December 6, 2007
Mr. Terence O'Brien
Accounting Branch Chief
Securities and Exchange Commission
100 F Street, N.E.
Washington, D.C. 20549-7010
RE: Cytec Industries Inc.
Form 10-K for Fiscal Year Ended December 31, 2006
Filed February 27, 2007
Form 10-Q for Fiscal Quarters Ended March 31, and June 30, 2007
Files Nos. 1-12372
Dear Mr. O'Brien:
We are writing to respond to the comments set forth in the comment letter to Mr.
David Lilley, our Chairman, President and Chief Executive Officer of the Staff
of the Securities and Exchange Commission (the "Staff"), dated October 31, 2007,
relating to the above referenced filings.
For your convenience, we have reproduced each of the Staff's comments in this
letter and numbered the paragraphs of this letter to correspond to the numbered
paragraphs of the comment letter. All currency amounts in this letter are in
millions.
We acknowledge the following: the Company is responsible for the adequacy and
accuracy of the disclosures in the filing. Staff comments or changes to
disclosure in response to Staff comments do not foreclose the Commission from
taking any action with respect to the filing. The Company may not assert Staff
comments as a defense in any proceeding initiated by the Commission or any
person under the federal securities laws of the United States.
We understand that the purpose of your review process is to assist Cytec in our
compliance with the applicable disclosure requirements and to enhance the
overall disclosure in our filings. We trust our responses to you are
satisfactory. If further information is required, please contact me directly.
Sincerely,
David M. Drillock
/s/ D. M. Drillock
Vice President and Chief Financial Officer
cc: David Lilley Cytec Industries Inc.
Tracey Houser Securities and Exchange Commission
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1. Please note that you may receive separate comments on your Form 10-K
relating to executive compensation from the Executive Compensation Project and
that their review is separate from our review.
Noted.
Customers and Suppliers
2. You state on page 60, "Our business is not substantially dependent on any
single contract or any series of contracts." That appears inconsistent with
your disclosure in this section. Please revise in future filings or advise.
When we stated that "Our business is not substantially dependent on any
single contract or series of contracts," we meant the business of Cytec
Industries and its consolidated subsidiaries as a whole. This statement was
true at the time of filing and remains true today. We will revise our
future filings to make it clear that we are referring to the business of
our entire Company, and not the business of any segment.
In the customers and suppliers section on page 9, and in accordance with
the requirements of Item 101(c) of Regulation S-K, we describe the
dependence of each segment on any customer to the extent the loss of such
customer would have a material adverse effect on the segment. These
customers and contracts are material at the segment level but are not
material to the Company as a whole.
3. In future filings, please identify the significant customers discussed on
page 10 pursuant to Item 101(c)(vii) of Regulation S-K.
Each of the customers referred to on page 10 accounts for less than 10% of
the consolidated revenues of Cytec so we believe that disclosure of these
customer names is not required. In future filings we will clarify and state
that no customers exceed 10% of consolidated revenues.
4. In future filings, please file all material contracts as exhibits to the
Form10-K pursuant to Item 601(b)(10) or Regulations S-K. We note your
discussion of material business relationships with customers,
subcontractors, joint venture partners and suppliers.
We have carefully reviewed the contracts referred to on page 68, the
contracts with the customers referred to on page 10, the contracts with our
joint venture partners and our significant contracts with suppliers and
have concluded that none of these contracts are required to be filed either
because they were made in the ordinary course of our business and are not
required to be filed pursuant to the test set forth in Item 601(b)(10)(ii)
or because the contract was not material to our consolidated business (as
opposed to a segment of our company). In this regard we note that no
individual contract accounted for more than 3% of our consolidated revenues
in 2006 and that the larger of our two joint ventures had total revenues of
approximately 1% of the our consolidated revenues in 2006.
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Risk Factors
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5. In future filings, please consider adding a risk factor to discuss your
dependence on major customers and subcontractors, as mentioned in the first
paragraph on page 9.
Even though no customer is greater than 10% of our consolidated business,
we will add a risk factor to cover both dependence on certain larger
customers and subcontractors as the Staff suggested.
6. In future filings, please consider adding a risk factor relating to
dependence on a limited number of suppliers and the recent supply tightness
you have experienced.
Please note that we currently disclose this information in the raw material
Risk Factor section by cross reference to page 9. As a result, we believe
we comply with this requirement.
Management's Discussion and Analysis of Financial Condition and Results of
- --------------------------------------------------------------------------
Operations
- ----------
7. In future filings, please revise your discussion and analysis of each
segment's earnings from operations to quantify the impact each factor had
to the extent practicable. For example, we note you attribute the increase
in Cytec Performance Chemical's earnings from operations to (a) increased
selling volumes, (b) slightly higher selling prices, (c) benefits of
restructuring initiatives, (d) inclusion of a full year of Surface
Specialties product lines, (e) higher raw material costs, (f) divestiture
of the water treatment chemicals product line, and (f) stock compensation
expense for which you only quantified the impact of the higher raw material
costs and stock compensation expense even though the other factors appear
to be quantifiable. Refer to Item 303 (A)(3)(i) and Item 303 (A)(3)(iii) of
Regulation S-K for guidance.
We agree to quantify the impact of identifiable factors in our future
filings, to the extent that they are significant and quantifiable with
reasonable accuracy, to improve the understanding of the changes in our
earnings from operations.
We currently disclose comprehensive information on the increases and
decreases to net sales by means of a table which provides the change in net
sales by segment for each comparative period by geographic region. The
table indicates the percentage change in net sales by major categories
including price, volume/mix, changes in exchange rates, and where
appropriate we identify the impact of divestitures or acquisitions. The
change in net sales is also generally the single most important factor in
understanding changes in results in operations.
As an example, below we have updated the disclosure for the Cytec
Performance Chemicals segment information from Management's Discussion and
Analysis of Financial Condition and Results of Operations for the year
ended December 31, 2006 compared with year ended December 31, 2005.
Example - revised Cytec Performance Chemicals MD&A for the Year ended
December 31, 2006 Compared to December 31, 2005.
3
% Change Due to
----------------------------------------------------
Total Acquisition/
2006 2005 % Change Price Volume/Mix Divestiture Currency
---------- ------------ ------------ -------- -------------- --------------- ------------
North America $324.1 $340.8 -5% 3% -5% -3% -
Latin America 128.8 126.8 1% 1% - -2% 2%
Asia/Pacific 127.9 118.5 8% - 7% 1% -
Europe/Middle East/Africa 284.3 269.7 6% -1% 11% -5% 1%
---------- ------------ ------------ -------- -------------- --------------- ------------
Total $865.1 $855.8 1% 1% 3% -3% -
Overall selling volumes increased 3% due to increases in the mining
chemicals, phosphines, pressure sensitive adhesives and specialty additives
product lines due to market growth and commercialization of new
technologies. This was partially offset by decreased selling volumes
primarily in the specialty urethanes product line due to competitive price
pressure. The inclusion of full year sales attributable to pressure
sensitive adhesives and polyurethane product lines of Surface Specialties
added 2% to sales and the divestiture of the water treatment chemicals
product line decreased sales 5%. On a regional basis, North America sales
volumes declined primarily in water treatment chemicals due to low demand
from the paper sector and our decision to reduce sales on low profit
accounts and in urethane specialties due to a technology shift in the
market that affected our customer. The sales volume increase in
Asia/Pacific is primarily in mining chemicals and phosphines mostly due to
higher demand levels. Sales volume in Europe/Middle East/Africa increased
11% as a result of overall improved demand.
Earnings from operations were $68.4, or 8% of sales, compared with $56.6 or
7% of sales in 2005. The increase in earnings is primarily attributable to
increased selling volumes which contributed approximately $20.0, slightly
higher selling prices of approximately $9.0, the inclusion of the full year
Surface Specialties product lines which contributed approximately $7.0 and
the benefits of our restructuring initiatives. Partially offsetting these
were higher raw material costs of $28.1, the divestiture of the water
treatment chemicals product line which reduced earnings approximately $4.0
and expense of $3.6 for stock options and stock-settled SARS related to
SFAS 123(R). 2005 results also included $2.6 for the excess of the fair
value of the finished goods inventory over normal manufacturing cost
related to the Surface Specialties acquisition and $7.0 of in-process
research and development cost write-offs related to the Surface Specialties
acquisition.
8. We note that you recognized $51.1 million in restructuring activities and
asset impairment charges related to such activities, which is 16.8% of your
fiscal year 2006 earnings from operations. As such, please provide the
complete disclosures required by SAB Topic 5:P.4. For example, please
disclose:
o A description of each exit or disposal activity, including the facts
and circumstances leading to the expected activity and the expected
completion date and the likely effects on the consolidated financial
statements.
o The extent to which the restructuring activities are expected to
result in cost savings or impact revenues.
o The expected cost savings for each restructuring activity and whether
you have actually realized cost savings from previous restructuring
activities.
o The total dollar amount of restructuring costs should be disclosed for
each period.
We have disclosed in Note 4 of our consolidated financial statements the
majority of the information required by SAB Topic 5:P.4 as it is also
required by SFAS No. 146, "Accounting for Costs Associated With Exit Or
Disposal Activities." At the Staff's request, we will repeat that
information in future filings in Managements' Discussion and Analysis of
Financial Condition and Results of Operations and include any additional
required information from SAB Topic 5:P.4. We believe that the missing
information relates principally to quantifying future savings as a result
of our restructuring activities.
4
Following is an example of how we will comply with the Staff's requests in
the M,D & A section of our 2007 Form 10-K pertaining to our 2006
restructurings.
In 2006, we recorded total charges of $51.1 ($42.3 after tax) in connection
with several restructuring initiatives, including related asset impairments
of $29.3 ($24.6 after tax). In the aggregate these costs were charged to
expense as follow: manufacturing cost of sales $45.2, selling and technical
services $2.0, administrative and general $1.5, research and process
development $1.0, and amortization of acquisition intangibles $1.4. In
accordance with our accounting policy, restructuring costs are included in
our corporate unallocated operating results consistent with management's
view of its businesses.
Based on forecasted cash flow information, we determined that our
manufacturing facility in Dijon, France and related intangible assets were
impaired. This facility manufactures solvent-borne alkyd and solvent-borne
acrylic based resins in our Cytec Surface Specialties ("CSS") segment,
which are used in the coating industry for sale in the European market.
These mature products are in a declining market with supplier overcapacity
with severe price erosion and are generating losses. We recorded an
impairment charge of $15.5 to write-down the carrying value of the
manufacturing facility and related intangible assets down to zero as we do
not believe the assets are saleable and the outlook for recovery of
products it manufactures is not positive. Of the impairment charge, $14.1
was charged to manufacturing cost of sales and $1.4 was charged to
amortization of acquisition intangibles. Also in 2006, after the
appropriate consultations with the Works Council, we decided to close the
facility and commence shutdown activities. At that time, we recorded a
restructuring charge of $8.4, based on estimated severance costs for
eliminating 60 positions at our Dijon, France manufacturing site. In
addition, we recorded a net restructuring charge of $1.5 primarily for the
severance costs for eliminating 8 technical positions at our Indian
Orchard, Massachusetts site, and 16 positions at our leased facilities in
New Castle, Delaware, which operations are relocating to our new
manufacturing facility in Kalamazoo, Michigan. The restructuring was
charged as follows: manufacturing cost of sales $7.8, selling and technical
services $0.6, research and process development $0.5, and administrative
and general $1.0. This decision results in a reduction in annual revenues
of approximately $24.0; however, net annual before tax benefits of
approximately $2.9 were expected to begin in 2007 as a result of these
restructuring initiatives. We did achieve such annualized benefits in 2007.
Cash payments related to these activities will have been substantially
completed as of December 31, 2007.
We recorded a separate restructuring charge of $22.5 of which $13.8 relates
to the impairment of fixed assets in Botlek related to our Polymer
Additives product line in our Performance Chemicals segment and the
remainder relates to the elimination of 38 positions. This initiative
includes the cessation of manufacturing of two light stabilizer products in
Botlek. Manufacture of one of these products, which had sales of
approximately $12.0 in 2005, will be consolidated at our facility in West
Virginia; the other product, representing 2005 sales of approximately $6.0,
5
will be exited. The restructuring costs included estimated cash severance,
reduction of prepaid pensions and retirement of fixed assets and were
charged as follows: manufacturing cost of sales $22.1, and selling expense
$0.4. Annual before tax benefits of approximately $6.5 were expected to
begin in 2007 as a result of these restructuring initiatives. We did
achieve such annualized benefits in 2007. Cash payments related to these
activities will have been substantially completed as of December 31, 2007.
We also recorded restructuring charges of $3.2 related to the elimination
of a total of 35 positions associated with our Specialty Chemicals segments
as we continue our efforts to take advantage of synergies from the 2005
acquisition, and to mitigate continuing costs related to the 2006
divestiture of our water treatment and acrylamide product lines. The
restructuring costs, which were primarily severance related, were charged
to expense as follows: manufacturing cost of sales $1.3, selling and
technical services $0.9, research and process development $0.5 and
administrative and general $0.5. Annual before tax benefits of
approximately $5.9 were expected to begin in 2007 as a result of these
restructuring initiatives. We achieved substantially all of the annualized
benefits in 2007. Cash payments related to these activities will have been
substantially completed by December 31, 2007.
Contractual Obligations and Commercial Commitments
- --------------------------------------------------
9. In future filings, please revise your contractual obligations table as
follows:
o To increase transparency of cash flow, please include scheduled
interest payments in your table. To the extent that the interest rates
are variable and unknown, you may use your judgment to determine
whether or not to include estimates of future variable rate interest
payments in the table or in a footnote to the table. Regardless of
whether you decide to include variable rate estimated interest
payments in the table or in a footnote, you should provide appropriate
disclosure with respect to your assumptions.
o If you are using derivative instruments to manage your interest rate
risk and to the extent that you are in a position of paying cash
rather than receiving cash, please disclose estimates of the amounts
you will be obligated to pay.
o To the extent you are required or planning to fund your pension plans
in the future and such payments are material, present in this table
funding contributions to your pension plans for at least the following
year and, if known, for subsequent years. Include a footnote to the
table that (1) discusses the basis for inclusion or exclusion of these
obligations and (2) explicitly states the periods for which no amounts
have been included in the table.
o Include your "other noncurrent liabilities" in the table, as such
liabilities represent 12% of your total liabilities.
The requested changes will be made in our 2007 and all future annual
filings. Our intention will be to include only the next year's pension, and
environmental estimated payment amounts and footnote the fact that future
years are not included in the table as they are not estimatable by year.
Further, our asbestos contingent liabilities and our asset retirement
liabilities, which are included in "other noncurrent liabilities", will not
be included in the table as we can not reasonably estimate the amounts by
year (this will also be footnoted).
6
Significant Accounting Estimates/Critical Accounting Policies
- -------------------------------------------------------------
10. In future filings, please include a sensitivity analysis of the material
estimates/assumptions for the following:
o Asbestos-related contingent liabilities and related insurance
receivables: future number of claims filed and average value of those
claims on a nominal basis.
o Retirement plans: discount rate and expected rate of return on plan
assets.
At the Staff's request, we will include the requested sensitivity
analyses in future filings.
11. We note that you have referred to an independent third party actuary with
regard to your determination of your asbestos liabilities and probable
insurance recoveries receivable on pages 33 and in footnote 13. In future
filings, either identify these experts or delete your reference to them. We
remind you that if you refer to experts in a filing under the Securities
Act, you must name such experts and include their consent.
Our September 30, 2007 Form 10-Q has already removed the reference to the
third party actuarial firm. They will not be named in any future filing.
12. In future filings, please revise your disclosure to state the purpose of
initially using the market multiple approach to estimate the fair value of
your reporting units when testing goodwill for impairment and then using
the discounted cash flow approach to more precisely determine the reporting
unit's fair value when the market multiple approach indicates a possible
impairment. In this regard, it is unclear why you would not initially use
the discounted cash flow approach, if it is a more precise measure of a
reporting unit's fair value. Also, if the fair value of any of your
reporting units do not materially exceed its carrying value, please provide
a description of the material assumptions used in both the market multiple
approach and the discounted cash flow approach and the sensitivity of those
assumptions for the reporting unit. For example, for a discounted cash flow
approach, such assumptions should include the discount rate used, the
revenue growth rates, the operating profit margins, and the terminal rate,
at a minimum; and for a market multiple approach, the revenue and/or EBITDA
multiple used. Also, please disclose those reporting units, including the
amount of goodwill for the reporting unit, the carrying value of the
reporting unit and the fair value of the reporting unit. Refer to Section
501.14 of the Financial Reporting Codification for guidance.
In future filings, we will update our accounting policy covering impairment
of goodwill to include our rationale for the two-part approach (1A and 1B
as we refer to them) we use to complete the first step of our annual
goodwill impairment analysis. In our 2007 Form 10-K, we also will include
detailed information on the assumptions used in the fair value calculation
for any segment where its fair value does not materially exceed its
carrying value. We will also provide sensitivity information for the
critical assumptions used in this calculation. Per the Staff's comment, the
following is additional input on our use of the market multiple approach
which would be included in future filings.
7
We initially use a market multiple approach (1A) to estimate a range of
fair values by reporting unit, and then use a discounted cash flow approach
(1B) if the market multiple approach indicates that a potential impairment
might exist to refine and reaffirm the results of the first test.
The market multiple approach provides a straightforward, cost effective and
relatively simple method to readily determine if an impairment might exist
by utilizing EBITDA (Earnings Before Interest, Depreciation, and
Amortization) information by segment multiplied by average current industry
valuation factors or multiples to easily determine an estimated range of
fair value. We utilize a 3 year EBITDA average of historical and forecasted
EBITDA for the reportable segment times the range of EBITDA multiple
factors. The market multiple range utilizes an average lower and upper
multiple limit based on recent industry acquisition average EBITDA
multiples paid by financial and strategic purchasers. We obtain this
information from a third party investment bank. If the segment's estimated
fair value of the low end of the range is close to, in our judgement, or
below the segment's carrying value, we refine the calculation using
discounted cash flows to calculate a point estimate of the segment's fair
value, as opposed to a range. If the discounted cash flow approach yields a
fair value estimate less than the segment's carrying value, we would
proceed to step two of the impairment test, as defined by SFAS No. 142.
Summary of Significant Accounting Policies -
- --------------------------------------------
Goodwill
- --------
13. We note that you have identified your reportable segments as your reporting
units for testing goodwill for impairment. We also note your disclosures on
page 5 stating, "Our management team regularly reviews our product line
portfolio in terms of strategic fit and capital allocation based on
financial performance which includes factors such as growth, profitability
and return on invested capital." In addition, you note that you have
accounted for all strategic business and product line acquisitions using
the purchase method of accounting. Finally, we note that you allocated
$15.2 million of Cytec Performance Chemical's goodwill to the divestiture
of the water treatment chemicals product line. As such, it is unclear to us
why you are not testing goodwill for impairment at the product line level
based on the guidance in paragraph 30 of SFAS 142. At a minimum, please
address each of the following:
o Confirm to us that your reportable segments are your operating
segments in accordance with paragraphs 10-15 of SFAS 131.
o Tell us how the "segment managers" of your operating segments manage
their respective segments. Specifically, tell us the types of
information/reports that they review to manage their respective
businesses, including the level of financial information used to
manage the operating segment.
o If the segment managers of your operating segments do review financial
information at a level below the operating segment level (i.e., a
component) and you believe that this level is not a reporting unit
because the component does not constitute a business, please tell us
how you made such a determination providing us with your analysis of
EITF No. 98-3 for each product line by operating segment.
8
o If you believe each of the components for each of your operating
segments can be aggregated, provide us with your comprehensive
analysis of how you determined it is appropriate to aggregate the
reporting units up to the operating segment level in accordance with
paragraph 30 of SFAS 142 and EITF Topic D-101.
o Please provide us with an organizational chart that includes the level
of personnel below your "segment managers" of your operating segments,
whether it is at the business line, geographic, or some other level.
If you subsequently determine that your reporting units are a level below
your operating segments, please revise your goodwill impairment tests for
each period presented. Please provide us with the results of such tests.
As described in our Form 10-K, we have four reportable segments which are
our operating segments for purposes of SFAS 131.
- Cytec Performance Chemicals - this segment includes the following
components (which we call product lines): Mining Chemicals, Phosphine
Chemicals, Pressure Sensitive Adhesives, Polymer Additives, Urethane
Specialties and Specialty Additives.
- Cytec Surface Specialties - this segment includes the following
components: Radcure Resins, Powder Coating Resins, and Liquid Coating
Resins. Liquid Coating Resins includes Waterborne Resins, Solventborne
Resins and Amino Resins.
- Cytec Engineered Materials - this segment encompasses the following
components: advanced composites and film adhesives, both principally
serving the aerospace market.
- Building Block Chemicals - this segment produces the following
products at our Louisiana location; acrylonitrile, melamine and
sulfuric acid. For the Staff's information, there is no goodwill in
this segment.
It is important to note that the Cytec Performance Chemicals and Cytec
Surface Specialties segments are part of what we call the Cytec Specialty
Chemicals business. Cytec Specialty Chemicals is run by one President and
the two specific segment Vice Presidents report directly to the President
of Cytec Specialty Chemicals. The remaining two operating segments, Cytec
Engineered Materials and Building Block Chemicals are run by a segment
President.
The two Cytec Specialty Chemicals segment vice presidents are responsible
for sales, marketing and technical service. All other functions (e.g.
manufacturing, supply chain, research, IT, Human Resources, etc) are shared
and operate at the Cytec Specialty Chemical level. The segment Presidents
for Cytec Engineered Materials and Building Block Chemicals also have
manufacturing, supply chain, IT, human resources and research and
development for each segment as a whole reporting into them. See attached
organization charts at the end of this response.
The operating financial information reviewed by our CEO, who is our Chief
Operating Decision Maker (CODM) as defined by SFAS No. 133, is a segment
income statement, a segment sales and marginal income analysis, (i.e. sales
less variable cost), and accounts receivable and inventory information. In
the case of the two specialty chemical segments, the CODM also is provided
sales and earnings information for each of the components, or product
lines, of the segment. For the Engineered Materials and Building Block
segments, no component or product line financial information is presented
to our CODM. In addition, the CODM does get monthly narrative reports by
segment that supplements all the information described above. Annual budget
data is reviewed by the CODM at the same detailed level as described above.
The operating information as described is also reviewed monthly at the
Board of Directors level.
9
Incentive compensation decisions are made by the CEO based on the
recommendations of the individual segment leaders. Individual incentive
compensation at the component level is done by each of the segment
presidents and it is important to note that a number of the support
functions for the two specialty chemical segments are paid incentive
compensation based on the total results for Cytec Specialty Chemicals.
The specialty chemical segment vice presidents review income statements,
sales and marginal income analysis and accounts receivable and inventory
reports at the component level and the classifications are generally driven
by product type as listed in our segment descriptions above. The segment
president for Cytec Engineered Materials reviews income statements for the
segment and this is supported by information for geographic regions, sales
and marginal income analysis by product type and manufacturing site,
accounts receivable and inventory reports for the segment in addition to
various manufacturing variance reports. The segment president for Building
Block Chemicals reviews an income statement, accounts receivable and
inventory information for the segment and sales and marginal income
analysis by product in addition to various manufacturing variance reports.
Allocation of capital spending is made at the segment level by the CODM,
with a further determination within a segment made by the President of each
segment. The allocation for the specialty chemical segments is done by the
President, Cytec Specialty Chemicals. Capital spending reports are viewed
by all the segment presidents.
Therefore, based on all the above we believe the operating segments
described above have been identified in accordance with paragraphs 10-15 of
SFAS 131.
As it relates to SFAS 142 and goodwill impairment testing, we do not
believe that the components of our segments represent reporting units
because the components do not constitute businesses as defined by EITF 98-3
(98-3) for the following reasons.
- The components do not have their own IT systems (we have centralized
IT systems).
- The components do not have their own manufacturing leaders, or safety,
customer service or supply chain organizations. These functions are
centralized at the Cytec Specialty Chemicals, Cytec Engineered
Materials and Building Block Chemicals level and would have to be set
up if a component was separated from our Company.
- There would be significant cost and it would be difficult for a
component to acquire these business processes.
- The components generally do not individually have legal entity status
in the countries in which they operate, but share legal entities in
which they do business.
- Each component shares finance, human resources and legal personnel
with the entire segment.
- In many cases, components share manufacturing facilities with one or
more other components.
Based on these points, we think there is compelling evidence that many
aspects of a business as defined by 98-3 are not present, While "outputs",
as defined by 98-3, are present in each of our product lines, certain
critical "inputs" and "processes" (as described above) are not present. The
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product lines are dependent on significant segment and corporate
activities. These were and will continue to be assessed as to their
importance under 98-3, but at present were not deemed to be "missing
elements" as described in 98-3 and, as such, we do not believe the
components meet the definition of a business. We have therefore
historically taken the view that the components of the segment are not
reporting units.
A recent example of this heavy dependence on segment and corporate level
processes was evidenced in the sale of the Water Treatment and Acrylamide
product lines (Water Treatment) in 2006. We spent significant time and
effort to separate these product lines from our corporate and segment
infrastructure.
As the Staff highlighted in its comment, at the closing date of the
divestiture (the date at which we believe the specific facts and
circumstances of the 98-3 "business" assessment as required by SFAS142
needed to be completed), we concluded it was appropriate to allocate
segment goodwill to the sale of the Water Treatment in accordance with SFAS
142, paragraph 39. By way of background, the divestiture was begun in
August 2005 so that, by the October 1, 2006 closing date, significant
progress had been made during that time period to provide critical inputs
and processes to allow for the divestiture. This included the creation of a
separate instance of our IT system for the business, modifications to user
access for all personnel associated with Water Treatment to allow for them
to access the new system, and significant personnel realignments to focus
certain job responsibilities only on Water Treatment activities as opposed
to segment duties in total (significant training was also done for these
personnel who would remain with Water Treatment). Further, significant
changes in our operating processes and in supply chain were made to allow
this component to run as a new business in the future In summary, we
expended significant effort to set up the product lines as stand alone
businesses and if we had not, the divestiture would not have happened. The
extent of this effort and preparation by our personnel over this 15-month
period, in our analysis, provides further evidence that our remaining
product lines do not have the ability at present to run separately as
businesses as defined by 98-3. While the decision took judgment on our
part, we felt that only missing elements "minor" to the 98-3 business
definition existed at the sale date for Water Treatment. As such, we
followed the SFAS142 guidance and completed the allocation exercise and
reduced the gain on the divestiture accordingly.
We also believe that even if a view was reached that one or more product
lines was deemed to be a "business" under 98-3, we would be required to
aggregate our components in the segments based on the aggregation criteria
of paragraph 30 of SFAS 142 and EITF Topic D-101 which references back to
paragraph 17 of SFAS 131. Our basis for this, by segment, is as follows:
Cytec Performance Chemicals
o All the products in this segment are considered "specialty chemicals"
and enhance the performance of a customers product or manufacturing
process. As a result of this, the markets vary and are wide, e.g.
copper and alumina processing, fumigation, semiconductor
manufacturing, labels, plastics, adhesives, latex, among others.
o For the majority of the products the basic raw materials are
derivatives based on oil or natural gas.
o They share certain manufacturing facilities and most share a worldwide
research and development center in the U.S.. The products are
primarily batch processed.
o All components are marketed and distributed similarly, predominately
through Cytec sales force and some local agents and all are sold
globally. Customers are industrial users who use our products to make
other products.
11
o Sales growth targets for each product line are linked to global GDP
and international expansion into developing markets such as Asia and
Latin America.
o Our targeted operating margins approximate 10% in total for this
segment. The components are categorized as growth, turnaround or cash.
Once a component has reached a sustainable minimum margin of 10% it is
categorized out of turnaround into a growth category. A cash category
is one where we will make minimum investments and they are run for
cash generation. Only one component, specialty additives, is
classified as cash and its operating margin is above the 10% target.
Polymer additives and specialty urethanes are classified as
turnaround. Both component margins were well below the 10% operating
margin target, but we are working to bring them back to targeted
levels. The differences in the operating margins, in many cases, are
due to the fact that products are at different stages of their life
cycle. The chemical industry, in which we operate, has long life
cycles. In the earlier stages, margins at times are higher as a reward
for innovation, but are reduced as competitors enter the market. Our
expectation is that the long term operating margins are all similar
and that the products are impacted by the same market conditions i.e.,
investment in new products, industrial production and pricing for raw
materials, which are derivatives of oil and natural gas.
Cytec Surface Specialties
o The products in this segment are considered "specialty chemicals" that
react to a surface material and change or improve its characteristics.
The major market is the global coatings market with some sales to the
ink and electronic markets.
o For the majority of the products the basic raw materials are
derivatives of oil or natural gas.
o They share certain manufacturing facilities and share a worldwide
research and development center in Belgium. The products are primarily
batch processed.
o All components are marketed and distributed similarly, predominately
through Cytec sales force and some local distributors, and all are
sold globally. Principal customers are large industrial paint
manufacturers who use our products to make other products.
o Sales growth is linked to global GDP and international expansion into
developing markets such as Asia and Latin America.
o Our targeted operating margins approximate 10% in total for this
segment. As described in Cytec Performance Chemicals above, the
components are categorized as growth, turnaround or cash. Components
in the growth category would include Radcure and Waterborne resins and
their operating margins are above the segment target. There are no
components classified as cash. Powder Coating Resins, Solventborne
Resins and Amino Resins are classified as turnaround and in 2006 their
operating margins were well below the 10% operating margin target, but
we are working to bring them back to targeted levels. Again, the
variation in margins is principally due to products in the segment
being at different stages of their life cycle. The higher margins in
the Radcure and waterborne product areas currently have more
proprietary technology. We would expect these margins to go down over
time without continued investment in new product technology. For the
turnaround businesses we are improving manufacturing performance,
raising prices where possible and investing in specific technology
areas to improve operating margins. These three components are in
highly competitive markets.
Cytec Engineered Materials
o The products in this segment, advanced composites, film adhesives and
carbon fibers all serve principally the aerospace markets. Sales of
12
advanced composites account for approximately 75% of segment sales.
Growth for all products is mostly tied to aircraft build rates and
increased penetration of composites.
o Distribution of the products is similar using predominently Cytec
sales force or some local agents.
o While certain select financial information is available to the segment
president (region income statements, sales and marginal income by
product type and manufacturing site), the segment's overall results
are the subject of heavy focus and analysis, and the segment results
are what are discussed at higher levels. The lower level information
includes significant allocations of segment and corporate costs.
Building Block Chemicals (as stated earlier, there is no goodwill for this
segment)
o There are no discrete financial statements for these products although
a sales and marginal income analysis is available by product.
o The products in the segment are all high volume commodity chemicals
produced in an integrated manufacturing facility at one location in
Louisiana. Much of the costs of production are shared between the main
products at this site.
o They are sold via distributor or Cytec sales force to large industrial
users.
There are two final points we would like to make for the Staff's
clarification. Our Form 10-K referred to the "regular" review of our
product portfolios in the Business section. This referred specifically to
our annual strategic planning process performed for the CEO and Board
typically in May of each year. This is a five-year planning exercise. We
will clarify in future filings that this product portfolio review is only
done annually. We do not believe this causes our components to meet the
`reporting unit' criteria.
Our Form 10-K also states that our acquisitions have been considered
acquisitions of businesses and we have used purchase accounting. We do
believe that to be a true statement based on the terms of each transaction
that we have consummated since FAS 142 was implemented in 2002. There have
been only two acquisitions since that date. Surface Specialties, our 2005
$1.8 billion acquisition, was significant and required a redefinition of
our chemical segments. In 2003, we acquired two product lines from Avecia
for $96 million which were deemed to be a `business' at the time they were
acquired (only $8 million of goodwill) as we acquired all the critical
inputs, outputs and processes. However, when this acquisition was
integrated into our existing business the product lines were incorporated
into two existing Cytec components. We do not believe they remain as a
`business' under EITF 98-3 in the Cytec structure for the aforementioned
reasons. Future transactions may or may not be viewed as that of a business
depending on their terms and attributes.
13
Cytec Specialty Chemicals
President
CSC
_________
|
|
|
______________ ______________ ______________ ______________ ______________ ______________ ______________ ________ __________
| | | | | | | | |
Vice President Vice President Vice President Vice President Vice President Vice President Vice President Division Controller
CSS CPC Operations Supply Chain Human R&D Asia Pacific Counsel CSC
CSC CSC Resources CSC CSC
| | CSC
| |
| |
See Attachment A See Attachment B
________________ ________________
14
Cytec Surface Specialties
Attachment A
Vice
President
_________
|
|
|
______________ ______________ _______________ ______________ _______________ _______________ ____________ ____________ __________
| | | | | | | | |
Surface Global HR Global Business GSSR Project Global Business Global Business Global Sales Marketing Global
Specialites Partner Director Director Director Process Communications Customer
Controller LCR Powders Radcure Optimization Manager Services
Director Director
CSC*
* Serves Cytec Specialty Chemicals
15
Cytec Performance Chemicals
Attachment B
Vice
President
_________
|
|
|
______________ ______________ ______________ _______________ _____________ _______________ ____________
| | | | | | |
Vice President Vice President Vice President Global Director Marketing HR Partner Controller
Mining & SA & PSA PA & SU of Communication CPC
Phosphines Customer Manager
* Serves Cytec Specialty Chemicals
16
Financial Instruments
- ---------------------
14. We note that you use the following derivative instruments: (a) currency
forward contracts; (b) cross currency swaps; and (c) forward contracts and
swaps on commodities. In future filings, please revise your derivative
financial instruments and derivative commodity instruments accounting
policy to provide a more detail description about your policies and the
methods used to apply those policies in accordance with the requirements in
Article 4-08(n) of Regulation S-X. Please provide us with the disclosure
you intend to include in future filings.
In response to the Staff's request, below is a revised derivative policy
note that we believe clarifies what we currently do in this area and that
complies with Article 4-08(n). We will also be certain to conform this
language to other sections of the 2007 Form 10-K that speak to derivatives
so it is laid out consistently throughout the filing.
H. Financial Instruments: Financial instruments are recorded at cost which
approximates fair value for cash and cash equivalents, receivables, certain
other assets, accounts payable, and certain other liabilities. Fair values
are determined through a combination of management estimates and
information obtained from third parties using the latest available market
data. Long-term debt is carried at amortized cost.
I. Derivative Instruments and Hedging Activities: We use derivative
instruments in accordance with our established policies to manage exposure
to fluctuations in currency rates, interest rates and natural gas prices in
North America. We do not hold or issue derivative financial instruments for
trading or speculative purposes. We enter into financial instrument
transactions with either major financial institutions or highly-rated
counterparties and make reasonable attempts to diversify transactions among
counterparties, thereby limiting exposure to credit-related and
performance-related risks.
Foreign Currency Risk: We use currency forward contracts and cross currency
swaps to manage our exposure to fluctuations in currency rates on third
party and intercompany transactions denominated in currencies other than
the functional currency of the legal entity. We hedge such exposures with
currency forward contracts denominated in the same currency and with
similar terms as the underlying exposure, and therefore, the instruments
are effective at generating offsetting changes in the fair value or cash
flows of the hedged item or transaction. All derivative contracts used to
manage foreign currency risk are measured at fair value and reported as
assets or liabilities on the balance sheet. Changes in fair value are
reported in earnings or deferred, depending on the nature and effectiveness
of the hedging relationship. Ineffectiveness, if any, in a hedging
relationship is recognized immediately into earnings. If the hedging
relationship is not highly effective in generating offsetting cash flows or
changes in fair value, we would recognize the change in the fair value of
the currency forward contract in other income (expense), net. We did not
terminate any designated hedging relationships in 2006, 2005 or 2004. There
was no ineffectiveness in 2006, 2005 or 2004.
The earnings impact of currency forward contracts that are used to
economically hedge foreign currency assets or liabilities is recognized
currently in other income (expense), net during the term of the contracts.
17
We use cross currency swaps to hedge certain future cash flows from Euro
receipts on certain Euro denominated intercompany loans receivable we have
with certain subsidiaries against changes in the U.S. dollar to Euro
exchange rates. The swaps fix the US dollar (USD) equivalent cash flows of
these Euro denominated intercompany loans and eliminate foreign exchange
variability since the notional amounts of the swaps equal that of the
loans, and all cash flow dates and interest rates coincide between the
swaps and the loans, therefore no ineffectiveness is expected. These swaps
have been designated as cash flow hedges. The cross currency swaps are
recorded at fair value as either assets or liabilities. Each period we
record the change in the swaps fair value to accumulated other
comprehensive income. We reclassify an amount out of accumulated other
comprehensive income to the income statement to offset the foreign currency
gain or loss on the remeasurement to USD of the Euro loans. We also accrue
for the periodic net swap payments each period in the income statement. We
monitor the counterparty credit risk and the continued probability of the
hedged cash flows as to amount and timing.
Another portion of our intercompany Euro denominated loans payable of one
of our U.S. subsidiaries is designated as a hedge of our net investment in
our Belgium-based subsidiary, Cytec Surface Specialties SA/NV. The portion
of the remeasurement of the intercompany loan to the U.S. dollar that
relates to the amount designated as a hedge of our net investment is
recorded as a translation adjustment.
Commodity Price Risk: We use natural gas swaps to hedge a portion of our
utility requirements at certain of our North American manufacturing
facilities. These swaps, which are highly effective at achieving offsetting
cash flows of the underlying natural gas purchases, have been designated as
cash flow hedges and are reported on the consolidated balance sheets at
fair value, with offsetting amounts included in accumulated other
comprehensive income/(loss) on an after-tax basis. Gains and losses are
reclassified into earnings, as a component of manufacturing cost of sales,
in the period the hedged natural gas purchases affect earnings. If the
derivative is no longer highly effective in achieving offsetting cash
flows, subsequent changes in fair value are recorded in other income
(expense), net. Any ineffectiveness is recognized in other income
(expense), net in the current period. If the hedging relationship is
terminated we continue to defer the related gains or loss in Accumulated
other comprehensive income and include it as a component of the cost of the
underlying hedged item. If the forecasted transaction is no longer likely
to occur we recognize the related gain or loss in other income (expense),
net in that period. We did not terminate any hedges and there were no
forecasted transactions that did not actually occur during 2006, 2005 and
2004. Ineffectiveness during these years was insignificant. The fair values
of all of these instruments are based on quotes from third party financial
institutions.
Derivative Financial Instruments and Certain Hedging Activities
- ---------------------------------------------------------------
15. We note that during September 2005 you entered into two cross currency
swaps, which you state on page 54 that you have designated as cash flows
hedges. However, on page 43, your accounting policy appears to indicate
that the interest component of the derivative instrument is a cash flow
hedge, whereas the exchange component is a fair value hedge. Please provide
us with a more detailed explanation as to how you are accounting for the
two cross currency swaps. Please ensure your explanation cites the
accounting literature supporting your accounting. In addition, please
revise your disclosure in future filings to provide a more detailed
explanation regarding your accounting for the cross currency swaps. Please
18
also revise your disclosure to provide the information required by
paragraph 44 of SFAS 133: (a) your objectives for holding these
instruments, the context behind your objectives, and your strategy for
achieving those objectives; and (b) a description of the items or
transaction for which the instruments are being used. Depending on whether
the instruments qualified as fair value hedges or cash flow hedges, please
revise your footnote disclosure to include the information required by
either paragraph 45.a. or paragraph 45.b., respectively, of SFAS 133.
Please provide us with the disclosure you intend to include in future
filings.
The following is the footnote disclosure to be included in future filings:
We use the cross currency swaps to hedge the changes in the cash flows of
certain Euro denominated intercompany loan receivables (Euro loans) held by
U.S. entities. The loan amounts are Euro 207.9 and Euro 207.9 due October
1, 2010 and October 1, 2015, respectively. Because the Euro loans are
denominated in Euros, we have foreign exchange exposure upon remeasurement
to the USD. We hedged this foreign exchange exposure by entering into
cross-currency swaps with notional amounts of Euro 207.9/USD 250.0 that
settle on October 1, 2010 and October 1, 2015, respectively. At the initial
principal exchange, we paid $500.0 and received Euro 415.8 from
counterparties. At the final exchanges we will pay Euro 207.9 and receive
$250.0 on October 1, 2010 and October 1, 2015. The swaps have fixed
interest rates on both legs. On the 5 year swaps, we pay 3.78% interest per
annum on the Euro notional amount and we receive 5.5% interest per annum on
the USD notional amount. On the 10 year swaps, we pay 4.52% interest per
annum on the Euro notional amount and we receive 6.0% interest per annum on
the USD notional amount. The interest payment dates (April 1 and October 1)
and Euro rates coincide with the Euro loans.
The swaps fix the USD equivalent cash flows of the Euro loans and eliminate
foreign exchange variability since the notional amounts of the swaps equal
that of the loans, and all cash flow dates and interest rates coincide
between the swaps and the loans, therefore no ineffectiveness is expected.
These swaps have been designated as cash flow hedges. Each period we record
the change in the swaps fair value to accumulated other comprehensive
income. We reclassify an amount out of accumulated other comprehensive
income to the income statement equal to the foreign currency gain or loss
on the remeasurement to USD of the Euro loans which offsets the foreign
currency gain or loss. We also accrue for the periodic net swap payments
each period in the income statement. We monitor the counterparty credit
risk and the continued probability of the hedged cash flows as to amount
and timing.
The fair value of the five year swaps were $xxx and $(16.9) at December 31,
2007 and 2006, respectively. The fair value of the ten year swaps were $xxx
and $(16.4) at December 31, 2007 and 2006, respectively. As long as the
Euro loans remain outstanding, we will reclassify amounts out of
accumulated other comprehensive income to the income statement to offset
the amount of foreign exchange gain or loss on the remeasurement of the
Euro loans recorded each period. The amount of such reclass will depend on
changes in the USD/Euro exchange rate occurring during the period. There
were no amounts reclassified out of accumulated other comprehensive income
during 2007, 2006 or 2005 relating to discontinuance of this hedging
relationship.
Per the Staff's request, the following is a more detailed explanation of
how we are accounting for the cross currency swaps.
19
All of the variability in the hedged item's (Euro loans)
functional-currency-equivalent cash flows is eliminated pursuant to FAS
133, paragraph 40(e). This hedging relationship is further supported by DIG
Issue G23 example 1.a. As noted in the DIG Issue G23, we measure
ineffectiveness utilizing DIG Issue G7 and utilize the hypothetical
derivative approach. Since the notional amounts of the swaps equal that of
the Euro loans, and all cash flow dates and interest rates coincide between
the swaps and the Euro loans, the actual hedging instrument being used is
the same as the "hypothetical swap" with matching terms, therefore no
ineffectiveness is expected. We monitor the counterparty credit risk and
the continued probability of the hedged cash flows as to amount and timing.
Each period we record the change in the swap's fair value to accumulated
other comprehensive income (AOCI). Pursuant to FAS 133, paragraph 30(d) we
reclassify an amount out of AOCI to the income statement equal to the
foreign currency gain or loss on the remeasurement to USD of the Euro loans
which offsets the foreign currency impact. We also accrue for the periodic
net swap payments each period in the income statement.
Contingencies and Commitments
- -----------------------------
16. We note that you have asset retirement obligations for manufacturing sites
that you currently own and formerly owned. Based on your current
disclosure, it is unclear as to whether your estimated asset retirement
obligation includes all manufacturing sites or whether you are currently
unable to estimate the asset retirement obligation for certain
manufacturing sites. In future filings, please revise your disclosure to
provide the following additional information regarding your asset
retirement obligations:
o A description of your regulatory closure obligation includes all
manufacturing sites.
o The total number of manufacturing sites you have a regulatory closure
obligation, and the number of manufacturing sites you have not yet
recognized an asset retirement obligation.
o For those manufacturing sites that you have not yet recognized a
liability, disclose why you are unable to provide for such an
estimate, at what stage you will recognize an asset retirement
obligation for the facility or well, and the potential range of cash
flows, based on current costs, that would be required to settle your
asset retirement obligations if they were settled in the near term.
o A reconciliation of the beginning and ending aggregate carrying amount
of your asset retirement obligations. Please provide us with the
disclosure you intend to include in future filings.
In response to the Staff's comment, we confirm we have accrued for all
asset retirement obligations that exist at all manufacturing sites. We will
clarify this as requested in future filings.
Following is a revised footnote disclosure to be included in future
filings:
Asset retirement obligations
We record asset retirement obligations in accordance with SFAS No.143,
Accounting for Asset Retirement Obligations (SFAS 143). Under SFAS 143, the
fair value of a liability for an asset retirement obligation is recognized
in the period in which the liability is incurred and becomes determinable
20
with an offsetting increase in the carrying amount of the related
long-lived asset. The recognition of an asset retirement obligation at fair
value requires that management make numerous estimates, assumptions and
judgments regarding such factors as the estimated probabilities, amounts
and timing of settlements, the credit-adjusted risk-free rate to be used,
inflation rates, market risk-premium, and changes in environmental,
regulatory, and legal environments. In periods subsequent to initial
measurement of the liability, we must recognize period-to-period changes in
the liability resulting from the passage of time and revisions such as the
timing or the amount of the original estimate of undiscounted cash flows.
Over time, the liability is accreted to its future value, and the
capitalized cost is depreciated over the useful life of the related asset.
Upon settlement of the liability, we either settle the obligation for its
recorded amount or incur a gain or loss.
A summary of the changes in the asset retirement obligation for the years
ended December 31, 2007 and 2006 is presented below:
------------------------------------------------------------------------
Asset retirement obligation as of December 31, 2005 $40.1
Liabilities incurred 0.0
Liabilities settled (0.4)
Accretion expense 2.9
Revisions in estimated cash flows (1.0)
Currency exchange 1.5
------------------------------------------------------------------------
Asset retirement obligation as of December 31, 2006 $43.1
Liabilities incurred x.x
Liabilities settled x.x
Accretion expense x.x
Revisions in estimated cash flows x.x
Currency exchange
------------------------------------------------------------------------
Asset retirement obligation as of December 31, 2007 $xx.x
------------------------------------------------------------------------
Our long-lived assets subject to asset retirement obligations are primarily
related to asbestos abatement and Resource Conservation and Recovery Act
("RCRA") closures at certain manufacturing facilities and office buildings.
As of December 31, 2007, 46 of our manufacturing sites have been identified
with regulatory closure obligations. These obligations principally include
asbestos abatement and RCRA closure obligations.
There are no sites with a regulatory closure obligation for which a
liability has not been estimated and recorded.
At December 31, 2007, there were no assets legally restricted for purpose
of settling asset retirement obligations. The asset retirement obligation
liability has been recorded as noncurrent liabilities in the accompanying
consolidated balance sheets.
Controls and Procedures -
- -------------------------
Changes in Internal Controls
- ----------------------------
17. We note your disclosure that with the exception of the items noted above,
there has been no change in the company's internal control over financial
reporting during the quarter ended June 30, 2007 that has materially
21
affected or is reasonably likely to materially affect our internal control
over financial reporting." Please revise in future filings to state
clearly, if correct, that there were changes in your internal control over
financial reporting that occurred during this quarter that have materially
affected, or are reasonably likely to materially affect, your internal
control over financial reporting.
Noted and we will comply.
18. In future filings, please ensure the language included in your
certifications required under section 302 of the Sarbanes-Oxley Act
conforms to the language per Release No. 33-8238, specifically the phrase,
"(the registrant's fourth fiscal quarter in the case of an annual report),"
in Item 4.d.
Noted and we will comply.
22