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 JULY 4, 2004
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number 333-82822
INTERNATIONAL SPECIALTY HOLDINGS INC.
(Exact name of registrant as specified in its charter)
DELAWARE 22-3807354
(State or Other Jurisdiction of (IRS Employer
Incorporation or Organization) Identification No.)
300 DELAWARE AVENUE, SUITE 303, WILMINGTON, DELAWARE 19801
(Address of principal executive offices) (Zip Code)
(302) 427-5715
(Registrant's telephone number, including area code)
None
(Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes /X/ No / /
Indicate by check mark whether the registrant is an accelerated
filer (as defined in Rule 12b-2 of the Act). Yes / / No /X/
As of August 17, 2004, 100 shares of the registrant's common stock (par
value $.001 per share) were outstanding. There is no trading market for the
common stock of the registrant. No shares of the registrant were held by
non-affiliates.
PART I - FINANCIAL INFORMATION
ITEM 1 - FINANCIAL STATEMENTS
INTERNATIONAL SPECIALTY HOLDINGS INC.
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
SECOND QUARTER ENDED SIX MONTHS ENDED
--------------------- --------------------
JULY 4, JUNE 29, JULY 4, JUNE 29,
2004 2003 2004 2003
--------- --------- --------- ---------
(THOUSANDS)
Net sales............................ $ 261,670 $ 229,528 $ 528,565 $ 462,104
Cost of products sold................ (166,807) (147,215) (335,622) (299,808)
Selling, general and administrative.. (49,102) (45,018) (98,142) (88,752)
Other operating charges.............. - - - (1,451)
Amortization of intangible assets.... (367) (144) (439) (288)
--------- --------- --------- ---------
Operating income..................... 45,394 37,151 94,362 71,805
Interest expense..................... (18,717) (19,091) (38,538) (38,941)
Investment income (loss), net........ (13,371) 6,009 2,907 26,884
Other income (expense), net.......... (2,856) 1,294 (4,664) (88)
--------- --------- --------- ---------
Income before income taxes and
cumulative effect of change in
accounting principle............... 10,450 25,363 54,067 59,660
Income taxes......................... (3,526) (8,644) (18,355) (20,299)
--------- --------- --------- ---------
Income before cumulative effect of
change in accounting principle..... 6,924 16,719 35,712 39,361
Cumulative effect of change in
accounting principle, net of
income tax benefit of $600......... - - - (1,021)
--------- --------- --------- ---------
Net income........................... $ 6,924 $ 16,719 $ 35,712 $ 38,340
========= ========= ========= =========
The accompanying Notes to Consolidated Financial Statements are an
integral part of these statements.
1
INTERNATIONAL SPECIALTY HOLDINGS INC.
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
JULY 4, DECEMBER 31,
2004 2003
---------- -----------
(THOUSANDS)
ASSETS
Current Assets:
Cash and cash equivalents.......................... $ 32,703 $ 157,637
Investments in trading securities.................. 54,551 126,307
Investments in available-for-sale securities....... 296,251 42,165
Accounts receivable, trade, less allowance of
$5,851 and $5,848 at July 4, 2004 and
December 31, 2003, respectively................. 114,885 86,921
Accounts receivable, other......................... 34,047 20,627
Receivables from related parties................... 17,352 13,384
Inventories........................................ 184,893 187,805
Deferred income tax assets......................... 25,316 25,701
Prepaid expenses................................... 7,206 5,831
---------- ----------
Total Current Assets............................. 767,204 666,378
Property, plant and equipment, net................... 582,287 580,821
Goodwill, net of accumulated amortization of $180,486 336,968 331,101
Intangible assets, net of accumulated amortization of
$1,589 and $1,150 at July 4, 2004 and December 31,
2003, respectively................................. 19,102 8,866
Long-term loans receivable from related parties...... 115,474 126,777
Other assets......................................... 66,116 61,786
---------- ----------
Total Assets......................................... $1,887,151 $1,775,729
========== ==========
LIABILITIES AND SHAREHOLDER'S EQUITY
Current Liabilities:
Short-term debt.................................... $ 32,069 $ 68
Current maturities of long-term debt............... 3,117 2,722
Accounts payable................................... 74,825 56,199
Accrued liabilities................................ 62,644 91,032
Income taxes payable............................... 27,242 33,978
---------- ----------
Total Current Liabilities........................ 199,897 183,999
---------- ----------
Long-term debt less current maturities............... 850,936 820,473
---------- ----------
Deferred income tax liabilities...................... 107,227 88,504
---------- ----------
Other liabilities.................................... 130,427 123,940
---------- ----------
Shareholder's Equity:
Common stock, $.001 par value per share;
100 shares issued and outstanding................ - -
Additional paid-in capital......................... 642,267 642,267
Accumulated deficit................................ (49,250) (84,962)
Accumulated other comprehensive income............. 5,647 1,508
---------- ----------
Total Shareholder's Equity....................... 598,664 558,813
---------- ----------
Total Liabilities and Shareholder's Equity........... $1,887,151 $1,775,729
========== ==========
The accompanying Notes to Consolidated Financial Statements are an
integral part of these statements.
2
INTERNATIONAL SPECIALTY HOLDINGS INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
SIX MONTHS ENDED
-------------------
July 4, June 29,
2004 2003
-------- ---------
(THOUSANDS)
Cash provided by (used in) operating activities:
Net income................................................. $ 35,712 $ 38,340
Adjustments to reconcile net income to net cash
provided by operating activities:
Cumulative effect of change in accounting principle.... - 1,021
Depreciation........................................... 31,890 29,786
Amortization of intangible assets...................... 439 288
Deferred income taxes.................................. 12,545 13,896
Unrealized losses on securities........................ 53,980 2,288
Increase in working capital items.......................... (49,549) (30,296)
Purchases of trading securities............................ (387,712) (257,509)
Proceeds from sales of trading securities.................. 410,999 417,120
Proceeds (repayments) from sale of accounts receivable..... 4,074 (688)
Change in receivable from/payable to related parties....... (3,968) (49,846)
Other, net................................................. 2,503 2,526
-------- ---------
Net cash provided by operating activities.................... 110,913 166,926
-------- ---------
Cash provided by (used in) investing activities:
Capital expenditures and acquisitions...................... (58,313) (33,012)
Purchases of available-for-sale securities................. (312,610) (33,639)
Proceeds from sales of available-for-sale securities....... 63,740 77,575
-------- ---------
Net cash provided by (used in) investing activities.......... (307,183) 10,924
-------- ---------
Cash provided by (used in) financing activities:
Net increase (decrease) in short-term debt................. 32,001 (41,454)
Proceeds from issuance of debt............................. 31,188 -
Increase in borrowings under revolving credit facility..... 400 -
Repayments of long-term debt............................... (1,472) (879)
(Increase) decrease in loans to related parties............ 11,303 (92,997)
Debt issuance costs........................................ (1,725) -
Capital contribution from parent company................... - 1,451
-------- ---------
Net cash provided by (used in) financing activities.......... 71,695 (133,879)
-------- ---------
Effect of exchange rate fluctuations on cash and
cash equivalents........................................... (359) 2,457
-------- ---------
Net change in cash and cash equivalents...................... (124,934) 46,428
Cash and cash equivalents, beginning of period............... 157,637 35,060
-------- ---------
Cash and cash equivalents, end of period..................... $ 32,703 $ 81,488
======== =========
The accompanying Notes to Consolidated Financial Statements are an
integral part of these statements.
3
INTERNATIONAL SPECIALTY HOLDINGS INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) -- (CONTINUED)
SIX MONTHS ENDED
--------------------
July 4, June 29,
2004 2003
--------- ---------
(THOUSANDS)
Supplemental Cash Flow Information:
Cash paid during the period for:
Interest (net of amount capitalized)................. $ 59,014 $ 37,718
Income taxes (including taxes paid pursuant to the
Tax Sharing Agreement)............................ 10,503 6,429
Acquisitions:
Estimated fair market value of assets acquired....... $ 30,425 $ 8,986
Purchase price of acquisitions....................... 27,284 8,553
-------- --------
Liabilities assumed.................................. $ 3,141 $ 433
======== ========
The accompanying Notes to Consolidated Financial Statements are an
integral part of these statements.
4
INTERNATIONAL SPECIALTY HOLDINGS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
The consolidated financial statements for International Specialty Holdings
Inc. (the "Company") reflect, in the opinion of management, all adjustments
necessary to present fairly the financial position of the Company and its
consolidated subsidiaries at July 4, 2004, and the results of operations and
cash flows for the three and six month periods ended July 4, 2004 and June 29,
2003. All adjustments are of a normal recurring nature. Certain amounts in the
2003 consolidated financial statements have been reclassified to conform to the
2004 presentation. These consolidated financial statements should be read in
conjunction with the annual consolidated financial statements and notes thereto
included in the Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 2003 (the "2003 Form 10-K").
NOTE 1. AMENDED AND RESTATED SENIOR CREDIT FACILITIES
On April 2, 2004, the Company's wholly owned subsidiary, ISP Chemco Inc.
("ISP Chemco"), and three of its wholly owned subsidiaries, amended and restated
its June 2001 $450.0 million senior secured credit facilities (the "Senior
Credit Facilities"). The Senior Credit Facilities provide a $250.0 million term
loan with a maturity in March 2011, which replaces the $225.0 million term loan
that was due to mature in June 2008. In connection therewith, the Company
borrowed an additional $31.2 million to bring the outstanding balance of the
term loan to $250.0 million. The Senior Credit Facilities reduced the
margin-based interest rate for term loan borrowings and amended financial
covenant ratios, including the elimination of the minimum adjusted net worth
covenant. For additional information relating to the Senior Credit Facilities,
reference is made to Note 14 to consolidated financial statements contained in
the 2003 Form 10-K.
On April 15, 2004, the $225.0 million revolving credit facility under the
Senior Credit Facilities, which was to terminate in June 2006, was reduced to
$200.0 million, including a borrowing capacity not in excess of $50.0 million
for letters of credit, and the maturity was extended to April 15, 2009. In
addition, the margin-based interest rate for revolving credit borrowings was
reduced.
NOTE 2. ACQUISITIONS
During the first six months of 2004, ISP Chemco completed the following
three acquisitions in Europe to further enhance the Company's global specialty
chemicals business. The purchase price of these acquisitions totaled $27.3
million in cash, net of $0.8 million cash acquired. In February 2004, ISP Chemco
acquired the assets and business of UK-based Red Carnation Gums Limited, a
manufacturer of emulsifiers, stabilizers and gelling systems for food and oral
care markets. In March 2004, ISP Chemco acquired the assets and business of
Germany-based Biochema Schwaben, a formulator of preservatives and biocides with
applications in industrial and personal care markets, primarily in printing,
paints and coatings, polymer emulsions, skin care and hair care markets. Also in
March 2004, ISP Chemco acquired the assets and business of UK-based Hallcrest
Limited and its U.S. affiliate, a manufacturer and marketer of custom
microencapsulation and liquid crystal technologies for the personal care, home
care, oral care and food industries.
5
INTERNATIONAL SPECIALTY HOLDINGS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - (CONTINUED)
NOTE 2. ACQUISITIONS - (CONTINUED)
The total purchase price of these acquisitions was allocated to the estimated
fair value of the identifiable assets acquired, including $10.7 million of
intangible assets, and the excess of $5.1 million was recorded as goodwill. The
results of the three acquisitions are included in the Company's results of
operations from the respective dates of acquisition.
NOTE 3. NEW ACCOUNTING STANDARDS
In December 2003, the Financial Accounting Standards Board ("FASB") issued
a revised FASB Interpretation ("FIN") No. 46R, "Consolidation of Variable
Interest Entities," replacing FIN 46 which had originally been issued in January
2003. FIN No. 46R addresses how a business enterprise should evaluate whether it
has a controlling financial interest in an entity through means other than
voting rights and accordingly should consolidate the entity. The Company will be
required to apply FIN 46R to variable interests in variable interest entities
created after December 31, 2003. The effective dates of FIN 46R for public
enterprises vary based on the type of variable interest entity and whether FIN
46 was applied to a variable interest entity prior to the effective date of FIN
46R. For any variable interest entities that must be consolidated under FIN 46R
that were created before January 1, 2004, the assets, liabilities and
noncontrolling interest of the variable interest entities initially would be
measured at their carrying amounts with any difference between the net amount
added to the balance sheet and any previously recognized interest being
recognized as the cumulative effect of an accounting change. If determining the
carrying amounts is not practicable, fair value at the date FIN 46R first
applies may be used to measure the assets, liabilities and noncontrolling
interest of the variable interest entities. The Company does not currently have
an interest in a variable interest entity. Therefore, FIN 46R will not have an
immediate impact on the Company's consolidated financial statements.
In May 2004, the FASB issued FASB Staff Position ("FSP") No. FAS 106-2 to
provide guidance on accounting for the effects of the Medicare Prescription
Drug, Improvement and Modernization Act of 2003 (the "Act") for employers that
sponsor postretirement health care plans which provide prescription drug
benefits. In addition, the FSP requires those employers to provide certain
disclosures in their financial statements regarding the effect of the Act and
the related subsidy on postretirement health obligations and net periodic
postretirement benefit cost. FSP FAS No. 106-2 applies only to sponsors of
single-employer defined benefit postretirement health care plans for which (1)
the employer has concluded that prescription drug benefits available under the
plan to some or all participants, for some or all future years, are "actuarially
equivalent" to Medicare Part D and thus qualify for the subsidy under the Act,
and (2) the expected subsidy will offset or reduce the employer's share of the
cost of the underlying postretirement prescription drug coverage on which the
subsidy is based. The Company will adopt the provisions of FSP FAS No. 106-2
effective for the quarterly period beginning July 5, 2004. The impact on the
Company's financial statements will be insignificant.
6
INTERNATIONAL SPECIALTY HOLDINGS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - (CONTINUED)
NOTE 4. INVESTMENT INCOME (LOSS)
Investment income (loss) for the second quarter and first six months of
2004 includes a $5.5 million other than temporary impairment charge related to
an available-for-sale equity security held in the Company's investment
portfolio. The Company periodically reviews investment securities for impairment
when the cost basis of a security exceeds the market value.
NOTE 5. COMPREHENSIVE INCOME
Second Quarter Ended Six Months Ended
-------------------- -------------------
July 4, June 29, July 4, June 29,
2004 2003 2004 2003
-------- -------- ------- ---------
(Thousands)
Net income................................... $ 6,924 $ 16,719 $ 35,712 $ 38,340
-------- -------- --------- ---------
Other comprehensive income (loss), net of tax:
Change in unrealized gains (losses) on
available-for-sale securities:
Unrealized holding gains (losses) arising
during the period, net of income tax
provision of $(1,530), $(5,764),
$(1,502) and $(180), respectively....... 1,875 11,387 2,435 (1,667)
Less: reclassification adjustment for
gains (losses) included in net income,
net of income tax (provision) benefit of
$1,225, $(525),$1,569 and $852,
respectively............................ (4,598) (123) (5,222) 1,095
-------- -------- --------- ---------
Total change for the period................. 6,473 11,510 7,657 (2,762)
-------- -------- --------- ---------
Foreign currency translation adjustment....... (2,475) 8,174 (3,518) 9,650
-------- -------- --------- ---------
Total other comprehensive income.............. 3,998 19,684 4,139 6,888
-------- -------- --------- ---------
Comprehensive income.......................... $ 10,922 $ 36,403 $ 39,851 $ 45,228
======== ======== ========= =========
Changes in the components of accumulated other comprehensive income for the
six months ended July 4, 2004 are as follows:
7
INTERNATIONAL SPECIALTY HOLDINGS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - (CONTINUED)
NOTE 5. COMPREHENSIVE INCOME - (CONTINUED)
Unrealized Cumulative Additional
Gains (Losses) Foreign Minimum Accumulated
On Available- Currency Pension Other
for-Sale Translation Liability Comprehensive
Securities Adjustment Adjustment Income
-------------- ------------ ------------ -------------
(Thousands)
Balance, December 31, 2003... $ (1,405) $ 9,033 $ (6,120) $ 1,508
Change for the period........ 7,657 (3,518) - 4,139
------------ ------------ ----------- ------------
Balance, July 4, 2004........ $ 6,252 $ 5,515 $ (6,120) $ 5,647
============ ============ =========== ============
NOTE 6. INVENTORIES
Inventories comprise the following:
July 4, December 31,
2004 2003
--------- ------------
(Thousands)
Finished goods................ $110,150 $113,227
Work-in-process............... 32,842 36,415
Raw materials and supplies.... 41,901 38,163
-------- --------
Inventories................... $184,893 $187,805
======== ========
At July 4, 2004 and December 31, 2003, $62.2 and $62.7 million,
respectively, of domestic inventories were valued using the LIFO method. If the
FIFO inventory method had been used for these inventories, the value of
inventories would have been $6.9 and $4.2 million higher at July 4, 2004 and
December 31, 2003, respectively.
NOTE 7. GOODWILL AND INTANGIBLE ASSETS
The following schedule reconciles the changes in the carrying amount of
goodwill, by business segment, for the six months ended July 4, 2004.
Specialty Industrial Mineral Total
Chemicals Chemicals Products Goodwill
--------- ---------- --------- ---------
(Thousands)
Balance, December 31, 2003........ $ 279,562 $ - $ 51,539 $ 331,101
Acquisitions and valuation
adjustment..................... 6,201 - - 6,201
Translation adjustment............ (334) - - (334)
--------- ---------- --------- ---------
Balance, July 4, 2004............. $ 285,429 $ - $ 51,539 $ 336,968
========= ========== ========= =========
The following is information as of July 4, 2004 and December 31, 2003
related to the Company's acquired intangible assets:
8
INTERNATIONAL SPECIALTY HOLDINGS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - (CONTINUED)
NOTE 7. GOODWILL AND INTANGIBLE ASSETS - (CONTINUED)
July 4, 2004 December 31, 2003
Range of ---------------------------- ----------------------------
Amortizable Gross Carrying Accumulated Gross Carrying Accumulated
Lives Amount Amortization Amount Amortization
----------- -------------- ------------ -------------- ------------
(Dollars in Thousands)
Intangible assets subject to amortization:
Patents.................................... 5- 20 years $ 669 $ (141) $ 669 $ (113)
Formulations............................... 5- 10 years 2,740 (115) - -
Unpatented technology...................... 10-15 years 1,100 (22) - -
Customer base.............................. 10-15 years 2,353 (44) - -
Non-compete agreements..................... 2- 5 years 3,419 (1,184) 1,571 (971)
EPA registrations.......................... 5 years 166 (83) 166 (66)
---------- -------- ---------- --------
Total amortizable intangible assets...... 10,447 (1,589) 2,406 (1,150)
---------- -------- ---------- --------
Intangible assets not subject to amortization:
Trademarks................................. 5,596 - 2,962 -
EPA registrations.......................... 4,648 - 4,648 -
---------- -------- ---------- --------
Total unamortized intangible assets...... 10,244 - 7,610 -
---------- -------- ---------- --------
Total intangible assets...................... $ 20,691 $ (1,589) $ 10,016 $ (1,150)
========== ======== ========== ========
Estimated amortization expense: (Thousands)
Year ended December 31, ---------
2004................................................ $ 1,100
2005................................................ 1,301
2006................................................ 1,301
2007................................................ 1,037
2008................................................ 1,037
NOTE 8. ASSET RETIREMENT OBLIGATIONS
The Company adopted Statement of Financial Accounting Standards ("SFAS")
No. 143, "Accounting for Asset Retirement Obligations," effective January 1,
2003. SFAS No. 143 establishes accounting and reporting standards for legal
obligations associated with the retirement of long-lived assets that result from
the acquisition, construction, development and the normal operation of a
long-lived asset. The Company holds long-lived assets that have legal
obligations associated with their retirement. These assets include deep wells
that require capping, minerals quarries that require reclamation and other plant
assets subject to certain environmental regulations. SFAS No. 143 requires that
the fair value of a liability for an asset retirement obligation ("ARO") be
recognized in the period in which it is incurred. Upon initial recognition of
such liability, an entity must capitalize the asset retirement cost by
increasing the carrying amount of the related long-lived asset and subsequently
depreciating the asset retirement cost over the useful life of the related
asset. Subsequent to the initial measurement of the ARO, the obligation will be
adjusted at the end of each period to reflect the passage of time and changes in
the estimated future cash flows underlying the obligation. If the obligation is
settled for other than the carrying amount of the liability, the Company would
then recognize a gain or loss on settlement. As a result of adopting SFAS No.
143, effective January 1, 2003, the Company recognized an after-tax charge of
$1.0 million ($1.6 million before an income tax benefit of $0.6 million) as the
cumulative effect of a change in accounting principle, and recorded an ARO of
$1.9 million and a net increase in property, plant and equipment of $0.3
million.
9
INTERNATIONAL SPECIALTY HOLDINGS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - (CONTINUED)
NOTE 9. OTHER OPERATING CHARGES
In February 2003, the Company's parent company, International Specialty
Products Inc., completed a going private transaction. As a result, the Company's
stock-based compensation plans were terminated and payments were made in
accordance with the terms of that transaction. Accordingly, holders of
approximately 2.7 million vested, in-the-money stock options outstanding and
exercisable on February 28, 2003 received cash amounts aggregating $1.5 million
that were recorded as compensation expense in the first quarter of 2003.
NOTE 10. BENEFIT PLANS
Defined Benefit Plans
The Company provides a noncontributory defined benefit retirement plan
for certain hourly employees in the United States (the "Hourly Retirement
Plan"). Benefits under this plan are based on stated amounts for each year of
service. The Company's funding policy is consistent with the minimum funding
requirements of ERISA.
ISP Marl GmbH, a wholly owned German subsidiary of the Company, provides
a noncontributory defined benefit retirement plan for its hourly and salaried
employees (the "ISP Marl Plan"). Benefits under this plan are based on average
earnings over each employee's career with the Company.
The Company's net periodic pension cost for the second quarter and first
six months of 2004 and 2003 for the Hourly Retirement Plan included the
following components:
Second Quarter Ended Six Months Ended
------------------------ -----------------------
July 4, June 29, July 4, June 29,
2004 2003 2004 2003
-------- ---------- ------- --------
(Thousands)
Service cost............................. $ 69 $ 60 $ 138 $ 120
Interest cost............................ 523 524 1,046 1,049
Expected return on plan assets........... (736) (716) (1,472) (1,432)
Amortization of actuarial losses......... 126 98 252 196
Amortization of unrecognized prior
service cost........................... 60 70 120 139
------- -------- -------- --------
Net periodic pension cost................ $ 42 $ 36 $ 84 $ 72
======= ======== ======== ========
The Company's net periodic pension cost for the second quarter and first
six months of 2004 and 2003 for the ISP Marl Plan included the following
components:
10
INTERNATIONAL SPECIALTY HOLDINGS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - (CONTINUED)
NOTE 10. BENEFIT PLANS - (CONTINUED)
Second Quarter Ended Six Months Ended
------------------------ ----------------------
July 4, June 29, July 4, June 29,
2004 2003 2004 2003
------- ---------- -------- --------
(Thousands)
Service cost............................. $ 23 $ 20 $ 46 $ 40
Interest cost............................ 48 39 96 78
Amortization of unrecognized prior
service cost........................... 1 1 2 2
------- -------- ------- -------
Net periodic pension cost................ $ 72 $ 60 $ 144 $ 120
======= ======== ======= =======
Postretirement Medical and Life Insurance
The Company generally does not provide postretirement medical and life
insurance benefits, although it subsidizes such benefits for certain employees
and certain retirees.
The net periodic postretirement benefit (income) cost for the second
quarter and first six months of 2004 and 2003 included the following components:
Second Quarter Ended Six Months Ended
--------------------- -------------------------
July 4, June 29, July 4, June 29,
2004 2003 2004 2003
------- -------- ------- -------
(Thousands)
Service cost............................. $ (9) $ 32 $ 17 $ 64
Interest cost............................ 75 155 206 311
Amortization of actuarial (gains) losses. (33) 7 (33) 14
Amortization of unrecognized prior
service cost........................... (71) (71) (142) (142)
------- -------- ------- -------
Net periodic postretirement benefit
(income) cost......................... $ (38) $ 123 $ 48 $ 247
======= ======== ======= =======
11
INTERNATIONAL SPECIALTY HOLDINGS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - (CONTINUED)
NOTE 11. BUSINESS SEGMENT INFORMATION
Second Quarter Ended Six Months Ended
--------------------- ---------------------
July 4, June 29, July 4, June 29,
2004 2003 2004 2003
--------- --------- -------- ----------
(Thousands)
Net sales:
Specialty Chemicals....................... $ 178,085 $ 159,001 $ 364,254 $ 316,914
Industrial Chemicals...................... 49,074 44,391 97,762 93,527
Mineral Products (1)...................... 34,511 26,136 66,549 51,663
--------- --------- --------- ---------
Net sales................................... $ 261,670 $ 229,528 $ 528,565 $ 462,104
========= ========= ========= =========
Operating income:
Specialty Chemicals....................... $ 41,610 $ 33,694 $ 87,804 $ 66,937
Industrial Chemicals...................... (1,825) (1,393) (1,586) (4,121)
Mineral Products.......................... 5,638 4,739 8,052 8,737
--------- --------- --------- --------
Total segment operating income............ 45,423 37,040 94,270 71,553
Unallocated corporate office.............. (29) 111 92 252
--------- --------- --------- ---------
Total operating income...................... 45,394 37,151 94,362 71,805
Interest expense, investment income (loss)
and other, net ......................... (34,944) (11,788) (40,295) (12,145)
--------- --------- --------- ---------
Income before income taxes and cumulative
effect of change in accounting principle.. $ 10,450 $ 25,363 $ 54,067 $ 59,660
========= ========= ========= =========
(1) Includes sales to Building Materials Corporation of America, an affiliate,
and its subsidiaries, of $24.9 and $20.0 million for the second quarter of
2004 and 2003, respectively, and $49.1 and $39.7 million for the first six
months of 2004 and 2003, respectively.
NOTE 12. CONTINGENCIES
For information regarding contingencies, reference is made to Note 21 to
consolidated financial statements contained in the 2003 Form 10-K.
Environmental Litigation
The Company, together with other companies, is a party to a variety of
proceedings and lawsuits involving environmental matters ("Environmental
Claims") under the Comprehensive Environmental Response Compensation and
Liability Act, Resource Conservation and Recovery Act and similar state laws, in
which recovery is sought for the cost of cleanup of contaminated sites or
remedial obligations are imposed. A number of these Environmental Claims are in
the early stages or have been dormant for protracted periods.
While the Company cannot predict whether adverse decisions or events can
occur in the future, in the opinion of the Company's management, the resolution
of the Environmental Claims should not be material to the business, liquidity,
results of operations, cash flows or financial position of the Company. However,
12
INTERNATIONAL SPECIALTY HOLDINGS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - (CONTINUED)
NOTE 12. CONTINGENCIES - (CONTINUED)
adverse decisions or events, particularly as to increases in remedial costs,
discovery of new contamination, assertion of natural resource damages, plans for
development of the Company's Linden, New Jersey property, and the liability and
the financial responsibility of the Company's insurers and of the other parties
involved at each site and their insurers, could cause the Company to increase
its estimate of its liability or decrease its estimate of insurance recoveries
in respect of those matters. It is not currently possible to estimate the amount
or range of any additional liability.
Tax Claim Against G-I Holdings Inc.
The predecessor of ISP and certain of its domestic subsidiaries were
parties to tax sharing agreements with members of a consolidated group for
Federal income tax purposes that included G-I Holdings Inc. (the "G-I Holdings
Group") in certain prior years. Until January 1, 1997, ISP and its domestic
subsidiaries were included in the consolidated Federal income tax returns of the
G-I Holdings Group and, accordingly, would be severally liable for any tax
liability of the G-I Holdings Group in respect of those prior years. Those tax
sharing agreements are no longer applicable with respect to the tax liabilities
of ISP for periods subsequent to January 1, 1997, because neither the Company
nor any of its domestic subsidiaries are members of the G-I Holdings Group for
periods after January 1, 1997. In January 2001, G-I Holdings filed a voluntary
petition for reorganization under Chapter 11 of the U.S. Bankruptcy Code due to
its asbestos-related bodily injury claims relating to the inhalation of asbestos
fiber.
On September 15, 1997, G-I Holdings received a notice from the Internal
Revenue Service ("IRS") of a deficiency in the amount of $84.4 million (after
taking into account the use of net operating losses and foreign tax credits
otherwise available for use in later years) in connection with the formation in
1990 of Rhone-Poulenc Surfactants and Specialties, L.P. (the "surfactants
partnership"), a partnership in which G-I Holdings held an interest. On
September 21, 2001, the IRS filed a proof of claim with respect to such
deficiency in the G-I Holdings bankruptcy against G-I Holdings and ACI Inc., a
subsidiary of G-I Holdings which also held an interest in the surfactants
partnership and also has filed a voluntary petition for reorganization under
Chapter 11 of the U.S. Bankruptcy Code. If the proof of claim is sustained, ISP
and/or certain of its subsidiaries together with G-I Holdings and several
current and former subsidiaries of G-I Holdings would be severally liable for
taxes and interest in the amount of approximately $288 million, computed as of
July 4, 2004. On May 7, 2002, G-I Holdings, together with ACI Inc., filed an
objection to the proof of claim, which objection will be heard by the United
States District Court for the District of New Jersey overseeing the G-I Holdings
bankruptcy. G-I Holdings has advised the Company that it believes that it will
prevail in this tax matter involving the surfactants partnership, although there
can be no assurance in this regard. The Company believes that the ultimate
disposition of this matter will not have a material adverse effect on its
business, financial position or results of operations. For additional
information relating to G-I Holdings, reference is made to Notes 8 and 21 to
consolidated financial statements contained in the 2003 Form 10-K.
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Unless otherwise indicated by the context, "we," "us" and "our" refer to
International Specialty Holdings Inc. and its consolidated subsidiaries.
CRITICAL ACCOUNTING POLICIES
There have been no significant changes in our critical accounting
policies during the first six months of 2004. For a discussion of our critical
accounting policies, reference is made to the "- Management's Discussion and
Analysis of Financial Condition and Results of Operations" included in our
Annual Report on Form 10-K for the fiscal year ended December 31, 2003.
RESULTS OF OPERATIONS - SECOND QUARTER 2004 COMPARED WITH
SECOND QUARTER 2003
Overview
We recorded net income of $6.9 million for the second quarter of 2004
compared with net income of $16.7 million in the second quarter of 2003. The
lower results for the second quarter of 2004 were attributable to investment
losses partially offset by significantly higher operating income.
Net Sales. Net sales by business segment for the second quarter of 2004
and 2003 were:
Second Quarter Ended
----------------------------
July 4, June 29,
2004 2003
--------- ---------
(Millions)
Specialty chemicals.................... $ 178.1 $ 159.0
Industrial chemicals................... 49.1 44.4
Mineral products....................... 34.5 26.1
--------- ---------
Net sales............................ $ 261.7 $ 229.5
========= =========
Net sales for the second quarter of 2004 were $261.7 million compared
with $229.5 million in the second quarter of 2003. The $32.2 million (14%)
increase in sales resulted primarily from higher unit volumes in all business
segments (totaling $28.8 million). The favorable impact of the weaker U.S.
dollar ($6.7 million), primarily in Europe, also benefited sales.
Gross Margin. Our gross margin in the second quarter of 2004 was 36.3%
compared with 35.9% in the second quarter of 2003. The gross margin for the
specialty chemicals segment increased to 45.5% in the second quarter of 2004
from 43.8% in the same period of 2003 as a result of the favorable impact of
higher volumes and the weaker U.S. dollar, as well as manufacturing
efficiencies. The overall improved margin was adversely impacted by a lower
margin for the mineral products segment, which decreased to 26.7% from 28.4% in
the second quarter of 2003 as a result of higher manufacturing costs. Also, the
gross margin for the industrial chemicals segment decreased to 9.6% from 11.9%
in the second quarter of 2003 primarily due to the adverse impact of the
stronger Euro on European-based manufacturing costs.
14
Selling, General and Administrative. Selling, general and administrative
expenses increased 9% in the second quarter of 2004 to $49.1 million from $45.0
million in the second quarter of 2003, however, as a percent of sales, decreased
to 18.8% from 19.6% in the second quarter of 2003. The increase in selling,
general and administrative expenses in the second quarter of 2004 related
primarily to higher selling and distribution costs as a result of the higher
sales levels.
Operating Income. Operating income (loss) by business segment for the
second quarter of 2004 and 2003 was:
Second Quarter Ended
-----------------------------
July 4, June 29,
2004 2003
--------- ----------
(Millions)
Specialty chemicals.................... $ 41.6 $ 33.7
Industrial chemicals................... (1.8) (1.4)
Mineral products....................... 5.6 4.7
--------- ---------
Total segment operating income....... 45.4 37.0
Unallocated corporate office items..... - 0.1
--------- ---------
Operating income..................... $ 45.4 $ 37.1
========= =========
Operating income for the second quarter of 2004 was $45.4 million, a 22%
increase compared with $37.1 million in the second quarter of 2003. Operating
income for the specialty chemicals segment was $41.6 million for the second
quarter of 2004, a 23% improvement compared with $33.7 million in the second
quarter of 2003. The improved results were primarily attributable to the
personal care and performance chemicals product lines, mainly due to the
favorable effect of higher unit volumes. Operating income for the specialty
chemicals segment in the second quarter of 2004 was also favorably impacted by
the weaker U.S. dollar and, to a lesser extent, by the contribution to income
from the three specialty chemical niche acquisitions made during the first
quarter of 2004 (see "-Liquidity and Financial Condition" below).
The industrial chemicals segment recorded an operating loss of $1.8 million
in the second quarter of 2004 compared with an operating loss of $1.4 million in
the second quarter of 2003. The results were attributable to the adverse impact
of the stronger Euro on European-based manufacturing costs, mostly offset by an
improved product mix and manufacturing efficiencies.
Operating income for the mineral products segment was $5.6 million in the
second quarter of 2004 compared with $4.7 million in the second quarter of 2003.
The 19% improvement in operating income from the second quarter of 2003 was
primarily due to higher unit volumes, partially offset by increased freight
expense and higher manufacturing costs.
Interest Expense. Interest expense for the second quarter of 2004 was
$18.7 million compared with $19.1 million in the same period in 2003. The lower
interest expense was attributable to lower average interest rates ($0.7 million
impact), partially offset by higher average borrowings ($0.3 million impact),
both as a result of the refinancing of our senior secured credit facility in
April 2004 (see "-Liquidity and Financial Condition" below).
Investment Income (Loss). Investment losses in the second quarter of
2004 were $13.4 million compared with investment income of $6.0 million in the
second quarter of 2003. The investment loss in the second quarter of 2004
15
includes a $5.5 million other than temporary impairment charge related to an
available-for-sale equity security held in our investment portfolio.
Other Income (Expense), net. Other income (expense), net, comprises
foreign exchange gains/losses resulting from the revaluation of foreign
currency-denominated accounts receivable and payable as a result of changes in
exchange rates, and other nonoperating items of expense. Other expense, net, was
$2.9 million in the second quarter of 2004 compared with other income, net, of
$1.3 million in the second quarter of 2003. The higher expense in the second
quarter of 2004 was due to unfavorable foreign exchange.
Income Taxes. In the second quarter of 2004, we recorded a provision for
income taxes of $3.5 million. Our effective tax rate for the second quarter of
2004 was 33.7%, which was consistent with an effective tax rate of 34.1% in the
second quarter of 2003.
Business Segment Review
A discussion of operating results for each of our business segments
follows. We operate our business through three reportable business segments:
specialty chemicals; industrial chemicals; and mineral products.
Specialty Chemicals
Sales in the second quarter of 2004 were $178.1 million compared with
$159.0 million in the same period in 2003. The 12% increase in sales was
attributable to higher unit volumes ($17.6 million). The favorable impact of the
weaker U.S. dollar ($5.2 million), primarily in Europe, also benefited sales.
The personal care product line experienced strong volume growth in its skin care
and oral care markets in Europe and North America. Sales for the performance
chemicals, food and personal care product lines includes the contribution to
sales from the three acquisitions made during the first quarter of 2004.
Operating income for the specialty chemicals segment improved 23% to $41.6
million for the second quarter of 2004 compared with $33.7 million in the second
quarter of 2003. The improved results were primarily attributable to the
personal care and performance chemicals product lines and were due to the
favorable effect of higher unit volumes and a favorable product mix (totaling
$5.6 million). Operating income for the specialty chemicals segment in the
second quarter of 2004 was also favorably impacted by the weaker U.S. dollar
($2.7 million) and, to a lesser extent, from the contribution to income from the
three acquisitions made during the first quarter of 2004.
Industrial Chemicals
Sales in the second quarter of 2004 were $49.1 million compared with
$44.4 million in the second quarter of 2003. The 11% increase in sales resulted
from higher unit volumes ($3.8 million) and by the favorable effect of the
weaker U.S. dollar ($1.5 million), partially offset by slightly unfavorable
pricing.
The industrial chemicals segment recorded an operating loss of $1.8 million
in the second quarter of 2004 compared with an operating loss of $1.4 million in
the second quarter of 2003. The lower results were due to the adverse impact of
the stronger Euro on European-based manufacturing costs ($1.9 million),
partially offset by an improved product mix and manufacturing efficiencies.
16
Mineral Products
Sales for the mineral products segment for the second quarter of 2004
were $34.5 million compared with $26.1 million for the second quarter of 2003.
The 32% increase was due to higher unit volumes ($7.5 million) as a result of
industry-wide growth and included 24% higher sales to Building Materials
Corporation of America, an affiliate which we refer to as "BMCA."
Operating income for the mineral products segment was $5.6 million in the
second quarter of 2004 compared with $4.7 million for the second quarter of
2003. The 19% improvement from the second quarter of 2003 was primarily due to
the higher unit volumes, partially offset by increased freight expense and
higher manufacturing costs.
RESULTS OF OPERATIONS - FIRST SIX MONTHS 2004 COMPARED WITH
FIRST SIX MONTHS 2003
Overview
We recorded net income of $35.7 million for the first six months of 2004
compared with net income of $38.3 million in the first six months of 2003. The
lower results for the first six months of 2004 were attributable to lower
investment income, partially offset by higher operating income. First six months
2003 results included a $1.0 million after-tax charge for the cumulative effect
of a change in accounting principle from the adoption of Statement of Financial
Accounting Standards, which we refer to as "SFAS," No. 143, "Accounting for
Asset Retirement Obligations."
Net Sales. Net sales by business segment for the first six months of 2004
and 2003 were:
Six Months Ended
----------------------------
July 4, June 29,
2004 2003
--------- ---------
(Millions)
Specialty chemicals.................... $ 364.3 $ 316.9
Industrial chemicals................... 97.8 93.5
Mineral products....................... 66.5 51.7
--------- ---------
Net sales............................ $ 528.6 $ 462.1
========= =========
Net sales for the first six months of 2004 were $528.6 million compared
with $462.1 million in the first six months of 2003. The $66.5 million (14%)
increase in sales resulted primarily from higher unit volumes in all business
segments (totaling $51.9 million). The favorable impact of the weaker U.S.
dollar ($20.6 million), primarily in Europe, also benefited sales.
Gross Margin. Our gross margin in the first six months of 2004 was 36.5%
compared with 35.1% in the first six months of 2003. The gross margin for the
specialty chemicals segment increased to 45.4% in the first six months of 2004
from 43.9% in the same period of 2003 as a result of the favorable impact of
higher volumes and the weaker U.S. dollar, partially offset by higher
manufacturing costs ($3.0 million). Also, the gross margin for the industrial
chemicals segment increased to 11.7% in the first six months of 2004 from 9.5%
in the same period of 2003 due to an improved product mix and manufacturing
efficiencies, partially offset by the adverse impact of the stronger Euro on
17
European-based manufacturing costs. The overall improved margin was adversely
impacted by a lower margin for the mineral products segment, which decreased to
24.1% from 27.8% in the first six months of 2003 as a result of higher
manufacturing costs and lower average selling prices in connection with a
long-term customer supply contract entered into in the second quarter of 2003.
Selling, General and Administrative. Selling, general and administrative
expenses increased 10% in the first six months of 2004 to $98.1 million from
$88.8 million in the first six months of 2003, however, as a percent of sales,
decreased to 18.6% from 19.2% in the first six months of 2003. The increase in
selling, general and administrative expenses in the first six months of 2004
related primarily to higher selling and distribution costs as a result of the
higher sales levels.
Other operating charges. Other operating charges of $1.5 million in the
first six months of 2003 represented a charge for compensation expense for stock
option payments related to ISP's going private transaction in February 2003.
Operating Income. Operating income (loss) by business segment for the first
six months of 2004 and 2003 was:
Six Months Ended
----------------------------
July 4, June 29,
2004 2003
--------- ---------
(Millions)
Specialty chemicals.................... $ 87.8 $ 66.9
Industrial chemicals................... (1.6) (4.1)
Mineral products....................... 8.1 8.7
--------- ---------
Total segment operating income....... 94.3 71.5
Unallocated corporate office items..... 0.1 0.3
--------- ---------
Operating income..................... $ 94.4 $ 71.8
========= =========
Operating income for the first six months of 2004 was $94.4 million
compared with $71.8 million in the first six months of 2003. Excluding the other
operating charges discussed above, operating income increased 29% to $94.4
million from $73.3 million in the first six months of 2003 (see "Non-GAAP
Financial Measures" below).
Operating income for the specialty chemicals segment was $87.8 million for
the first six months of 2004 compared with $66.9 million in the first six months
of 2003. On a comparable basis, excluding the aforementioned charges pertaining
to specialty chemicals, operating income for the segment improved 29% to $87.8
million compared with $68.0 million in the first six months of 2003. The
improved results were primarily attributable to the personal care and
performance chemicals product lines and were mainly due to the favorable effect
of higher unit volumes partially offset by higher manufacturing costs. Operating
income for the specialty chemicals segment in the first six months of 2004 was
also favorably impacted by the weaker U.S. dollar ($11.8 million) and, to a
lesser extent, by the contribution to income from the three specialty chemical
niche acquisitions made during the first quarter of 2004 (see "-Liquidity and
Financial Condition" below).
The industrial chemicals segment recorded an operating loss of $1.6 million
in the first six months of 2004. Excluding the aforementioned other operating
charges in the first six months of 2003 pertaining to industrial chemicals, the
operating loss in the first six months of 2003 was $3.9 million. The reduced
losses were attributable to an improved product mix and
18
manufacturing efficiencies, partially offset by the adverse impact of the
stronger Euro on European-based manufacturing costs.
Operating income for the mineral products segment was $8.1 million in the
first six months of 2004. On a comparable basis, excluding other operating
charges in the first six months of 2003 pertaining to mineral products,
operating income was $8.9 million for the first six months of 2003. The decline
in operating income from the first six months of 2003 was primarily due to
increased freight expense, higher manufacturing costs and lower average selling
prices, partially offset by the favorable impact of higher unit volumes.
Interest Expense. Interest expense for the first six months of 2004 was
$38.5 million compared with $38.9 million in the same period in 2003. The lower
interest expense was attributable to lower average interest rates ($0.9 million
impact), partially offset by higher average borrowings ($0.5 million impact),
both as a result of the refinancing of our senior secured credit facility in
April 2004 (see "-Liquidity and Financial Condition" below).
Investment Income. Investment income in the first six months of 2004 was
$2.9 million compared with $26.9 million in the first six months of 2003. The
lower investment income resulted from higher unrealized portfolio losses,
partially offset by higher realized gains. Investment income in the first six
months of 2004 includes a $5.5 million other than temporary impairment charge
related to an available-for-sale equity security held in our investment
portfolio.
Other Income (Expense), net. Other income (expense), net, comprises
foreign exchange gains/losses resulting from the revaluation of foreign
currency-denominated accounts receivable and payable as a result of changes in
exchange rates, and other nonoperating items of expense. Other expense, net, was
$4.7 million in the first six months of 2004 compared with $0.1 million in the
first six months of 2003. The higher expense in the first six months of 2004 was
due to unfavorable foreign exchange.
Income Taxes. In the first six months of 2004, we recorded a provision for
income taxes of $18.4 million. Our effective tax rate for the first six months
of both 2004 and 2003 was 34.0%.
Business Segment Review
A discussion of operating results for each of our business segments
follows. We operate our business through three reportable business segments:
specialty chemicals; industrial chemicals; and mineral products. The operating
income for the first six months of 2003 for each business segment discussed
below is adjusted for the non-GAAP financial measures in the table below.
Non-GAAP Financial Measures
The business segment review below and the discussion of operating
income above contain information regarding non-GAAP financial measures contained
within the meaning of Item 10 of Regulation S-K promulgated by the Securities
and Exchange Commission. As used herein, "GAAP" refers to U.S. generally
accepted accounting principles. We use non-GAAP financial measures to eliminate
the effect of certain other operating gains and charges on reported operating
income. Management believes that these financial measures are useful to
bondholders and financial institutions because such measures exclude
19
transactions that are unusual due to their nature or infrequency and therefore
allow bondholders and financial institutions to more readily compare our
company's performance from period to period. Management uses this information in
monitoring and evaluating our company's performance and the performance of
individual business segments. The non-GAAP financial measures included herein
have been reconciled to the most directly comparable GAAP financial measure as
is required under Item 10 of Regulation S-K regarding the use of such financial
measures. These non-GAAP financial measures should be considered in addition to,
and not as a substitute, or superior to, operating income or other measures of
financial performance in accordance with U.S. generally accepted accounting
principles.
First Six Months
-----------------------
2004 2003
--------- ---------
(Millions)
Reconciliation of non-GAAP financial measures:
Operating income per GAAP............................. $ 94.4 $ 71.8
Non-GAAP adjustments:
Add: Other operating charges(1).................... - 1.5
--------- ---------
Operating income as adjusted.......................... $ 94.4 $ 73.3
========= =========
Supplemental Business Segment Information:
Operating income:
Operating income per GAAP - Specialty Chemicals.... $ 87.8 $ 66.9
Non-GAAP adjustments (1)........................... - 1.1
--------- ---------
Operating income - Specialty Chemicals as adjusted. $ 87.8 $ 68.0
========= =========
Operating loss per GAAP - Industrial Chemicals..... $ (1.6) $ (4.1)
Non-GAAP adjustments (1)........................... - 0.2
--------- ---------
Operating loss - Industrial Chemicals as adjusted.. $ (1.6) $ (3.9)
========= =========
Operating income per GAAP - Mineral Products....... $ 8.1 $ 8.7
Non-GAAP adjustments (1)........................... - 0.2
--------- ---------
Operating income - Mineral Products as adjusted.... $ 8.1 $ 8.9
========= =========
Total segment operating income as adjusted......... $ 94.3 $ 73.0
Unallocated corporate office per GAAP.............. 0.1 0.3
--------- ---------
Operating income as adjusted....................... $ 94.4 $ 73.3
========= =========
(1) Non-GAAP adjustments for the first six months of 2003 represent an other
operating charge of $1.5 million for stock option payments related to
ISP's going private transaction.
Specialty Chemicals
Sales in the first six months of 2004 were $364.3 million compared with
$316.9 million for the same period in 2003. The 15% increase in sales was
attributable to higher unit volumes ($36.9 million). The favorable impact of the
weaker U.S. dollar ($15.7 million), primarily in Europe, also benefited sales.
The personal care product line experienced strong volume growth in each of its
hair care, skin care and oral care markets in Europe and North America. Sales
for the performance chemicals, food and personal care product lines includes the
contribution to sales from the three acquisitions made during the
20
first quarter of 2004 and also from Germinal S.A., which was acquired in the
second quarter of 2003.
Operating income for the specialty chemicals segment was $87.8 million for
the first six months of 2004 compared with $66.9 million in the first six months
of 2003. On a comparable basis, excluding the aforementioned other operating
charges pertaining to specialty chemicals, operating income for the segment
improved 29% to $87.8 million compared with $68.0 million in the first six
months of 2003. The improved results were primarily attributable to the personal
care and performance chemicals and were due to the favorable effect of higher
unit volumes ($20.7 million), partially offset by higher manufacturing costs
($3.0 million) and increased operating expenses ($4.3 million) due to higher
selling and distribution costs resulting from the higher sales levels. Operating
income for the specialty chemicals segment in the first six months of 2004 was
also favorably impacted by the weaker U.S. dollar ($11.8 million) and, to a
lesser extent, from the contribution to income from the three acquisitions made
during the first quarter of 2004 and from Germinal S.A., which was acquired in
the second quarter of 2003.
Industrial Chemicals
Sales in the first six months of 2004 were $97.8 million compared with
$93.5 million in the first six months of 2003. The increase in sales was
attributable to the favorable effect of the weaker U.S. dollar ($4.9 million),
partially offset by slightly unfavorable pricing.
The industrial chemicals segment recorded an operating loss of $1.6 million
in the first six months of 2004. Excluding the aforementioned other operating
charges in the first six months of 2003 pertaining to industrial chemicals, the
operating loss in the first six months of 2003 was $3.9 million. The reduced
losses were attributable to an improved product mix and manufacturing
efficiencies (totaling $5.9 million), partially offset by the adverse impact of
the stronger Euro on European-based manufacturing costs ($3.1 million).
Mineral Products
Sales for the Mineral Products segment for the first six months of 2004
were $66.5 million compared with $51.7 million for the first six months of 2003.
The 29% increase was due to higher unit volumes ($14.9 million) as a result of
industry-wide growth and included 24% higher sales to BMCA.
Operating income for the mineral products segment was $8.1 million in the
first six months of 2004. On a comparable basis, excluding other operating
charges in the first six months of 2003 pertaining to mineral products,
operating income was $8.9 million for the first six months of 2003. The decline
from the first six months of 2003 was due to increased freight expense, higher
manufacturing costs and lower average selling prices in connection with a
long-term customer supply contract entered into in the second quarter of 2003,
partially offset by the favorable impact of higher unit volumes.
21
LIQUIDITY AND FINANCIAL CONDITION
Cash Flows and Cash Position
During the first six months of 2004, our net cash outflow before
financing activities was $196.3 million, including $248.9 million of cash
utilized for net purchases of available-for-sale securities and the reinvestment
of $58.3 million for capital programs and acquisitions, partially offset by
$110.9 million of cash generated from operations.
Operating Activities. Net cash generated from operating activities totaled
$110.9 million for the first six months of 2004 compared with $166.9 million in
the first six months of 2003. The variation in cash flows from operating
activities was mainly attributable to activity related to purchases and sales of
trading securities in connection with our investment portfolio. In the first six
months of 2004, there was a cash inflow of $23.3 million from net sales of
trading securities, while in the first six months of 2003, there was a cash
inflow of $159.6 million from net sales of trading securities.
Cash from operations for the first six months of 2004 also included a cash
investment of $49.5 million in additional working capital, including a $40.0
million increase in receivables as a result of higher sales and a $14.0 million
net decrease in payables and accrued liabilities, partially offset by a $5.7
million decrease in inventories. Accrued liabilities decreased a total of $28.4
million during the six-month period as a result of payments of accrued interest.
Operating activities also included a $4.0 million cash outflow from related
party transactions, principally due to increased receivables from BMCA as a
result of higher sales of mineral products to BMCA.
Investing Activities. Net cash used in investing activities in the first
six months of 2004 totaled $307.2 million, primarily attributable to $248.9
million of cash used for net purchases of available-for-sale securities for our
investment portfolio. Capital expenditures in the first six months of 2004 were
$29.7 million compared with $25.8 million in the first six months of 2003.
During the first six months of 2004, ISP Chemco completed the following
three acquisitions in Europe to further enhance our global specialty chemicals
business. The purchase price of these acquisitions totaled $27.3 million in
cash, net of $0.8 million cash acquired. In February 2004, ISP Chemco acquired
the assets and business of UK-based Red Carnation Gums Limited, a manufacturer
of emulsifiers, stabilizers and gelling systems for food and oral care markets.
In March 2004, ISP Chemco acquired the assets and business of Germany-based
Biochema Schwaben, a formulator of preservatives and biocides with applications
in industrial and personal care markets, primarily in printing, paints and
coatings, polymer emulsions, skin care and hair care markets. Also in March
2004, ISP Chemco acquired the assets and business of UK-based Hallcrest Limited
and its U.S. affiliate, a manufacturer and marketer of custom microencapsulation
and liquid crystal technologies for the personal care, home care, oral care and
food industries.
Financing Activities. Net cash provided by financing activities in the
first six months of 2004 totaled $71.7 million and included $32.0 million from
an increase in short-term borrowings, $31.2 million from a refinancing of ISP
Chemco's senior secured credit facilities, and a decrease of $11.3 million in
loans to related parties.
22
On April 2, 2004, ISP Chemco and three of its wholly owned subsidiaries
amended and restated its June 2001 $450.0 million senior secured credit
facilities, which we refer to as the "Senior Credit Facilities" in order to
extend the term, increase future flexibility and reduce the effective interest
rate on borrowings. The Senior Credit Facilities provide a $250.0 million term
loan with a maturity in March 2011, which replaces the $225.0 million term loan
that was due to mature in June 2008. In connection therewith, ISP Chemco
borrowed an additional $31.2 million to bring the outstanding balance of the
term loan to $250.0 million. The Senior Credit Facilities reduced the
margin-based interest rate for term loan borrowings and amended financial
covenant ratios, including the elimination of the minimum adjusted net worth
covenant.
On April 15, 2004, the $225.0 million revolving credit facility under the
Senior Credit Facilities, which was to terminate in June 2006, was reduced to
$200.0 million, including a borrowing capacity not in excess of $50.0 million
for letters of credit, and the maturity was extended to April 15, 2009. In
addition, the margin-based interest rate for revolving credit borrowings was
reduced.
As a result of the foregoing factors, cash and cash equivalents decreased
by $124.9 million during the first six months of 2004 to $32.7 million. In
addition, the consolidated balance sheet reflects $350.8 million of trading and
available-for-sale securities at July 4, 2004.
Current Maturities of Long-Term Debt
As of July 4, 2004, our current maturities of long-term debt, scheduled to
be repaid during the twelve month period ended June 2005, totaled $3.1 million,
including $2.3 million related to the term loan under the Senior Credit
Facilities.
Operating Lease Obligation
We entered into an operating lease in 1998 for an equipment sale-leaseback
transaction related to equipment at our Freetown, Massachusetts facility. The
lease had an initial term of four years and, at our option, up to three one-year
renewal periods. The first two annual renewal options were exercised during 2002
and 2003, and the third and final renewal option was exercised during the first
quarter of 2004. The lease provides for a substantial guaranteed payment by us,
adjusted at the end of each renewal period, and includes purchase and return
options at fair market values determined at the inception of the lease. We have
the right to exercise a purchase option with respect to the leased equipment, or
the equipment can be returned to the lessor and sold to a third party. It is our
current intention to exercise the purchase option and to maintain the Freetown
plant and business, and we will be evaluating financing alternatives in that
regard. Upon exercise of the purchase option in 2005, we will be obligated to
pay a fixed purchase price of $33.6 million.
As part of our acquisition of the Freetown facility in 1998, we entered
into a multi-year agreement to supply the imaging dyes and polymers used by
Polaroid in its instant film business. In October 2001, Polaroid filed for
protection under Chapter 11 of the U.S. Bankruptcy Code. In the third quarter of
2002, the majority of Polaroid's assets were acquired by a new owner, and the
new owner did not assume our long-term supply contract with Polaroid. These
events negatively impacted the sale of our fine chemicals products and reduced
the utilization of our Freetown plant. We have since increased the
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utilization of the Freetown facility, primarily from additional production of
personal care products. We also continue to shift specialty chemicals production
to our Columbus, Ohio fine chemicals facility, which currently has excess
capacity.
Contractual Obligations
A contract with a multinational supplier to supply a substantial amount of
our acetylene needs to our Texas City, Texas facility expired in March 2004. As
a result, we reduced our acetylene requirements at the Texas City plant by 50%
through shifting production of acetylene-consuming products to our Calvert City,
Kentucky plant. We also entered into a long-term supply contract for the
remaining Texas City plant requirements with a local producer. Under this
contract, we are obligated to purchase specified quantities of acetylene through
the end of 2013. Pricing under this contract is on a fixed basis with escalators
related to changes in the Producer Price Index.
We also have an acetylene supply contract for our requirements of acetylene
delivery via pipeline to our Calvert City facility. The current term of this
contract expires December 31, 2009 and allows us, at our sole option, to extend
the agreement for two additional terms of five years each. We are required by
the contract to pay a monthly non-cancelable facility fee. Pricing under the
contract is on a fixed basis with escalators related to changes in the Producer
Price Index.
The annual unconditional purchase obligation related to the long-term
acetylene supply contract at the Texas City plant, together with the
non-cancelable facility fee associated with the Calvert City plant acetylene
contract is $5.1 million.
Contingencies
See Note 12 to consolidated financial statements for information regarding
contingencies.
New Accounting Standards
In December 2003, the Financial Accounting Standards Board issued a revised
FASB Interpretation No. 46R, which we refer to as "FIN 46R," "Consolidation of
Variable Interest Entities," replacing FIN 46 which had originally been issued
in January 2003. FIN 46R addresses how a business enterprise should evaluate
whether it has a controlling financial interest in an entity through means other
than voting rights and accordingly should consolidate the entity. We will be
required to apply FIN 46R to variable interests in variable interest entities
created after December 31, 2003. The effective dates of FIN 46R for public
enterprises vary based on the type of variable interest entity and whether FIN
46 was applied to a variable interest entity prior to the effective date of FIN
46R. For any variable interest entities that must be consolidated under FIN 46R
that were created before January 1, 2004, the assets, liabilities and
noncontrolling interest of the variable interest entities initially would be
measured at their carrying amounts with any difference between the net amount
added to the balance sheet and any previously recognized interest being
recognized as the cumulative effect of an accounting change. If determining the
carrying amounts is not practicable, fair value at the date FIN 46R first
applies may be used to measure the assets, liabilities and noncontrolling
interest of the variable interest entities. Our company does not currently have
an interest in a
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variable interest entity. Therefore, FIN 46R will not have an immediate impact
on our consolidated financial statements.
In May 2004, the FASB issued FASB Staff Position, which we refer to as
"FSP," No. FAS 106-2 to provide guidance on accounting for the effects of the
Medicare Prescription Drug, Improvement and Modernization Act of 2003, which we
refer to as the "Act" for employers that sponsor postretirement health care
plans which provide prescription drug benefits. In addition, the FSP requires
those employers to provide certain disclosures in their financial statements
regarding the effect of the Act and the related subsidy on postretirement health
obligations and net periodic postretirement benefit cost. FSP FAS No. 106-2
applies only to sponsors of single-employer defined benefit postretirement
health care plans for which (1) the employer has concluded that prescription
drug benefits available under the plan to some or all participants, for some or
all future years, are "actuarially equivalent" to Medicare Part D and thus
qualify for the subsidy under the Act, and (2) the expected subsidy will offset
or reduce the employer's share of the cost of the underlying postretirement
prescription drug coverage on which the subsidy is based. We will adopt the
provisions of FSP FAS No. 106-2 effective for the quarterly period beginning
July 5, 2004. The impact on our financial statements will be insignificant.
* * *
Forward-looking Statements
This Quarterly Report on Form 10-Q contains both historical and
forward-looking statements. All statements other than statements of historical
fact are, or may be deemed to be, 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 are only predictions and
generally can be identified by use of statements that include phrases such as
"believe", "expect", "anticipate", "intend", "plan", "foresee" or other words or
phrases of similar import. Similarly, statements that describe our objectives,
plans or goals also are forward-looking statements. Our operations are subject
to certain risks and uncertainties that could cause actual results to differ
materially from those contemplated by the relevant forward-looking statement.
The forward-looking statements included herein are made only as of the date of
this Quarterly Report on Form 10-Q and we undertake no obligation to publicly
update such forward-looking statements to reflect subsequent events or
circumstances. No assurances can be given that projected results or events will
be achieved.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK
Reference is made to Management's Discussion and Analysis of Financial
Condition and Results of Operations in our Annual Report on Form 10-K for the
fiscal year ended December 31, 2003 for a discussion of "Market-Sensitive
Instruments and Risk Management." As of December 31, 2003, equity-related
financial instruments employed by us to reduce market risk included long
contracts with a notional value of $282.1 million and short contracts with a
notional value of $201.7 million. At July 4, 2004, the notional value of long
contracts was $177.1 million and the notional value of short contracts was $19.0
million. Such instruments are marked-to-market each month, with unrealized gains
and losses included in the results of operations. The unrealized gains (losses)
on equity-related long contracts at December 31, 2003 and July 4, 2004 were
$35.6 and $(6.6) million, respectively. The unrealized gains (losses) on
equity-related short contracts was $1.5 and $(0.6) million at December 31, 2003
and July 4, 2004, respectively.
During 2003, the Company entered into interest rate swaps with a notional
value of $23.0 million in order to economically hedge interest rate risk
associated with investments in securities for which the market value is
correlated with interest rate changes. The interest rate swaps are
marked-to-market each month, with unrealized gains and losses included in the
results of operations. At December 31, 2003 and July 4, 2004, the unrealized
gains related to the interest rate swaps were $48,000 and $205,000,
respectively.
ITEM 4. CONTROLS AND PROCEDURES
Disclosure Controls and Procedures: Our management, with the
participation of our Chief Executive Officer (principal executive officer) and
Vice President and Controller (principal financial officer), conducted an
evaluation of the effectiveness of our disclosure controls and procedures (as
such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities
Exchange Act of 1934, as amended (the "Exchange Act")) as of the end of the
period covered by this report. Based on this evaluation, our Chief Executive
Officer and Vice President and Controller have each concluded that, as of the
end of such period, our disclosure controls and procedures are effective in
recording, processing, summarizing and reporting, on a timely basis, information
required to be disclosed by us in the reports filed, furnished or submitted
under the Exchange Act.
Internal Control Over Financial Reporting: There have not been any
changes in our internal control over financial reporting during the fiscal
quarter to which this report relates that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting.
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PART II
OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
Exhibit Number
--------------
31.1 Rule 13a-14(a)/Rule 15d-14(a) Certification of the Principal
Executive Officer.
31.2 Rule 13a-14(a)/Rule 15d-14(a) Certification of the Principal
Financial Officer.
32.1 Certification pursuant to 18 U.S.C. Section 1350.
(b) Reports on Form 8-K filed during the current quarter:
The Company filed a report on Form 8-K, dated May 4, 2004, reporting an
event under Item 12 thereof. The information set forth in Item 12 of
that Form 8-K was furnished to the Securities and Exchange Commission
and not "filed" pursuant to Section 18 of the Securities Exchange Act
of 1934, as amended.
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SIGNATURES
----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
INTERNATIONAL SPECIALTY HOLDINGS INC.
DATE: August 18, 2004 BY: /s/Sunil Kumar
--------------- --------------
Sunil Kumar
President and Chief Executive Officer
(Duly Authorized Officer)
DATE: August 18, 2004 BY: /s/Kenneth M. McHugh
--------------- --------------------
Kenneth M. McHugh
Vice President and Controller
(Principal Financial and Chief
Accounting Officer)
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