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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2005
Commission file number 1-12372
CYTEC INDUSTRIES INC.
---------------------
(Exact name of registrant as specified in its charter)
Delaware 22-3268660
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No).
Five Garret Mountain Plaza
West Paterson, New Jersey 07424
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (973) 357-3100
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 Exchange Act). Yes [X] No [ ]
There were 46,042,394 shares of common stock outstanding at August 1, 2005.
-1-
CYTEC INDUSTRIES INC. AND SUBSIDIARIES
10-Q Table of Contents
Page
Part I - Financial Information
Item 1. Consolidated Financial Statements 3
Consolidated Statements of Operations 3
Consolidated Balance Sheets 4
Consolidated Statements of Cash Flows 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 19
Item 3. Quantitative and Qualitative Disclosures About
Market Risk 30
Item 4. Controls and Procedures 30
Part II - Other Information
Item 1. Legal Proceedings 31
Item 4. Submission of Matters to a Vote of Security Holders 32
Item 6. Exhibits 33
Signature 34
Exhibit Index 35
-2-
PART I - FINANCIAL INFORMATION
Item 1. CONSOLIDATED FINANCIAL STATEMENTS
CYTEC INDUSTRIES INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(Dollars in millions, except per share amounts)
Three Months Ended Six Months Ended
June 30, June 30,
----------------------------------------------------
2005 2004 (1) 2005 2004 (1)
-----------------------------------------------------------------------------------------------------
Net sales $813.4 $422.0 $1,377.3 $837.2
Manufacturing cost of sales 639.1 311.5 1,079.4 621.7
Selling and technical services 58.1 35.1 102.8 69.9
Research and process development 19.9 10.4 32.8 19.4
Administrative and general 26.6 14.7 44.5 27.9
Amortization of acquisition intangibles 8.8 1.4 12.8 2.8
Write-off of acquired in-process research and
development - - 37.0 -
-----------------------------------------------------------------------------------------------------
Earnings from operations 60.9 48.9 68.0 95.5
Other income (expense), net (30.5) (8.6) (50.8) (7.7)
Equity in earnings of associated companies 4.5 0.5 6.6 0.8
Interest expense, net 38.5 4.5 48.1 8.3
-----------------------------------------------------------------------------------------------------
Earnings (loss) from continuing operations before
income taxes (3.6) 36.3 (24.3) 80.3
Income tax provision (benefit) (15.3) 5.1 (29.0) 15.9
-----------------------------------------------------------------------------------------------------
Earnings from continuing operations 11.7 31.2 4.7 64.4
Earnings from discontinued operations held for
sale (net of income tax provision of $0.0 and
$0.7) 0.2 - 0.6 -
-----------------------------------------------------------------------------------------------------
Net earnings $ 11.9 $ 31.2 $ 5.3 $ 64.4
=====================================================================================================
Basic net earnings per common share:
Earnings from continuing operations $0.26 $0.80 $ 0.11 $ 1.65
Earnings from discontinued operations held for
sale - - 0.01 -
-----------------------------------------------------------------------------------------------------
Net earnings $ 0.26 $ 0.80 $0.12 $ 1.65
=====================================================================================================
Diluted net earnings per common share:
Earnings from continuing operations $0.25 $0.77 $ 0.10 $ 1.60
Earnings from discontinued operations held for
sale - - 0.01 -
Net earnings $ 0.25 $ 0.77 $ 0.12 $ 1.60
=====================================================================================================
Dividends per common share $ 0.10 $ 0.10 $ 0.20 $ 0.20
=====================================================================================================
(1) 2004 results were restated to show the effect of FSP 106-2, which was
adopted retroactively during the third quarter of 2004, and the retroactive
application of the change from the last-in, first-out ("LIFO") to the first-in,
first-out ("FIFO") inventory method which was adopted on January 1, 2005. Refer
to Note 1.
See accompanying Notes to Consolidated Financial Statements
-3-
CYTEC INDUSTRIES INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
(Dollars in millions, except per share amounts)
June 30, December 31,
2005 2004 (1)
-----------------------------------------------------------------------------------------------
Assets
Current assets
Cash and cash equivalents $ 114.4 $ 323.8
Trade accounts receivable, less allowance for doubtful accounts
of $9.2 and $6.7 in 2005 and 2004, respectively 503.4 248.2
Due from related party 19.0 -
Other accounts receivable 75.5 54.1
Inventories 487.6 263.8
Deferred income taxes 27.9 23.3
Other current assets 23.4 29.3
Assets of discontinued operations held for sale 96.7 -
-----------------------------------------------------------------------------------------------
Total current assets 1,347.9 942.5
-----------------------------------------------------------------------------------------------
Investment in associated companies 10.7 85.5
Plants, equipment and facilities, at cost 2,052.8 1,627.2
Less: accumulated depreciation (957.3) (948.6)
-----------------------------------------------------------------------------------------------
Net plant investment 1,095.5 678.6
-----------------------------------------------------------------------------------------------
Acquisition intangibles, net of accumulated amortization of
$36.3 and $23.1 in 2005 and 2004, respectively 515.8 66.8
Goodwill 1,010.3 342.4
Deferred income taxes - 54.6
Other assets 119.0 81.2
-----------------------------------------------------------------------------------------------
Total assets $4,099.2 $2,251.6
===============================================================================================
Liabilities
Current liabilities
Accounts payable $ 268.7 $ 138.1
Short-term borrowings 503.6 -
Current maturities of long-term debt 87.5 119.0
Accrued expenses 236.9 178.1
Income taxes payable 65.6 61.5
Liabilities of discontinued operations held for sale 32.2 -
-----------------------------------------------------------------------------------------------
Total current liabilities 1,194.5 496.7
-----------------------------------------------------------------------------------------------
Long-term debt 1,017.4 300.1
Pension and other postretirement benefit liabilities 397.8 348.3
Deferred income taxes 73.7 -
Other noncurrent liabilities 237.8 174.5
Stockholders' equity
Common stock, $.01 par value per share, 150,000,000 shares
authorized;
issued 48,132,640 shares 0.5 0.5
Additional paid-in capital 234.1 122.8
Retained earnings 1,105.2 1,108.5
Accumulated other comprehensive income (loss):
Unearned compensation (3.0) (3.1)
Minimum pension liability (103.5) (108.5)
Unrealized net gains (losses) on cash flow hedges 0.3 (0.5)
Accumulated translation adjustments 11.2 73.3
-----------------------------------------------------------------------------------------------
(95.0) (38.8)
Treasury stock, at cost, 2,121,674 shares in 2005 and 8,297,863
shares in 2004 (66.8) (261.0)
-----------------------------------------------------------------------------------------------
Total stockholders' equity 1,178.0 932.0
-----------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $4,099.2 $2,251.6
===============================================================================================
(1) Balances at December 31, 2004 have been restated to show the retroactive
application of the change from the LIFO to the FIFO inventory method which was
adopted on January 1, 2005. Refer to Note 1.
See accompanying Notes to Consolidated Financial Statements
-4-
CYTEC INDUSTRIES INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Dollars in millions)
Six Months Ended
June 30,
------------------------------------------------------------------------------------------
2005 2004 (1)
------------------------------------------------------------------------------------------
Cash flows provided by (used in) operating activities
Net earnings from continuing operations $ 4.7 $ 64.4
Non cash items included in net earnings from continuing operations:
Dividends from associated companies greater than (less than)
earnings (4.3) 0.3
Depreciation 56.8 42.9
Amortization 14.4 5.6
Deferred income taxes (39.8) 15.5
Write-off of acquired in-process research and development 37.0 -
Amortization of write-up to fair market value of finished goods
purchased in acquisition 20.8 -
Gains on sale of assets (1.2) (0.6)
Unrealized losses on derivative instruments 23.4 -
Other (1.2) (0.1)
Changes in operating assets and liabilities (excluding effect of
acquisitions):
Trade accounts receivable (20.1) (31.2)
Other receivables 14.0 (1.5)
Inventories (28.7) (21.5)
Other assets 5.7 (7.7)
Accounts payable 1.9 35.3
Accrued expenses (7.5) (11.7)
Income taxes payable (19.5) (8.1)
Other liabilities 1.3 (22.9)
------------------------------------------------------------------------------------------
Net cash provided by (used in) operating activities of continuing
operations 57.7 58.7
Net cash provided by operating activities of discontinued operations 0.8 -
------------------------------------------------------------------------------------------
Net cash provided by (used in) operating activities 58.5 58.7
------------------------------------------------------------------------------------------
Cash flows (used in) investing activities
Additions to plants, equipment and facilities (47.5) (35.7)
Proceeds received on sale of assets 101.4 0.7
Acquisition of business, net of cash received (1,482.5) -
Advanced payment of acquisition-related contingent consideration (26.5) -
Minority interest (0.9)
Advance payment received on land lease - 9.1
------------------------------------------------------------------------------------------
Net cash used in investing activities (1,456.0) (25.9)
------------------------------------------------------------------------------------------
Cash flows provided by (used in) financing activities
Proceeds from the exercise of stock options and warrants 10.5 11.5
Cash dividends (8.6) (7.8)
Proceeds from long-term debt 864.2 -
Payments on long-term debt (186.2) -
Change in short-term borrowings 521.6 (0.2)
Deferred financing costs (4.4) -
Purchase of treasury stock - (13.2)
Proceeds from termination of interest rate swap - 2.7
------------------------------------------------------------------------------------------
Net cash provided by (used in) financing activities 1,197.1 (7.0)
------------------------------------------------------------------------------------------
Effect of currency rate changes on cash and cash equivalents (9.0) (6.9)
------------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents (209.4) 18.9
Cash and cash equivalents, beginning of period 323.8 251.1
------------------------------------------------------------------------------------------
Cash and cash equivalents, end of period $114.4 $270.0
==========================================================================================
(1) 2004 results were restated to show the effect of FSP 106-2, which was
adopted retroactively during the third quarter of 2004, and the retroactive
application of the change from the LIFO to the FIFO inventory method which was
adopted on January 1, 2005. Refer to Note 1.
See accompanying Notes to Consolidated Financial Statements
-5-
CYTEC INDUSTRIES INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(Dollars in millions, except per share amounts, unless otherwise indicated)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been prepared
pursuant to the rules and regulations of the Securities and Exchange Commission
for reporting on Form 10-Q. Certain information and footnote disclosures
normally included in financial statements prepared in accordance with accounting
principles generally accepted in the United States of America ("U.S. GAAP") have
been condensed or omitted pursuant to such rules and regulations. Financial
statements prepared in accordance with U.S. GAAP require management to make
certain estimates and assumptions that affect the reported amounts of assets and
liabilities, revenues and expenses and other disclosures. In the opinion of
management of Cytec Industries Inc. (the "Company"), these financial statements
include all normal and recurring adjustments necessary for a fair presentation
of the financial position and the results of operations and cash flows of the
Company for the interim periods presented. The results of operations for any
interim period are not necessarily indicative of the results of operations for
the full year. The statements should be read in conjunction with the
Consolidated Financial Statements and Notes to the Consolidated Financial
Statements contained in the Company's 2004 Annual Report on Form 10-K. Unless
indicated otherwise, the terms "Company" and "Cytec" each refer collectively to
Cytec Industries Inc. and its subsidiaries.
On June 13, 2005 the Company issued a Current Report on Form 8-K to restate its
previously issued financial statements for all years shown in the Company's 2004
Annual Report on Form 10-K for the following two items below.
Restatement for Change in Accounting Principle: Effective January 1, 2005, the
Company changed its inventory costing method for U.S. inventories from the LIFO
method to the FIFO method. The Company has applied this change retroactively by
restating its financial statements as required by Accounting Principles Board
Opinion No. 20, "Accounting Changes," and accordingly, previously reported
amounts in the accompanying financial statements have been restated for all
periods presented. As a result of this change, inventories at December 31, 2004
were increased by $41.7, retained earnings were increased by $25.4 and deferred
income tax assets were decreased by $16.3. See the table below for the effects
on the results of operations for the three and six month periods ended June 30,
2004 as a result of the retroactive restatement of the financial statements
related to the change in accounting principle. The Company has not calculated
and presented herein the impact on 2005 results if the Company had stayed on
LIFO as the information is not believed to be meaningful given the acquisition
completed on February 28, 2005.
Restatement for Adoption of FSP 106-2: The results of operations for the three
and six month periods ended June 30, 2004 included herein have been restated to
show the effects of adopting the provisions of Financial Accounting Standards
Board ("FASB") Staff Position No. 106-2, "Accounting and Disclosure Requirements
Related to the Medicare Prescription Drug, Improvement and Modernization Act of
2003" ("FSP 106-2"). In December 2003, Congress passed the Medicare Prescription
Drug, Improvement and Modernization Act of 2003. In May 2004, the FASB issued
FSP 106-2 which requires companies to account for the reduction in accumulated
postretirement benefit obligation as an actuarial gain to be amortized into
income over the average remaining service period of plan participants. The
Company adopted the provisions of FSP 106-2 in the third quarter of 2004,
retroactive to January 1, 2004, as permitted by FSP 106-2.
-6-
As a result of the retroactive adoption of FSP 106-2 and the FIFO method of
inventory valuation discussed above, net earnings and earnings per share for the
three and six month periods ended June 30, 2004 have been restated as follows:
Three Months Six Months
Ended Ended
June 30, 2004 June 30, 2004
----------------------------------------------------------------------
Net earnings, as originally reported $29.0 $60.3
Effect of retroactive adoption of FIFO 1.5 2.7
Effect of adopting FSP 106-2 0.7 1.4
----------------------------------------------------------------------
Net earnings, as restated $31.2 $64.4
======================================================================
Basic net earnings per share, as
originally reported $0.74 $1.54
Effect of retroactive adoption of FIFO 0.04 0.07
Effect of adopting FSP 106-2 0.02 0.04
----------------------------------------------------------------------
Basic net earnings per share, as restated $0.80 $1.65
======================================================================
Diluted net earnings per share, as
originally reported $0.72 $1.50
Effect of retroactive adoption of FIFO 0.03 0.06
Effect of adopting FSP 106-2 0.02 0.04
----------------------------------------------------------------------
Diluted net earnings per share, as
restated $0.77 $1.60
======================================================================
Certain reclassifications have been made to the prior year's financial
statements in order to conform to the current year's presentation.
2. RECENT ACQUISITION AND RELATED EVENTS
On February 28, 2005, the Company completed its acquisition of the Surface
Specialties business ("Surface Specialties") of UCB Group SA ("UCB") for cash
and stock valued at $1,799.6 subject to final working capital and other
customary adjustments, of which $1,508.8 (euro 1,138.5 at 1.325 U.S. dollar per
euro) was paid in cash and the balance was paid in 5,772,857 shares of Cytec
common stock ($290.8 at $50.37 per Cytec share). In addition, there is
contingent consideration up to a maximum of 50 million euros, of which 20
million euros ($26.5 at 1.325 US dollar per euro) was paid upon closing, subject
to refund, and is not included in the total consideration of $1,799.6, with the
balance potentially payable in 2006. The contingent consideration is included in
other assets in the accompanying balance sheet and will be earned on a pro-rata
basis pending the achievement of certain full-year operating results by Surface
Specialties in 2005. If the contingent consideration is earned, goodwill would
be increased. Based on sales volumes of the acquired product lines during the
first half of 2005, and estimated volumes during the second half of 2005, the
Company believes that it will be entitled to a refund of all or substantially
all of the contingent consideration that was paid at closing. In addition, $12.8
of transaction costs were incurred in connection with the transaction.
The Company financed the cash component with $600.0 under an unsecured 364-day
credit facility, $725.0 under an unsecured five-year term loan and the remaining
$184.0 was paid from existing cash. The Company intends to refinance the
borrowings then outstanding under the 364-day credit facility with long-term
debt later in 2005. Refer to Note 9 for other disclosures concerning the
Company's debt.
Upon closing, UCB became the owner of approximately 12.5% of the outstanding
shares of the Company. UCB and the Company also entered into a stockholder's
agreement (the "Stockholder's Agreement") which provides, subject to various
exceptions, that UCB must reduce its stake to less than 9% within three years,
less than 7% within four years and less than 5% within five years and which
provides that UCB will be prohibited from purchasing additional shares of Cytec
common stock or causing, advocating or participating in a change of control in
the ownership of Cytec. The Stockholders Agreement also contains customary terms
and conditions including an obligation of UCB to vote its shares of Cytec common
stock in accordance with the Company's Board of Directors' recommendation on
certain matters.
The global Surface Specialties business had revenues of approximately $1,350 in
2004 which included approximately $154 of sales from the Surface Specialties
amino resins ("SSAR") product line. Pursuant to regulatory approvals, the
Company is required to divest SSAR by the end of August, 2005. On June 21, 2005,
the Company announced that it had reached a definitive agreement to sell SSAR
for net cash consideration of $78.0 (64 million euro at 1.22 U.S. dollar per
euro). Until such time as SSAR is sold, results of its operations are classified
as discontinued operations in the Company's consolidated statement of
operations. The net after-tax proceeds realized from the divestiture of SSAR
will be used to reduce acquisition related debt. The assets and liabilities of
SSAR have been classified separately in the Company's consolidated balance
sheet. Refer to Note 4 for additional information relating to discontinued
operations.
-7-
The Company had previously entered into forward-starting interest rate swaps to
hedge the benchmark interest rate and credit spread on long-term debt that the
Company intends to issue in 2005 to refinance the debt outstanding under the
364-day credit facility. In June 2005, the Company extended the maturity date of
$506.9 of the swaps to September 2005. Due to a reduction in borrowing
requirements, the Company also liquidated $60.4 forward starting interest rate
swaps in June 2005 at a cost of $3.7. The swaps are being marked to market and
recorded currently in earnings until maturity or settlement. The net pre-tax
impact of the marked to market value on these swaps was a loss of $28.0 and
$28.7 for the three and six month periods ended June 30, 2005 which was recorded
in other income (expense), net. In the fourth quarter of 2004, the Company
recorded a loss of $6.5 on interest rate swap transactions entered into in
connection with the acquisition.
The Company had also previously entered into foreign currency forward contracts
that related to approximately 87% of the euro exposure of 1.190 billion for the
cash component of the Surface Specialties acquisition. The forward contracts,
which matured on February 28, 2005, were marked to market and recorded currently
in earnings until their maturity. The impact on earnings for the three months
ended March 31, 2005 of the marked to market adjustment on these forward
contracts was a net pre-tax expense of $19.2 and was recorded in other income
(expense), net. In the fourth quarter of 2004, the Company recorded an
unrealized gain of $33.3 on currency forward transactions entered into in
connection with the acquisition.
The following table summarizes the estimated fair value of the assets acquired
and the liabilities assumed in the acquisition. The Company is in the process of
finalizing working capital and other customary adjustments as well as
third-party valuations of certain assets acquired and liabilities assumed, as
well as performing its own internal assessment; thus the table below discloses a
preliminary allocation of the purchase price. The preliminary allocation is
subject to change, and such change could be significant. The Company expects to
have the purchase price allocation substantially complete later in 2005.
----------------------------------------------------------------------
Cash $ 34.7
Current deferred tax assets 26.5
Other current assets 537.6
Assets of discontinued operations held for sale 98.7
Property, plant and equipment 460.7
Goodwill 736.5
Acquired intangible assets 490.3
Acquired in-process research and development 37.0
Other assets 25.9
----------------------------------------------------------------------
Total assets acquired $2,447.9
======================================================================
Current liabilities $ 281.6
Liabilities of discontinued operations held for sale 26.7
Long-term deferred tax liabilities 189.9
Long-term debt 9.7
Other long-term liabilities 127.6
----------------------------------------------------------------------
Total liabilities assumed 635.5
----------------------------------------------------------------------
Net assets acquired $1,812.4
======================================================================
The $736.5 of goodwill is not tax deductible and was allocated to the Company's
Cytec Surface Specialties segment. The preliminary purchase price allocation
reflects an estimate of $527.3 of acquired intangible assets. Included in
acquired intangible assets is $45.7 relating to certain trade names which have
indefinite useful lives. The remaining intangibles that were acquired were
assigned to customer-related ($382.5), marketing-related ($50.8) and
technology-related intangibles ($11.3), and are being amortized over periods of
10 to 15 years. Immediately following the acquisition, $37.0 of acquired
in-process research and development costs were written off.
Following are the unaudited pro forma combined results of operations for the
three and six months ended June 30, 2005 and 2004 as if Cytec and Surface
Specialties had been combined as of the beginning of each of the periods
presented but excludes the results of SSAR which became a discontinued operation
as of the date of acquisition. Additionally, the write-off of in-process
research and development costs and inventory valuation adjustments were excluded
from the 2005 and 2004 amounts as they are considered non-recurring charges. The
pro forma results include estimates and assumptions which are subject to
adjustment pending completion of the purchase price allocation and will also be
affected by final working capital and other customary adjustments. However, pro
forma results do not include any anticipated cost savings or other effects of
the planned integration and are not indicative of the results which would have
actually occurred if the business combination had been in effect on the dates
indicated, or which may result in the future.
-8-
The pro forma information set forth below considers the following factors: the
issuance of 5,772,857 shares of Cytec common stock to UCB in connection with the
acquisition; the anticipated sale of SSAR; the issuance of acquisition-related
debt of $1,325.0 at a weighted-average interest rate of 3.79% and the associated
increase in interest expense, net of the after tax proceeds from the anticipated
sale of SSAR used to pay down such debt; a net reduction in cash and an
associated reduction in interest income as a result of the on-hand cash utilized
to purchase Surface Specialties; increased amortization of acquisition
intangibles; decreased depreciation expense based on asset values and estimated
useful lives included in the preliminary valuation report; amortization of
deferred financing costs and the tax effects of each of these items.
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------------------------------------------------------------------------
2005 2004 2005 2004
---------------------------------------------------------------------------------------------
Revenues $813.4 $722.8 $1,602.1 $1,429.1
Net earnings $ 18.4 $ 41.4 $ 57.6 $ 85.8
Net earnings per common share:
Basic $ 0.40 $ 0.92 $ 1.25 $ 1.91
Diluted $ 0.39 $ 0.90 $ 1.22 $ 1.87
---------------------------------------------------------------------------------------------
3. ACCOUNTING PRONOUNCEMENTS
Recently Issued Accounting Pronouncements: In December, 2004, the FASB issued
SFAS No. 123 (revised 2004), "Share-Based Payment" ("SFAS 123R"). SFAS 123R
addresses the accounting for transactions in which an enterprise receives
employee services in exchange for (a) equity instruments of the enterprise or
(b) liabilities that are based on the fair value of the enterprise's equity
instruments or that may be settled by the issuance of such equity instruments.
When SFAS 123R becomes effective, it will replace SFAS No. 123 and supersede
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees," ("APB No. 25") and will require companies to recognize compensation
expense in an amount equal to the fair value of share-based payments, such as
stock options granted to employees. Companies were required to implement the
proposed standard no later than July 1, 2005, however, the Securities and
Exchange Commission issued a statement in April, 2005 that allows registrants to
implement SFAS 123R at the beginning of their next fiscal year. The Company
anticipates that it will adopt the new standard effective January 1, 2006
utilizing the modified prospective basis as allowed under SFAS 123R (see Note
5).
In November 2004, the FASB issued SFAS No. 151, "Inventory Costs - An amendment
of ARB No. 43, Chapter 4" ("SFAS 151"). SFAS 151 amends the guidance in ARB No.
43, Chapter 4, "Inventory Pricing," to clarify the accounting for abnormal
amounts of idle facility expense, freight, handling costs, and wasted material
(spoilage). Additionally, SFAS No. 151 requires that the allocation of fixed
production overheads to the costs of conversion be based on the normal capacity
of the production facilities. SFAS No. 151 is required to be adopted by the
Company in the first quarter of 2006. The Company is currently evaluating the
impact of SFAS 151 on its consolidated financial statements. The Company will
adopt the new standard effective January 1, 2006.
4. DISCONTINUED OPERATIONS
On June 21, 2005, the Company announced that it had reached a definitive
agreement to sell SSAR to affiliates of INEOS Group Limited ("INEOS") for net
cash consideration of 64 million euros ($78.0 at 1.22 U.S. dollar per euro),
subject to certain closing adjustments. Pursuant to regulatory approvals, the
Company is required to divest SSAR by the end of August, 2005. Since its
acquisition date and until such time as SSAR is sold, results of its operations
are classified as discontinued operations in the Company's consolidated
statement of operations. SSAR develops and manufactures amino resins for use in
various industries. SSAR has assets and liabilities that are located primarily
in the U.S., Canada and Germany.
A summary of the operating results of SSAR for the three months ended June 30,
2005 and for the four-month period since acquisition through June 30, 2005,
which was included in the results of discontinued operations for six-months
ended June 30, 2005, is as follows:
Three Months Four Months
Ended June 30, Ended June 30,
2005 2005
-------------------------------------------------------------------
Revenues $37.8 $51.8
===================================================================
Earnings before income taxes $0.2 $1.3
Income tax expense 0.0 0.7
-------------------------------------------------------------------
Earnings from discontinued
operations $0.2 $0.6
===================================================================
-9-
The assets and liabilities of SSAR included in the June 30, 2005 consolidated
balance sheet are comprised of:
----------------------------------------------------------------------
Accounts receivable $25.4
Inventories 14.9
Property, plant and equipment 35.7
Other assets and intangibles 20.7
----------------------------------------------------------------------
Assets held for sale $96.7
======================================================================
Accounts payable $12.0
Accrued liabilities and other current liabilities 2.7
Other liabilities 17.5
----------------------------------------------------------------------
Liabilities held for sale $32.2
======================================================================
5. STOCK-BASED COMPENSATION
The Company accounts for its stock-based compensation under the recognition and
measurement principles of APB No. 25 and related Interpretations. No stock-based
compensation cost is reflected in net earnings for stock options, as all stock
options granted had an exercise price equal to the market value of the
underlying common stock on the date of the grant. Compensation cost for
restricted stock is recorded based on the market value on the date of grant, and
compensation cost for performance stock is recorded based on the quoted market
price of the Company's common stock at the end of each period through the date
of vesting. The fair value of restricted and performance stock is charged to
unearned compensation in Stockholders' Equity and amortized to expense over the
requisite vesting periods. Stock appreciation rights ("SARS") are accounted for
as a liability under APB No. 25 and are payable in cash. Compensation cost for
SARS is recognized in the statement of operations over the vesting period and
through the life of the award based on changes in the current market price of
the Company's common stock over the market price at the grant date.
The following table illustrates the effect on net earnings and net earnings per
share if the Company had applied the fair value recognition provisions of
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation," to all stock-based employee compensation:
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
----------------------------------------------------------------------------------------------
Net earnings as reported or restated $11.9 $31.2 * $ 5.3 $64.4 *
Add:
Stock-based employee compensation expense
included in reported net earnings, net of
related tax effects 0.0 0.8 0.6 1.1
Deduct:
Total stock-based employee compensation
expense
determined under fair-value-based method
for all
awards, net of related tax effects 1.8 1.7 3.6 3.5
----------------------------------------------------------------------------------------------
Pro forma net earnings $10.1 $30.3 $2.3 $62.0
==============================================================================================
Net earnings per share:
Basic, as reported or restated $0.26 $0.80 * $0.12 $1.65 *
Basic, pro forma $0.22 $0.77 $0.05 $1.58
Diluted, as reported or restated $0.25 $0.77 * $0.12 $1.60 *
Diluted, pro forma $0.21 $0.75 $0.05 $1.54
==============================================================================================
* 2004 results were restated to show the effect of FSP 106-2, which was
adopted retroactively during the third quarter of 2004, and the
retroactive application of the change from the LIFO to the FIFO
inventory method which was adopted on January 1, 2005. Refer to Note 1.
-10-
The fair value of each stock option granted before January 1, 2005 was estimated
on the date of grant using the Black-Scholes option pricing model with the
following weighted average assumptions for the quarter ended June 30, 2004:
2004
-----------------------------------------------------------
Expected life (years) 5.7
Expected volatility 46.6%
Expected dividend yield 1.0%
Risk-free interest rate 3.4%
Weighted average fair value per option $16.20
===========================================================
For stock options granted after January 1, 2005, the fair value of each option
award is estimated on the date of grant using a binomial-lattice option
valuation model. The binomial-lattice model considers characteristics of fair
value option pricing that are not available under the Black-Scholes model.
Similar to the Black-Scholes model, the binomial model takes into account
variables such as volatility, dividend yield rate, and risk free interest rate.
However, in addition, the binomial model considers the contractual term of the
option, the probability that the option will be exercised prior to the end of
its contractual life, and the probability of termination or retirement of the
option holder in computing the value of the option. For these reasons, the
Company believes that the binomial-lattice model provides a fair value that is
more representative of actual experience and future expected experience than the
value calculated in previous years, using Black-Scholes. The assumptions for the
quarter ended June 30, 2005 are noted in the following table:
2005
-----------------------------------------------------------------
Expected life (years) 5.8
Expected volatility 38.5%
Expected dividend yield 0.84%
Range of risk-free interest rate 2.1% - 4.2%
Weighted average fair value per option $17.78
=================================================================
6. EARNINGS PER SHARE (EPS)
Basic earnings per common share excludes dilution and is computed by dividing
net earnings by the weighted-average number of common shares outstanding (which
includes shares outstanding, less performance and restricted shares for which
vesting criteria have not been met) plus deferred stock awards, weighted for the
period outstanding. Diluted earnings per common share is computed by dividing
net earnings by the sum of the weighted-average number of common shares
outstanding for the period adjusted (i.e., increased) for all additional common
shares that would have been outstanding if potentially dilutive common shares
had been issued and any proceeds of the issuance had been used to repurchase
common stock at the average market price during the period. The proceeds are
assumed to be the sum of the amount to be paid to the Company upon exercise of
options, the amount of compensation cost attributed to future services and not
yet recognized and the amount of income taxes that would be credited to or
deducted from capital upon exercise.
The following shows the reconciliation of weighted average shares:
Three Months Ended Six Months Ended
June 30, June 30,
-----------------------------------------------
2005 2004 2005 2004
--------------------------------------------------------------------------------
Weighted average shares
outstanding: 46,161,839 39,221,043 44,140,565 39,159,998
Effect of dilutive shares:
Options 996,240 1,028,336 1,148,398 971,330
Performance/Restricted Stock 84,011 71,852 82,099 79,271
--------------------------------------------------------------------------------
Adjusted average shares
outstanding 47,242,090 40,321,231 45,371,062 40,210,599
================================================================================
Stock options to purchase 915,650 and 911,150 shares of common stock,
respectively, were outstanding during the three and six months ended June 30,
2005 but were excluded from the above calculation because their inclusion would
have an anti-dilutive effect on earnings per share.
7. INVENTORIES
Effective January 1, 2005, the Company changed its inventory costing method for
U.S. inventories from the LIFO method to the FIFO method. Refer to Note 1.
-11-
Inventories, as restated, consisted of the following:
June 30, December 31,
2005 2004
-----------------------------------------------------------------------
Finished goods $ 318.1 $ 165.0
Work in process 27.6 20.6
Raw materials & supplies 141.9 78.2
-----------------------------------------------------------------------
Total inventories $ 487.6 $ 263.8
=======================================================================
8. EQUITY IN EARNINGS OF ASSOCIATED COMPANIES AND MINORITY INTERESTS
Through May 31, 2005, the Company had one associated company that was material
to its operations, CYRO Industries ("CYRO"), a 50% owned joint venture. On June
1, 2005, the Company sold its 50% ownership in CYRO to its joint venture partner
Degussa Specialty Polymers, a company of Degussa AG, for cash consideration of
$95.0 plus $5.0 for working capital adjustments based on preliminary estimates.
The proceeds of this transaction essentially recovered the carrying value of
Cytec's investment in CYRO. Estimated net after-tax proceeds realized from the
sale of CYRO of $81.5 were used to reduce acquisition-related debt.
Summarized financial information for the Company's equity in earnings of CYRO
included in the Company's results for the three and six months ended June 30, is
as follows:
Three Months Ended Six Months Ended
June 30, June 30,
2005* 2004 2005** 2004
---------------------------------------------------------------------------------------------
Net sales $58.3 $76.8 $148.1 $149.2
Gross profit $11.8 $ 9.8 $ 27.3 $ 19.5
Net earnings $ 6.0 $ 1.0 $ 12.4 $ 1.6
Equity in earnings of associated company $ 4.3 $ 0.5 $ 6.3 $ 0.8
=============================================================================================
* Represents results for the two-month period ended May 31, 2005.
** Represents results for the five-month period ended May 31, 2005.
Upon acquisition of Surface Specialties, Cytec acquired a 50% ownership interest
in SK Cytec Co., Ltd., a joint venture that manufacturers and sells certain
similar products to those sold by Surface Specialties. The operations of SK
Cytec Co., Ltd. are not material to the operations of the Company. Upon
acquisition of Surface Specialties, Cytec also acquired ownership interests in
two majority-owned entities for which the net assets and results of operations
are consolidated. The earnings associated with the minority ownership interests
are included in other income (expense), net and amount to $0.2 and $0.3,
respectively, for the three and six months ended June 30, 2005. The minority
ownership interests in the net assets of these entities are included in other
noncurrent liabilities and total $1.8 as of June 30, 2005.
9. DEBT
The Company funded a majority of the cash portion of the purchase price of the
Surface Specialties acquisition with bank debt. The Company borrowed $725.0
under its unsecured five-year term loan facility and $600.0 under its unsecured
364-day credit facility both at interest rates based on a floating LIBOR rate
plus an applicable margin which is based on the Company's credit rating and is
subject to change. The $725.0 facility requires a payment of the lesser of $72.5
or the then outstanding balance each December from 2005 through 2008 with a
final payment due February 2010. Any amounts outstanding under the $600.0
facility at maturity are due and payable at that time. At June 30, 2005, $657.9
is outstanding under the $725.0 facility. At June 30, 2005, $468.3 remains
outstanding under the $600.0 facility. Short term borrowings on the accompanying
balance sheet at June 30, 2005 include the remaining balance owed under the
$600.0 facility. The facilities contain covenants that are customary for such
facilities.
On February 28, 2005, the Company entered into a cross currency rate swap to
effectively convert $950.0 of the $1,325.0 of U.S. dollar denominated bank debt
to euro denominated debt. This swap, which matured on April 1, 2005, was used as
a natural hedge of the foreign exchange impact on certain euro denominated
intercompany loans that the Company acquired as part of the acquisition of
Surface Specialties. Mark-to-market gains or losses on the swap from changes in
the value of the euro are included in the statement of operations and offset the
corresponding losses or gains on the intercompany loans. On the maturity date of
the swap, the Company converted $904.0 of its U.S. dollar denominated bank
borrowings into euro denominated bank borrowings. The weighted-average interest
rate on the acquisition-related debt facilities was 3.57% at June 30, 2005. At
June 30, 2005, $824.5 of the Company's bank borrowings were euro-denominated.
Also at June 30, 2005, $630.1 of these euro-denominated bank borrowings
naturally hedged euro-denominated intercompany loans and the remaining $194.4 of
euro-denominated debt is treated as a hedge of its net investment in Cytec
Surface Specialties SA/NV.
-12-
In May 2005, the Company elected to redeem the Mandatory Par Put Remarketed
Securities ("MOPPRS"), at the optional redemption price of $141.0. The optional
redemption price represented the $120.0 principal amount of the securities and a
$21.0 pre-tax interest charge for redemption prior to their final maturity. The
redemption provided the Company with the ability to refinance this debt at a
lower cost and a shorter tenor. Due to this redemption, the Company recognized
additional interest expense of $1.0 from amounts related to the unamortized put
premium and rate lock agreements for these securities. The total expense of
$22.0 was recorded in the second quarter. The $350.0 unsecured five-year
revolving credit facility was used to fund a majority of the redemption of the
MOPPRS. At June 30, 2005, $122.2 is outstanding under the $350.0 facility.
Long-term debt, including the current portion, consisted of the following:
June 30, 2005
Carrying
Face Value
-----------------------------------------------------------------------
Five-Year Term Loan Due February 15, 2010 $ 657.9 $ 657.9
6.75% Notes Due March 15, 2008 100.0 98.5
Five-Year Revolving Credit Due February 15, 2010 122.2 122.2
4.60% Notes Due July 1, 2013 200.0 201.8
Other 24.8 24.8
-----------------------------------------------------------------------
1,104.9 1,105.2
Less: Current maturities 87.5 87.5
-----------------------------------------------------------------------
Long-term debt $1,017.4 $1,017.7
==========================================================================
10. CONTINGENCIES AND COMMITMENTS
Environmental Matters
The Company is subject to substantial costs arising out of environmental laws
and regulations, which include obligations to remove or limit the effects on the
environment of the disposal or release of certain wastes or substances at
various sites or to pay compensation to others for doing so.
As of June 30, 2005 and December 31, 2004, the aggregate environmental related
accruals were $105.9 and $70.7, respectively. The increase primarily relates to
the preliminary estimate of liabilities assumed upon the acquisition of Surface
Specialties. As of June 30, 2005 and December 31, 2004, $6.0 and $10.0,
respectively, of the above amounts were included in accrued expenses, with the
remainder included in other noncurrent liabilities. Environmental remediation
spending for the three months ended June 30, 2005 and 2004 was $1.0 and $3.7,
respectively and for the six months ended June 30, 2005 and 2004 was $2.2 and
$4.8, respectively.
These accruals can change substantially due to such factors as additional
information on the nature or extent of contamination, methods of remediation
required, changes in the apportionment of costs among responsible parties and
other actions by governmental agencies or private parties or if the Company is
named in a new matter and determines an accrual needs to be provided for or if
the Company determines it is not liable and no longer requires an accrual.
A further discussion of environmental matters can be found in Note 10 of the
Notes to the Consolidated Financial Statements contained in the Company's 2004
Annual Report on Form 10-K.
Other Contingencies
The Company is the subject of numerous lawsuits and claims incidental to the
conduct of its or certain of its predecessors' businesses, including lawsuits
and claims relating to product liability, personal injury including asbestos,
environmental, contractual, employment and intellectual property matters.
As of June 30, 2005 and December 31, 2004, the aggregate self-insured and
insured contingent liability was $68.9 and $68.4, respectively, and the related
insurance receivable was $37.1 at June 30, 2005 and $37.9 at December 31, 2004.
The liability related to asbestos claims included in the above amounts at June
30, 2005 and December 31, 2004 was $50.2 and $50.4, respectively, and the
related insurance receivable was $34.8 at June 30, 2005 and $34.2 at December
31, 2004. The Company anticipates receiving a net tax benefit for payment of
those claims to which full insurance recovery is not realized.
The following table presents information about the asbestos claims against the
Company:
-13-
Six Months Ended Year Ended
June 30, December 31,
2005 2004
--------------------------------------------------------------------------------------------
Number of claimants associated with claims closed
during period 7,744 3,540
Number of claimants associated with claims opened
during period 856 4,532
Number of claimants at end of period 21,059 27,947
============================================================================================
It should be noted that the ultimate liability and related insurance recovery
for all pending and anticipated future claims cannot be determined with
certainty due to the difficulty of forecasting the numerous variables that can
affect the amount of the liability and insurance recovery. These variables
include but are not limited to: (i) significant changes in the number of future
claims; (ii) significant changes in the average cost of resolving claims; (iii)
changes in the nature of claims received; (iv) changes in the laws applicable to
these claims; and (v) financial viability of co-defendants and insurers.
The Company is among several defendants in approximately 30 cases, in which
plaintiffs assert claims for personal injury, property damage, and other claims
for relief relating to lead pigment that was used as an ingredient decades ago
in paint for use in buildings. The different suits were brought by government
entities and/or individual plaintiffs, on behalf of themselves and others. The
suits variously seek compensatory and punitive damages and/or injunctive relief,
including funds for the cost of monitoring, detecting and removing lead based
paint from buildings and for medical monitoring; for personal injuries allegedly
caused by ingestion of lead based paint; and plaintiffs' attorneys' fee. The
Company believes that the suits are without merit and is vigorously defending
against all such claims. Accordingly, no loss contingency has been recorded. The
Company has access to a substantial amount of primary and excess general
liability insurance for property damage and believes these policies are
available to cover a significant portion of both its defense costs and indemnity
costs, if any, for lead pigment-related property damage claims.
In July 2005, the Supreme Court of Wisconsin held in a case in which the Company
is one of several defendants that Wisconsin's risk contribution doctrine applies
to bodily injury cases against manufacturers of white lead pigment. Under this
doctrine, manufacturers of white lead pigment may be liable for injuries caused
by white lead pigment based on their market shares unless they can prove they
are not responsible for the white lead pigment which caused the injury in
question. Seven other courts have previously rejected the applicability of this
and similar doctrines to white lead pigment. The Company expects that its
liability, if any, in this case to be immaterial.
The Company reached an agreement in March 2005 with one of its insurers
regarding the payment of past and future defense costs associated with the lead
pigment litigation. Through the six months ended June 30, 2005, the Company was
reimbursed $3.6 relating to the recovery of past and current year defense costs
under this agreement. Also through the six months ended June 30, 2005, the
Company recorded in other income (expense), net, $1.5 primarily related to the
recovery of past defense costs.
In the first quarter of 2005, the Company increased its reserves by $4.4 as a
result of its agreement in principle to settle claims by a third party for the
costs of environmental remediation at a manufacturing site operated by the
former American Cyanamid Company ("Cyanamid") prior to 1944. In connection with
the Company's 1993 spin-off from Cyanamid, the Company agreed to indemnify
Cyanamid for claims of this nature. Under the terms of the settlement which was
finalized in the second quarter of 2005, the third party has released all claims
and indemnified the Company against third-party environmental remediation claims
arising from the alleged contamination at the site. Although the Company
believed it had meritorious defenses to this claim, the Company agreed to the
settlement to avoid incurring additional legal fees and any risk of an adverse
outcome in any related litigation.
In the second quarter of 2005, the Company increased its reserves by $2.4 as a
result of its agreement in principle to settle certain claims by a third party
for $2.7.
While it is not feasible to predict the outcome of all pending environmental
matters, lawsuits and claims, it is reasonably possible that there will be a
necessity for future provisions for costs for environmental matters and for
other contingent liabilities that in management's opinion, will not have a
material adverse effect on the consolidated financial position of the Company,
but could be material to the consolidated results of operations or cash flows of
the Company in any one accounting period. The Company cannot estimate any
additional amount of loss or range of loss in excess of the recorded amounts.
Moreover, many of these liabilities are paid over an extended period, and the
timing of such payments cannot be predicted with any certainty.
From time to time the Company is also included in legal proceedings as a
plaintiff involving tax, contract, patent protection, environmental and other
legal matters. Gain contingencies, if any, are recorded when they are realized.
-14-
A further discussion of other contingencies can be found in Note 10 of the Notes
to the Consolidated Financial Statements contained in the Company's 2004 Annual
Report on Form 10-K.
Commitments
The Company frequently enters into long-term contracts with customers with terms
that vary depending on specific industry practices. The Company's business is
not substantially dependent on any single contract or any series of related
contracts. Descriptions of the Company's significant sales contracts at year end
are set forth in Note 10 of the Notes to Consolidated Financial Statements
contained in the Company's 2004 Annual Report on Form 10-K.
11. COMPREHENSIVE INCOME (LOSS)
The components of comprehensive income (loss), which represents the change in
equity from non-owner sources, for the three and six months ended June 30, are
as follows:
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
---------------------------------------------------------------------------------------------
Net earnings as reported or restated * $ 11.9 $31.2 $ 5.3 $64.4
Other comprehensive income:
Minimum pension liability adjustments 6.0 -- 5.0 --
Unrealized gains on cash flow hedges (0.8) (0.3) 0.8 (0.1)
Foreign currency translation
adjustments (53.5) (8.3) (62.1) (16.5)
---------------------------------------------------------------------------------------------
Comprehensive income (loss) $(36.4) $22.6 $(51.0) $47.8
=============================================================================================
* 2004 results were restated to show the effect of FSP 106-2, which was
adopted retroactively during the third quarter of 2004, and the retroactive
application of the change from the LIFO to the FIFO inventory method which
was adopted on January 1, 2005. Refer to Note 1.
12. INCOME TAXES
The Company recognized a tax benefit of $15.3 (effective tax rate benefit of
425%) on the loss from continuing operations for the three months ended June 30,
2005 and a tax benefit of $29.0 (effective tax rate benefit of 119%) for the six
months ended June 30, 2005 versus an effective tax rate of 14% and 20%,
respectively, in 2004. The Company's 2005 effective tax rate for the quarter and
year to date was favorably impacted by hedging losses incurred in the U.S. in
connection with the Surface Specialties acquisition, the MOPPRS redemption, and
reduction in tax expense due to audits of various prior years as discussed
below. The rate was unfavorably impacted by the write-off of acquired in-process
research and development expenses related to the Surface Specialties
acquisition, for which there is no tax benefit. Excluding these items, the
Company's underlying annual effective tax rate for the six months ended June 30,
2005 was 27%. The Company's underlying effective tax rate in 2004 was 23%. This
reflected the Company's continued earnings growth in lower tax jurisdictions
and, to a lesser extent, a favorable international tax ruling received in the
first quarter. The increase in the underlying rate for 2005 is due to the
acquisition of Surface Specialties which operates in a mix of countries with
higher effective tax rates than the countries in which heritage Cytec business
operated.
In January, 2005, the Company received notice that the Congressional Joint
Committee on Taxation (the "Joint Committee") approved the final IRS examination
findings for the years 1999 through 2001 and a separate tax refund claim filed
by the Company for 1998. Such Joint Committee approval resulted in a tax refund
of approximately $0.2 and $0.1 for the years 1998 and 2000 respectively, which
was recorded in the first quarter of 2005. The Company also recorded a reduction
in tax expense of approximately $16.2 for the three months ended March 31, 2005
to reflect the final resolution of these audits.
In May, 2005, the Company received a final notice from the Norwegian Assessment
Board disclosing an increase to taxable income with respect to a 1999
restructuring of certain of the Company's European operations. The tax liability
attributable to this assessment, excluding interest and possible penalties, is
approximately 84 million Norwegian krone ($12.8) as of June 30, 2005. This final
assessment reflects a 20.7 million Norwegian krone decrease in the assessed tax
liability compared with the prior audit report issued by the tax authorities. As
a result, the Company has recorded a corresponding reduction in tax expense of
approximately $4.2, including interest, in the quarter ended June 30, 2005 to
reflect this final assessment. The Company has retained tax counsel to assist in
the defense of the final assessment since the issue will likely be litigated
given the Company's vigorous defense in protesting the increase of taxable
income. Notwithstanding the Company's meritorious defenses in this matter, in
prior years as this matter developed, the Company accrued for the potential
unfavorable outcome of this dispute for the full amount of the tax liability of
the assessment. Assuming the dispute resolution process follows a normal course,
final resolution of the matter, and the impact, if any, on the cash flows of the
Company will probably occur in 2006.
-15-
The Company also received a separate notice from the Norwegian tax authorities
in the second quarter of 2005 disclosing a complete termination of pleadings
regarding a potential Norway permanent establishment ("PE") with respect to a
Company affiliate. Given the favorable resolution of this PE issue, the Company
has adjusted its contingency reserves accordingly and recorded a reduction in
tax expense of $5.4, including interest, in the second quarter ended June 30,
2005.
13. OTHER FINANCIAL INFORMATION
On April 21, 2005 the Board of Directors declared a $0.10 per common share cash
dividend, paid on May 25, 2005 to shareholders of record as of May 10, 2005.
Cash dividends paid in the second quarter of 2005 and 2004 were $4.6 and $3.9,
respectively, and for the six months ended June 30, 2005 and 2004 were $8.6 and
$7.8, respectively. On July 21, 2005 the Board of Directors declared a $0.10 per
common share cash dividend, payable on August 25, 2005 to shareholders of record
as of August 10, 2005.
Income taxes paid for the six months ended June 30, 2005 and 2004 were $30.6 and
$4.4, respectively. Taxes paid during the six months ended June 30, 2005
included $15.3 of pre-acquisition tax liabilities of Surface Specialties for
which reimbursement from UCB has been arranged. Interest paid for the six months
ended June 30, 2005 and 2004 was $36.3 and $8.5, respectively. Interest paid for
the six months ended June 30, 2005 included interest charges of $21.0 which
resulted from the redemption of the MOPPRS prior to their final maturity.
Included in due from related party on the accompanying balance sheet are certain
tax reimbursements to be received from UCB in accordance with the terms of the
purchase agreement entered into in connection with the acquisition of Surface
Specialties. Additionally, in connection with certain transition services
agreements entered into with UCB upon closing of the purchase of Surface
Specialties, included in accrued expenses at June 30, 2005 are $0.7 related to
such agreements. Through June 30, 2005, results of operations reflect expenses
of $5.5 recognized under these agreements.
14. SEGMENT INFORMATION
Effective with the acquisition of Surface Specialties, the Company realigned its
organizational and reporting structure. The following tables disclose net sales
and earnings (losses) under the new reporting structure for all periods
presented. The total assets of the Cytec Surface Specialties segment includes
the assets acquired on February 28, 2005 (refer to Note 2). Also total assets of
$249.1 were transferred to the Cytec Performance Specialties segment on January
1, 2005.
Summarized information for the Company's four segments is as follows:
Three Months Ended Six Months Ended
June 30, June 30,
--------------------------- -----------------------------
2005 2004 2005 2004
--------- ----------- ---------- -------------
Net sales
---------
Cytec Performance Specialties
Sales to external customers $ 185.8 $ 164.7 $ 359.2 $ 321.3
Intersegment sales 1.7 0.8 2.8 2.1
Cytec Surface Specialties 412.7 77.8 603.5 153.5
Cytec Engineered Materials 141.0 128.1 268.8 248.4
Building Block Chemicals
Sales to external customers 73.9 51.4 145.8 114.0
Intersegment sales 21.6 20.8 44.8 40.1
------- --------- -------- ----------
Net sales from segments 836.7 443.6 1,424.9 879.4
Elimination of intersegment
revenue (23.3) (21.6) (47.6) (42.2)
------- --------- -------- ----------
Net sales $ 813.4 $ 422.0 $1,377.3 $ 837.2
======================================================================================================
% of % of % of % of
sales sales sales sales
----- ----- ----- -----
Earnings (loss) from operations
-------------------------------
Cytec Performance Specialties $ 16.9 9% $ 10.9 7% $ 31.2 9% $ 20.3 6%
Cytec Surface Specialties 14.1 3% 11.9 15% (20.4) -3% 20.5 13%
Cytec Engineered Materials 25.3 18% 26.6 21% 48.7 18% 50.1 20%
Building Block Chemicals 6.7 7% 2.0 3% 14.0 7% 8.9 6%
------- -------- -------- --------
Earnings from segments 63.0 8% 51.4 12% 73.5 5% 99.8 11%
Corporate and Unallocated (2.1) (2.5) (5.5) (4.3)
------- -------- -------- --------
Earnings from operations $ 60.9 7% $ 48.9 12% $ 68.0 5% $ 95.5 11%
============================================================================================================
-16-
15. GOODWILL AND OTHER ACQUISITION INTANGIBLES
The following is the activity in the goodwill balances for each segment. The
2004 beginning balances have been restated to reflect the new organizational
structure referred to in Note 1:
Cytec Cytec
Performance Cytec Surface Engineered
Specialties Specialties Materials Corporate Total
------------------------------------------------------------------------------------------------
Balance, December 31,
2004 $63.6 $ 30.7 $247.4 $0.7 $ 342.4
2005 Acquisition
(Note 2) - 736.5 - - 736.5
Currency translation (0.6) (61.8) 0.1 - (62.3)
Other - - (6.3) - (6.3)
------------------------------------------------------------------------------------------------
Balance, June 30, 2005 $63.0 $705.4 $241.2 $0.7 $1,010.3
================================================================================================
The Company recorded a reduction to goodwill of $6.3 as a result of the
favorable resolution of a tax contingency related to an acquisition that
occurred in a prior reporting period.
Other acquisition intangibles as of June 30, 2005 and December 31, 2004,
consisted of the following major classes:
Weighted Accumulated
Average Gross carrying value amortization Net carrying value
Useful ------------------------------------------------------------------------
Life June 30, December 31, June 30, December 31, June 30, December 31,
(years) 2005 2004 2005 2004 2005 2004
----------------------------------------------------------------------------------
Technology-based 15.3 $ 52.5 $42.5 $(13.4) $(12.2) $ 39.1 $30.3
Marketing-related 15.4 60.7 11.6 (6.3) (4.0) 54.4 7.6
Marketing-relatedindefinite 41.8 - - - 41.8 -
Customer-related 15.0 397.2 35.8 (16.7) (6.9) 380.5 28.9
---------------------------------------------------------------------------------------------------
Total $552.2 $89.9 $(36.4) $(23.1) $515.8 $66.8
===================================================================================================
Amortization of acquisition intangibles for the three months ended June 30, 2005
and 2004 was $8.8 and $1.4, respectively and for the six months ended June 30,
2005 and 2004 were $12.8 and $2.8, respectively. Amortization expense for the
six months ended June 30, 2005 includes four months of amortization of the
acquisition intangibles associated with the Company's purchase of Surface
Specialties. Assuming no change in the gross carrying amount of acquisition
intangibles and the currency exchange rates remain constant, the estimated
amortization of acquisition intangibles for the fiscal year 2005 is $29.9 and
for the years 2006 through 2009 is $34.4 per year. Included in marketing-related
intangibles is $41.8 relating to certain trade names purchased upon acquisition
of Surface Specialties which have indefinite useful lives.
16. COMMODITY AND DERIVATIVE FINANCIAL INSTRUMENTS
At June 30, 2005, the Building Block Chemicals segment Fortier plant's 2005
remaining forecasted natural gas utility requirements were 75% hedged utilizing
natural gas forward contracts at an average cost of $7.01 per MMBTU. These
contracts have delivery dates ranging from July, 2005 to December, 2005.
Additionally, the plant's 2006 gas utility requirements were 40% hedged at June
30, 2005 at an average cost of $7.92 per MMBTU, and these contracts have
delivery dates ranging from January to June 2006.
At June 30, 2005, the Company held natural gas swaps with a favorable fair value
of $0.3, net of taxes, which will be reclassified into Manufacturing Cost of
Sales through March 2006 as these swaps are settled.
The Company had engaged in currency and interest rate hedging activities in
connection with the acquisition of Surface Specialties and related financing and
currently is engaged in interest rate hedging activities. Refer to Notes 2 and
9.
For more information regarding the Company's hedging activities and derivative
financial instruments, refer to Note 4 to the Consolidated Financial Statements
contained in the Company's 2004 Annual Report on Form 10-K.
-17-
17. EMPLOYEE BENEFIT PLANS
Net periodic cost for the Company's pension and postretirement benefit plans was
as follows:
Pension Plans Postretirement Plans
--------------------------- --------------------------
Three Months Ended June 30,
---------------------------------------------------------
2005 2004 2005 2004
------------------------------------------------------------------------------------
Service cost $ 7.1 $ 3.6 $ 0.2 $ 0.2
Interest cost 8.2 8.7 3.6 3.5
Expected return on plan
assets (9.8) (9.4) (1.3) (1.3)
Net amortization and
deferral 3.2 1.5 (2.6) (2.7)
---------- ------------ ---------- -------------
Net periodic cost $ 8.7 $ 4.4 $ (0.1) $ (0.3)
------------------------------------------------------------------------------------
Six Months Ended June 30,
---------------------------------------------------------
2005 2004 2005 2004
------------------------------------------------------------------------------------
Service cost $ 11.6 $ 7.3 $ 0.5 $ 0.5
Interest cost 17.9 17.4 7.2 7.1
Expected return on plan
assets (19.8) (18.8) (2.6) (2.5)
Net amortization and
deferral 6.0 3.1 (5.3) (5.3)
---------- ------------- ------------ --------------
Net periodic cost $ 15.7 $ 9.0 $ (0.2) $ (0.2)
====================================================================================
* 2004 amounts were restated to show the effect of FSP 106-2, which was
adopted retroactively during the third quarter of 2004. Refer to Note 1.
The Company disclosed in its annual report on Form 10-K for the year ended
December 31, 2004, that it expected to contribute $15.8 and $20.5, respectively,
to its pension and postretirement plans in 2005. Through June 30, 2005, $7.1 and
$8.8 in contributions were made, respectively. The Company makes these voluntary
contributions as a part of its normal financial planning. In conjunction with
the acquisition, the Company is in the process of evaluating its pension and
post-retirement plans and related funding requirements and, as such,
contributions relating to the acquired businesses have not been included in
contributions amounts discussed above.
The Company also sponsors various defined contribution retirement plans in the
United States and a number of other countries, consisting primarily of savings
and profit growth sharing plans. Contributions to the savings plans are based on
matching a percentage of employees' contributions. Contributions to the profit
growth sharing plans are generally based on the Company's financial performance.
Amounts expensed related to these plans for the three months ended June 30, 2005
and 2004 were $4.3 and $3.8, respectively, and for the six months ended June 30,
2005 and 2004 were $9.1 and $7.8, respectively.
-18-
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis should be read in conjunction with the
Consolidated Financial Statements and Notes to Consolidated Financial
Statements. Dollars are in millions, except per share amounts. Percentages are
approximate.
GENERAL
Cytec Industries Inc. is a global specialty chemicals and materials company and
sells its products to diverse major markets for aerospace, automotive and
industrial coatings, chemical intermediates, mining, plastics and water
treatment. Sales volume by region and the impact of exchange rates are important
measures that are analyzed by management.
On February 28, 2005, the Company acquired the Surface Specialties business of
UCB. The acquisition was recorded using the purchase method of accounting.
Accordingly, the results of operations of Surface Specialties have been included
in the Company's consolidated results from the date of acquisition. A further
discussion of the acquisition of Surface Specialties can be found in Note 2 to
the Notes to the Consolidated Financial Statements contained herein.
The Company reports its net sales in four segments: Cytec Performance
Specialties, Cytec Surface Specialties, Cytec Engineered Materials and Building
Block Chemicals. The Cytec Performance Specialties and Cytec Surface Specialties
segments are collectively referred to as Specialty Chemicals. The Company also
reports its net sales in four geographic regions: North America, Latin America,
Asia/Pacific and Europe/Middle East/Africa. The destination of the sale
determines the region under which it is reported consistent with management's
view of the business. North America consists of the United States and Canada.
Latin America includes Mexico, Central America, South America and the Caribbean
Islands. Asia/Pacific is comprised of Asia, Australia and the islands of the
South Pacific Rim.
Raw material cost changes year on year are an important factor in profitability
especially in years of high volatility. Oil and natural gas costs are
significantly higher than the year ago period and many of the Company's raw
materials are derived from these two commodities. Key raw materials for the
Specialty Chemicals and Building Block Chemicals segments are propylene,
ammonia, methanol derivatives, acrylic acid and natural gas for energy. Key raw
materials for the Cytec Engineered Materials segment are carbon fiber and
various resins. Discussion of the year to year impact of raw materials and
energy is provided in our segment discussion. In addition, higher global demand
levels and, occasionally, operating difficulties at suppliers, have limited the
availability of certain of the Company's raw materials. In February, 2005, the
Company's major supplier of propylene placed the Company on an 85% supply
allocation of its requirements due to mechanical difficulties. This allocation
did not impact Company operations during the six months ended June 30, 2005 as
the Company procured adequate quantities of propylene from other suppliers to
meet customer demand and to operate its plant at desired capacity. Normal supply
resumed during the second quarter of 2005.
QUARTER ENDED JUNE 30, 2005, COMPARED WITH QUARTER ENDED JUNE 30, 2004
Consolidated Results
Net sales for the second quarter of 2005 were $813.4 compared with $422.0 for
the second quarter of 2004. All segments reported increased sales. In the Cytec
Surface Specialties segment, sales increased primarily as a result of the
inclusion of sales from Surface Specialties. The Cytec Performance Specialties
segment experienced increased sales due to increased volumes and the effect of
price increase initiatives. The Cytec Engineered Materials segment sales
increase was volume related, primarily from increased sales to the large
commercial aircraft, automotive, and rotorcraft industries. The Building Block
Chemicals segment sales increased as a result of increased volumes and from
increased selling prices which were driven by higher raw material and energy
costs.
For a detailed discussion on sales refer to the Segment Results section below.
Manufacturing cost of sales was $639.1 during the second quarter of 2005
compared with $311.6 during 2004. Most of the increase is associated with higher
volumes, principally resulting from the impact of the acquisition of Surface
Specialties. Cost of sales for the heritage businesses (i.e. the business of
Cytec excluding the acquired Surface Specialties business) was impacted by
higher raw material and energy costs of $32.4 which were partially offset by
increased selling prices of $23.9. Exchange rate changes increased costs by
$2.6. Gross margin was also negatively impacted by a charge of $10.3 related to
purchase accounting for finished goods inventory of the acquired business
recorded at fair value which exceeded normal manufacturing cost.
-19-
Selling and technical services was $58.1 in 2005 versus $35.1 in the prior year.
This increase was primarily attributable to the inclusion of expenses related to
Surface Specialties with an increase in heritage selling and technical services
expenses accounting for $2.3 of the increase of which $0.7 resulted from the
impact of exchange rates during the period.
Research and process development was $19.9 in 2005 versus $10.4 in the prior
year. This increase was primarily attributable to the inclusion of expenses
related to Surface Specialties with a base increase in heritage research and
process development expenses accounting for $0.7 of the increase of which $0.1
resulted from the impact of exchange rates during the period.
Administrative and general expenses were $26.6 in 2005 versus $14.7 in the prior
year. This increase was primarily attributable to the inclusion of expenses
relating to Surface Specialties and a charge of $2.4 related to the anticipated
settlement of a litigation matter and $0.2 resulted from the impact of exchange
rates during the period. Administrative and general expenses decreased as a
percentage of net sales.
Amortization of acquisition intangibles was $8.8 in 2005 versus $1.4 in the
prior year. This increase resulted from the inclusion of amortization expense
relating to the intangibles which resulted from the acquisition of Surface
Specialties.
Other income (expense), net was an expense of $30.5 in 2005 compared with
expense of $8.7 in the prior year. Included in the 2005 results was a loss of
$28.0 related to derivative contracts entered into to hedge interest rate
exposure associated with the acquisition of Surface Specialties. The Company
entered into these interest rate derivatives in anticipation of future long-term
debt that would be issued to refinance debt. Included in the 2004 quarter was a
charge of $6.1 in connection with the settlement of several environmental
remediation and toxic tort lawsuits.
Equity in earnings of associated companies was $4.5 in 2005 versus $0.5 in the
prior year. The increase in earnings was primarily due to an increase in sales
volumes and selling prices experienced by CYRO. On May 31, 2005, the Company
sold its 50% ownership in CYRO to its joint venture partner Degussa Specialty
Polymers, a company of Degussa AG, for cash consideration of $95.0 plus $5.0 for
working capital adjustments based on preliminary estimates. The proceeds of this
transaction essentially recovered the carrying value of Cytec's investment in
CYRO. Estimated net after-tax proceeds realized from the sale of CYRO of $81.5
were used to reduce acquisition-related debt.
Interest expense, net was $38.5 in 2005 compared with $4.5 in the prior year.
The increase resulted from a higher outstanding weighted-average debt balance
during 2005 resulting from the debt incurred in connection with the Company's
acquisition of Surface Specialties and $21.0 of interest charges and $1.0
unamortized put premiums and rate lock agreements related to the redemption of
the MOPPRS in the second quarter of 2005.
The Company recognized a tax benefit of $15.3 (425%) on the loss from continuing
operations for the quarter ended June 30, 2005. For the quarter ended June 30,
2004, the effective tax rate was a tax provision of 14%. The Company's effective
tax rate for the second quarter of 2005 was favorably impacted by U.S. hedging
losses, the redemption of the MOPPRS and a credit of $9.6 for the resolution of
various tax audits of prior year returns in an international tax jurisdiction as
discussed in Note 12 of the accompanying financial statements. Excluding these
items, the Company's underlying annual effective tax rate for the quarter ended
June 30, 2005 was 27%.
Earnings from discontinued operations were $0.2 and reflect the results of SSAR
for the quarter ended June 30, 2005.
Net earnings for 2005 were $11.9 ($0.25 per diluted share) compared with net
earnings for 2004 of $31.2 ($0.77 per diluted share). The decrease of $19.3 in
net earnings resulted primarily from: an increase in interest expense resulting
from higher outstanding weighted-average debt balance during 2005 related to the
debt incurred in connection with the Company's acquisition of Surface
Specialties and $14.0 after tax interest charges and unamortized put premiums
and rate lock agreements related to the redemption of the MOPPRS prior to their
final maturity; the $7.5 after tax amortization charge from the write-up to fair
value of the acquired inventory that was subsequently sold; the $17.7 after tax
charge related to interest rate derivative transactions associated with the
acquisition of Surface Specialties; an after tax charge of $1.8 related to an
anticipated settlement of a certain litigation matter and an income tax benefit
of $9.6 reflecting the partial resolution of a tax audits in Norway with respect
to prior year tax returns. These items were partially offset by the impact of
higher operating earnings resulting from the acquisition.
-20-
Segment Results
Year-to-year comparisons and analyses of changes in net sales by segment and
region are set forth below and reflect the new organizational and reporting
structure of its reportable segments for all periods presented.
Cytec Performance Specialties
% Change Due to
Total --------------------------------
2005 2004 % Change Price Volume/Mix Currency
------------------------------------------------------------------------------------------------------
North America $ 74.5 $ 66.9 11% 9% 2% 0%
Latin America 31.0 23.6 32% 6% 19% 7%
Asia/Pacific 27.9 22.9 22% 4% 15% 3%
Europe/Middle East/Africa 52.4 51.3 2% 4% -5% 3%
--------------------
Total $185.8 $164.7 13% 7% 4% 2%
======================================================================================================
Overall selling volume increased 4% and is primarily attributable to increased
sales in the water treating, mining chemicals and specialty additives product
lines. Increased selling volumes for these product lines more than offset a
decrease in the polymer additive product line. On a regional basis, sales
volumes in Latin America increased 19% primarily due to improved demand for
mining chemicals for copper mining applications. Sales volumes were up 15% in
Asia/Pacific primarily due to increased demand for water treating chemicals from
full service providers and mining chemicals. Overall average price increased as
a result of implementation of price increase initiatives.
Earnings from operations were $16.9, or 9% of sales, compared with $10.9, or 7%
of sales, in 2004. The increase in earnings is primarily attributable to
increased selling volumes, the impact of price increases of $10.5 and net
favorable exchange rate changes of $4.0, which more than offset higher raw
material and energy costs of $7.9.
Cytec Surface Specialties
% Change Due to
---------------------------------
Total Acquisition/
2005 2004 %Change Price Volume Currency
------------------------------------------------------------------------------------------------------
North America $113.3 $38.7 193% 3% 190% 0%
Latin America 13.4 4.0 235% -6% 234% 7%
Asia/Pacific 60.8 15.6 290% 0% 288% 2%
Europe/Middle East/Africa 225.2 19.5 1,046% 2% 1,041% 3%
--------------------
Total $412.7 $77.8 429% 2% 425% 2%
======================================================================================================
For all regions, selling volumes increased 425% primarily as a result of the
inclusion of sales attributable to Surface Specialties which was acquired on
February 28, 2005 with heritage volumes decreasing 2% which was primarily
attributable to decreased volumes from existing Europe/Middle East/Africa
operations.
Earnings from operations were $14.1, or 3% of sales, compared with $11.9 or 15%
of sales in 2004. The increase in earnings is primarily attributable to the
inclusion of results of operations attributable to Surface Specialties which was
acquired on February 28, 2005 partially offset by a charge of $10.3 for the
write-off of manufacturing profit included in the inventories which were
acquired in the acquisition and higher heritage raw material and energy costs of
$6.5.
Cytec Engineered Materials
% Change Due to
Total --------------------------------
2005 2004 % Change Price Volume/Mix Currency
------------------------------------------------------------------------------------------------------
North America $ 90.6 $ 87.0 4% 1% 3% 0%
Latin America(1) 0.3 0.4 --- --- --- ---
Asia/Pacific 7.0 5.7 23% 2% 21% 0%
Europe/Middle East/Africa 43.1 35.0 23% 4% 18% 1%
--------------------
Total $141.0 $128.1 10% 2% 8% 0%
======================================================================================================
(1) Due to the level of sales in this geographic region, percentage comparisons
are not meaningful.
Overall selling volumes increased 8%. Asia/Pacific and Europe/Middle East/Africa
sales volumes increased 21% and 18%, respectively, with the increases coming
from the large commercial aircraft and rotorcraft sectors due to increased build
rates for these aircraft.
Earnings from operations were $25.3, or 18% of sales, compared with $26.6, or
21% of sales, in 2004. The impact of the increased sales on operating earnings
was more than offset unfavorable mix as a higher percentage of sales were in the
lower margin segments such as automotive, manufacturing difficulties in Europe,
and increased investments in technical commercial support and research to
support future growth initiatives.
-21-
Building Block Chemicals (Sales to external customers)
% Change Due to
Total --------------------------------
2005 2004 % Change Price Volume/Mix Currency
------------------------------------------------------------------------------------------------------
North America $37.3 $27.5 36% 21% 15% 0%
Latin America(1) 0.7 0.7 --- --- --- ---
Asia/Pacific 13.2 13.8 -4% 7% -11% 0%
Europe/Middle East/Africa 22.7 9.4 142% 30% 119% -7%
---------------------
Total $73.9 $51.4 44% 19% 24% 1%
======================================================================================================
(1) Due to the level of sales in this geographic region, percentage comparisons
are not meaningful.
Overall selling volumes increased 24% primarily as a result of increased
availability of acrylonitrile and hydrocyanic acid for sale in 2005. Product
availability was limited during the 2004 quarter as a result of a scheduled
plant maintenance shutdown. The incrementally available acrylonitrile was sold
primarily into Europe/Middle East/Africa at higher selling prices which were
supported by increased raw material prices. North America selling volumes were
up 15% due in part to increased acrylonitrile sales resulting from new business
as well as from greater availability of hydrocyanic acid available for sale in
2005.
Earnings from operations were $6.7 or 7% of sales, compared with $2.0, or 3% of
sales, in 2004. The increase in earnings was primarily due to volume increases,
improved plant operations as most of the operations ran at capacity, while in
the prior year period, the acrylonitrile plant ran at a reduced rate due to a
scheduled plant maintenance shutdown. Increased raw material and energy costs of
$12.1, particularly propylene and natural gas, were partly offset by higher
selling prices of $9.7.
SIX MONTHS ENDED JUNE 30, 2005, COMPARED WITH SIX MONTHS ENDED JUNE 30, 2004
Consolidated Results
Net sales for the first six months of 2005 were $1,377.3 compared with $837.2
for the prior year period. All segments reported increased sales. In the Cytec
Surface Specialties segment, sales increased primarily as a result of the
inclusion of sales from Surface Specialties which was acquired on February 28,
2005. The Cytec Performance Specialties segment experienced increased sales
which were due in part to increased volumes as well as price increase
initiatives. The Cytec Engineered Materials segment sales increase was volume
related, primarily from increased sales to the large commercial aircraft,
automotive, and rotorcraft industries. The Building Block Chemicals segment
sales increased principally due to higher selling prices which were driven by
higher raw material and energy costs.
For a detailed discussion on sales refer to the Segment Results section below.
Manufacturing cost of sales was $1,079.4 for the first six months of 2005
compared with $621.8 during the prior year period. Most of the increase is
associated with higher volumes, principally resulting from the impact of the
acquisition of Surface Specialties. Cost of sales for the heritage businesses
was impacted by higher raw material and energy costs of $62.3 which were offset
by increased selling prices of $53.5. Exchange rate changes increased cost of
sale by $6.9. Gross margin was also negatively impacted by a charge of $20.8
related to purchase accounting for finished goods inventory of the acquired
business recorded at fair value which exceeded normal manufacturing cost.
Selling and technical services was $102.8 in 2005 versus $69.9 in the prior
year. This increase was primarily attributable to the inclusion of four months
of expenses relating to Surface Specialties with an increase in heritage selling
and technical services expenses accounting for $5.0 of the increase of which
$1.4 resulted from the impact of exchange rates during the period.
Research and process development was $32.8 in 2005 versus $19.4 in the prior
year. This increase was primarily attributable to the inclusion of four months
of expenses relating to Surface Specialties with an increase in heritage
research and process development expenses accounting for $0.4 of which $0.1
resulted from the impact of exchange rates during the period.
Administrative and general expenses were $44.5 in 2005 versus $27.9 in the prior
year. This increase was primarily attributable to the inclusion of four months
of expenses relating to Surface Specialties and a charge of $2.4 related to the
anticipated settlement of a litigation matter in the second quarter and $0.4
resulted from the impact of exchange rates during the period.
Amortization of acquisition intangibles was $12.8 in 2005 versus $2.8 in the
prior year. This increase resulted from the inclusion of four months of
amortization expense relating to the intangibles which resulted from the
acquisition of Surface Specialties.
In connection with the acquisition of Surface Specialties, $37.0 of acquired
in-process research and development costs were expensed in the first quarter of
2005.
-22-
Other income (expense), net was an expense of $50.8 in 2005 compared with
expense of $7.7 in the prior year. Included in the 2005 results are charges
related to derivative contracts entered into to hedge currency and interest rate
exposure associated with the acquisition of Surface Specialties. The Company
entered into foreign currency contracts to offset the potential dollar to euro
exchange rate fluctuation that would have an impact on the acquisition cost in
dollars and this resulted in a loss of $19.2. The foreign currency contracts
have subsequently matured. In anticipation of future long-term debt that would
be issued to refinance debt, the Company also entered into interest rate
derivatives which resulted in the recognition of a loss of $28.7. At June 30,
2005, the Company has $506.9 of forward starting interest rate swaps outstanding
with a maturity date of September 2005.
Equity in earnings of associated companies was $6.6 in 2005 versus $0.8 in the
prior year. The increase in earnings was primarily due to an increase in sales
volumes and selling prices experienced by CYRO. The 2005 results include only
the five months of results related to CYRO as the Company sold its 50% ownership
stake in CYRO on May 31, 2005 (refer to discussion above).
Interest expense, net was $48.1 in 2005 compared with $8.3 in the prior year.
The increase resulted from a higher outstanding weighted-average debt balance
during 2005 resulting from the debt incurred in conjunction with the Company's
acquisition of Surface Specialties and $22.0 of interest charges and unamortized
put premiums and rate lock agreements related to the redemption of the MOPPRS in
the second quarter of 2005.
The Company's effective tax rate on the loss from continuing operations for the
six months ended June 30, 2005 was a tax benefit of 119%. For the six months
ended June 30, 2004, the effective tax rate was a tax provision of 20%. The
Company's effective tax rate for the second quarter of 2005 was favorably
impacted by U.S. hedging losses, the redemption of the MOPPRS and the resolution
of various tax audits of prior year returns in an international tax jurisdiction
as discussed in Note 12 of the accompanying financial statements. The effective
tax rate was unfavorably impacted by the write-off of acquired in-process
research and development expenses related to the Surface Specialties
acquisition, for which there is no tax benefit. The Company's underlying
effective tax rate for the six months ended June 30, 2005 was 27% excluding
these items.
Earnings from discontinued operations were $0.6 in 2005 and reflect the results
of SSAR for the four-month period since acquisition.
Net earnings for 2005 were $5.3 ($0.12 per diluted share) compared with net
earnings for 2004 of $64.4 ($1.60 per diluted share). The decrease of $59.1 in
net earnings resulted primarily from: the write-off of $37.0 of in-process
research and development costs; an increase in interest expense resulting from a
higher outstanding weighted-average debt balance during 2005 related to the debt
incurred in connection with the Company's acquisition of Surface Specialties and
interest charges and unamortized put premiums related to the redemption of the
MOPPRS prior to their final maturity; the $20.8 amortization charge from the
write-up to fair value of the acquired inventory that was subsequently sold and;
the $47.9 impact of the marked to market value on the forward-starting interest
swaps used to hedge interest rate on a portion of the long-term debt that will
be used to refinance the bank debt drawn for the acquisition of Surface
Specialties and the foreign currency contracts entered into to offset the
potential dollar-to-euro exchange rate fluctuation that would have an impact on
the acquisition cost in dollars. These items were partially offset by the impact
of higher operating earnings resulting from the acquisition.
Segment Results
Year-to-year comparisons and analyses of changes in net sales by product line
segment and region are set forth below and reflect the new organizational and
reporting structure of its reportable segments for all periods presented.
Cytec Performance Specialties
% Change Due to
Total --------------------------------
2005 2004 % Change Price Volume/Mix Currency
------------------------------------------------------------------------------------------------------
North America $146.8 $132.1 11% 9% 2% 0%
Latin America 59.2 47.5 25% 7% 14% 4%
Asia/Pacific 51.2 46.3 11% 3% 5% 3%
Europe/Middle East/Africa 102.0 95.4 7% 5% -2% 4%
--------------------
Total $359.2 $321.3 12% 6% 3% 3%
======================================================================================================
Overall selling volume increased 3% and is primarily attributable to increased
sales in the water treating and mining chemicals product lines. Increased
selling volumes for these product lines more than offset a decrease in the
polymer additive product line. On a regional basis, sales volumes in Latin
America increased 14% primarily due to improved demand for mining chemicals from
copper mining applications. Overall average price increased as a result of
implementation of price increase initiatives.
Earnings from operations were $31.2, or 9% of sales, compared with $20.3 or 6%
of sales in 2004. The increase in earnings is primarily attributable to
increased selling volumes and the impact of price increases of $20.4 and the net
favorable impact of exchange rates of $7.7 which more than offset higher raw
material and energy costs of $15.6.
-23-
Cytec Surface Specialties
% Change Due to
Total --------------------------------
2005 2004 % Change Price Volume/Mix Currency
------------------------------------------------------------------------------------------------------
North America $175.3 $ 76.4 130% 2% 128% 0%
Latin America 21.4 8.7 146% -1% 143% 4%
Asia/Pacific 91.2 29.8 206% 1% 202% 3%
Europe/Middle East/Africa 315.6 38.6 716% 2% 709% 5%
--------------------
Total $603.5 $153.5 293% 2% 289% 2%
======================================================================================================
For all regions, selling volumes increased 289% as a result of the inclusion of
sales attributable to Surface Specialties which was acquired on February 28,
2005 with base volumes remaining unchanged for heritage businesses. In North
America and Latin America, all of the volume increase is acquisition related. In
Asia/Pacific, base business grew 8% with the remainder resulting from the
acquisition. In Europe/Middle East/Africa, base volumes were down 6% with the
remainder due to the acquisition.
Loss from operations was $20.4, or 3% of sales, compared with earnings from
operations of $20.5 or 13% of sales in 2004. The decrease in earnings is
primarily attributable to the write-off of in process research and development
costs of $37.0 and a charge of $20.8 for the write-off of manufacturing profit
included in the inventories which were acquired in the acquisition.
Cytec Engineered Materials
% Change Due to
Total --------------------------------
2005 2004 % Change Price Volume/Mix Currency
------------------------------------------------------------------------------------------------------
North America $172.1 $167.9 3% 1% 2% 0%
Latin America(1) 0.9 0.7 --- --- --- ---
Asia/Pacific 13.6 10.2 33% 0% 33% 0%
Europe/Middle East/Africa 82.2 69.6 18% 2% 15% 1%
--------------------
Total $268.8 $248.4 8% 1% 7% 0%
======================================================================================================
(1) Due to the level of sales in this geographic region, percentage comparisons
are not meaningful.
Overall selling volumes increased 7%. Europe/Middle East/Africa and Asia/Pacific
sales volumes increased 15% and 33%, respectively, with the increases coming
from the large commercial aircraft and rotorcraft industries due to increased
build rate.
Earnings from operations were $48.7, or 18% of sales, compared with $50.1, or
20% of sales, in 2004. The impact of the increased sales on operating earnings
more than offset costs associated with manufacturing difficulties in Europe and
increased investments in technical commercial support and research to support
future growth initiatives.
Building Block Chemicals (Sales to external customers)
% Change Due to
Total --------------------------------
2005 2004 % Change Price Volume/Mix Currency
------------------------------------------------------------------------------------------------------
North America $79.7 $ 58.1 37% 24% 13% 0%
Latin America(1) 1.9 1.4 --- --- --- ---
Asia/Pacific 31.3 32.3 -3% 20% -23% 0%
Europe/Middle East/Africa 32.9 22.2 48% 32% 12% 4%
---------------------
Total $145.8 $114.0 28% 24% 3% 1%
======================================================================================================
(1) Due to the level of sales in this geographic region, percentage comparisons
are not meaningful.
Sales are higher overall due to higher selling prices, primarily for
acrylonitrile, and were in line with the increase in raw material costs. Selling
volumes increased 3% overall. Decreased volumes in the Asia/Pacific region were
partially offset by price increases. North America selling volumes were up 13%
with the majority due to increased acrylonitrile sales resulting from new
business.
Earnings from operations were $14.0, or 7% of sales, compared with $8.9, or 6%
of sales, in 2004. The increase in earnings was primarily due to improved plant
operations as most of the plant ran at capacity, while in the prior year period,
the acrylonitrile plant ran at a reduced rate due to lower propylene
availability and a scheduled plant maintenance shutdown. Increased raw material
and energy costs of $31.2, particularly propylene and natural gas, were offset
by higher selling prices of $27.9.
-24-
LIQUIDITY AND FINANCIAL CONDITION
At June 30, 2005 the Company's cash balance was $114.4 compared with $323.8 at
year end 2004. This decrease was primarily attributable to the use of cash to
pay for a portion of the purchase price of Surface Specialties and to reduce
debt.
Cash flows used in operating activities were $58.5 for 2005 compared with cash
flows provided by operating activities of $58.7 for 2004. Since December 31,
2004 trade accounts receivable increased by $20.1 due to the higher level of
sales while days outstanding increased approximately six days, primarily from
the acquired business which has a much higher level of sales in international
areas where the terms are typically longer. Miscellaneous accounts receivable
decreased by $14.0 due to collection of pre-acquisition tax receivables included
as part of the Surface Specialties acquisition. Inventory increased by $28.7
reflecting higher raw material costs and the downturn in demand principally in
Europe. Certain of the Company's facilities in the quarter ran at reduced rates
to lower inventory levels. Inventory days outstanding are up approximately two
days from year end 2004 levels. Accrued expenses include payments of $20.0 in
the first quarter for incentive compensation and profit sharing payouts relating
to prior year results offset by current year accruals of $6.1. Cash flows from
operations also include net payments of $9.0 related to the currency and
interest rate derivatives entered into in connection with the Surface
Specialties acquisition.
Cash flows used in investing activities were $1,456.0 for 2005 compared with
$25.9 for 2004. This increase was primarily attributable to the acquisition of
Surface Specialties. See below for further discussion. The increase was partly
offset by $100.0 received from the sale of the Company's 50% investment in CYRO.
Capital spending for the six months ended June 30, 2005 was $47.5. Capital
spending for the full year is expected to approximate $100.0.
Net cash flows provided by financing activities were $1,197.1 in 2005 compared
with net cash flows used in financing activities of $7.0 during 2004. This
increase primarily resulted from borrowings under the Company's credit
facilities used to purchase Surface Specialties.
During the first six months of 2005 the company paid two quarterly cash
dividends of $0.10 per common share which aggregated $8.6. On July 22, 2005 the
Board of Directors declared a $0.10 per common share cash dividend, payable on
August 25, 2005 to shareholders of record as of August 10, 2005.
On February 28, 2005, the Company completed its acquisition of the Surface
Specialties business of UCB for cash and stock valued at $1,799.6 subject to
final working capital and other customary adjustments, of which $1,508.8 was
paid in cash and the balance was paid in 5,772,857 shares of Cytec common stock
($290.8 at $50.37 per Cytec share). In addition, there is contingent
consideration up to a maximum of 50 million euros, of which 20 million euros
($26.5 at 1.32 US dollar per euro) was paid upon closing, subject to refund, and
is not included in the total consideration of $1,799.6, with the balance
potentially payable in 2006. The contingent consideration is included in other
assets in the accompanying balance sheet and will be earned on a pro-rata basis
pending the achievement of certain full-year operating results by Surface
Specialties in 2005. If the contingent consideration is earned, goodwill would
be increased. Based on sales volumes of the acquired product lines during the
first half of the year, and estimated volumes during the second half, the
Company believes that it will be entitled to a refund of all or substantially
all of the contingent consideration that was paid at closing. The cash purchase
price was also preliminarily adjusted as a result of working capital levels,
including cash and certain debt balances which were transferred to the Company
at closing.
The Company financed the cash component with $600.0 under an unsecured 364-day
credit facility, $725.0 under an unsecured five-year term loan and the remaining
$184.0 was paid from existing cash. The Company intends to refinance the 364-day
borrowing with long-term debt. At June 30, 2005, $468.3 remains outstanding on
the 364-day credit facility. Refer to Note 9 in the consolidated financial
statements for other disclosures concerning the Company's debt.
Upon closing, UCB became the owner of approximately 12.5% of the outstanding
shares of the Company. UCB and the Company also entered into a Stockholder's
Agreement which provides, subject to various exceptions, that UCB must reduce
its stake to less than 9% within three years, less than 7% within four years and
less than 5% within five years and which provides that UCB will be prohibited
from purchasing additional shares of Cytec common stock or causing, advocating
or participating in a change in control in the ownership of Cytec. The
Stockholders Agreement also contains customary terms and conditions including an
obligation of UCB to vote its shares of Cytec common stock in accordance with
the Company's Board of Directors' recommendation on certain matters.
On June 21, 2005, the Company announced that it had reached a definitive
agreement to sell SSAR to affiliates of INEOS Group Limited ("INEOS") for net
cash consideration of 64 million euros ($78.0 at 1.22 U.S. dollar per euro),
subject to certain closing adjustments. Pursuant to regulatory approvals, the
Company is required to divest SSAR by the end of August, 2005. Since its
acquisition and until such time as SSAR is sold, results of its operations will
be classified as discontinued operations in the Company's consolidated statement
of operations.
-25-
The Company had previously entered into forward-starting interest rate swaps to
hedge the benchmark interest rate and credit spread on a portion of the
long-term debt that will be issued in 2005 to refinance the bank debt
outstanding under the 364-day credit facility that was drawn for the acquisition
of Surface Specialties. In June 2005, the Company extended the maturity date of
$506.9 of the swaps to September 2005. Due to a reduction in borrowing
requirements, the Company also liquidated $60.4 forward starting interest rate
swap in June 2005 at a cost of $3.7. The swaps are being marked to market and
recorded currently in earnings until maturity or settlement. The net pre-tax
impact of the marked to market value on these swaps was a loss of $28.0 and
$28.7 for the three and six month periods ended June 30, 2005 which was recorded
in other income (expense). In the fourth quarter of 2004, the Company recorded a
loss of $6.5 on interest rate swap transactions entered into in connection with
the acquisition.
The Company had also previously entered into foreign currency forward contracts
that related to approximately 87% of the euro exposure of 1.190 billion for the
cash component of the Surface Specialties acquisition. The forward contracts,
which matured on February 28, 2005, were marked to market and recorded currently
in earnings until their maturity. The impact on earnings for the six months
ended June 30, 2005 of the mark to market adjustment on these forward contracts
was a net pre-tax expense of $19.2 and was recorded in other income (expense),
net. In the fourth quarter of 2004, the Company recorded a gain of $33.3 on
currency forward transactions entered into in connection with the acquisition.
In connection with the acquisition, the Company suspended its stock buy-back
program and does not anticipate making future stock buy-backs for at least two
years from the closing date in order to maximize the funds available for debt
service and other corporate purposes.
On June 1, 2005, the Company sold its 50% ownership in CYRO to its joint venture
partner Degussa Specialty Polymers, a company of Degussa AG, for cash
consideration of $95.0 plus $5.0 for working capital adjustments based on
preliminary estimates. The proceeds of this transaction essentially recovered
the carrying value of Cytec's investment in CYRO. Estimated net after-tax
proceeds realized from the sale of CYRO of $81.5 were used to reduce
acquisition-related debt.
In order to take advantage of current interest rates, the Company elected to
redeem the MOPPRS in May, 2005, at the optional redemption price of $141.0. The
optional redemption price represented the $120.0 principal amount of the
securities and a $21.0 pre-tax interest charge for redemption prior to their
final maturity. The redemption provided the Company with the ability to
refinance this debt at a significantly lower cost and a shorter tenor. Upon
redemption, the Company recognized additional interest expense of $1.0 from
amounts related to the unamortized put premium and rate lock agreements for
these securities. The total expense of $22.0 was recorded in the second quarter.
The $350.0 unsecured five-year revolving credit facility was used to fund a
majority of the redemption of the MOPPRS.
The Company believes that it will be able to fund its operating cash
requirements, planned capital expenditures and dividends for the remainder of
the year from internal cash generation. Net cash realized from the divestiture
of SSAR will be used to reduce acquisition-related debt.
The Company has not guaranteed any indebtedness of its remaining unconsolidated
associated company.
Excluding the impact of increasing raw materials, inflation is not considered
significant since the rate of inflation has remained relatively low in recent
years and investments in areas of the world where inflation poses a risk are
limited. The impact of increasing raw material costs are discussed under
"Customers and Suppliers" in "Business" in Item 1 in the Company's 2004 Annual
Report on Form 10-K.
OTHER
2005 OUTLOOK
In its August 5, 2005 press release, which was also filed as an exhibit to a
current report on Form 8-K, the Company set forth its assumptions and
management's best estimate of the full year 2005 earnings at the time based on
various assumptions set forth in its press release.
The Company's guidance for 2005 outlook will be updated when it reports third
quarter 2005 earnings. There can be no assurance that sales or earnings will
develop in the manner projected. Actual results may differ materially. See
"Comments on Forward Looking Statements."
-26-
American Melamine Industries ("AMEL"), a 50% owned manufacturing joint venture
with a subsidiary of DSM N.V., operates the melamine manufacturing plant with an
annual production capacity of approximately 160 million pounds at the Company's
Fortier facility. The Company typically uses approximately 80% to 90% of its 50%
share of AMEL's production, primarily for the production of certain products
sold by its Cytec Surface Specialties segment with the balance being sold to
third parties. In accordance with the terms of the joint venture agreement, DSM
has given the Company notice of termination of the joint venture which would be
effective August 1, 2007. The Company had been and will continue to discuss
future operations and ownership options of the melamine plant with DSM.
SIGNIFICANT ACCOUNTING ESTIMATES / CRITICAL ACCOUNTING POLICIES
Accounting principles generally accepted in the United States require management
to make certain estimates and assumptions. These estimates and assumptions
affect the reported amounts in the consolidated financial statements and the
notes thereto. The areas discussed below involve the use of significant judgment
in the preparation of the Company's consolidated financial statements and
changes in the estimates and assumptions used may impact future results of
operations and financial condition.
Environmental and Other Contingent Liabilities
Accruals for environmental remediation and operating and maintenance costs
directly related to remediation, and other contingent liabilities are recorded
when it is probable that a liability has been incurred and the amount of the
liability can be reasonably estimated. Accruals are recorded at management's
best estimate of the ultimate expected liabilities, without any discount to
reflect the time value of money. These accruals are reviewed periodically and
adjusted, if necessary, as additional information becomes available.
The amount accrued for environment remediation reflects the Company's
assumptions about remediation requirements at the contaminated site, the nature
and cost of the remedy, the outcome of discussions with regulatory agencies and
other potentially responsible parties at multi-party sites, and the number and
financial viability of other potentially responsible parties.
Included in other contingent liabilities are workers' compensation, product
liability and toxic tort claims. The amount accrued for other contingent
liabilities reflects the Company's assumptions about the incidence, severity,
indemnity costs and dismissal rates for existing and future claims.
Accruals for environmental remediation and other contingent liabilities can
change substantially if the Company's assumptions are not realized or due to
actions by governmental agencies or private parties. The Company cannot estimate
any additional amount of loss or range of loss in excess of the recorded
amounts. Moreover, environmental and other contingent liabilities are paid over
an extended period, and the timing of such payments cannot be predicted with any
certainty. Accruals for environmental and other contingent liabilities are
recorded as other noncurrent liabilities with any amounts expected to be paid
out in the next twelve months classified as accrued expenses.
Probable insurance recoveries for past and probable future costs are recorded at
management's best estimate of the ultimate expected receipts without discounting
to reflect the time value of money and are recorded as other assets. A number of
factors impact the estimates of insurance reimbursements. These factors include
the financial viability of the insurance companies, the method in which losses
will be allocated to the various insurance policies, how legal and defense costs
will be covered by the insurance polices, the interpretation of the effect on
coverage of various policy terms and limits and their interrelationships, and
the Company's historical recovery rates over the past ten years.
Defense and processing costs are expensed as incurred. Probable insurance
recoveries for defense and processing costs are accrued when the related costs
are incurred and are recorded as other assets.
Retirement Plans
The Company sponsors defined benefit pension and postretirement benefit plans.
The postretirement plans provide medical and life insurance benefits to retirees
who meet minimum age and service requirements. The Company's most significant
pension plans are in the U. S., and constituted over 76% of the Company's
consolidated pension assets and 78% of projected benefit obligations as of
December 31, 2004. The calculation of the Company's pension expense and pension
liability associated with its defined benefit pension plans requires the use of
a number of assumptions that the Company deems to be "critical accounting
estimates." Changes in these assumptions can result in different pension expense
and liability amounts, and actual experience can differ from the assumptions.
The Company believes that the most critical assumptions are the discount rate
and the expected rate of return on plan assets.
-27-
At the end of each year, the Company determines the discount rate to be used for
pension liabilities. In estimating this rate, the Company looks to rates of
return on high quality, long term corporate bonds that receive one of the two
highest ratings given by a recognized ratings agency. The Company discounted its
U.S. future pension liabilities using a rate of 5.75% at December 31, 2004. The
discount rate used to determine the value of liabilities has a significant
effect on expense.
The expected rate of return on plan assets reflects the long-term average rate
of return expected on funds invested or to be invested in the pension plans to
provide for the benefits included in the pension liability. The Company
establishes the expected rate of return at the beginning of each fiscal year
based upon information available to the Company at that time, including the
historical returns of major asset classes, the expected investment mix of the
plans' assets, and estimates of future long-term investment returns. The U. S.
pension plan's investment mix at December 31, 2004 approximated 63% equities and
37% fixed income securities. Any differences between actual experience and
assumed experience are deferred as an unrecognized actuarial gain or loss. The
unrecognized net actuarial gain or loss is amortized in accordance with SFAS No.
87, "Employers' Accounting for Pensions."
Impairment of Goodwill
The Company has defined its segments as its SFAS No. 142 reporting units. The
Company tests goodwill for impairment on an annual basis. Goodwill of a
reporting unit will be tested for impairment between annual tests if events
occur or circumstances change that would likely reduce the fair value of the
reporting unit below its carrying value. The Company uses a two-step process to
test goodwill for impairment. First, the reporting unit's fair value is compared
to its carrying value. The Company utilizes a market multiple approach to
determine fair value estimates. Due to the cyclical nature of the Company's
reporting unit's, values are determined utilizing a three year average. The
three year period is comprised of the prior year, current year and one year
projected amounts. If the market multiple approach yields a result, which may
indicate a possible impairment, a discounted cash flow approach is utilized to
more precisely determine the reporting unit's fair value. If a reporting unit's
carrying amount exceeds its fair value, an indication exists that the reporting
unit's goodwill may be impaired, and the second step of the impairment test
would be performed. The second step of the goodwill impairment test is used to
measure the amount of the impairment loss. In the second step, the implied fair
value of the reporting unit's goodwill is determined by allocating the reporting
unit's fair value to all of its assets and liabilities other than goodwill in a
manner similar to a purchase price allocation. The resulting implied fair value
of the goodwill that results from the application of this second step is then
compared to the carrying amount of the goodwill and an impairment charge is
recorded for the difference.
Intangible assets with determinable useful lives are amortized over their
respective estimated useful lives and reviewed for impairment when events or
changes in circumstances indicate that the carrying value may not be
recoverable.
These evaluations involve amounts that are based on management's best estimates
and judgments. Because of the uncertainty inherent in such estimates, actual
results may differ from these estimates. The Company is not aware of reasonably
likely events or circumstances that would result in different amounts being
estimated that would have a material impact on these assessments for impairment.
Income Taxes
Income taxes are accounted for under the asset and liability method. Deferred
tax assets and liabilities are recognized for the future tax consequences
attributable to differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax basis and operating
loss and tax credit carryforwards. A valuation allowance is provided when it is
more likely than not that some portion or all of the deferred tax assets will
not be realized. Deferred tax assets and liabilities are measured using enacted
tax rates expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled. The effect on
deferred tax assets and liabilities of a change in tax rates is recognized in
earnings in the period that includes the enactment date.
The Company intends to reinvest the unremitted earnings of international
subsidiaries. Accordingly, no provision has been made for U.S. or additional
non-U.S. taxes with respect to these earnings. In the event of repatriation to
the U.S., such earnings would be subject to U.S. income taxes in most cases.
Foreign tax credits would be available to substantially reduce the amount of
U.S. tax otherwise payable in future years.
The Company's annual effective tax rate is based on expected income, statutory
tax rates and tax planning opportunities available in various jurisdictions in
which the Company operates. Significant judgment is required in determining the
Company's annual effective tax rate and in evaluating its tax positions.
-28-
The Company establishes accruals for tax contingencies when, notwithstanding the
reasonable belief that its tax return positions are fully supported, the Company
believes that certain filing positions are likely to be challenged and moreover,
that such filing positions may not be fully sustained.
The Company continually evaluates its tax contingency accruals and will adjust
such amounts in light of changing facts and circumstances, including but not
limited to emerging case law, tax legislation, rulings by relevant tax
authorities, and the progress of ongoing tax audits. Settlement of a given tax
contingency could impact the income tax provision in the period of resolution.
The Company's tax contingency accruals are presented in the balance sheet within
income taxes payable.
Acquisitions
The Company accounts for acquired businesses using the purchase method of
accounting which requires that the assets acquired and liabilities assumed be
recorded at the date of acquisition at their respective fair values. Our
consolidated financial statements and results of operations reflect an acquired
business after the completion of the acquisition. The cost to acquire a
business, including transaction costs, is allocated to the underlying net assets
of the acquired business in proportion to their respective fair values. Any
excess of the purchase price over the estimated fair values of the net assets
acquired is recorded as goodwill. Amounts allocated to acquired in-process
research and development are expensed at the date of acquisition.
The judgments made in determining the estimated fair value assigned to each
class of assets acquired and liabilities assumed, as well as asset lives, can
materially impact our results of operations. Accordingly, for significant items,
we typically obtain assistance from third party valuation specialists.
Determining the useful life of an intangible asset also requires judgment as
different types of intangible assets will have different useful lives and
certain assets may even be considered to have indefinite useful lives.
All of these judgments and estimates can materially impact our results of
operations.
COMMENTS ON FORWARD-LOOKING STATEMENTS
A number of the statements made by the Company in this report, in the Company's
Annual Report on Form 10-K, or in other documents, including but not limited to
the Chairman, President and Chief Executive Officer's letter to Stockholders,
its press releases and other periodic reports to the Securities and Exchange
Commission, may be regarded as "forward-looking statements" within the meaning
of the Private Securities Litigation Reform Act of 1995.
Forward-looking statements include, among others, statements concerning the
Company's (including its segments) outlook for the future, anticipated results
of acquisitions and divestitures, pricing trends, the effects of changes in
currency rates and forces within the industry, the completion dates of and
anticipated expenditures for capital projects, expected sales growth,
operational excellence strategies and their results, expected annual effective
tax rates, long-term goals of the Company and other statements of expectations,
beliefs, future plans and strategies, anticipated events or trends and similar
expressions concerning matters that are not historical facts. Such statements
are based upon the current beliefs and expectations of management and are
subject to significant risks and uncertainties. Actual results may vary
materially from those set forth in the forward-looking statements.
The following factors, among others, could affect the anticipated results: the
ability to integrate successfully Surface Specialties, including realization of
anticipated synergies within the expected timeframes or at all, and ongoing
operations of the business; the retention of current ratings on the Company's
debt; changes in global and regional economies; the financial well-being of end
consumers of the Company's products; changes in demand for the Company's
products or in the quality, costs and availability of its raw materials and
energy; customer inventory reductions; the actions of competitors; currency and
interest rate fluctuations; technological change; the Company's ability to
renegotiate expiring long-term contracts; changes in employee relations,
including possible strikes; government regulations, including those related to
taxation and those particular to the purchase, sale and manufacture of chemicals
or operation of chemical plants; governmental funding for those military
programs that utilize the Company's products; litigation, including its inherent
uncertainty and changes in the number or severity of various types of claims
brought against the Company; difficulties in plant operations and materials
transportation; environmental matters; returns on employee benefit plan assets
and changes in the discount rates used to estimate employee benefit liabilities;
changes in the medical cost trend rate; changes in accounting principles or new
accounting standards; war, terrorism or sabotage; epidemics; and other
unforeseen circumstances.
-29-
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For a discussion of market risks at year-end, refer to Item 7A of the Company's
Annual Report on Form 10-K for the year ended December 31, 2004, filed with the
Securities and Exchange Commission on February 25, 2005 and incorporated by
reference herein. During 2005, the Company executed various foreign exchange
transactions that do not materially alter the market risk assessment performed
as of December 31, 2004. For a discussion of the currency hedges entered into as
part of the acquisition of Surface Specialties, refer to "Liquidity and
Financial Condition" in Item 2, "Management's Discussion and Analysis of
Financial Condition and Results of Operations." Other 2005 financial instrument
transactions include:
Commodity Price Risk: At June 30, 2005, the Building Block Chemicals segment
Fortier plant's 2005 remaining forecasted natural gas utility requirements were
75% hedged utilizing natural gas forward contracts. These contracts have
delivery dates ranging from July, 2005 to December, 2005. Additionally, the
plant's 2006 gas utility requirements were 40% hedged at June 30, 2005, and
these contracts have delivery dates ranging from January to June 2006.
At June 30, 2005, the Company held natural gas swaps with a favorable fair value
of $0.3, net of taxes, which will be reclassified into Manufacturing Cost of
Sales through March 2006 as these swaps are settled.
Interest Rate Risk: At June 30, 2005, the outstanding borrowings of the Company
consisted of $503.6 of short-term borrowings and long-term debt, including the
current portion, which had a carrying value of $1,104.9 a face value of $1,105.2
and a fair value, based on dealer quoted values, of approximately $1,102.0.
Assuming other factors are held constant, a hypothetical increase/decrease of 1%
in the weighted average prevailing interest rates on our variable rate debt
outstanding as of June 30, 2005, interest expense would increase/decrease by
approximately $3.1 for the next fiscal quarter.
For a discussion of the interest rate derivative activities entered into as part
of the acquisition of Surface Specialties, refer to "Liquidity and Financial
Condition" in Item 2, "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
Item 4. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, the Company's Disclosure
Committee carried out an evaluation, under the supervision and with the
participation of the Company's management, including the Chief Executive Officer
and Chief Financial Officer, of the effectiveness of the Company's disclosure
controls and procedures as required by Exchange Act Rule 13a-15(b) as of the
period ended June 30, 2005. Based upon that evaluation, the Chief Executive
Officer and Chief Financial Officer have concluded that the Company's current
disclosure controls and procedures are reasonably effective.
The acquisition of Surface Specialties on February 28, 2005 represents a
material change in internal control over financial reporting since management's
last assessment of the Company's internal controls over financial reporting
which was as of December 31, 2004. The acquired Surface Specialties businesses
utilize separate information and accounting systems and processes and it has not
been possible to complete an evaluation and review of the internal controls over
financial reporting since the acquisition was completed. Management intends to
complete its assessment of the effectiveness of internal controls over financial
reporting for the acquired business within one year of the date of the
acquisition.
With the exception of the Surface Specialties acquisition as noted above, there
were no changes in internal controls over financial reporting that occurred
during the six months ended June 30, 2005 that have materially affected, or are
reasonably likely to materially affect, the Company's internal control over
financial reporting.
-30-
PART II - OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
The Company is the subject of numerous lawsuits and claims incidental to the
conduct of its or its predecessors' businesses, including lawsuits and claims
relating to product liability, personal injury, environmental, contractual,
employment and intellectual property matters. Many of the matters relate to the
use, handling, processing, storage, transport or disposal of hazardous
materials. The Company believes that the resolution of such lawsuits and claims,
including those described below, will not have a material adverse effect on the
consolidated financial position of the Company, but could be material to the
consolidated results of operations and cash flows of the Company in any one
accounting period. The Company, in this section, includes certain predecessor
entities being indemnified by Cytec.
Material developments to legal proceedings described in Cytec's 2004 Annual
Report on Form 10-K and 2005 Quarterly Reports on Form 10-Q are set forth below.
In July 2005, the Supreme Court of Wisconsin held in a case in which the Company
is one of several defendants that Wisconsin's risk contribution doctrine applies
to bodily injury cases against manufacturers of white lead pigment. Under this
doctrine, manufacturers of white lead pigment may be liable for injuries caused
by white lead pigment based on their market share unless they can prove they are
not responsible for the white lead pigment which caused the injury in question.
Seven other courts have previously rejected the applicability of this and
similar doctrines to white lead pigment. The Company expects that its liability,
if any, in this case to be immaterial.
The following table presents information about asbestos claims activity during
the six months ended June 30, 2005:
Six Months Ended
June 30,
2005
------------------
Number of claimants associated with claims closed
during period 7,744
Number of claimants associated with claims opened
during period 856
Number of claimants at end of period 21,059
=======================================================================
In the second quarter of 2005, the Company increased its reserves by $2.4 as a
result of its agreement in principle to settle certain claims by a third party
for $2.7.
In addition to liabilities with respect to the specific cases described above,
because the production of certain chemicals involves the use, handling,
processing, storage, transportation and disposal of hazardous materials, and
because certain of the Company's products constitute or contain hazardous
materials, the Company has been subject to claims of injury from direct exposure
to such materials and from indirect exposure when such materials are
incorporated into other companies' products. There can be no assurance that, as
a result of past or future operations, there will not be additional claims of
injury by employees or members of the public due to exposure, or alleged
exposure, to such materials.
See also the Note 10 of the Notes to the Consolidated Financial Statements,
herein.
-31-
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company held its annual meeting of Common Stockholders on April 21, 2005. At
this meeting, the following matters were voted on:
1. Election of Directors - Messrs. Anthony G. Fernandes, David
Lilley, Jerry R. Satrum and Raymond P. Sharpe were elected
Directors at the Annual Meeting for terms ending at the Annual
Meeting of Stockholders in 2008 by the margins set forth below.
In addition, the terms of the following directors continued after
that meeting: John E. Akitt, Chris A. Davis, Louis L. Hoynes,
Jr., Barry C. Johnsosn, Ph.D., William P. Powell and James R.
Stanley.
Name Votes For Votes Withheld
---------------------------------------------------------------
Anthony G. Fernandes 36,100,461 828,011
David Lilley 35,849,201 1,079,271
Jerry R. Satrum 36,443,832 484,640
Raymond P. Sharpe 35,820,726 1,107,746
===============================================================
2. The appointment of KPMG LLP as the Company's independent
registered public accounting firm for 2005 was ratified by the
following margins:
For Against Abstain
---------------------------------------------------------------
35,704,138 1,102,266 122,068
===============================================================
-32-
Item 6. EXHIBITS
(a). Exhibits
--------
See Exhibit Index on page 32 for exhibits filed with this Quarterly Report on
Form 10-Q.
-33-
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
CYTEC INDUSTRIES INC.
By: /s/ James P.Cronin
----------------------
James P. Cronin
Executive Vice President and
Chief Financial Officer
August 8, 2005
-34-
Exhibit Index
-------------
12 Computation of Ratio of Earnings to Fixed Charges for the three
and six months ended June 30, 2005 and 2004
31.1 Certification of David Lilley, Chief Executive Officer, Pursuant
to Rule 13a-14(a) of the Securities Exchange Act
31.2 Certification of James P. Cronin, Chief Financial Officer,
Pursuant to Rule 13a-14(a) of the Securities Exchange Act
32.1 Certification of David Lilley, Chief Executive Officer Pursuant
to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of
The Sarbanes-Oxley Act of 2002
32.2 Certification of James P. Cronin, Chief Financial Officer
Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to
Section 906 of The Sarbanes-Oxley Act of 2002