increasing performance-based compensation
and benefits programs; enacting key senior management changes; initiating a
cost reduction program at Solutia's operating sites focused on actions such
as lean manufacturing techniques, yield improvement, maintenance savings and
utilities optimization; and implementing an enterprise-wide procurement
effort.
As described in Note 12 to the accompanying condensed consolidated
financial statements, on July 26, 2006, SSI entered into a (euro) 200
million Facility Agreement (the "Facility Agreement") that closed on August
1, 2006. SESA used the proceeds of the Facility Agreement to refinance all
of its (euro) 200 million of 10 percent Euronotes due 2008 (the "Euronotes")
on August 1, 2006. Solutia expects that this new financing will result in
significant interest savings for Solutia, as well as allow Solutia greater
flexibility in executing its reorganization strategy.
PORTFOLIO EVALUATION
Solutia's strategy is to build a portfolio of high-potential businesses
that can consistently deliver returns in excess of Solutia's cost of
capital. As part of this strategy, Solutia made several changes to re-shape
its asset portfolio in 2005 and continued these efforts in the third quarter
2006 with the closing of the sale of its pharmaceutical services business to
Dishman pursuant to a Stock and Asset Purchase Agreement dated as of May 23,
46
2006 between SESA and Dishman. Closing of the sale occurred on August 22,
2006 and included the transfer of all economic benefits and liabilities of
the pharmaceutical services business from August 1, 2006 through the closing
date. Under the terms of the agreement, Dishman purchased 100 percent of the
stock of the pharmaceutical services business, for $77 million. See Note 5
to the accompanying condensed consolidated financial statements for
additional information regarding the sale of the pharmaceutical services
business.
REALLOCATION OF LEGACY LIABILITIES
On February 14, 2006, the Debtors filed with the Bankruptcy Court their
Plan of Reorganization (the "Plan") and Disclosure Statement (the
"Disclosure Statement") providing for, among other things, the reallocation
of certain Legacy Liabilities among Solutia, Monsanto and Pharmacia and
setting forth the treatment various constituencies in the Chapter 11 Cases
will receive under the Plan. See Note 1 to the accompanying condensed
consolidated financial statements for further description of the Plan and
Disclosure Statement, as well as a summary of developments in Solutia's
ongoing Chapter 11 bankruptcy case.
Summary Results of Operations
The discussions below and the accompanying condensed consolidated
financial statements have been prepared in accordance with Statement of
Position 90-7, Financial Reporting by Entities in Reorganization Under the
Bankruptcy Code ("SOP 90-7"), and on a going concern basis, which assumes
the continuity of operations and reflects the realization of assets and
satisfaction of liabilities in the ordinary course of business. However, as
a result of the Chapter 11 bankruptcy proceedings, such realization of
assets and liquidation of liabilities are subject to a significant number of
uncertainties.
Results of Operations - Third Quarter 2006 Compared with Third Quarter 2005
Net sales and operating income of Solutia for the three months ended
September 30, 2006 and 2005 are as follows:
(dollars in millions) 2006 2005
---- ----
Net Sales.................................................................... $ 738 $ 661
======= =======
Operating Income:
Performance Products Segment Profit...................................... $ 31 $ 36
Integrated Nylon Segment Profit (Loss) .................................. 14 (10)
Less: Corporate Expenses............................................ (13) (16)
Less: Equity (Earnings) Loss from Affiliates, Other (Income)
Expense and Reorganization Items included in Segment Profit......... 3 (1)
------- -------
Operating Income............................................................. $ 35 $ 9
======= =======
Charges included in Operating Income......................................... $ (1) $ (3)
======= =======
The $77 million, or 12 percent, increase in net sales as compared to the
third quarter 2005 was primarily a result of higher average selling prices
of approximately 8 percent, higher sales volumes of approximately 3 percent,
and favorable currency exchange rate fluctuations of approximately 1
percent. The $26 million increase in operating income as compared to the
third quarter 2005 resulted primarily from higher net sales, favorable
manufacturing variances resulting from 2005 results being negatively
impacted by Hurricanes Katrina and Rita and lower net charges, which are
described in greater detail in the Results of Operations section below,
partially offset by higher raw material and energy costs of approximately
$55 million.
47
Results of Operations - Nine Months Ended September 30, 2006 Compared
with Nine Months Ended September 30, 2005
Net sales and operating income of Solutia for the nine months ended
September 30, 2006 and 2005 are as follows:
(dollars in millions) 2006 2005
---- ----
Net Sales.................................................................... $ 2,181 $ 2,105
======= =======
Operating Income:
Performance Products Segment Profit...................................... $ 119 $ 105
Integrated Nylon Segment Profit ......................................... 4 3
Less: Corporate Expenses............................................ (26) (41)
Less: Equity (Earnings) Loss from Affiliates, Other (Income) Expense
and Reorganization Items included in Segment Profit (Loss).......... 5 11
------- -------
Operating Income............................................................. $ 102 $ 78
======= ======
Gains (Charges) included in Operating Income................................. $ 10 $ (3)
======= =======
The $76 million, or 4 percent, increase in net sales as compared to the
nine months ended September 30, 2005 was primarily a result of higher
average selling prices of approximately 7 percent, partially offset by lower
sales volumes of approximately 3 percent. The $24 million increase in
operating income as compared to the nine months ended September 30, 2005
resulted primarily from higher net sales, favorable manufacturing variances
resulting from 2005 results being negatively impacted by Hurricanes Katrina
and Rita, and higher net gains, which are described in greater detail in the
Results of Operations section below, partially offset by higher raw material
and energy costs of approximately $110 million and unfavorable manufacturing
variances resulting principally from manufacturing interruptions.
Financial Information
Summarized financial information concerning Solutia and subsidiaries in
reorganization and subsidiaries not in reorganization as of and for the
three and nine months ended September 30, 2006 is presented as follows:
SOLUTIA AND SUBSIDIARIES NOT SOLUTIA AND
SUBSIDIARIES IN IN SUBSIDIARIES
(dollars in millions) REORGANIZATION REORGANIZATION ELIMINATIONS CONSOLIDATED
-------------- -------------- ------------ ------------
Three Months Ended September 30, 2006:
- --------------------------------------
Net Sales................................. $ 614 $ 248 $ (124) $ 738
Operating Income.......................... 12 20 3 35
Net Income................................ 44 58 (58) 44
Nine Months Ended September 30, 2006:
- -------------------------------------
Net Sales................................. $1,804 $ 723 $ (346) $2,181
Operating Income.......................... 30 56 16 102
Net Income................................ 50 87 (87) 50
As of September 30, 2006:
- -------------------------
Total Assets.............................. $1,837 $ 831 $ (570) $2,098
Liabilities not Subject to Compromise..... 1,207 431 (61) 1,577
Liabilities Subject to Compromise......... 2,058 -- (109) 1,949
Total Shareholders' Equity (Deficit)...... (1,428) 400 (400) (1,428)
48
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
There were no changes in the nine months ended September 30, 2006
with respect to Solutia's critical accounting policies, as presented on
pages 33 through 36 of Solutia's 2005 Form 10-K.
RESULTS OF OPERATIONS--THIRD QUARTER 2006 COMPARED WITH THIRD QUARTER 2005
PERFORMANCE PRODUCTS
THREE MONTHS ENDED
SEPTEMBER 30,
--------------------------
(dollars in millions) 2006 2005
---- ----
Net Sales................................................ $ 291 $ 277
======= =======
Segment Profit .......................................... $ 31 $ 36
======= =======
Charges and Reorganization Items included in Segment
Profit............................................. $ (6) $ --
======= =======
The $14 million, or 5 percent, increase in net sales as compared to the
third quarter 2005 resulted primarily from higher selling prices of
approximately 5 percent and favorable currency exchange rate fluctuations of
approximately 2 percent, partially offset by lower sales volumes of
approximately 2 percent. Higher average selling prices were experienced in
SAFLEX(R) and VANCEVA(R) plastic interlayer products, THERMINOL(R) heat
transfer fluids, and LLUMAR(R) and VISTA(R) professional film products.
Lower sales volumes were experienced in LLUMAR(R) professional film products
and DEQUEST(R) water treatment chemicals.
The $5 million, or 14 percent, decrease in segment profit in comparison
to the third quarter 2005 resulted primarily from higher charges of $6
million consisting primarily of reorganization items related to contract
termination costs and asset write-downs. After consideration of these
charges, the increase in profit was due to higher sales, partially offset by
higher raw material and energy costs.
INTEGRATED NYLON
THREE MONTHS ENDED
SEPTEMBER 30,
--------------------------
(dollars in millions) 2006 2005
---- ----
Net Sales................................................ $ 447 $ 384
======= =======
Segment Profit (Loss).................................... $ 14 $ (10)
======= =======
Charges and Reorganization Items included in Segment
Profit (Loss).................................... $ (1) $ --
======= =======
The $63 million, or 16 percent, increase in net sales as compared to the
third quarter 2005 resulted primarily from higher average selling prices of
approximately 9 percent and higher sales volumes of approximately 7 percent.
Average selling prices increased in carpet fibers, nylon plastics and
polymers, and intermediate chemicals in response to the escalating cost of
raw materials. Sales volumes increased in intermediate chemicals and nylon
plastics and polymers, partially offset by decreases in carpet fibers and
industrial nylon fibers. Sales volumes increased as a result of third
quarter 2005 sales volumes being negatively impacted by Hurricanes Katrina
and Rita, as well as capacity increases in the third quarter 2006 in the
nylon plastics and polymers business as a result of the reconfiguration of
existing idle assets.
The $24 million increase in segment profit as compared to the third
quarter 2005 resulted primarily from higher net sales and favorable
manufacturing variances, partially offset by higher raw material costs of
approximately $50 million. Favorable manufacturing variances were a result
of good operating performance in the current year as well as third quarter
2005 operations being negatively impacted by the aforementioned hurricanes.
49
Segment profit in the third quarter 2006 included $1 million of
decommissioning and dismantling charges associated with the shutdown of the
acrylic fibers and nylon industrial fibers businesses in the second quarter
2005. Segment loss in the third quarter 2005 included $2 million of
decontamination costs incurred as part of the shutdown of the acrylic fibers
business, offset by a $2 million gain on the sale of the acrylic fibers
assets.
CORPORATE EXPENSES
THREE MONTHS ENDED
SEPTEMBER 30,
-------------------------
(dollars in millions) 2006 2005
---- ----
Corporate Expenses........................................................... $ 13 $ 16
======= =======
Gains (Charges) included in Corporate Expenses........................... $ -- $ (3)
======= =======
With the exception of a $3 million charge in 2005, corporate expenses
remained consistent in comparing the three months ended September 30, 2006
and 2005, respectively. The $3 million loss resulted from curtailment and
settlement activities as a result of amendments to Solutia's pension and
postretirement plans.
EQUITY EARNINGS FROM AFFILIATES
THREE MONTHS ENDED
SEPTEMBER 30,
-------------------------
(dollars in millions) 2006 2005
---- ----
Equity Earnings from Affiliates not included in Reportable Segment Profit...... $ 7 $ 13
======= =======
Charges included in Equity Earnings from Affiliates............................ $ (1) $ (1)
======= =======
Equity earnings from affiliates decreased by $6 million in the third
quarter 2006 compared to the third quarter 2005. This decline was primarily
a result of the sale of the Astaris joint venture in the fourth quarter 2005
and lower selling prices at the Flexsys joint venture in the third quarter
2006 in comparison to the third quarter 2005.
INTEREST EXPENSE
THREE MONTHS ENDED
SEPTEMBER 30,
-------------------------
(dollars in millions) 2006 2005
---- ----
Interest Expense............................................................. $ 29 $ 20
======= =======
Charges included in Interest Expense..................................... $ (3) $ --
======= =======
The $9 million, or 45 percent, increase in interest expense in the third
quarter 2006 compared to the third quarter 2005 resulted principally from
higher debt outstanding during the third quarter 2006 than in the comparable
period of 2005. In addition, the third quarter 2006 results included a $3
million charge related to the refinancing of SESA's Euronotes.
REORGANIZATION ITEMS, NET
THREE MONTHS ENDED
SEPTEMBER 30,
-------------------------
(dollars in millions) 2006 2005
---- ----
Reorganization Items, net.................................................... $ (19) $ (15)
======= ======
Reorganization items, net are presented separately in the Condensed
Consolidated Statement of Operations and represent items of income, expense,
gain, or loss that are realized or incurred by Solutia because it is in
reorganization under Chapter 11 of the U.S. Bankruptcy Code. Reorganization
items incurred in the third quarter 2006 included $13 million of
professional fees for services provided by debtor and creditor professionals
directly related to Solutia's reorganization proceedings; $1 million of
expense provisions for (i) employee severance costs incurred directly as
part of the Chapter 11 reorganization process and (ii) a retention plan for
certain Solutia
50
employees approved by the bankruptcy court; and $5 million of other
reorganization charges primarily involving costs incurred with the shut-down
of certain non-strategic businesses. Reorganization items incurred in the
third quarter 2005 included $13 million of professional fees for services
provided by debtor and creditor professionals directly related to Solutia's
reorganization proceedings and $2 million of expense provisions for (i)
employee severance costs incurred directly as part of the Chapter 11
reorganization process and (ii) a retention plan for certain Solutia
employees approved by the bankruptcy court; $1 million net gain for
adjustments to record certain pre-petition claims at estimated amounts of
the allowed claims; and $1 million of other reorganization charges primarily
involving costs incurred with exiting the acrylic fibers operations.
INCOME TAX EXPENSE
THREE MONTHS ENDED
SEPTEMBER 30,
-------------------------
(dollars in millions) 2006 2005
---- ----
Income Tax Expense .......................................................... $ 4 $ 5
===== =====
Solutia's income tax expense in the third quarter 2006 and 2005 was
primarily a result of foreign income taxes. As a result of Solutia's Chapter
11 filing, Solutia did not record any U.S. income tax expense or benefit for
domestic operations (including temporary differences) during the three
months ended September 30, 2006 and 2005. Consequently, the changes in
federal and state deferred tax assets were offset by corresponding changes
in valuation allowances. See Note 14 of Solutia's 2005 Form 10-K for
additional information concerning the Company's deferred tax assets and
changes in valuation allowances due to Solutia's Chapter 11 filing.
DISCONTINUED OPERATIONS
THREE MONTHS ENDED
SEPTEMBER 30,
-------------------------
(dollars in millions) 2006 2005
---- ----
Income from Discontinued Operations, net of tax.............................. $ 50 $ 1
===== =====
Income from discontinued operations consists of the results of Solutia's
pharmaceutical services business. As described in Note 5 to the accompanying
condensed consolidated financial statements, on May 23, 2006, SESA agreed to
sell its pharmaceutical services business to Dishman. Closing of the sale
occurred on August 22, 2006. Included in the results of discontinued
operations for the three months ended September 30, 2006 is a gain on the
sale of $49 million.
RESULTS OF OPERATIONS--NINE MONTHS ENDED SEPTEMBER 30, 2006 COMPARED WITH
NINE MONTHS ENDED SEPTEMBER 30, 2005
PERFORMANCE PRODUCTS
NINE MONTHS ENDED
SEPTEMBER 30,
-------------------------
(dollars in millions) 2006 2005
---- ----
Net Sales.................................................................. $ 885 $ 843
======= =======
Segment Profit ............................................................ $ 119 $ 105
======= =======
Charges and Reorganization Items included in Segment Profit............ $ (9) $ (7)
======= =======
The $42 million, or 5 percent, increase in net sales as compared to the
nine months ended September 30, 2005 resulted primarily from higher sales
volumes of approximately 3 percent and an increase in average selling prices
of approximately 3 percent, partially offset by unfavorable currency
exchange rate fluctuations of approximately 1 percent. Higher volumes were
experienced in SAFLEX(R) and VANCEVA(R) plastic interlayer products and
LLUMAR(R) and VISTA(R) professional film products, partially offset by lower
volumes in THERMINOL(R) heat transfer fluids. Higher average selling prices
were experienced in SAFLEX(R) and
51
VANCEVA(R) plastic interlayer products, THERMINOL(R) heat transfer fluids,
and LLUMAR(R) and VISTA(R) professional film products. The unfavorable
exchange rate fluctuations occurred primarily as a result of a stronger U.S.
dollar in relation to the Euro in comparison to the nine months ended
September 30, 2005.
The $14 million, or 13 percent, increase in segment profit in comparison
to the nine months ended September 30, 2005 resulted principally from higher
net sales, favorable manufacturing variances resulting from improved
capacity utilization, and benefits related to 100 percent ownership in
Quimica, partially offset by higher raw material costs. Segment profit in
2006 included $5 million for contract termination costs and certain asset
write-downs, $3 million of severance and retraining costs, and $1 million
for restructuring charges. Segment profit in the nine months ended September
30, 2005 was affected by $7 million of reorganization items, which consisted
primarily of adjustments to record certain pre-petition claims at estimated
amounts of the allowed claims.
INTEGRATED NYLON
NINE MONTHS ENDED
SEPTEMBER 30,
------------------------
(dollars in millions) 2006 2005
---- ----
Net Sales.................................................................. $ 1,296 $ 1,262
======= =======
Segment Profit............................................................. $ 4 $ 3
======= =======
Charges and Reorganization Items included in Segment Profit............ $ (4) $ (11)
======= =======
The $34 million, or 3 percent, increase in net sales as compared to the
nine months ended September 30, 2005 resulted primarily from higher average
selling prices of approximately 9 percent, partially offset by lower sales
volumes of approximately 6 percent. Average selling prices increased in all
businesses as a result of favorable market conditions and in response to the
escalating cost of raw materials. Sales volumes were impacted by the exit
from the unprofitable acrylic fibers operations, as well as a portion of the
nylon industrial fibers operations, both in the second quarter 2005.
Further, lower sales volumes were experienced within carpet fibers,
partially offset by higher sales volumes in intermediate chemicals and nylon
plastics and polymers.
The $1 million increase in the segment profit in comparison to the nine
months ended September 30, 2005 resulted primarily from higher net sales,
partially offset by unfavorable manufacturing costs and higher raw material
costs of approximately $95 million. The unfavorable manufacturing costs were
precipitated by a manufacturing interruption incurred at the Alvin, Texas
facility, resulting in a significant turnaround being accelerated in its
timing, as well as extended in its duration, during the first quarter of
this year. Partially offsetting this impact is favorable manufacturing
variances experienced in the third quarter 2006, as compared to the third
quarter 2005 due to third quarter 2005 operations being negatively impacted
by Hurricanes Katrina and Rita.
Segment profit in 2006 included approximately $3 million of
decommissioning and dismantling costs primarily due to the shut-down of the
acrylic fibers business in 2005 and $1 million of asset write-downs. In
addition, 2005 segment profit included reorganization items of $11 million
comprised of $10 million principally to shut-down the acrylic fibers
operations and $1 million of other restructuring charges. The shut-down
costs included $11 million of asset write-downs, $4 million of severance and
retraining costs, and $4 million of decontamination costs, partially offset
by a $7 million gain from the reversal of the LIFO reserve associated with
the inventory sold and written off as part of the business shut-down, and a
$2 million gain from the sale of certain acrylic fibers assets.
CORPORATE EXPENSES
NINE MONTHS ENDED
SEPTEMBER 30,
------------------------
(dollars in millions) 2006 2005
---- ----
Corporate Expenses........................................................... $ 26 $ 41
======= =======
Gains (Charges) included in Corporate Expenses........................... $ 11 $ (3)
======= =======
With the exception of $11 million of net gains recorded in 2006 and $3
million of charges recorded in 2005, corporate expenses remained consistent
in comparing the nine months ended September 30, 2006 to the comparable
period in 2005, with benefits from cost reduction measures offsetting
inflationary increases in corporate
52
expenses. The net gains include a $20 million gain that resulted from the
reversal of a litigation reserve with respect to a litigation matter that
was decided favorably in the second quarter 2006 (as further described in
Note 10 of the accompanying condensed consolidated financial statements),
partially offset by a $9 million environmental charge that was precipitated
by the notification by a third-party of its intent to terminate a tolling
agreement at one of Solutia's facilities outside the U.S. that will likely
result in the cessation of operations at that site. The $3 million charge
recorded in 2005 resulted from curtailment and settlement activities as a
result of amendments to Solutia's pension and postretirement plans.
EQUITY EARNINGS FROM AFFILIATES
NINE MONTHS ENDED
SEPTEMBER 30,
-------------------------
(dollars in millions) 2006 2005
---- ----
Equity Earnings from Affiliates not included in Reportable Segment Profit.... $ 28 $ 46
------- -------
Equity Earnings from Affiliates included in Reportable Segment Profit........ $ -- $ 2
------- -------
Equity Earnings from Affiliates.............................................. $ 28 $ 48
======= =======
Gains (Charges) included in Equity Earnings from Affiliates............. $ (2) $ 5
======= =======
Equity earnings from affiliates decreased by $20 million in comparison
to the nine months ended September 30, 2005. This decline was primarily a
result of the sale of the Astaris joint venture in the fourth quarter 2005
and lower selling prices and sales volumes at the Flexsys joint venture in
the nine months ended September 30, 2006 in comparison to the same period in
2005. In addition, results in the nine months ended September 30, 2006
included a $2 million restructuring charge from the Flexsys joint venture,
while the results for the nine months ended September 30, 2005 included a
non-operational gain of $5 million in the Flexsys joint venture.
INTEREST EXPENSE
NINE MONTHS ENDED
SEPTEMBER 30,
-------------------------
(dollars in millions) 2006 2005
---- ----
Interest Expense............................................................. $ 79 $ 64
======= =======
Gains (Charges) included in Interest Expense............................ $ (4) $ --
======= =======
The $15 million, or 23 percent, increase in interest expense in 2006 in
comparison to the nine months ended September 30, 2005 resulted principally
from higher debt outstanding in the nine months ended September 30, 2006
than in the comparable period of 2005. In addition, results in the nine
months ended September 30, 2006 included a $3 million charge related to
SESA's Euronotes refinancing and a $1 million charge related to the
amendment of the DIP facility.
REORGANIZATION ITEMS, NET
NINE MONTHS ENDED
SEPTEMBER 30,
------------------------
(dollars in millions) 2006 2005
---- ----
Reorganization Items, net.................................................... $ (51) $ (35)
======= =======
Reorganization items, net are presented separately in the Condensed
Consolidated Statement of Operations and represent items of income, expense,
gain, or loss that are realized or incurred by Solutia because it is in
reorganization under Chapter 11 of the U.S. Bankruptcy Code. Reorganization
items incurred in the nine months ended September 30, 2006 included: $40
million of professional fees for services provided by debtor and creditor
professionals directly related to Solutia's reorganization proceedings; $9
million of other reorganization charges primarily involving costs incurred
with exiting certain non-strategic businesses; $4 million of expense
provisions related to (i) employee severance costs incurred directly as part
of the Chapter 11 reorganization process and (ii) a retention plan for
certain Solutia employees approved by the bankruptcy court; and a $2 million
net gain from adjustments to record certain pre-petition claims at estimated
amounts of the allowed claims. Reorganization items
53
incurred in the nine months ended September 30, 2005 included: $37 million
of professional fees for services provided by debtor and creditor
professionals directly related to Solutia's reorganization proceedings; a
$29 million net gain representing the difference between the settlement
amount of certain pre-petition obligations and the corresponding amounts
previously recorded; $10 million of net charges for adjustments to record
certain pre-petition claims at estimated amounts of the allowed claims; $10
million of expense provisions related to (i) employee severance costs
incurred directly as part of the Chapter 11 reorganization process and (ii)
a retention plan for certain Solutia employees approved by the bankruptcy
court; and $7 million of other reorganization charges primarily involving
costs incurred with the exit from the acrylic fibers business.
INCOME TAX EXPENSE
NINE MONTHS ENDED
SEPTEMBER 30,
------------------------
(dollars in millions) 2006 2005
---- ----
Income Tax Expense........................................................... $ 11 $ 18
======= =======
Solutia's income tax expense in the nine months ended September 30, 2006
and 2005 was primarily a result of foreign income taxes. The decrease in
income tax expense is due to tax benefits realized from utilization of
Flexsys tax losses in certain foreign jurisdictions, as well as the loss
incurred due to the environmental provision booked in the first quarter
related to a non-US operating site. As a result of Solutia's Chapter 11
filing, Solutia did not record any U.S. income tax expense or benefit for
domestic operations (including temporary differences) during the nine months
ended September 30, 2006 and 2005. Consequently, the changes in federal and
state deferred tax assets were offset by corresponding changes in valuation
allowances. See Note 14 of Solutia's 2005 Form 10-K for additional
information concerning Solutia's deferred tax assets and changes in
valuation allowances due to Solutia's Chapter 11 filing.
DISCONTINUED OPERATIONS
NINE MONTHS ENDED
SEPTEMBER 30,
-------------------------
(dollars in millions) 2006 2005
---- ----
Income from Discontinued Operations, net of tax.............................. $ 58 $ 4
======= =======
Income from discontinued operations consists of the results of Solutia's
pharmaceutical services business. As described in Note 5 to the accompanying
condensed consolidated financial statements, on May 23, 2006, SESA agreed to
sell its pharmaceutical services business to Dishman. Closing of the sale
occurred on August 22, 2006. Included in the results of discontinued
operations for the nine months ended September 30, 2006 is a gain on the
sale of $49 million as well as a tax gain of $5 million. The tax gain
resulted from the reversal of a valuation allowance established as a result
of the merger of CarboGen and AMCIS subsidiaries of the pharmaceutical
services business into one legal entity.
SUMMARY OF EVENTS AFFECTING COMPARABILITY
Charges and gains recorded in the nine months ended September 30, 2006
and 2005, and other events affecting comparability have been summarized in
the tables below (dollars in millions).
54
2006
--------------------------------------------------------------------
PERFORMANCE INTEGRATED CORPORATE/
INCREASE/(DECREASE) PRODUCTS NYLON OTHER CONSOLIDATED
------------------ -------- ----- ----- ------------
IMPACT ON:
Cost of goods sold.......................... $ -- $ -- $ 9 $ 9 (a)
-- -- (20) (20) (b)
1 -- -- 1 (c)
Marketing and administrative expenses....... 1 -- -- 1 (c)
--------------------------------------------------------------------
OPERATING INCOME IMPACT..................... (2) -- 11 9
Interest expense ........................... -- -- (1) (1) (d)
-- -- (3) (3) (e)
Equity earnings from affiliates............. -- -- (2) (2) (f)
Loss on debt modification................... -- -- (8) (8) (d)
Reorganization items, net................... (7) (4) (40) (51) (g)
--------------------------------------------------------------------
PRE-TAX INCOME STATEMENT IMPACT............. $ (9) $ (4) (43) $(56)
====================================================
Income tax impact........................... (3) (h)
----------------
AFTER-TAX INCOME STATEMENT IMPACT........... $(53)
================
<FN>
2006 EVENTS
- -----------
a) Environmental charge in the first quarter 2006 precipitated by the
notification by a third-party of its intent to terminate a tolling
agreement at one of Solutia's facilities outside the U.S. that will
likely result in the cessation of operations at that site ($9 million
pre-tax and $7 million after-tax).
b) Gain resulting from the reversal of a litigation reserve with respect
to a litigation matter that was decided favorably in the second quarter
2006, as further described in Note 10 of the accompanying condensed
consolidated financial statements ($20 million pre-tax and after-tax).
c) Restructuring costs related principally to severance and retraining
costs ($2 million pre-tax and after-tax).
d) Solutia recorded a charge of approximately $8 million (pre-tax and
after-tax) to record the write-off of debt issuance costs and to record
the DIP facility as modified at its fair value. In addition, $1 million
(pre-tax and after-tax) of unamortized debt issuance costs associated
with the DIP facility were written off at the time of modification in
March 2006. See the Financial Condition and Liquidity section below for
further description of the DIP facility amendment.
e) Solutia refinanced its Euronotes in July 2006 and recorded early
extinguishment costs at the time of refinancing ($3 million pre-tax and
$2 million after-tax). See the Financial Condition and Liquidity
section below for further description of the Euronotes refinancing.
f) Restructuring charges at Flexsys, Solutia's 50 percent owned joint
venture ($2 million pre-tax and after-tax).
g) Reorganization items, net consist of the following: $40 million of
professional fees for services provided by debtor and creditor
professionals directly related to Solutia's reorganization proceedings;
$9 million of other reorganization charges primarily involving costs
incurred with exiting certain non-strategic businesses; $4 million of
expense provisions related to (i) employee severance costs incurred
directly as part of the Chapter 11 reorganization process and (ii) a
retention plan for certain Solutia employees approved by the Bankruptcy
court; and a $2 million net gain from adjustments to record certain
pre-petition claims at estimated amounts of the allowed claims. ($51
million pre-tax and after-tax)
h) With the exception of items (a), (c) and (e) above, which primarily
relate to ex-U.S. operations, the above items are considered to have
like pre-tax and after-tax impact as the tax benefit or expense
realized from these events is offset by the change in valuation
allowance for U.S. deferred tax assets resulting from uncertainty as to
their recovery due to Solutia's Chapter 11 bankruptcy filing.
55
2005
------------------------------------------------------------------
PERFORMANCE INTEGRATED CORPORATE/
INCREASE/(DECREASE) PRODUCTS NYLON OTHER CONSOLIDATED
------------------- -------- ----- ----- ------------
IMPACT ON:
Cost of Goods Sold...................... $ -- $ -- $ 3 $ 3 (a)
------------------------------------------------------------------
OPERATING INCOME IMPACT................. -- -- (3) (3)
Equity earnings from affiliates......... -- -- 5 5 (b)
Reorganization items, net............... $ (7) (11) 17 (35) (c)
------------------------------------------------------------------
PRE-TAX INCOME STATEMENT IMPACT......... $ (7) $(11) $(15) (33)
===================================================
Income tax impact....................... -- (d)
---------------
AFTER-TAX INCOME STATEMENT IMPACT....... $(33)
===============
<FN>
2005 EVENTS
-----------
a) Net pension and other postretirement benefit plan curtailments and
settlements as a result of amendments to Solutia's pension and
postretirement plans ($3 million pre-tax and after-tax - see note d)
below).
b) Non-operational gain in the Flexsys joint venture ($5 million pre-tax
and after-tax - see note d) below).
c) Reorganization items, net consist of the following: $37 million of
professional fees for services provided by debtor and creditor
professionals directly related to Solutia's reorganization proceedings;
a $29 million net gain representing the difference between the
settlement of amount of certain pre-petition obligations and the
corresponding amounts previously recorded; $10 million of net charges
for adjustments to record certain pre-petition claims at estimated
amounts of the allowed claims; $10 million of expense provisions
related to (i) employee severance costs incurred directly as part of
the Chapter 11 reorganization process and (ii) a retention plan for
certain Solutia employees approved by the bankruptcy court; and $7
million of other reorganization charges primarily involving costs
incurred with the exit from the acrylic fibers business. ($35 million
pre-tax and after-tax - see note d) below).
d) The above items are considered to have like pre-tax and after-tax
impact, as the tax benefit realized from the charges is offset by the
increase in valuation allowance for U.S. deferred tax assets resulting
from uncertainty as to their recovery as a result of Solutia's Chapter
11 filing.
FINANCIAL CONDITION AND LIQUIDITY
As discussed in Note 1 to the accompanying condensed consolidated
financial statements, Solutia is operating as a debtor-in-possession under
Chapter 11 of the U.S. Bankruptcy Code. As a result of the uncertainty
surrounding Solutia's current circumstances, it is difficult to predict
Solutia's actual liquidity needs and sources at this time. However, based
upon current and anticipated levels of operations during the continuation of
the bankruptcy proceedings, Solutia believes that its liquidity and capital
resources will be sufficient to maintain its normal operations at current
levels. Solutia's access to additional financing while in the Chapter 11
bankruptcy process may be limited.
Financial Analysis
Solutia used its existing cash on-hand to finance operating needs and
capital expenditures during the nine months ended September 30, 2006. Cash
used in continuing operations was $213 million in the nine months ended
September 30, 2006, a change of $205 million from $8 million used in
continuing operations for the comparable period of 2005. This year over year
increase in cash used in operations was primarily attributable to higher
pension contributions of approximately $161 million and increases in working
capital items, including an $80 million increase in trade receivables
resulting from higher net sales and an increase in days sales outstanding
due to a shift in sales mix within Integrated Nylon of lower carpet and
higher plastic and polymers sales, partially offset primarily by receipt of
a dividend from Flexsys.
56
Capital spending increased $28 million to $75 million in the nine months
ended September 30, 2006, compared to $47 million in the comparable period
of 2005. The expenditures in the nine months ended September 30, 2006 were
primarily to fund certain strategic initiatives in the Performance
Products and Integrated Nylon segments, as well as various capital
improvements and certain cost reduction projects.
Net cash used for the acquisition of Quimica (as described in Note 5 to
the accompanying condensed consolidated financial statements) totaled $16
million and consisted of approximately $20 million cash paid, less
approximately $4 million of cash acquired. There were no acquisitions in the
nine months ended September 30, 2005.
Net proceeds provided by the divestiture of the pharmaceutical services
business (as described in Note 5 to the accompanying condensed consolidated
financial statements) totaled $69 million. Solutia used $51 million of the
proceeds from the sale to pay down SESA's (euro) 200 million credit facility
entered into on July 26, 2006 and closed on August 1, 2006 (as described in
Note 12 to the accompanying condensed consolidated financial statements).
Total debt of $1,521 million as of September 30, 2006, including $668
million subject to compromise and $853 million not subject to compromise,
increased by $306 million as compared to $1,215 million at December 31,
2005, including $668 million subject to compromise and $547 million not
subject to compromise. This increase in total debt resulted primarily from
$350 million of additional borrowings from Solutia's DIP facility in the
nine months ended September 30, 2006, of which $300 million resulted from
the March 2006 amendment to the DIP facility (as described below), partially
offset by $51 million payment on SESA's (euro) 200 million credit facility
(as described above). In addition, as a result of the Chapter 11 filing,
Solutia was in default on all its debt agreements as of September 30, 2006,
with the exception of its DIP credit facility and the Facility Agreement.
Solutia's working capital decreased by $259 million to $(221) million at
September 30, 2006, compared to $38 million at December 31, 2005. The change
was primarily a result of higher short-term debt from additional DIP
borrowings as well as a decrease of $45 million related to the sale of the
pharmaceutical services business as noted above, partially offset by higher
cash on-hand and an increase in trade receivables resulting from higher net
sales.
Solutia had a shareholders' deficit of $1,428 million at September 30,
2006 compared to $1,454 million at December 31, 2005. The $26 million
decrease in shareholders' deficit resulted primarily from the $50 million
net income; partially offset by the $24 million increase in accumulated
other comprehensive loss in the nine months ended September 30, 2006.
The weighted average interest rate on Solutia's total debt outstanding
was approximately 8.4 percent at September 30, 2006 and 8.7 percent at
December 31, 2005. Excluding debt subject to compromise, with the exception
of the 11.25 percent notes due 2009 on which the Bankruptcy Court has
permitted continued payments of the contractual interest, the weighted
average interest rate on total debt was 8.9 percent at September 30, 2006
compared to 9.8 percent at December 31, 2005. The reductions in the weighted
average rate are primarily due to the refinancing of the Euronotes as
described below. While operating as a debtor-in-possession during the
Chapter 11 proceedings, Solutia has ceased paying interest on its 6.72
percent debentures due 2037 and its 7.375 percent debentures due 2027. The
amount of contractual interest expense not recorded in each of the nine
months ended September 30, 2006 and 2005 was approximately $24 million.
At September 30, 2006, Solutia's total liquidity was $259 million in the
form of $105 million of availability under the DIP credit facility and
approximately $154 million of cash on-hand, of which $115 million was cash
of Solutia's subsidiaries that are not parties to the Chapter 11
proceedings. In comparison, Solutia's total liquidity at December 31, 2005
was $238 million in the form of $131 million of availability under the DIP
credit facility and approximately $107 million of cash on-hand, of which $89
million was cash of Solutia's subsidiaries that are not parties to the
Chapter 11 bankruptcy proceedings. The increase in cash on-hand was
primarily a result of the DIP amendment in March 2006 and will be used for
ongoing operations and to fund upcoming mandatory pension contributions as
described below.
According to IRS funding rules, Solutia will be required to make
approximately $179 million in pension contributions to its U.S. qualified
pension plan in 2006. Approximately $161 million of these required 2006
contributions were made in the nine months ended September 30, 2006.
57
Amendment to DIP Financing Agreement
On March 17, 2006, Solutia amended its DIP financing facility with
bankruptcy court approval. This amendment, among other things, (i) increased
the DIP facility from $525 million to $825 million; (ii) extended the term
of the DIP facility from June 19, 2006 to March 31, 2007; (iii) decreased
the interest rate on the term loan component of the DIP facility from LIBOR
plus 425 basis points to LIBOR plus 350 basis points; (iv) increased certain
thresholds allowing the Debtors to retain more of the proceeds from certain
dispositions and other extraordinary receipts; (v) approved the disposition
of certain assets of the Debtors; (vi) allowed refinancing of, and certain
amendments to, SESA's outstanding Euronotes; and (vii) amended certain
financial and other covenants. The amendment also contains a number of other
changes and other modifications required to make the remaining terms of the
DIP facility consistent with the amendments set forth above.
Euronotes Refinancing
On July 26, 2006, Solutia's indirect 100% owned subsidiary SSI, a
subsidiary of SESA, entered into a (euro) 200 million Facility Agreement
(the "Facility Agreement") guaranteed by SESA and CPFilms Vertriebs GmbH, a
subsidiary of SESA. Closing of the Facility Agreement occurred on August 1,
2006. SESA used the proceeds of the Facility Agreement to refinance all of
the Euronotes on August 1, 2006, at a prepayment premium of 3 percent, as
required pursuant to the Euronotes, for a total redemption amount of
approximately (euro) 215 million, including accrued interest. The Euronotes
were refinanced to reduce the interest rate, extend the term of the
indebtedness and facilitate certain dispositions by Solutia, including the
sale of its pharmaceutical services business described below.
The Facility Agreement has a five-year term, with a termination date of
July 31, 2011 and an adjustable rate structure of EURIBOR plus 275 basis
points. The margin is subject to adjustment upon the occurrence of certain
events specified in the Facility Agreement or upon SESA and its subsidiaries
attaining certain financial benchmarks. The Facility Agreement consists of a
(euro) 160 million term loan and a (euro) 40 million term loan. The (euro)
40 million term loan was repaid from the proceeds of the sale of Solutia's
pharmaceutical services business during the third quarter 2006 (as further
described in Note 5 to the accompanying condensed consolidated financial
statements). The Facility Agreement is secured by substantially all of the
assets of SESA and its subsidiaries. The Facility Agreement also contains
other customary terms and conditions, including certain financial covenants
relating to the performance of SESA and its subsidiaries.
On September 15, 2006, the parties amended the Facility Agreement to
reflect certain non-material modifications to the Facility Agreement.
PENNDOT Letter of Credit
As a result of the favorable ruling in the PENNDOT litigation matter
described in Note 10 to the accompanying condensed consolidated financial
statements, in August 2006, Monsanto released the $20 million letter of
credit that Solutia posted to secure a portion of Pharmacia's obligations
with respect to an appeal bond issued in relation to this case.
CONTINGENCIES
See Note 10 to the accompanying condensed consolidated financial
statements for a summary of Solutia's contingencies as of September 30,
2006.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK FACTORS
There have been no material changes in market risk exposures during the
nine months ended September 30, 2006 that affect the disclosures presented
in the information appearing under "Derivative Financial Instruments" on
page 47 of Solutia's Form 10-K for the year-ended December 31, 2005.
58
ITEM 4. CONTROLS AND PROCEDURES
During the period covered by this Form 10-Q, Solutia carried out an
evaluation, under the supervision and with the participation of Solutia's
management, including its Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the design and operation of Solutia's
disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934 ("Exchange Act")). Based
upon that evaluation, the Chief Executive Officer and Chief Financial
Officer concluded that, as of the end of the period covered by this Form
10-Q, Solutia's disclosure controls and procedures are effective in timely
alerting them to material information relating to Solutia and its
consolidated subsidiaries that is required to be included in Solutia's
periodic SEC filings. The Chief Executive Officer and Chief Financial
Officer also concluded that, as of the end of the period covered by this
Form 10-Q, Solutia's disclosure controls and procedures are effective to
provide reasonable assurance that Solutia records, processes, summarizes,
and reports the required disclosure information within the specified time
periods. Further, there were no changes in Solutia's internal control over
financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the
Exchange Act) that occurred during the quarterly period ended September 30,
2006 that have materially affected, or are reasonably likely to materially
affect, the Company's internal controls over financial reporting.
59
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
LEGAL PROCEEDINGS IN SOLUTIA'S BANKRUPTCY CASE
- ----------------------------------------------
JPMorgan Adversary Proceeding. As described in Solutia's Annual Report
on Form 10-K for the year ended December 31, 2005 (the "2005 Form 10-K"),
Quarterly Report on Form 10-Q for the quarter ended March 31, 2006 (the
"First Quarter 10-Q) and Quarterly Report on Form 10-Q for the quarter ended
June 30, 2006 (the "Second Quarter 10-Q), on May 27, 2005, JPMorgan as
indenture trustee under the indenture for Solutia's debentures due 2027 and
2037 (the "Prepetition Indenture"), filed an adversary proceeding (the "JPM
Proceeding") against Solutia in the Chapter 11 Cases. In its adversary
proceeding, JPMorgan asserted five causes of action seeking declaratory
judgments to establish the validity and priority of the purported security
interest of the holders of the 2027 and 2037 debentures, and one cause of
action pursuant to section 363 of the Bankruptcy Code asserting that the
alleged security interests lacked adequate protection. The Unsecured
Creditors' Committee and the Ad Hoc Solutia Trade Claims Committee have
intervened in the JPM Proceeding in support of Solutia and the Ad Hoc
Committee of Solutia Noteholders has intervened in the JPM Proceeding in
support of JPMorgan. Trial of the JPM Proceeding concluded on July 10, 2006.
Post-trial briefs were submitted by the parties in August 2006. The
Bankruptcy Court has not yet made a ruling in the JPM Proceeding.
Equity Committee Adversary Proceeding. As described in the 2005 Form
10-K, First Quarter 10-Q and Second Quarter 10-Q, on March 7, 2005, the
Equity Committee filed a complaint against Pharmacia and Monsanto and
objections to the proofs of claim filed by Pharmacia and Monsanto in
Solutia's bankruptcy case (the "Equity Committee Complaint"). In the Equity
Committee Complaint, the Equity Committee seeks to avoid certain obligations
assumed by Solutia at the time of its spinoff from Pharmacia. The Equity
Committee Complaint alleges, among other things, that the Solutia Spinoff
was a fraudulent transfer under the Bankruptcy Code because Pharmacia forced
Solutia to assume excessive liabilities and insufficient assets such that
Solutia was destined to fail from its inception. The Ad Hoc Committee of
Solutia Noteholders and the Ad Hoc Solutia Trade Claims Committee have
intervened in this adversary proceeding in support of the Equity Committee.
Solutia and the Unsecured Creditors' Committee have intervened in this
adversary proceeding as neutral parties due to the importance of this
proceeding with respect to Solutia's bankruptcy case. On September 14, 2006,
the Court ruled that while the Equity Committee did not have standing to
pursue these claims on behalf of the Debtors, it had standing to pursue its
own objections to the claims of Monsanto and Pharmacia. On October 17, 2006,
the Bankruptcy Court entered an Order adjourning this adversary proceeding
until December 13, 2006 and allowing the Equity Committee, Pharmacia, and
Monsanto to submit this matter to mediation in a good faith effort to reach
a consensual resolution of the issues between the parties. All proceedings
related to this adversary proceeding have been stayed until November 30,
2006, unless the parties agree to extend such date further.
FLEXSYS RELATED LITIGATION
- --------------------------
As described in the 2005 Form 10-K and the First Quarter 10-Q, antitrust
authorities in the United States, Europe and Canada are continuing to
investigate past commercial practices in the rubber chemicals industry.
Flexsys, Solutia's joint venture with Akzo Nobel N.V. ("Akzo"), 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.
Canadian actions against Flexsys. As described in the 2005 Form 10-K,
purported class actions have been filed in a number of Canadian provinces
against Flexsys and other rubber chemical producers on behalf of purchasers
of rubber chemicals and products containing rubber chemicals in the various
provinces alleging that collusive sales and marketing activities of the
defendants damaged the plaintiff classes. The parties have tentatively
reached a global settlement in which Flexsys will pay approximately (CAD)
$2.4 million to resolve all four pending class actions in Canada. The
settlement must be approved by the courts.
60
CASH BALANCE PLAN LITIGATION
- ----------------------------
As described in the 2005 Form 10-K, First Quarter 10-Q, and Second
Quarter 10-Q, since October 2005, three cases have been filed by
participants in the Solutia Inc. Employees' Pension Plan (the "Pension
Plan") alleging that the Pension Plan: (1)violates the Employee Retirement
Income Security Act of 1974 ("ERISA") prohibitions on reducing rates of
benefit accrual based on age; (2) results in the impermissible forfeiture of
accrued benefits under ERISA; (3) violates ERISA's present value calculation
rules for determining lump sum distributions; and (4) violates the minimum
accrual requirements of ERISA. The cases were captioned Davis, et al. v.
Solutia, Inc. Employees' Pension Plan, Scharringhausen, et al. v. Solutia,
Inc. Employees' Pension Plan, et al. and Juanita Hammond, et al. v. Solutia,
Inc. Employees' Pension Plan. The Scharringhausen plaintiffs voluntarily
dismissed their case on April 26, 2006. None of the Debtors, and no
individual or entity other than the Pension Plan, has been named as a
defendant in any of these cases.
The Hammond and Davis plaintiffs have consolidated their actions, and
their counsel are cooperating in the representation of the putative class.
On September 1, 2006, the Court consolidated the Hammond and Davis actions
with cash balance pension plan cases pending in the Southern District of
Illinois against Monsanto Company and the Monsanto Company Pension Plan
(Walker et al. v. The Monsanto Pension Plan, et al.) and the Pharmacia Cash
Balance Pension Plan, Pharmacia Corporation, Pharmacia and Upjohn, Inc., and
Pfizer Inc. (Donaldson v. Pharmacia Cash Balance Pension Plan, et al.). A
consolidated class action complaint was filed by all of the plaintiffs on
September 4, 2006, in which the plaintiffs alleged three separate cause of
action against the Pension Plan: (1) the Pension Plan allegedly violates
ERISA by terminating interest credits at the age of 55; (2) the Pension Plan
was allegedly improperly backloaded in violation of ERISA; and (3) the
Pension Plan was allegedly discriminatory on the basis of age.
The Pension Plan moved to dismiss all of the pending actions in the
consolidated case for plaintiffs' failure to exhaust administrative remedies
and failure to join Solutia as a necessary and indispensable party, and
those motions are pending. Motions for class certification are due to be
filed by the end of 2006. The Pension Plan intends to continue to vigorously
defend itself against any and all claims asserted in the consolidated
litigation.
SOLUTIA INC. V. FMC CORPORATION
- -------------------------------
Solutia Inc. v. FMC Corporation. On October 14, 2003, Solutia filed an
action captioned Solutia Inc. v. FMC Corporation ("FMC") in Circuit Court in
St. Louis County, Missouri, against FMC over the failure of purified
phosphoric acid technology provided by FMC to Astaris, the 50/50 joint
venture formed by Solutia and FMC, which was sold to Israeli Chemicals
Limited in 2005. On February 20, 2004, Solutia voluntarily dismissed the
state court action and filed an adversary proceeding against FMC in the
Bankruptcy Court. FMC filed with the Bankruptcy Court a motion to withdraw
the reference. The motion was granted, and, as a result, the matter is now
pending in the U.S. District Court for the Southern District of New York.
FMC filed a motion to dismiss Solutia's action based upon an alleged lack of
standing. On March 29, 2005, the New York District Court granted in part and
denied in part FMC's motion to dismiss. Specifically, the court dismissed
with prejudice three of Solutia's causes of action for breach of contract.
The New York District Court denied FMC's motion to dismiss Solutia's other
causes of action for breach of warranty, breach of fiduciary duty, negligent
misrepresentation, fraud and fraud in the inducement. In this action, FMC
does not have a counterclaim against Solutia or Astaris.
On July 31, 2006, the District Court entered its order regarding FMC's
motion for summary judgment, by ruling that Solutia's breach of fiduciary
duty claim would be allowed to proceed, but only on a limited basis. The
Court overruled the parties' motions for summary judgment on the remaining
claims. The Court has set this matter for a bench trial to begin on April 3,
2007.
The sale of substantially all of the assets of Astaris to Israeli
Chemicals Limited, as further described in Solutia's Annual Report on Form
10-K for the year ended December 31, 2005, did not affect the claims
asserted by Solutia against FMC in this proceeding. Solutia is vigorously
pursuing this action.
61
TEXAS COMMISSION ON ENVIRONMENTAL QUALITY ADMINISTRATIVE ENFORCEMENT PROCEEDING
- -------------------------------------------------------------------------------
On August 11, 2006 the Executive Director of the Texas Commission on
Environmental Quality commenced an administrative enforcement proceeding
against Solutia by filing a petition with the Texas Commission on
Environmental Quality. The petition alleges certain violations of the State
of Texas air quality program. The Executive Director requests that an
administrative penalty, the amount of which is immaterial, be assessed and
that Solutia undertake corrective actions to ensure compliance with the
Texas Health and Safety Code and the rules of the Commission in connection
with alleged self-reported unauthorized emission events and deviations of
air permits. Solutia answered the petition on September 1, 2006, asserted
affirmative defenses and requested a contested enforcement case hearing.
Solutia is pursuing settlement discussions with the Commission. No date has
yet been set for a hearing.
ITEM 6. EXHIBITS
See the Exhibit Index at page 64, of this report.
62
SIGNATURE
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.
SOLUTIA INC.
--------------
(Registrant)
/s/ TIMOTHY J. SPIHLMAN
-----------------------
(Vice President and Controller)
(On behalf of the Registrant and as
Principal Accounting Officer)
Date: November 7, 2006
63
EXHIBIT INDEX
These Exhibits are numbered in accordance with the Exhibit Table of Item 601
of Regulation S-K.
EXHIBIT
NUMBER DESCRIPTION
- ------ -----------
10.1 Amendment to Share and Asset Purchase Agreement entered into on
August 22, 2006 between Solutia Europe S.A./N.V. and Dishman
Pharmaceuticals & Chemicals Ltd.*
10.2 (Euro) 200,000,000 Facility Agreement dated July 26, 2006 between
Solutia Europe S.A./N.V., Solutia Services International S.C.A./Comm.
V.A., the guarantors listed therein, Citigroup Global Markets
Limited, as mandated lead arranger, the financial institutions listed
therein, as the original lenders, Citibank International plc as agent
for the finance parties and Citibank N.A. as security agent for the
secured parties (incorporated by reference to Exhibit 10.1 of
Solutia's Form 10-Q for the quarter ended June 30, 2006) and
amendment and restatement thereof dated September 15, 2006 filed
herewith
10.3 2006 Solutia Annual Incentive Program (incorporated by reference to
Exhibit 10.1 of Solutia's Form 8-K filed on September 28, 2006)
11 Omitted--Inapplicable; see "Condensed Consolidated Statement of
Operations" on page 1
31(a) Certification of Chief Executive Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
31(b) Certification of Chief Financial Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
32(a) Certification of Chief Executive Officer Pursuant to 18 U.S.C.
Section 1350 as Adopted Pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002
32(b) Certification of Chief Financial Officer Pursuant to 18 U.S.C.
Section 1350 as Adopted Pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002
<FN>
*Confidential treatment has been requested pursuant to Rule 24b-2 under the
Securities Exchange Act of 1934, as amended, for portions of these exhibits
that contain confidential commercial and financial information.
64