SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-----------------------------------
FORM 8-K
CURRENT REPORT
Pursuant to Regulation FD Rules 100 and 101
Date of Report (Date of earliest event reported): September 9, 2002
NL INDUSTRIES, INC.
- ------------------------------------------------------------------
(Exact name of registrant as specified in charter)
New Jersey 1-640 13-5267260
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(State or other (Commission File No.) (Employer ID No.)
jurisdiction of
incorporation)
16825 Northchase Dr., Suite 1200, Houston, Texas 77060
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (281) 423-3300
--------------
Not Applicable
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(Former name or former address, if changed since last report)
Item 9 Regulation FD Disclosure.
- ------
On September 9, 2002, Kronos International, Inc. ("KII"), an
indirect, wholly-owned subsidiary of the Registrant, furnished to holders
of KII's 8.875% Senior Secured Notes (the "Notes") due 2009 certain
financial information that would be required to be contained in a filing
with the Securities and Exchange Commission on Form 10-Q for the fiscal
quarter ended June 30, 2002, if KII were required to file such form. KII
furnished the same information to the initial purchasers of the Notes.
A copy of the information so furnished is attached to this Form 8-K
as Exhibit 99.1.
* * * * *
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.
NL INDUSTRIES, INC.
(Registrant)
/s/Robert D. Hardy
------------------------------------
Robert D. Hardy
Chief Financial Officer
Dated: September 9, 2002
KRONOS INTERNATIONAL, INC.
For the quarter ended June 30, 2002
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
INDEX
Page
----
Financial Statements.
Consolidated Balance Sheets - June 30, 2002
and December 31, 2001 3-4
Consolidated Statements of Income - Three months and six
months ended June 30, 2002 and 2001 5
Consolidated Statements of Comprehensive Income
- Three months and six months ended
June 30, 2002 and 2001 6
Consolidated Statement of Redeemable Preferred Stock,
Profit Participation Certificates and Common Stockholder's
Equity (Deficit) - Six months ended June 30, 2002 7
Consolidated Statements of Cash Flows - Six
months ended June 30, 2002 and 2001 8-9
Notes to Consolidated Financial Statements 10-20
Management's Discussion and Analysis of Financial
Condition and Results of Operations 21-31
Legal Proceedings 31
- 2 -
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands)
June 30, December 31,
ASSETS 2002 2001
-------- ------------
Current assets:
Cash and cash equivalents ...................... $ 16,011 $ 30,343
Restricted cash equivalents .................... 1,554 --
Accounts and notes receivable .................. 101,280 87,422
Receivable from affiliates ..................... 3,404 1,134
Refundable income taxes ........................ 2,844 1,347
Inventories .................................... 113,660 121,316
Prepaid expenses ............................... 2,702 1,548
Deferred income taxes .......................... 597 497
-------- --------
Total current assets ....................... 242,052 243,607
-------- --------
Other assets:
Prepaid pension cost ........................... 18,174 14,696
Other .......................................... 12,581 5,615
-------- --------
Total other assets ......................... 30,755 20,311
-------- --------
Property and equipment:
Land ........................................... 23,695 20,996
Buildings ...................................... 109,384 96,874
Machinery and equipment ........................ 502,255 441,216
Mining properties .............................. 58,069 48,167
Construction in progress ....................... 7,895 2,995
-------- --------
701,298 610,248
Less accumulated depreciation and depletion .... 401,021 341,649
-------- --------
Net property and equipment ................. 300,277 268,599
-------- --------
$573,084 $532,517
======== ========
- 3 -
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONTINUED)
(In thousands)
June 30, December 31,
LIABILITIES AND STOCKHOLDER'S EQUITY (DEFICIT) 2002 2001
----------- ------------
Current liabilities:
Notes payable ............................ $ -- $ 46,201
Current maturities of long-term debt ..... 1,225 1,033
Accounts payable and accrued liabilities . 92,465 78,846
Payable to affiliates .................... 3,233 7,929
Income taxes ............................. 5,824 6,597
Deferred income taxes .................... 1,732 1,530
----------- -----------
Total current liabilities ............ 104,479 142,136
----------- -----------
Noncurrent liabilities:
Long-term debt ........................... 323,823 1,465
Notes payable to Kronos, Inc. ............ -- 480,363
Deferred income taxes .................... 48,317 37,783
Accrued pension cost ..................... 18,644 18,696
Other .................................... 12,474 11,846
----------- -----------
Total noncurrent liabilities ......... 403,258 550,153
----------- -----------
Minority interest ............................ 336 284
----------- -----------
Redeemable preferred stock and profit
participation certificates ................. 640,631 571,119
Accrued dividends ............................ 54,150 46,290
----------- -----------
Total redeemable preferred stock and
profit participation certificates .. 694,781 617,409
----------- -----------
Common stockholder's equity (deficit):
Common stock - $100 par value; 100,000
shares authorized; 3,196 shares issued . 320 320
Additional paid-in capital ............... 2,010,563 1,870,935
Retained earnings (deficit) .............. (1,736,573) (1,774,150)
Notes receivable from affiliates ......... (753,007) (700,843)
Accumulated other comprehensive loss:
Currency translation adjustment .......... (147,104) (169,758)
Pension liabilities ...................... (3,969) (3,969)
----------- -----------
Total common stockholder's equity
(deficit) .......................... (629,770) (777,465)
----------- -----------
$ 573,084 $ 532,517
=========== ===========
Commitments and contingencies (Notes 12 and 15)
See accompanying notes to consolidated financial statements.
- 4 -
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In thousands)
Three months ended Six months ended
June 30, June 30,
----------------------- -----------------------
2002 2001 2002 2001
--------- --------- --------- ---------
Revenues and other income:
Net sales ................ $ 146,145 $ 140,380 $ 285,714 $ 299,410
Interest income from
affiliates ............. 10,262 9,170 19,157 15,891
Insurance recoveries, net. -- 1,929 -- 1,929
Other income (loss), net . 19,135 (2,746) 18,930 (9,791)
--------- --------- --------- ---------
175,542 148,733 323,801 307,439
--------- --------- --------- ---------
Costs and expenses:
Cost of sales ............ 113,945 93,917 224,668 199,200
Selling, general and
administrative ......... 16,733 16,278 33,401 33,730
Interest ................. 997 1,071 1,697 2,232
Interest expense to
affiliates ............. 8,925 8,025 18,699 13,875
--------- --------- --------- ---------
140,600 119,291 278,465 249,037
Income before income
taxes and minority
interest ........... 34,942 29,442 45,336 58,402
Income tax expense ........... 5,330 8,027 7,732 17,255
--------- --------- --------- ---------
Income before minority
interest ........... 29,612 21,415 37,604 41,147
Minority interest ............ 17 4 27 9
--------- --------- --------- ---------
Net income ........... 29,595 21,411 37,577 41,138
Dividends and accretion
applicable to redeemable
preferred stock and profit
participation certificates . (3,930) (6,961) (77,372) (11,489)
--------- --------- --------- ---------
Net income (loss) available
to common stock ............ $ 25,665 $ 14,450 $ (39,795) $ 29,649
========= ========= ========= =========
See accompanying notes to consolidated financial statements.
- 5 -
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
Three months ended Six months ended
June 30, June 30,
------------------- -------------------
2002 2001 2002 2001
-------- -------- -------- --------
Net income ........................ $ 29,595 $ 21,411 $ 37,577 $ 41,138
-------- -------- -------- --------
Other comprehensive income
(loss):
Currency translation
adjustment .................. 23,052 1,794 22,654 (1,217)
-------- -------- -------- --------
Total other
comprehensive income
(loss) .................. 23,052 1,794 22,654 (1,217)
-------- -------- -------- --------
Comprehensive income $ 52,647 $ 23,205 $ 60,231 $ 39,921
========= ======== ======== ========
See accompanying notes to consolidated financial statements.
- 6 -
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF REDEEMABLE PREFERRED STOCK,
PROFIT PARTICIPATION CERTIFICATES AND
COMMON STOCKHOLDER'S EQUITY (DEFICIT)
Six months ended June 30, 2002
(In thousands)
Redeemable Common Stockholder's Equity (Deficit)
preferred -----------------------------------------------------
stock and Notes
profit Additional Retained receivable
participation Common paid-in earnings from
certificates stock capital (deficit) affiliates
-------------- ------ ------------ ----------- ------------
Balance at December 31, 2001 .. $ 617,409 $ 320 $ 1,870,935 $(1,774,150) $ (700,843)
Net income .................... -- -- -- 37,577 --
Other comprehensive income .... -- -- -- -- --
Change in notes receivable
from affiliates ............. -- -- -- -- 164,836
Preferred dividends and
accretion ................... 77,372 -- (77,372) -- --
Capital contribution .......... -- -- 217,000 -- (217,000)
----------- -------- ----------- ----------- -----------
Balance at June 30, 2002 ...... $ 694,781 $ 320 $ 2,010,563 $(1,736,573) $ (753,007)
=========== ======== =========== =========== ===========
Common Stockholder's Equity (Deficit)
-------------------------------------------
Accumulated other
comprehensive loss Total
-------------------------- common
Currency stockholder's
translation Pension equity
adjustment liabilities (deficit)
----------- ----------- -------------
Balance at December 31, 2001 .. $ (169,758) $ (3,969) $ (777,465)
Net income .................... -- -- 37,577
Other comprehensive income .... 22,654 -- 22,654
Change in notes receivable
from affiliates ............. -- -- 164,836
Preferred dividends and
accretion ................... -- -- (77,372)
Capital contribution .......... -- -- --
----------- ----------- -----------
Balance at June 30, 2002 ...... $ (147,104) $ (3,969) $ (629,770)
=========== =========== ===========
See accompanying notes to consolidated financial statements.
- 7 -
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Six months ended June 30, 2002 and 2001
(In thousands)
2002 2001
-------- --------
Cash flows from operating activities:
Net income ....................................... $ 37,577 $ 41,138
Depreciation, depletion and amortization ......... 12,837 12,175
Noncash currency transaction (gain) loss ......... (13,121) 14,992
Noncash interest income from affiliates .......... (18,254) (13,815)
Noncash interest expense to affiliates ........... 5,521 --
Deferred income taxes ............................ 5,096 604
Minority interest ................................ 27 9
Net loss (gain) from disposition of property
and equipment .................................. (597) 240
Pension, net ..................................... (2,001) (1,882)
Insurance recoveries, net ........................ -- (1,929)
-------- --------
27,085 51,532
Change in assets and liabilities:
Accounts and notes receivable .................... (2,395) (17,576)
Inventories ...................................... 20,703 3,841
Prepaid expenses ................................. (759) (927)
Accounts payable and accrued liabilities ......... (2,179) (3,183)
Income taxes ..................................... (2,987) 7,186
Accounts with affiliates ......................... (6,282) (22,291)
Other noncurrent assets .......................... 3,271 68
Other noncurrent liabilities ..................... (681) (475)
-------- --------
Net cash provided by operating activities .... 35,776 18,175
-------- --------
Cash flows from investing activities:
Capital expenditures ............................. (10,078) (15,782)
Property damaged by fire:
Insurance proceeds ........................... -- 5,500
Other, net ................................... -- (1,000)
Change in restricted cash equivalents ............ (1,554) --
Proceeds from disposition of property and
equipment ...................................... 832 34
-------- --------
Net cash used by investing activities ........ (10,800) (11,248)
-------- --------
- 8 -
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
Six months ended June 30, 2002 and 2001
(In thousands)
2002 2001
--------- ---------
Cash flows from financing activities:
Indebtedness:
Borrowings ................................... $ 319,275 $ 1,437
Principal payments ........................... (53,688) (6,990)
Deferred financing costs ..................... (9,342) --
Loans from affiliates:
Repayments ................................... (301,432) --
Capital contribution ............................. -- 8
Other capital transactions with affiliates, net .. 2,925 --
Distribution to minority interest ................ (11) (5)
--------- ---------
Net cash used by financing activities ............ (42,273) (5,550)
--------- ---------
Cash and cash equivalents:
Net change from:
Operating, investing and financing activities (17,297) 1,377
Currency translation ......................... 2,965 (3,298)
--------- ---------
(14,332) (1,921)
Balance at beginning of period ................... 30,343 36,731
--------- ---------
Balance at end of period ......................... $ 16,011 $ 34,810
========= =========
Supplemental disclosures - cash paid for:
Interest ......................................... $ 19,835 $ 13,813
Income taxes ..................................... 5,623 9,465
See accompanying notes to consolidated financial statements.
- 9 -
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Organization and basis of presentation:
Kronos International, Inc. ("KII") is incorporated in the state of
Delaware, U.S.A., with its seat of management in Leverkusen, Germany. KII is a
wholly owned subsidiary of Kronos, Inc. ("Kronos"), a wholly owned subsidiary of
NL Industries, Inc. ("NL"). NL conducts its titanium dioxide pigments ("TiO2")
operations through Kronos. KII conducts Kronos' European TiO2 operations. At
June 30, 2002, Valhi, Inc. ("Valhi") and Tremont Corporation ("Tremont"), each
affiliates of Contran Corporation ("Contran"), held approximately 62% and 21%,
respectively, of NL's outstanding common stock. At June 30, 2002, Contran and
its subsidiaries held approximately 93% of Valhi's outstanding common stock, and
Tremont Group, Inc. ("Tremont Group"), which is 80%-owned by Valhi and 20%-owned
by NL, held approximately 80% of Tremont's outstanding common stock.
Substantially all of Contran's outstanding voting stock is held by trusts
established for the benefit of certain children and grandchildren of Harold C.
Simmons, of which Mr. Simmons is the sole trustee. Mr. Simmons, the Chairman of
the Board of NL, Chairman of the Board and Chief Executive Officer of Contran,
the Chairman of the Board of Valhi and a director of Tremont, may be deemed to
control each of such companies and KII. See Note 17.
KII's current operations are conducted primarily through its German,
Belgian and Norwegian subsidiaries with three TiO2 plants in Germany, one TiO2
plant in Belgium and one TiO2 plant and an ilmenite ore mining operation in
Norway. KII also operates TiO2 sales and distribution facilities in England,
France, Denmark and the Netherlands. Prior to April 30, 2002, KII also conducted
operations in Canada through Kronos Canada, Inc. ("KC"), its wholly owned
subsidiary. Effective April 30, 2002, in anticipation of a proposed debt
securities offering, KII sold 100% of KC's capital stock to Kronos in exchange
for a promissory note receivable in the amount of $217 million bearing interest
of 7.87% per annum with a maturity date of April 30, 2012. KII has accounted for
the disposition of KC as a change in accounting entity. Accordingly, KII's
consolidated financial statements have been retroactively restated to exclude
the assets, liabilities, results of operations and cash flows of KC for all
periods presented. KII's cash dividends received from KC and cash capital
contributions to KC prior to April 30, 2002 are reflected as part of "other
capital transactions with affiliates, net" in the accompanying consolidated
statement of cash flows.
The consolidated balance sheet of KII and its majority owned subsidiaries
(collectively, the "Company") at December 31, 2001 has been condensed from the
Company's audited consolidated financial statements at that date. Information
included in the consolidated financial statements and related notes to the
Consolidated Financial Statements as of June 30, 2002 and for the six months
ended June 30, 2001 and 2002, is unaudited. In the opinion of management, all
adjustments, consisting only of normal recurring adjustments, necessary to state
fairly the information for the interim periods have been made. The results of
operations for the interim periods are not necessarily indicative of the
operating results for a full year or of future operations. Certain information
and footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles in the U.S. ("GAAP")
have been condensed or omitted for the interim periods. Certain prior-year and
prior-quarter amounts have been reclassified to conform to the current year
presentation.
- 10 -
The Company adopted SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets," effective January 1, 2002. SFAS No. 144 retains
the fundamental provisions of existing GAAP with respect to the recognition and
measurement of long-lived asset impairment contained in SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
be Disposed Of." However, SFAS No. 144 provides new guidance intended to address
certain significant implementation issues associated with SFAS No. 121,
including expanded guidance with respect to appropriate cash flows to be used to
determine whether recognition of any long-lived asset impairment is required,
and if required how to measure the amount of the impairment. SFAS No. 144 also
requires that any net assets to be disposed of by sale to be reported at the
lower of carrying value or fair value less cost to sell, and expands the
reporting of discontinued operations to include any component of an entity with
operations and cash flows that can be clearly distinguished from the rest of the
entity. The adoption of SFAS No. 144 effective January 1, 2002 did not have a
material effect on the Company's consolidated financial position, results of
operations or liquidity.
The Company adopted SFAS No. 145, "Rescission of FASB Statements No. 4, 44
and 64, Amendment of FASB Statement No. 13 and Technical Corrections" effective
April 1, 2002. SFAS No. 145, among other things, eliminated the prior
requirement that all gains and losses from the early extinguishment of debt were
to be classified as an extraordinary item. Upon adoption of SFAS No. 145, gains
and losses from the early extinguishment of debt are now classified as an
extraordinary item only if they meet the "unusual and infrequent" criteria
contained in Accounting Principles Board Opinion ("APBO") No. 30. In addition,
upon adoption of SFAS No. 145, all gains and losses from the early
extinguishment of debt that had previously been classified as an extraordinary
item are to be reassessed to determine if they would have met the "unusual and
infrequent" criteria of APBO No. 30; any such gain or loss that would not have
met the APBO No. 30 criteria are retroactively reclassified and reported as a
component of income before extraordinary item. The Company had not previously
recognized any gains and losses from the early extinguishment of debt, thus
there was no impact on the Company upon adoption.
- 11 -
Note 3 - Business segment information:
The Company's operations are conducted in one operating business segment -
the production and sale of TiO2.
Three months ended Six months ended
June 30, June 30,
---------------------- ----------------------
2002 2001 2002 2001
--------- --------- --------- ---------
(In thousands)
Net sales ......................... $ 146,145 $ 140,380 $ 285,714 $ 299,410
Other income, excluding corporate . 1,008 3,095 3,091 5,201
--------- --------- --------- ---------
147,153 143,475 288,805 304,611
Cost of sales ..................... 113,945 93,917 224,668 199,200
Selling, general and
administrative, excluding
corporate ....................... 16,733 16,278 33,401 33,730
--------- --------- --------- ---------
Operating income .......... 16,475 33,280 30,736 71,681
Insurance recoveries, net ......... -- 1,929 -- 1,929
--------- --------- --------- ---------
Income before corporate
items, income
taxes and minority
interest ................ 16,475 35,209 30,736 73,610
General corporate income (expense):
Currency transaction gain
(loss), net ................. 18,127 (5,841) 15,839 (14,992)
Interest expense .............. (997) (1,071) (1,697) (2,232)
Interest expense to affiliates (8,925) (8,025) (18,699) (13,875)
Interest income from affiliates 10,262 9,170 19,157 15,891
--------- --------- --------- ---------
Income before income taxes
and minority interest ... $ 34,942 $ 29,442 $ 45,336 $ 58,402
========= ========= ========= =========
Note 4 - Accounts and notes receivable:
June 30, December 31,
2002 2001
--------- ------------
(In thousands)
Trade receivables .............................. $ 94,848 $ 65,417
Insurance claims receivable .................... 452 11,505
Recoverable VAT and other receivables .......... 7,886 12,126
Allowance for doubtful accounts ................ (1,906) (1,626)
--------- ---------
$ 101,280 $ 87,422
========= =========
- 12 -
Note 5 - Inventories:
June 30, December 31,
2002 2001
-------- ------------
(In thousands)
Raw materials ............................ $ 28,170 $ 33,911
Work in process .......................... 7,667 6,421
Finished products ........................ 54,297 61,191
Supplies ................................. 23,526 19,793
-------- --------
$113,660 $121,316
======== ========
Note 6 - Other noncurrent assets:
June 30, December 31,
2002 2001
-------- ------------
(In thousands)
Deferred financing costs (see Note 8) .............. $ 9,342 $ 12
Other .............................................. 3,063 5,603
------- -------
$12,405 $ 5,615
======= =======
Note 7 - Accounts payable and accrued liabilities:
June 30, December 31,
2002 2001
-------- ------------
(In thousands)
Accounts payable ........................... $40,972 $36,974
------- -------
Accrued liabilities:
Employee benefits ...................... 17,699 16,227
Other .................................. 33,794 25,645
------- -------
51,493 41,872
------- -------
$92,465 $78,846
======= =======
- 13 -
Note 8 - Notes payable and long-term debt:
June 30, December 31,
2002 2001
-------- ------------
(In thousands)
Notes payable ................................ $ -- $ 46,201
======== ========
Long-term debt:
8.875% Senior Secured Notes .............. 283,005 --
Revolving credit facility ................ 39,649 --
Other .................................... 2,394 2,498
-------- --------
325,048 2,498
Less current maturities ...................... 1,225 1,033
-------- --------
$323,823 $ 1,465
======== ========
Notes payable as of December 31, 2001, consisted of short-term borrowings
denominated in non-U.S. currencies due within one year from non-U.S. banks.
Borrowings totaled $46 million ((euro)27 million and NOK 200 million) and
weighted average interest rates on the euro-denominated note payable and the
Norwegian kroner-denominated note payable were 3.84% and 7.27% at December 31,
2001. Notes payable totaling $53.2 million were repaid on June 28, 2002 with
proceeds from the revolving credit facility and available cash, and the
agreements were terminated. See description of revolving credit facility below.
In June 2002 KII issued (euro)285 million ($280 million when issued and
$283 million at June 30, 2002) principal amount of 8.875% Senior Secured Notes
(the "Notes") due 2009. The Notes are collateralized by first priority liens on
65% of the common stock or other equity interests of certain of KII's first-tier
subsidiaries. The Notes are issued pursuant to an indenture which contains a
number of covenants and restrictions which, among other things, restricts the
ability of KII and its subsidiaries to incur debt, incur liens, pay dividends or
merge or consolidate with, or sell or transfer all or substantially all of their
assets to, another entity. The Notes are redeemable, at KII's option, on or
after December 30, 2005 at redemption prices ranging from 104.437% of the
principal amount, declining to 100% on or after December 30, 2008. In addition,
on or before June 30, 2005, KII may redeem up to 35% of its Notes with the net
proceeds of a qualified public equity offering at 108.875% of the principal
amount. In the event of a change of control of KII, as defined, KII would be
required to make an offer to purchase its Notes at 101% of the principal amount.
KII would also be required to make an offer to purchase a specified portion of
its Notes at par value in the event KII generates a certain amount of net
proceeds from the sale of assets outside the ordinary course of business, and
such net proceeds are not otherwise used for specified purposes within a
specified time period. At June 30, 2002, KII was in compliance with all the
covenants. The Notes require cash interest payments on June 30 and December 30,
commencing on December 30, 2002. KII has agreed to make an offer to exchange the
Notes for registered publicly traded notes that have substantially identical
terms as the Notes. In the event that KII does not (i) file a registration
statement regarding such an exchange offer with the Securities and Exchange
Commission, (ii) cause the registration statement to be declared effective, and
(iii) complete the exchange offer to exchange the Notes within specified time
limits, the interest rate on the Notes would increase by up to .75% per year.
- 14 -
In June 2002 KII's operating subsidiaries in Germany, Belgium and Norway,
entered into a three-year (euro)80 million secured revolving credit facility
("Credit Facility"). The Credit Facility is available in multiple currencies,
including U.S. dollars, euros and Norwegian kroner. As of June 30, 2002,
(euro)13 million ($13 million) and NOK 200 million ($26 million) was borrowed at
closing, and along with available cash, was used to repay and terminate KII's
short term notes payable. (euro)40 million was available for future working
capital requirements and general corporate purposes of the borrowers at June 30,
2002. Borrowings bear interest at the applicable interbank market rate plus
1.75%. As of June 30, 2002, the interest rate was 5.15% and 8.80% on the euro
and Norwegian kroner borrowings, respectively, and the weighted average interest
rate was 7.61%.
The Credit Facility is collateralized by accounts receivable and inventory
of the borrowers, plus a limited pledge of certain other assets of the Belgian
borrower. The Credit Facility contains, among others, various restrictive
covenants, including restrictions on incurring liens, asset sales, additional
financial indebtedness, mergers, investments and acquisitions, transactions with
affiliates and dividends. The Company has a (euro)5 million sub-limit for
issuing letters of credit with no letters of credit issued at June 30, 2002. The
borrowers were in compliance with all the covenants as of June 30, 2002.
Deferred financing costs of $9.3 million for the Notes and the Credit
Facility are being amortized over the life of the respective agreements and are
included in other noncurrent assets as of June 30, 2002.
Unused lines of credit available for borrowing under the Company's
non-U.S. credit facilities approximated $8 million and $42 million at December
31, 2001 and June 30, 2002, respectively, (including $40 million under the
Credit Facility at June 30, 2002).
Note 9 -- Notes Payable to Kronos, Inc.:
June 30, December 31,
2002 2001
-------- ------------
(In thousands)
11.75% Second-tier Senior Mirror Note ............ $ -- $194,000
Euro-denominated note ............................ -- 286,363
-------- --------
$ -- $480,363
======== ========
NL had $194 million of 11.75% Senior Secured Notes due 2003 (the "NL
Notes") at December 31, 2001. KII had a Second-Tier Senior Mirror Note (the "KII
Mirror Note") payable to Kronos, which had a First-Tier Senior Mirror Note (the
"Kronos Mirror Note") payable to NL. The terms of the KII Mirror Note and the
Kronos Mirror Note were identical to the terms of the NL Notes with respect to
the maturity dates and interest rates with interest paid semi-annually. The NL
Notes were collateralized by a first priority lien on the common stock, and
redeemable preferred stock and profit participation certificates of KII, the KII
Mirror Note, the Kronos Mirror Note and other collateral pledged by NL and
Kronos. An acceleration with respect to the principal amount of the NL Notes
would have resulted in an automatic acceleration of the KII Mirror Note and the
Kronos Mirror Note.
On March 22, 2002, NL redeemed $25 million principal amount of the NL
Notes at the current call price of 100%, and as a result $25 million principal
amount of the KII Mirror Note was repaid. In addition, immediately following the
closing of the Notes offering (see Note 8), KII effectively loaned to NL
- 15 -
sufficient funds for NL to redeem in full the remaining $169 million principal
amount of the NL Notes. In accordance with the terms of the indenture governing
the NL Notes, on June 28, 2002, NL irrevocably placed on deposit with the
trustee funds in an amount sufficient to pay in full the redemption price plus
all accrued and unpaid interest due on the July 28, 2002 redemption date.
Immediately thereafter, NL was released from its obligations under such
indenture, the indenture was discharged and all collateral was released to NL.
Because NL had been released as being the primary obligor under the indenture as
of June 30, 2002, the NL Notes were derecognized as of that date along with the
funds placed on deposit with the trustee to effect the July 28, 2002 redemption.
KII recognized a loss on the early extinguishment of debt of approximately $1.5
million in the second quarter of 2002, consisting primarily of the interest on
the KII Mirror Note for the period from July 1 to July 28, 2002. Such loss was
recognized as a component of interest expense. The Kronos Mirror Note and the
KII Mirror Note were deemed repaid in accordance with the terms and conditions
of such agreements, and the agreements were canceled.
The quoted market price of the NL Notes per $100 principal amount was
$100.47 at December 31, 2001 which the Company believed was a reasonable
approximation of the fair value of the KII Mirror Note for the period presented.
The euro-denominated note payable to Kronos ((euro)323.9 million at
December 31, 2001) was originally due in 2010 and bore interest at 6% payable
monthly. The euro note payable to Kronos was established in 2001 as a result of
a series of noncash transactions between KII, NL and Kronos. A portion of the
note payable ((euro)217.6 million, including interest of (euro)6.3 million) was
prepaid in April 2002, using as consideration an equivalent amount of KII's
euro-denominated note receivable from NL. See Note 14. The remaining balance of
(euro)113.8 million (including interest) was repaid as of June 28, 2002 with
proceeds from the (euro)285 million Notes offering described in Note 8 and the
note agreement was canceled.
Note 10 - Other noncurrent liabilities:
June 30, December 31,
2002 2001
-------- ------------
(In thousands)
Insurance claims and expenses .................. $ 414 $ 821
Employee benefits .............................. 3,842 3,476
Environmental costs ............................ 6,110 5,662
Other .......................................... 2,108 1,887
------- -------
$12,474 $11,846
======= =======
- 16 -
Note 11 - Other income, net:
Three months ended Six months ended
June 30, June 30,
-------------------- --------------------
2002 2001 2002 2001
-------- -------- -------- --------
(In thousands)
Currency transaction gain (loss), net ....... $ 16,589 $ (4,964) $ 14,921 $(13,705)
Royalty income .............................. 1,603 1,678 2,890 3,103
Trade interest income ....................... 326 446 539 970
Disposition of property and equipment ....... 644 (58) 597 (240)
Other, net .................................. (27) 152 (17) 81
-------- -------- -------- --------
$ 19,135 $ (2,746) $ 18,930 $ (9,791)
======== ======== ======== ========
Included in currency transactions are noncash gains (losses) associated
with the Company's notes payable to affiliates. See Note 9. Noncash currency
transaction losses totaled $5.8 million and $15.0 million in the three and six
months ended June 30, 2001, respectively. Noncash currency transaction gains
totaled $15.4 million and $13.1 million in the three and six months ended June
30, 2002, respectively.
The Company receives royalty income from KC for use of certain of the
Company's intellectual property.
Note 12 - Income taxes:
The difference between the provision for income tax expense attributable
to income before income taxes and minority interest and the amount that would be
expected using the U.S. federal statutory income tax rate of 35% is presented
below.
Six months ended
June 30,
-----------------------
2002 2001
-------- --------
(In thousands)
Expected tax expense ............................. $ 15,868 $ 20,441
Non-U.S. tax rates ............................... (677) (2,450)
Valuation allowance .............................. (1,783) (4,627)
Currency transaction gains and losses
for which no income taxes are provided ......... (4,592) 5,247
Other, net ....................................... (1,084) (1,356)
-------- --------
Income tax expense ....................... $ 7,732 $ 17,255
======== ========
Note 13 - Leverkusen fire and insurance claim:
A fire on March 20, 2001 damaged a section of the Company's Leverkusen,
Germany 35,000 metric ton sulfate-process TiO2 plant ("Sulfate Plant") and, as a
result, production of TiO2 at the Leverkusen facility was halted. The fire did
not enter the Company's adjacent 125,000 metric ton chloride-process TiO2 plant
("Chloride Plant"), but did damage certain support equipment necessary to
- 17 -
operate that plant. The damage to the support equipment resulted in a temporary
shutdown of the Chloride Plant.
On April 8, 2001, repairs to the damaged support equipment were
substantially completed and full production resumed at the Chloride Plant. The
Sulfate Plant became approximately 50% operational in September 2001 and became
fully operational in late October 2001. The damages to property and the business
interruption losses caused by the fire were covered by insurance as noted below,
but the effect on the financial results of the Company on a quarter-to-quarter
basis was impacted by the timing and amount of insurance recoveries.
The Company settled its insurance claim involving the Leverkusen fire for
approximately $56 million during the fourth quarter of 2001 ($46 million
received as of December 31, 2001, with the remaining $9.5 million received in
January 2002), of which approximately $27 million related to business
interruption ($5 million received as of June 30, 2001) and approximately $29
million related to property damage, clean-up costs and other extra expenses
($5.5 million received as of June 30, 2001). The Company recognized a $17.5
million pre-tax gain in 2001 ($1.9 million pre-tax gain recognized in the first
six months of 2001) related to the property damage recovery after deducting
$11.6 million of clean-up costs and other extra expenses incurred and the
carrying value of assets destroyed in the fire. The gain was excluded from the
determination of operating income. The $27 million of business interruption
proceeds recognized in 2001 were allocated between other income, excluding
corporate, which reflects recovery of lost margin ($7 million) and as a
reduction of cost of sales to offset unallocated period costs ($20 million). No
additional insurance recoveries related to the Leverkusen fire are expected to
be received and there was no impact on the results of operations of the Company
during the first six months of 2002.
Note 14 - Notes Receivable from Affiliates:
Long-term notes receivable from affiliates are included as a component of
equity in accordance with GAAP as settlement of the affiliate notes receivable
balances is not currently contemplated within the foreseeable future. The notes
are summarized in the following table.
June 30, December 31,
2002 2001
------------- ------------
(In thousands)
Notes receivable from:
NL:
8.7% Fixed rate .......................... $111,440 $106,783
6.0% Fixed rate euro-denominated ......... 111,872 286,363
6.0% Fixed rate .......................... 20,166 --
Variable rate ............................ 241,826 262,772
Kronos:
7.87% Fixed rate ......................... 219,901 --
7.0% Fixed rate .......................... 2,078 --
Variable rate ............................ 45,724 44,925
-------- --------
$753,007 $700,843
======== ========
- 18 -
The 8.7% fixed-rate note receivable from NL matures in 2008 with interest
payable quarterly. The 6.0% fixed-rate euro-denominated note receivable from NL
((euro)323.9 million and (euro)113.8 million at December 31, 2001 and June 30,
2002) matures in 2010 with interest payable monthly. The note receivable from NL
was established in 2001 as a result of a series of noncash transactions between
KII, NL and Kronos. The note receivable from NL was reduced in April 2002 to
$101 million and correspondingly, KII's note payable to Kronos was also reduced
to $101 million. See Note 9. The 6.0% fixed-rate notes receivable consist of two
individual notes which mature in 2010 with interest payable semi-annually.
Variable-rate notes receivable from NL consists of eight individual notes
from NL of which five mature in 2003 and three mature in 2010, with interest
rates ranging from U.S. LIBOR plus .625% to U.S. LIBOR plus 1.625%, (2.5875% to
3.5875% at December 31, 2001 and 2.575% to 3.575% at June 30, 2002,
respectively) payable semi-annually.
The Company has three notes receivable from Kronos. The 7.87% fixed-rate
note receivable of $217 million matures in 2012, with interest payable
quarterly, and arose from the sale of KC to Kronos in April 2002. See Note 1.
The 7.0% fixed-rate note receivable of $2.1 million matures in 2004 with
interest payable semi-annually. The variable rate note receivable matures in
2003 and bears interest at U.S. LIBOR plus 1.625% (3.5875% at December 31, 2001
and 3.575% at June 30, 2002) payable semi-annually.
The Company periodically converts interest receivable from affiliates to
notes receivable from affiliates. For the year ended 2001 and the six months
ended June 30, 2002, respectively, the interest transferred to notes receivable
from affiliates totaled $25.0 million and $12.6 million, respectively.
See Note 17 for the exchange of notes receivable from affiliates as part
of the recapitalization of the Company.
Note 15 - Commitments and contingencies:
For descriptions of certain legal proceedings, income tax and other
commitments and contingencies related to the Company, reference is made to
Management's Discussion and Analysis of Financial Condition and Results of
Operations, and Legal Proceedings.
Note 16 - Accounting principles not yet adopted:
The Company will adopt SFAS No. 143, Accounting for Asset Retirement
Obligations, no later than January 1, 2003. Under SFAS No. 143, the fair value
of a liability for an asset retirement obligation covered under the scope of
SFAS No. 143 would be recognized in the period in which the liability is
incurred, with an offsetting increase in the carrying amount of the related
long-lived asset. Over time, the liability would be accreted to its present
value, and the capitalized cost would be depreciated over the useful life of the
related asset. Upon settlement of the liability, an entity would either settle
the obligation for its recorded amount or incur a gain or loss upon settlement.
The Company is studying this newly-issued standard to determine, among other
things, whether it has any asset retirement obligations which are covered under
the scope of SFAS No. 143, and the effect, if any, to the Company of adopting
this standard has not yet been determined.
- 19 -
The Company will adopt SFAS No. 146, Accounting for Costs Associated with
Exit or Disposal Activities, no later than January 1, 2003 for exit or disposal
activities initiated on or after the date of adoption. Under SFAS No. 146, costs
associated with exit activities, as defined, that are covered by the scope of
SFAS No. 146 will be recognized and measured initially at fair value, generally
in the period in which the liability is incurred. Costs covered by the scope of
SFAS No. 146 include termination benefits provided to employees, costs to
consolidate facilities or relocate employees, and costs to terminate contracts
(other than a capital lease). Under existing GAAP, a liability for such an exit
cost is recognized at the date an exit plan is adopted, which may or may not be
the date at which the liability has been incurred.
Note 17 - Subsequent events:
In July 2002 Valhi proposed a merger of Tremont and Valhi pursuant to
which stockholders of Tremont, other than Valhi (but including NL to the extent
of NL's ownership interest in the Tremont shares held by Tremont Group), would
receive between 2 and 2.5 shares of Valhi common stock for each Tremont share
held. Tremont has formed a special committee of its board of directors
consisting of members unrelated to Valhi to review the proposal. There can be no
assurance that any such merger will be completed or completed under the proposed
terms.
In July 2002 KII and Kronos agreed to a recapitalization of the Company as
contemplated in the (euro)285 million Notes offering. See Note 8. In connection
with the recapitalization agreement, KII converted the Series A (738 shares) and
Series B (647 shares) redeemable preferred stock (including liquidation and
redemption preferences and accrued and unpaid dividends) held by Kronos totaling
$411.7 million ($410.5 million at June 30, 2002) into 1,385 shares of KII, $100
par value, common stock. As a result of the conversion, the Series A and B
redeemable preferred stock certificates were canceled. Further, KII redeemed its
PPC's held by Kronos totaling $284.3 million in exchange for various notes
receivable from NL. As a result of the redemption, the PPC's were canceled.
Finally, KII redeemed 1,613 shares of KII common stock held by Kronos in
exchange for its remaining notes receivable from NL and Kronos totaling $479.4
million. As a result of the recapitalization in July 2002, KII's common
stockholder's equity increased a net $696.0 million.
- 20 -
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
Three months ended % Six months ended %
June 30, Change June 30, Change
------------------ ------ ---------------- ------
2002 2001 2002 2001
------ ------ ------ ------
(In millions, except percentages and metric tons)
Net sales and operating
income
Net sales ............... $146.1 $140.4 +4% $285.7 $299.4 -5%
Operating income ........ $ 16.5 $ 33.3 -50% $ 30.7 $ 71.7 -57%
Operating income
margin percentage ..... 11% 24% 11% 24%
TiO2 operating statistics
Percent change in
average selling price
(in billing currencies) -15% -16%
Sales volume (metric tons
in thousands) ......... 79 66 +20% 158 138 +15%
Production volume (metric
tons in thousands) .... 74 65 +15% 147 136 +8%
The Company's operating income in the second quarter of 2002 decreased
$16.8 million or 50% from the second quarter of 2001 due to lower average
selling prices, partially offset by higher sales and production volumes. KII's
operating income in the second quarter of 2001 included $5.0 million of business
interruption insurance proceeds related to the fire at the Company's Leverkusen,
Germany plant in 2001 described below. Compared to the first quarter of 2002,
operating income in the second quarter of 2002 increased 15% due to slightly
higher average selling prices and higher production volume, partially offset by
revaluation losses on certain export trade receivables and certain other
monetary assets.
Operating income in the first half of 2002 was $30.7 million compared with
$71.7 million in the first half of 2001 due to 16% lower average selling prices,
partially offset by 15% higher sales volume and 8% higher production volume.
The Company's average selling price in billing currencies (which excludes
the effects of foreign currency translation) during the second quarter of 2002
was 15% lower than the second quarter of 2001 and was 1% higher than the first
quarter of 2002. Compared with the first quarter of 2002, selling prices in
billing currencies increased in the European and export markets and decreased in
the North American market. The average selling price in billing currencies in
June 2002 was flat and 1% higher than the average selling price for the second
quarter and for the first half of 2002, respectively. June 2002 selling prices
were 2% higher than March 2002 selling prices and the Company expects
third-quarter prices to be higher than second quarter prices as previously
announced price increases continue to be implemented. The Company expects a
lower average selling price for full-year 2002 compared to full-year 2001.
The Company's second quarter 2002 average selling price expressed in U.S.
dollars (computed using actual foreign currency exchange rates prevailing during
the respective periods) was 16% lower than the second quarter of 2001 and 1%
higher than the first quarter of 2002. June's average selling price expressed in
- 21 -
U.S. dollars was 1% higher than the average selling price for the second quarter
reflecting the strengthening of the euro against the U.S. dollar that occurred
primarily during June. Average selling prices expressed in U.S. dollars
decreased 17% in the first half of 2002 compared with the first half of 2001.
Second-quarter 2002 sales volume of 78,600 metric tons increased 20% from
the second quarter of 2001 and decreased 1% from the first quarter of 2002.
European, North American and export volumes each increased over 18% from the
second quarter of 2001. Compared with the first quarter of 2002, sales volume
increased 4% and 19% in the European and export markets, respectively, while
North American sales volume decreased significantly. Sales volume in the first
half of 2002 was 15% higher than the first half of 2001. The Company believes
that the sales volume increase in the second quarter of 2002 was attributable to
improving economic conditions, some seasonality and customer restocking
inventory levels ahead of previously announced price increases. The Company
expects sales volume in the second half of 2002 to be lower than the first half
of 2002. The Company's sales volume for full-year 2002 should be higher than
full-year 2001, due in part to the Leverkusen fire.
Second-quarter 2002 production volume was 15% higher than the second
quarter of 2001 and increased 3% from the first quarter of 2002 with operating
rates at near full capacity in the second quarter of 2002. The increase from the
prior year period was due in part to lost sulfate-process production in 2001 as
a result of the Leverkusen fire. Production volume in the first half of 2002
increased 8% compared with the first half of 2001. Finished goods inventory
decreased 11,100 metric tons during the first six months of 2002 and inventory
levels at the end of June represented about one and one-half months of sales.
KII anticipates its production volume for full-year 2002 will be higher than
that of full-year 2001, due in part to the Leverkusen fire.
A fire on March 20, 2001 damaged a section of the Company's Leverkusen,
Germany 35,000 metric ton sulfate-process TiO2 plant ("Sulfate Plant") and, as a
result, production of TiO2 at the Leverkusen facility was halted. The fire did
not enter the Company's adjacent 125,000 metric ton chloride-process TiO2 plant
("Chloride Plant"), but did damage certain support equipment necessary to
operate that plant. The damage to the support equipment resulted in a temporary
shutdown of the Chloride Plant. The Chloride Plant became fully operational in
April 2001 and the Sulfate Plant became approximately 50% operational in
September 2001 and fully operational in late October 2001.
During the second quarter of 2001, the Company's insurance carriers
approved a partial payment of $10.5 million ($9 million received as of June 30,
2001) for property damage costs and business interruption losses caused by the
Leverkusen fire. Five million dollars of this payment represented partial
compensation for business interruption losses which was recorded as a reduction
of cost of sales to offset unallocated period costs that resulted from lost
production. The remaining $5.5 million represented property damage recoveries
against clean-up costs, resulting in a net gain of $1.9 million. The Company
settled its insurance claim involving the Leverkusen fire for $56.4 million
during the fourth quarter of 2001 of which $27.3 million related to business
interruption (which included the $5 million partial payment described above) and
$29.1 million related to property damages, clean-up costs and other extra
expenses. $19.3 million of the $27.3 million of business interruption proceeds
was recognized as a component of operating income in the fourth quarter of 2001
of which $16.6 million was attributable to recovery of unallocated period costs
and lost margin related to the first, second and third quarters of 2001. No
additional insurance recoveries related to the Leverkusen fire are expected to
be received in 2002.
- 22 -
The Company believes TiO2 industry demand in the second half of 2002
should be better than the TiO2 industry demand in the second half of 2001, due
to worldwide economic conditions. The Company's TiO2 production volume in 2002
is expected to approximate the Company's 2002 TiO2 sales volume. In January
2002, the Company announced price increases in all major markets of
approximately 8% above existing December 2001 prices, a portion of which was
realized in the second quarter with additional increases expected to be realized
in the third quarter of 2002. In May 2002, the Company announced a second round
of price increases of approximately 7% to 11% for certain regions of the world,
including Europe. The Company is hopeful that it will realize a portion of the
announced May 2002 price increases during the fourth quarter of 2002. The extent
to which any price increases will be realized will depend on improving market
conditions. Second half 2002 prices are expected to be higher than the first
half of 2002. However, because TiO2 prices were declining in 2001 and the first
quarter of 2002, the Company believes that its average 2002 prices in billing
currencies will be significantly below its average 2001 prices. Overall, the
Company expects its TiO2 operating income in 2002 will be significantly lower
than 2001, primarily due to lower average TiO2 selling prices. The Company's
expectations as to the future prospects of the Company and the TiO2 industry are
based upon a number of factors beyond the Company's control, including worldwide
growth of gross domestic product, competition in the marketplace, unexpected or
earlier-than-expected capacity additions and technological advances. If actual
developments differ from the Company's expectations, the Company's results of
operations could be unfavorably affected.
Compared to the year-earlier periods, cost of sales as a percentage of net
sales increased in both the second quarter and first half of 2002 primarily due
to lower average selling prices in billing currencies, partially offset by
higher production volume. Excluding the effects of foreign currency translation,
which increased the Company's expenses in the second quarter of 2002 compared to
the second quarter of 2001 and slightly decreased expenses in the first half of
2002 compared to the first half of 2001, the Company's selling, general and
administrative expenses, excluding corporate expenses, in the second quarter of
2002 and first half were comparable to the year-earlier periods.
A majority of the Company's sales and operating costs are denominated in
currencies other than the U.S. dollar. Fluctuations in the value of the U.S.
dollar relative to other currencies, primarily a slightly stronger euro, on
average, compared to the U.S. dollar in the second quarter of 2002 versus the
year-earlier period, slightly increased the dollar value of sales in the second
quarter of 2002 when compared to the year-earlier period. On a first half of
2002 compared to a first half of 2001 basis, fluctuations in the value of the
U.S. dollar relative to other currencies decreased net sales by approximately
1%. Sales to export markets are typically denominated in U.S. dollars and a
weaker U.S. dollar decreases margins on these sales at the Company's
subsidiaries. The effect of the stronger euro on the Company's operating costs
that are not denominated in U.S. dollars increased operating costs in the second
quarter of 2002 compared to the year-earlier period. In addition, the Company
revalued certain export trade receivables and certain monetary assets held by
its subsidiaries whose functional currency is not the U.S. dollar and based on
the weaker U.S. dollar reported a revaluation loss in the second quarter of
2002. As a result, the net impact of currency exchange rate fluctuations
decreased operating income by $3.9 million and $2.9 million, respectively, in
the second quarter and first half of 2002 when compared to the year-earlier
periods.
- 23 -
General corporate
The following table sets forth certain information regarding general
corporate income (expense).
Three months ended Six months ended
June 30, Difference June 30, Difference
------------------ ---------- ----------------- -----------
2002 2001 2002 2001
------- ------- ------- -------
(In millions)
Currency transaction
gain (loss), net ........... $ 18.1 $ (5.8) $ 23.9 $ 15.8 $ (15.0) $ 30.8
Interest expense ............. (1.0) (1.1) .1 (1.7) (2.2) .5
Interest expense to
affiliates ................. (9.0) (8.1) (.9) (18.7) (13.9) (4.8)
Interest income from
affiliates ................. 10.3 9.2 1.1 19.2 15.9 3.3
------- ------- ------- ------- ------- -------
$ 18.4 $ (5.8) $ 24.2 $ 14.6 $ (15.2) $ 29.8
======= ======= ======= ======= ======= =======
The Company had certain loans from affiliates that are denominated in U.S.
dollars. Under GAAP, changes in the euro-equivalent of such indebtedness is
recognized in earnings as a foreign currency transaction gain or loss. The
amount of such currency transaction gain or loss is dependent upon the relative
change in the exchange rate between the euro and the U.S. dollar during each
period, and the amount of such U.S. dollar-denominated indebtedness outstanding.
As more fully described in Note 9 to the Consolidated Financial Statements, such
U.S. dollar-denominated loans from affiliates were repaid using a portion of the
proceeds of the offering of the 8.875% Senior Secured Notes (the "Notes") due
2009, and accordingly the Company will no longer report such currency
transaction gains or losses related to such loans from affiliates.
Interest expense to affiliates in the second quarter and first six months
of 2002 was higher than the comparable period in 2001 due to a higher level of
outstanding affiliate indebtedness and the amount paid to extinguish affiliate
indebtedness in June 2002 included interest for the month of July 2002
(approximately $1.5 million), partially offset by reduced levels of short term
notes payable. As described above and in Note 9, the Company's loans from
affiliates were repaid using the proceeds of the offering of the Notes and
accordingly the Company will no longer report interest expense on such loans
from affiliates.
The Company had certain loans to affiliates, as described in Note 14 to
the Consolidated Financial Statements. Interest income on these loans was higher
in the second quarter and first six months of 2002 compared to the same period
in 2001, due primarily to higher average balances outstanding to affiliates.
Subsequent to completion of the offering of the Notes, the Company transferred
such notes receivable from affiliates to Kronos on July 30, 2002, and
accordingly will no longer report interest income on such loans to affiliates.
Provision for income taxes
KII is a member of NL's consolidated U.S. federal income tax group (the
"NL Tax Group"). KII is a party to a U.S. federal income tax sharing agreement
(the "Kronos Tax Agreement"). Effective January 1, 2001, the NL Tax Group,
including KII, is included in the consolidated U.S. federal income tax group of
Contran (the "Contran Tax Group"). As a member of the Contran Tax Group, NL is a
- 24 -
party to a separate tax sharing agreement (the "Contran Tax Agreement"). The
Contran Tax Agreement provides that NL calculate its liability for U.S. income
taxes on a separate-company basis using the tax elections made by Contran.
During 2002 the Kronos Tax Agreement was amended (the "Amended Kronos Tax
Agreement"). The Amended Kronos Tax Agreement provides that Kronos calculate
KII's liability for U.S. income taxes on a separate-company basis using tax
elections consistent with Kronos' tax elections. Pursuant to the Amended Kronos
Tax Agreement, KII is to make distributions to or receive contributions from
Kronos in the amounts it would have paid to or received from the U.S. Internal
Revenue Service had it not been a member of the NL Tax Group, but rather a
separate taxpayer. Contributions under the Amended Kronos Tax Agreement are
limited to amounts previously distributed under the agreement. No distributions
have yet been made or received under the Amended Kronos Tax Agreement. KII would
not have reported a different provision for income taxes in 2001 if the
provision for income taxes in such periods had been computed in accordance with
the tax allocation policy contained in the Amended Kronos Tax Agreement.
The Company's operations are conducted in numerous jurisdictions, and the
geographic mix of income can significantly impact our effective income tax rate.
In 2001 and the first half of 2002, our effective income tax rate varied from
the normally expected rate primarily due to the recognition of certain German
income tax attributes which previously did not meet the "more-likely-than-not"
recognition criteria. See Note 12. In 2001 no income tax benefit has been
provided on certain currency transaction losses. In the first half of 2002, no
income taxes were provided on certain currency transaction gains.
Accounting principles not yet adopted
See Note 16 to the Consolidated Financial Statements.
Related party transactions
The Company is a party to certain transactions with related parties. See
Notes 9 and 14 to the Consolidated Financial Statements.
LIQUIDITY AND CAPITAL RESOURCES
The Company's consolidated cash flows from operating, investing and
financing activities for the six months ended June 30, 2002 and 2001 are
presented below.
Six months ended
June 30,
---------------------
2002 2001
---------- ---------
(In millions)
Net cash provided (used) by:
Operating activities:
Before changes in assets and liabilities ........... $ 27.1 $ 51.5
Changes in assets and liabilities .................. 8.7 (33.3)
------- -------
35.8 18.2
Investing activities ................................... (10.8) (11.2)
Financing activities ................................... (42.3) (5.6)
------- -------
Net cash provided (used) by operating, investing,
and financing activities ........................... $ (17.3) $ 1.4
======= =======
- 25 -
Operating activities
The TiO2 industry is cyclical and changes in economic conditions
significantly affect the earnings and operating cash flows of the Company. Cash
flow from operations is considered the primary source of liquidity for the
Company. Changes in TiO2 pricing, production volume and customer demand, among
other things, could significantly affect the liquidity of the Company. Cash flow
from operations, before changes in assets and liabilities, in the first half of
2002 decreased from the comparable period in 2001 primarily due to $41.0 million
of lower operating income partially offset by $14.0 million of lower current tax
expense. The net cash used to fund changes in the Company's inventories,
receivables and payables (excluding the effect of currency translation) in the
first half of 2002 was significantly less than the first half of 2001 with $16.9
million lower inventory balances, $15.2 million lower accounts and notes
receivable balances, which included the collection of $11.1 million of insurance
proceeds, and $16.0 million lower net affiliate balances, partially offset by
decreases in taxes payable of $10.2 million.
Investing activities
Capital expenditures of $10.1 million in the first half of 2002 included
approximately $2.2 million related to ongoing reconstruction of the Leverkusen,
Germany sulfate plant. The Company expects to complete all reconstruction by
December 31, 2002. In the second quarter of 2001, the Company received $5.5
million of insurance proceeds for property damage resulting from the Leverkusen
fire and paid $1.0 million of expenses related to repairs and clean-up costs.
As of June 30, 2002, the Company had $1.6 million in restricted cash
equivalents which was collateralizing certain environmental landfill remediation
obligations of the Company. The Company expects to replace such restricted cash
deposit with a letter of credit issued under its new revolving credit facility
discussed below during the third quarter of 2002.
Financing activities
In March 2002 the Company repaid $25 million in principal amount of
affiliate indebtedness to Kronos. In June 2002 the Company repaid $169 million
principal amount, plus accrued interest of affiliate indebtedness to Kronos with
proceeds from the notes offering discussed below. Further, in June 2002, the
Company repaid (euro)113.8 million ($111.8 million), including interest, of the
euro-denominated note payable to Kronos with proceeds from the notes offering
discussed below. See Note 9 to the Consolidated Financial Statements.
In June 2002 the Company issued (euro)285 million ($280 million when
issued and $283 million at June 30, 2002) principal amount of Notes due 2009.
The Notes are collateralized by first priority liens on 65% of the common stock
or other equity interests of certain of our first-tier subsidiaries. The Notes
are issued pursuant to an indenture which contains a number of covenants and
restrictions which, among other things, restricts KII's ability and its
subsidiaries to incur debt, incur liens, pay dividends or merge or consolidate
with, or sell or transfer all or substantially all of their assets to, another
entity. See Note 8 to the Consolidated Financial Statements.
In June 2002 our operating subsidiaries in Germany, Belgium and Norway,
entered into a three-year (euro)80 million secured revolving credit facility
("Credit Facility"). The Credit Facility is available in multiple currencies,
including U.S. dollars, euros and Norwegian kroner. As of June 30, 2002,
(euro)13 million ($13 million) and NOK 200 million ($26 million) was borrowed at
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closing, and along with available cash, was used to repay and terminate KII's
short-term notes payable ($53.2 million when repaid). See Note 8 to the
Consolidated Financial Statements.
Deferred financing costs of $9.3 million for the Notes and the Credit
Facility are being amortized over the life of the respective agreements and are
included in other noncurrent assets as of June 30, 2002.
Cash flows related to capital contributions and other transactions with
affiliates aggregated a net cash inflow of $2.9 million in the first six months
of 2002 and nil for the first six months of 2001. Such amounts relate
principally to cash flows related to dividends or loans KII received from, or
capital contributions or loans KII made to affiliates (such loans being reported
as a reduction of our stockholder's equity, and therefore considered financing
cash flows). As discussed in Note 1 of the Consolidated Financial Statements,
KII transferred its Canadian operations to Kronos in April 2002, and accordingly
KII will no longer report any such capital transaction cash flows related to
such Canadian operations subsequent to April 2002. Additionally, settlement of
such notes receivable from affiliates was not currently contemplated in the
foreseeable future. In July 2002 KII transferred such notes receivable from
affiliates to Kronos in one or more non-cash transactions, and as a result KII
will no longer report cash flows related to such notes receivable from
affiliates after July 30, 2002. See Note 17 to the Consolidated Financial
Statements.
During the second quarter of 2001, the Company repaid $6.5 million of its
short-term notes payable with cash flow from operations.
Cash, cash equivalents, restricted cash equivalents and borrowing
availability
At June 30, 2002, the Company had cash and cash equivalents aggregating
$16.0 million and an additional $1.6 million of restricted cash equivalents.
Based upon expectations for the TiO2 industry and anticipated demands on cash
resources as discussed herein, the Company expects to have sufficient liquidity
to meet near-term obligations including operations, capital expenditures and
debt service. To the extent that actual developments differ from expectations,
liquidity could be adversely affected.
Certain of the Company's subsidiaries had $42 million available for
borrowing at June 30, 2002 under non-U.S. credit facilities (including $40
million under the Credit Facility).
Income tax contingencies
Certain of the Company's tax returns in the U.S. and non-U.S.
jurisdictions are being examined and tax authorities have proposed or may
propose tax deficiencies, including penalties and interest.
The Company has received preliminary tax assessments for the years 1991 to
1997 from the Belgian tax authorities proposing tax deficiencies, including
related interest, of approximately (euro)10.4 million ($10.3 million at June 30,
2002). The Company has filed protests to the assessments for the years 1991 to
1997. The Company is in discussions with the Belgian tax authorities and
believes that a significant portion of the assessments is without merit.
The Company received tax assessments from the Norwegian tax authorities
proposing tax deficiencies, including related interest, of NOK39.3 million
pertaining to 1994 and 1996. The Company was unsuccessful in appealing the tax
assessments and in June 2001 paid NOK39.3 million ($4.3 million when paid) to
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the Norwegian tax authorities. The Company was adequately reserved for this
contingency. The lien on the Company's Fredrikstad, Norway TiO2 plant in favor
of the Norwegian tax authorities has been released.
No assurance can be given that the Company's tax matters will be favorably
resolved due to the inherent uncertainties involved in court and tax
proceedings. The Company believes that it has provided adequate accruals for
additional taxes and related interest expense which may ultimately result from
all such examinations and believes that the ultimate disposition of such
examinations should not have a material adverse effect on the Company's
consolidated financial position, results of operations or liquidity.
At June 30, 2002, the Company had net deferred tax liabilities of $48.5
million. The Company operates in numerous tax jurisdictions, in certain of which
it has temporary differences that net to deferred tax assets (before valuation
allowance). The Company has provided a deferred tax valuation allowance of
$143.3 million at June 30, 2002, related to Germany, partially offsetting
deferred tax assets which the Company believes do not currently meet the
"more-likely-than-not" recognition criteria.
Redeemable preferred stock, profit participation certificates and notes
receivable from affiliates
KII had issued and outstanding Series A and Series B redeemable preferred
stock and profit participation certificates totaling $617.4 million and $694.8
million at June 30, 2002, including cumulative and unpaid dividends. The Series
A redeemable preferred stock was issued to Kronos in February 1999 as a result
of a capital contribution to KII through the reduction of KII's affiliate notes
payable to NL Industries and Kronos. The Series B redeemable preferred stock was
issued to Kronos in February 1999 as a result of a contribution of intellectual
property by Kronos to KII. The intellectual property was contributed to KII at
Kronos' carryover basis of zero due to common control of KII and Kronos. The
profit participation certificates were issued to Kronos in December 1999 as part
of a recapitalization. KII had $753.0 million of outstanding notes receivable
from affiliates at June 30, 2002. Settlement of such notes receivable was not
currently contemplated in the foreseeable future, and consequently such notes
receivable from affiliates were reported in the consolidated balance sheet as a
reduction of stockholder's equity in accordance with GAAP. These notes arose
between KII, NL Industries and Kronos through a series of transactions with
affiliates, a substantial portion of which were noncash in nature. KII
periodically converts accrued interest receivable from affiliates to notes
receivable from affiliates. See Note 17 to the Consolidated Financial Statements
for the effect of the recapitalization of the Company in July 2002.
Foreign operations
The Company's operations are located outside the United States for which
the functional currency is not the U.S. dollar. As a result, the reported amount
of the Company's assets and liabilities (and income and expenses) related to its
non-U.S. operations, and therefore the Company's consolidated net assets will
fluctuate based upon changes in currency exchange rates. At June 30, 2002, the
Company had substantial net assets denominated in the euro, Norwegian kroner and
United Kingdom pound sterling.
Euro currency
Beginning January 1, 1999, certain members of the European Union ("EU"),
including Germany, Belgium, the Netherlands and France, adopted a new European
currency unit (the "euro") as their common legal currency. Following the
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introduction of the euro, the participating countries' national currencies
remained legal tender as denominations of the euro from January 1, 1999 through
January 1, 2002, and the exchange rates between the euro and such national
currency units were fixed. Beginning January 1, 2002, national currency units
were exchanged for euros and the euro became the primary legal tender currency.
The Company conducts all of its operations in Europe. As of January 1,
2001, the functional currency of the Company's German, Belgian, Dutch and French
operations have been converted to the euro from their respective national
currencies.
Environmental, product liability and litigation matters
The Company's operations are governed by various foreign environmental
laws and regulations. Certain of the Company's businesses are and have been
engaged in the handling, manufacture or use of substances or compounds that may
be considered toxic or hazardous within the meaning of applicable environmental
laws. As with other companies engaged in similar businesses, certain past and
current operations and products of the Company have the potential to cause
environmental or other damage. The Company has implemented and continues to
implement various policies and programs in an effort to minimize these risks.
The policy of the Company is to maintain compliance with applicable foreign
environmental laws and regulations at all of its facilities and to strive to
improve its environmental performance. It is possible that future developments,
such as stricter requirements of environmental laws and enforcement policies
thereunder, could adversely affect the Company's production, handling, use,
storage, transportation, sale or disposal of such substances as well as the
Company's consolidated financial position, results of operations or liquidity.
The Company's production facilities operate in an environmental regulatory
framework in which governmental authorities typically are granted broad
discretionary powers which allow them to issue operating permits required for
the plants to operate. The Company believes all of its plants are in substantial
compliance with applicable environmental laws.
Although the laws regulating operations of industrial facilities in Europe
vary from country to country, a common regulatory base is provided by the
European Union (the "EU"). The Company's German and Belgian subsidiaries are
members of the EU and follow its initiatives. The Company's Norwegian
subsidiary, although not a member, generally patterns its environmental
regulatory actions after the EU. The Company believes that it has all required
permits and is in substantial compliance with applicable EU requirements,
including EU Directive 92/112/EEC regarding establishment of procedures for
reduction and eventual elimination of pollution caused by waste from the TiO2
industry.
At all of its plant facilities other than Fredrikstad, Norway, the Company
recycles spent acid wastes either through contracts with third parties or using
its own facilities. The Company has a contract with a third party to treat spent
acid wastes of its German sulfate-process plants. With regard to its Nordenham,
Germany plant, either party may terminate the contract after giving four years
advance notice. Under certain circumstances, the Company may terminate the
contract after giving six months notice, with respect to treatment of effluents
from the Leverkusen, Germany plant.
The Company landfills waste generated at its Nordenham, Germany and
Langerbrugge, Belgium plants, and mine tailings waste generated at its facility
in Norway. The Company maintains reserves, as required under GAAP, to cover the
anticipated cost of closure of these landfills, which were approximately $.4
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million as of June 30, 2002. These requirements for landfills are expected to
increase in the future in view of recently adopted EU requirements.
The Company is also responsible for certain closure costs at landfills
used and formerly used by its Leverkusen, Germany TiO2 plants. The Company has a
reserve of approximately $6 million related to such landfills as of June 30,
2002.
The Company's capital expenditures related to its ongoing environmental
protection and improvement programs were approximately $4.7 million in 2001, and
are currently expected to be approximately $3.8 million in 2002 and $3.6 million
in 2003.
The Company is also involved in various other environmental, contractual,
product liability and other claims and disputes incidental to its business.
The Company currently believes the disposition of all claims and disputes,
individually or in the aggregate, should not have a material adverse effect on
the Company's consolidated financial condition, results of operations or
liquidity.
Other
The Company periodically evaluates its liquidity requirements, alternative
uses of capital, capital needs and availability of resources in view of, among
other things, its debt service and capital expenditure requirements and
estimated future operating cash flows. As a result of this process, the Company
in the past has sought, and in the future may seek, to reduce, refinance,
repurchase or restructure indebtedness; raise additional capital; repurchase
shares of its common stock; modify its dividend policy; restructure ownership
interests; sell interests in subsidiaries or other assets; or take a combination
of such steps or other steps to manage its liquidity and capital resources. In
the normal course of its business, the Company may review opportunities for the
acquisition, divestiture, joint venture or other business combinations in the
chemicals or other industries, as well as the acquisition of interests in, and
loans to, related companies. In the event of any acquisition or joint venture
transaction, the Company may consider using available cash, issuing equity
securities or increasing its indebtedness to the extent permitted by the
agreements governing the Company's existing debt.
Disclosure regarding forward-looking statements
The statements contained in these Consolidated Financial Statements
relating to matters that are not historical facts, including, but not limited
to, statements found under the captions "Results of Operations" and "Liquidity
and Capital Resources" above, are forward-looking statements that represent
management's beliefs and assumptions based on currently available information.
Forward-looking statements can be identified by the use of words such as
"believes," "intends," "may," "will," "should," "could," "anticipates,"
"expects," or comparable terminology or by discussions of strategy or trends.
Although the Company believes that the expectations reflected in such
forward-looking statements are reasonable, it cannot give any assurances that
these expectations will prove to be correct. Such statements by their nature
involve risks and uncertainties, including, but not limited to, the cyclicality
of the titanium dioxide industry, global economic and political conditions,
changes in global productive capacity, changes in customer inventory levels,
changes in product pricing, changes in product costing, changes in foreign
currency exchange rates, competitive technology positions, operating
interruptions (including, but not limited to, labor disputes, leaks, fires,
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explosions, unscheduled downtime, transportation interruptions, war and
terrorist activities), the outcome of litigation, and other risks and
uncertainties. Should one or more of these risks materialize (or the
consequences of such a development worsen), or should the underlying assumptions
prove incorrect, actual results could differ materially from those forecasted or
expected. The Company disclaims any intention or obligation to update publicly
or revise such statements whether as a result of new information, future events
or otherwise.
LEGAL PROCEEDINGS
The Company's Belgian subsidiary and various of its Belgian employees
are the subject of an investigation by Belgian authorities relating to an
accident resulting in two fatalities that occurred in its Langerbrugge, Belgium
facility in October 2000. The initial stage of this investigation, which could
ultimately result in civil and criminal sanctions against the Company, has been
completed. It is anticipated that this matter will continue in the investigative
phase until the end of 2002 or early 2003. The Company is also involved in
various other claims and disputes incidental to its business. While the
resolution of the matters described in this paragraph cannot be predicted with
certainty, the Company believes that the final outcome of such matters will not
have a material adverse effect on its financial position, results of operations
or liquidity.
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