Item 1. Business.
General Description
Quaker develops, produces, and markets a broad range of formulated chemical specialty products for various heavy industrial and manufacturing applications and, in addition, offers and markets chemical management services. Quaker's principal products and services include: (i) rolling lubricants (used by manufacturers of steel in the hot and cold rolling of steel and by manufacturers of aluminum in the cold rolling of aluminum); (ii) corrosion preventives (used by steel and metalworking customers to protect metal during manufacture, storage, and shipment); (iii) metal finishing compounds (used to prepare metal surfaces for special treatments such as galvanizing and tin plating and to prepare metal for further processing); (iv) machining and grinding compounds (used by metalworking customers in cutting, shaping, and grinding metal parts which require special treatment to enable them to tolerate the manufacturing process); (v) forming compounds (used to facilitate the drawing and extrusion of metal products); (vi) hydraulic fluids (used by steel, metalworking, and other customers to operate hydraulically activated equipment); (vii) technology for the removal of hydrogen sulfide in various industrial applications; (viii) chemical milling maskants for the aerospace industry and temporary and permanent coatings for metal products; (ix) construction products such as flexible sealants and protective coatings for various applications; and (x) programs to provide chemical management services.
A substantial portion of Quaker's sales worldwide are made directly through its own sales force with the balance being handled through distributors and agents. Quaker sales persons visit the plants of customers regularly and, through training and experience, identify production needs which can be resolved or alleviated either by adapting Quaker's existing products or by applying new formulations developed in Quaker's laboratories. Generally, separate manufacturing facilities of a single customer are served by different sales personnel. Sales are recorded when products are shipped to customers and services earned. As part of the Company's chemical management services, certain third party products are transferred to customers at no gross profit and accordingly, these transactions have no effect on net sales. Third party products transferred under these arrangements totaled $20.7 million, $19.7 million, and $16.3 million for 2001, 2000, and 1999, respectively. License fees and royalties are recorded when earned and are included in other income.
The business of the Company and its operating results are subject to certain risks, of which the principal ones are referred to in the following subsections.
Competition
The chemical specialty industry is composed of a number of companies of similar size as well as companies larger and smaller than Quaker. Quaker cannot readily determine its precise position in every industry it serves.
Based on information available to Quaker, however, it is estimated that Quaker holds a significant position (among a group in excess of 25 other suppliers) in the market for process fluids used in the production of hot and cold rolling of steel. Many competitors are in fewer and more specialized product classifications or provide different levels of technical services in terms of specific formulations for individual customers. Competition in the industry is based primarily on the ability to provide products that meet the needs of the customer and render technical services and laboratory assistance to customers and, to a lesser extent, on price.
Major Customers and Markets
During 2001, Quaker's five largest customers (each composed of multiple subsidiaries or divisions with semi-autonomous purchasing authority) accounted for approximately 15% of its consolidated net sales with the largest of these customers accounting for approximately 5% of consolidated net sales. A significant portion of Quaker's revenues are realized from the sale of process fluids to manufacturers of steel, automobiles, appliances, and durable goods, and, therefore, Quaker is subject to the same business cycles as those experienced by these manufacturers and their customers. Furthermore, steel customers typically have limited manufacturing locations as compared to metalworking customers and generally use higher volumes of products at a single location. Accordingly, the loss or closure of a steel mill of a significant customer can have a material adverse effect on Quaker's business.
Raw Materials
Quaker uses over 500 raw materials, including mineral oils, fats and fat derivatives, ethylene derivatives, solvents, surface active agents, chlorinated paraffinic compounds, and a wide variety of organic and inorganic compounds. In 2001, only one raw material (mineral oil) accounted for as much as 10% of the total cost of Quaker's raw material purchases. Many of the raw materials used by Quaker are "commodity" chemicals, and, therefore, Quaker's earnings can be affected by market changes in raw material prices. Quaker has multiple sources of supply for most materials, and management believes that the failure of any single supplier would not have a material adverse effect upon its business. Reference is made to disclosure contained in Item 7A of this Report.
Patents and Trademarks
Quaker has a limited number of patents and patent applications, including patents issued, applied for, or acquired in the United States and in various foreign countries, some of which may prove to be material to its business. Principal reliance is placed upon Quaker's proprietary formulae and the application of its skills and experience to meet customer needs. Quaker's products are identified by trademarks that are registered throughout its marketing area. Quaker makes little use of advertising but relies heavily upon its reputation in the markets which it serves.
Research and Development--Laboratories
Quaker's research and development laboratories are directed primarily toward applied research and development since the nature of Quaker's business requires continuing modification and improvement of formulations to provide chemical specialties to satisfy customer requirements. Research and development costs are expensed as incurred. Research and development expenses during 2001, 2000, and 1999 were $8.9 million, $8.5 million, and $8.5 million, respectively.
Quaker maintains quality control laboratory facilities in each of its manufacturing locations. In addition, Quaker maintains in Conshohocken, Pennsylvania, and Uithoorn, The Netherlands, laboratory facilities that are devoted primarily to applied research and development.
Most of Quaker's subsidiaries and associated companies also have laboratory facilities. Although not as complete as the Conshohocken or Uithoorn laboratories, these facilities are generally sufficient for the
requirements of the customers being served. If problems are encountered which cannot be resolved by local laboratories, such problems may be referred to the laboratory staff in Conshohocken or Uithoorn.
Regulatory Matters
In order to facilitate compliance with applicable Federal, state, and local statutes and regulations relating to occupational health and safety and protection of the environment, the Company has an ongoing program of site assessment for the purpose of identifying capital expenditures or other actions that may be necessary to comply with such requirements. The program includes periodic inspections of each facility by Quaker and/or independent environmental experts, as well as ongoing inspections by on-site personnel. Such inspections are addressed to operational matters, record keeping, reporting requirements, and capital improvements. In 2001, capital expenditures directed solely or primarily to regulatory compliance amounted to approximately $1.3 million compared to $2.8 million and $1.7 million in 2000 and 1999, respectively. In 2002, the Company expects to incur approximately $1.0 million for capital expenditures directed primarily to regulatory compliance.
Number of Employees
On December 31, 2001, Quaker's consolidated companies had 955 full-time employees of whom 376 were employed by the parent company and its U.S. subsidiaries and 579 were employed by its non-U.S. subsidiaries. Associated companies of Quaker (in which it owns 50% or less) employed 156 people on December 31, 2001.
Product Classification
The Company's reportable segments are as follows:
(1) Metalworking process chemicals--products used as lubricants for various heavy industrial and manufacturing applications.
(2) Coatings--temporary and permanent coatings for metal products and chemical milling maskants.
(3) Other chemical products--primarily chemicals used in the manufacturing of paper in 2000 and 1999 as well as other various chemical products.
Non-U.S. Activities
Since significant revenues and earnings are generated by non-U.S. operations, Quaker's financial results are affected by currency fluctuations, particularly between the U.S. dollar, the E.U. euro, the Brazilian real, and other foreign currencies, and the impact of those currency fluctuations on the underlying economies. Reference is made to disclosure contained in Item 7A of this Report. Reference is made to disclosure contained in Note 11 of Notes to Consolidated Financial Statements included in Item 8 of this Report.
Item 2.
Item 2. Properties.
Quaker's corporate headquarters and a laboratory facility are located in Conshohocken, Pennsylvania. Quaker's other principal facilities are located in Detroit, Michigan; Uithoorn, The Netherlands; Santa Perpetua de Mogoda, Spain; Rio de Janeiro, Brazil; and Wuxi, China. With the exception of the Conshohocken site, which is owned by a real estate joint venture of which Quaker is a 50% partner (the "Venture"), all of these principal facilities are owned by Quaker and as of December 31, 2001 were mortgage free. Quaker also leases small sales, laboratory, and warehouse facilities in other locations.
In January 2001, the Company contributed its Conshohocken, Pennsylvania property and buildings (the "Site") to the Venture in exchange for a 50% ownership in the Venture. The Venture did not assume any debt or other obligations of the Company. The Venture is renovating certain of the existing buildings at the Site, as well
as building new office space (the "Project"). In December 2000, the Company entered into an agreement with the Venture to lease approximately 40% of the Site's available office space for a 15-year period commencing February 2002, with multiple renewal options. The Company believes the terms of this lease are no worse than the terms it would have obtained from an unaffiliated third party. As of February 28, 2002, approximately half of the Site's remaining office space was under lease to unaffiliated third parties.
The Venture is funding the Project with a $21.0 million construction loan from The Bank of New York, of which approximately $11.8 million was outstanding as of December 31, 2001. The loan is secured in part by a mortgage on the Site and guarantees of completion and payment of interest and operating expenses executed by certain Venture partners other than the Company.
Quaker's Woodchester, England and Villeneuve, France sites are currently for sale. As of December 31, 2001, Quaker closed its Woodchester, England facility and transferred production to its facilities in Uithoorn, The Netherlands and Santa Perpetua de Mogoda, Spain. The administrative, warehousing, and laboratory activities previously conducted at the Woodchester site were transferred to a sales distribution office located in Stonehouse, England. In addition, Quaker is ceasing manufacturing operations at its facility in Villeneuve, France, effective March 31, 2002. Production will be consolidated into its facilities in Uithoorn, The Netherlands and Santa Perpetua de Mogoda, Spain. Sales, warehousing, and laboratory activities will continue pending the sale of the Villeneuve site.
Quaker's aforementioned principal facilities (excluding Conshohocken) consist of various manufacturing, administrative, warehouse, and laboratory buildings. Substantially all of the buildings are of fire-resistant construction and are equipped with sprinkler systems. All facilities are primarily of masonry and/or steel construction and are adequate and suitable for Quaker's present operations. The Company has a program to identify needed capital improvements which is implemented as management considers necessary or desirable. Most locations have various numbers of raw material storage tanks ranging from 7 to 66 each with a capacity ranging from 1,000 to 82,000 gallons and processing or manufacturing vessels ranging in capacity from 15 to 16,000 gallons.
Each of Quaker's 50% or less owned non-U.S. associated companies owns or leases a plant and/or sales facilities in various locations.
Item 3.
Item 3. Legal Proceedings.
The Company is a party to proceedings, cases, and requests for information from, and negotiations with, various claimants and Federal and state agencies relating to various matters including environmental matters. Incorporated herein by this reference is the information concerning pending asbestos-related cases against a non-consolidated, non-operating subsidiary and amounts accrued associated with certain environmental investigatory and noncapital remediation costs in Note 13 of Notes to Consolidated Financial Statements which appears in Item 8 of this Report.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted to a vote of security holders during the last quarter of the period covered by this Report.
Item 4(a). Executive Officers of the Registrant.
Set forth below are the executive officers of the Company. Each of the executive officers, other than Mark Featherstone, was elected to a one year term. Mr. Featherstone assumed his officer position when he joined the Company.
PART II
Item 5.
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.
The Company's common stock is listed on the New York Stock Exchange ("NYSE") under the trading symbol KWR. The following table sets forth, for the calendar quarters during the past two years, the range of high and low sales prices for the common stock as reported by the NYSE (amounts rounded to the nearest penny), and the quarterly dividends declared as indicated:
As of January 18, 2002 there were 810 shareholders of record of the Company's common stock, its only outstanding class of equity securities.
Item 6.
Item 6. Selected Financial Data.
The following table sets forth selected financial information for the Company:
- -------- (1) The results of operations for 2001 include restructuring charges of $4,039 after-tax; an additional provision for doubtful accounts related to the poor financial condition of certain customers of $1,380 after-tax; an environmental charge of $345 after-tax; and nonrecurring organizational structure charges of $184 after-tax. Excluding these items, net income for 2001 was $13,613. (2) The results of operations for 2000 include an additional provision for doubtful accounts related to the poor financial condition of certain customers of $1,154 after-tax; a net gain on exit of businesses of $1,016 after-tax; and an environmental charge of $1,035 after-tax. Excluding these items, net income for 2000 was $18,336. (3) The results of operations for 1999 include a net restructuring credit of $188 after-tax. Excluding this credit, net income for 1999 was $15,462. (4) The results of operations for 1998 include net restructuring and integration charges of $2,882 after-tax and minority interest. Excluding these charges, net income for 1998 was $13,532. (5) The results of operations for 1997 include a gain on the sale of the European pulp and paper business, $1,703 after-tax and a litigation charge of $2,000, $1,320 after-tax. Excluding these items, net income was $12,228.
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
Critical Accounting Policies and Estimates
Quaker's discussion and analysis of its financial condition and results of operations are based upon Quaker's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires Quaker to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, Quaker evaluates its estimates, including those related to customer sales incentives, product returns, bad debts, inventories, property, plant, and equipment, investments, intangible assets, income taxes, financing operations, restructuring, accrued incentive compensation plans, pensions and other postretirement benefits, and contingencies and litigation. Quaker bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
Quaker believes the following critical accounting policies affect its more significant judgments and estimates used in the preparation of its consolidated financial statements:
1. Accounts receivable and inventory reserves and exposures--Quaker establishes allowances for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments. If the financial condition of Quaker's customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. Downturns in the overall economic climate may also tend to exacerbate specific customer financial issues. A significant portion of Quaker's revenues is derived from sales to customers in the U.S. steel industry, where a number of bankruptcies occurred during recent years. In 2000 and 2001, Quaker recorded additional provisions for doubtful accounts primarily related to bankruptcies in the U.S. steel industry, including the December 2001 decision by LTV Corporation, a major customer, to cease operations. When a bankruptcy occurs, Quaker must judge the amount of proceeds, if any, that may ultimately be received through the bankruptcy or liquidation process. As part of its terms of trade, Quaker may custom manufacture products for certain large customers and/or may ship product on a consignment basis. These practices may increase the Company's exposure should a bankruptcy occur, and may require writedown or disposal of certain inventory due to its estimated obsolescence or limited marketability. Customer returns of products or disputes may also result in similar issues related to the realizability of recorded accounts receivable or returned inventory.
2. Environmental and litigation reserves--Accruals for environmental matters are recorded when it is probable that a liability has been incurred and the amount of the liability can be reasonably estimated. Accrued liabilities are exclusive of claims against third parties and are not discounted. Environmental costs and remediation costs are capitalized if the costs extend the life, increase the capacity or improve the safety or efficiency of the property from the date acquired or constructed, and/or mitigate or prevent contamination in the future. Estimates for accruals for environmental matters are based on a variety of potential technical solutions, governmental regulations and other factors, and are subject to a large range of potential costs for remediation and other actions. A considerable amount of judgment is required in determining the most likely estimate within the range, and the factors determining this judgment may vary over time. Similarly, reserves for litigation and similar matters are based on a range of potential outcomes and require considerable judgment in determining the most probable outcome. If no amount within the range is considered more probable than any other amount, the Company accrues the lowest amount in the range in accordance with generally accepted accounting principles.
3. Realizability of equity investments--Quaker holds equity investments in various domestic and foreign companies, whereby it has the ability to influence, but not control, the operations of the entity and its future results. Quaker records an investment impairment charge when it believes an investment has
experienced a decline in value that is other than temporary. Future adverse changes in market conditions, poor operating results of underlying investments, or devaluation of foreign currencies could result in losses or an inability to recover the carrying value of the investments that may not be reflected in an investment's current carrying value. These factors may result in an impairment charge in the future.
4. Tax exposures and valuation allowances--Quaker records expenses and liabilities for taxes based on estimates of amounts that will be ultimately determined to be deductible in tax returns filed in various jurisdictions. The filed tax returns are subject to audit, often several years subsequent to the date of the financial statements. Disputes or disagreements may arise during audits over the timing or validity of certain items or deductions, which may not be resolved for extended periods of time. Quaker establishes reserves for potential tax audit and other exposures as transactions occur and reviews these reserves on a regular basis; however, actual exposures and audit adjustments may vary from these estimates. Quaker also records a valuation allowance to reduce its deferred tax assets to the amount that is more likely than not to be realized. While Quaker has considered future taxable income and ongoing prudent and feasible tax planning strategies in assessing the need for the valuation allowance, in the event Quaker were to determine that it would be able to realize its deferred tax assets in the future in excess of its net recorded amount, an adjustment to the deferred tax asset would increase income in the period such determination was made. Likewise, should Quaker determine that it would not be able to realize all or part of its net deferred tax asset in the future, an adjustment to the deferred tax asset would be charged to income in the period such determination was made.
5. Restructuring reserves--Restructuring charges may consist of charges for employee severance, rationalization of manufacturing facilities and other items. Quaker records restructuring and other exit costs, including involuntary termination of certain employees, in accordance with the Financial Accounting Standards Board's ("FASB") Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)." Certain of these items, particularly those involving impairment charges for assets to be sold or closed, require significant estimates and assumptions in terms of estimated sale proceeds, date of sale, transaction costs and other matters, and these estimates can change based on market conditions and other factors.
6. Goodwill and other intangible assets--Intangible assets consist of goodwill and other intangible assets arising from acquisitions which are being amortized on a straight-line basis. The realizability and period of benefit of goodwill is evaluated periodically to assess recoverability and, if necessary, impairment or adjustment of the period benefited would be recognized. Quaker is required to adopt Statement of Accounting Standards ("SFAS") No. 142, Goodwill and Other Intangible Assets, effective January 1, 2002. Under SFAS No. 142, goodwill and intangible assets with indefinite lives are no longer amortized but are reviewed at least annually for impairment.
Recently Issued Accounting Standards
In June 2001, the FASB issued SFAS No. 141, "Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 141 requires all business combinations initiated after June 30, 2001 to be accounted for using the purchase method. In addition, companies are required to review goodwill and intangible assets reported in connection with prior acquisitions, possibly disaggregate and report separately previously identified intangible assets, and possibly reclassify certain intangible assets into goodwill. SFAS No. 142 establishes new guidelines for accounting for goodwill and other intangible assets. Goodwill associated with acquisitions consummated after June 30, 2001 is not amortized. The Company recognized no such goodwill. Additionally, upon adoption, existing goodwill is no longer amortized, but instead will be assessed for impairment on at least an annual basis. The Company implemented the remaining provisions of SFAS No. 142 on January 1, 2002. The Company does not expect to recognize an impairment charge in 2002 in accordance with SFAS No. 142. The non-amortization provisions of SFAS No. 142 for goodwill and intangibles is currently expected to result in an increase in operating income ranging from approximately $0.5 million to $1.0 million in 2002.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143 addresses accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated retirement costs. This statement is effective for fiscal years beginning after June 15, 2002. The Company is currently assessing the impact of this new standard.
In July 2001, the FASB issued SFAS No. 144, "Impairment or Disposal of Long-Lived Assets." The provisions of this statement provide a single accounting model for impairment of long-lived assets. This statement is effective for fiscal years beginning after December 15, 2001. The Company adopted this standard on January 1, 2002. Management has assessed the impact of the new standard and determined there to be no material impact to the financial statements.
Liquidity and Capital Resources
Quaker's cash and cash equivalents increased to $20.5 million at December 31, 2001 from $16.6 million at December 31, 2000. The increase resulted primarily from $22.6 million provided by operating activities, offset by $8.0 million and $9.6 million used in investing and financing activities, respectively.
Net cash flow provided by operating activities amounted to $22.6 million in 2001 compared to $21.4 million in 2000. The increase primarily resulted from an increase in the change in working capital accounts including accounts receivable, inventory, and accounts payable and accrued liabilities in 2001 versus 2000, offset by a decrease in operating income, excluding special items, as well as restructuring benefit payments of $1.1 million made in 2001. See "Operations--Comparison of 2001 with 2000" for discussion of operations and special items.
Net cash used in investing activities increased to $8.0 million in 2001 from $2.8 million in 2000. The increase is primarily related to the year 2000, which includes $5.2 million of proceeds received from the sale of the U.S. pulp and paper business, in addition to $1.0 million of proceeds related to the disposition of assets, partially offset by a $3.5 million contingent purchase payment related to the 1998 Brazilian acquisition. In addition, 2001 included $1.4 million related to the Company's acquisition from its Canadian licensee, H.L. Blachford, Ltd., of rights to market to, sell to, and service all Canadian integrated steel makers and certain accounts in the Canadian metalworking market. Cash used for capital expenditures was $1.9 million higher in 2001 compared to 2000.
Expenditures for property, plant, and equipment were $8.0 million in 2001 compared to $6.1 million in 2000. Capital expenditures included upgrades of manufacturing capabilities at various locations, with $1.3 million for environmental and regulatory compliance in 2001 versus $2.8 million in 2000, in addition to $3.6 million in 2001 for a global transaction system. Capital expenditures for 2002 are expected to be approximately $17.0 million and include various upgrades to manufacturing capabilities in the U.S. and Europe, and an estimated $1.0 million for environmental and regulatory compliance. Approximately $10.0 million of the 2002 capital expenditures are related to the global transaction system implementation and leasehold improvements in the Company's new office space (see below). The Company believes that available cash, internally generated cash, and financing arrangements should be sufficient to fund future capital expenditures.
In January 2001, the Company contributed its Conshohocken, Pennsylvania property and buildings (the "Site"), to a real estate joint venture (the "Venture") in exchange for a 50% ownership in the Venture. The Venture did not assume any debt or other obligations of the Company. The Venture credited the Company's capital account with the estimated fair value of the Site, which amount was in excess of the book value of the contribution. The Company recorded its investment in the Venture at book value, which totaled $4.7 million.
The Venture is renovating certain of the existing buildings at the Site, as well as building new office space (the "Project"). In December 2000, the Company entered into an agreement with the Venture to lease approximately 40% of the Site's available office space for a 15-year period commencing February 2002 with multiple renewal options. The Company believes the terms of this lease are no worse than the terms it would
have obtained from an unaffiliated third party. As of February 28, 2002, approximately half of the Site's remaining office space was under lease to unaffiliated third parties.
The Venture is funding the Project with a $21.0 million construction loan from The Bank of New York (the "Venture Loan"), of which approximately $11.8 million was outstanding as of December 31, 2001. The Venture Loan is secured in part by a mortgage on the Site and guarantees of completion and payment of interest and operating expenses executed by certain Venture partners other than the Company.
The Company has not guaranteed, nor is it obligated to pay any principal, interest or penalties on the Venture Loan, even in the event of default by the Venture. At December 31, 2001, the Venture had property with a book value of $19.0 million, total assets of $19.8 million, and total liabilities of $14.5 million. The Venture expects to complete the Project in mid-2002, and expects to refinance the Venture Loan, which matures in July 2002 subject to extension under certain conditions, on acceptable terms. The Company can offer no assurances that the refinancing will be successful. If cash flows permit, the Company will be eligible to receive priority distributions from the Venture.
Net cash flows used in financing activities were $9.6 million in 2001 compared with $10.0 million in 2000. The net change was primarily due to approximately $2.0 million paid to purchase shares of stock under the Company's stock repurchase program during 2000, partially offset by increased dividends in 2001. In addition, 2001 includes repayments of long-term debt of $2.9 million which was offset by $2.9 million of proceeds primarily related to shares issued upon exercise of stock options.
As of December 31, 2001, the Company had available an $18.0 million unsecured demand line of credit. The Company believes that additional bank borrowings could be negotiated at competitive rates, based on its debt-to-equity ratio and current levels of operating performance. The Company is in compliance with all covenants or other requirements set forth in its credit agreements. The Company believes that, in 2002, it is capable of supporting its operating requirements, payment of dividends to shareholders, possible acquisition opportunities, and possible resolution of contingencies (see Note 13 of Notes to Consolidated Financial Statements) through internally generated funds supplemented with debt as needed.
The following table summarizes the Company's contractual obligations at December 31, 2001, and the effect such obligations are expected to have on its liquidity and cash flow in future periods:
Operations
Comparison of 2001 with 2000
Consolidated net sales decreased from $267.6 million in 2000 to $251.1 million in 2001. The 6% decline was the net result of a 4% decrease in volume and a 3% improvement in price/mix, offset by a 4% negative impact from foreign currency translation. Also, the sale of the U.S. pulp and paper business in May 2000 unfavorably impacted the sales comparison by 1%. The shortfall for the year was mainly attributable to
metalworking process chemicals sales declines in the U.S., Europe, and Asia/Pacific regions, primarily due to weak demand from the steel industry, as indicated by bankruptcy filings of two of the Company's major U.S. customers. Brazil sales increased in this segment on a local currency basis, but declined as well due to the weakening of the Brazilian real against the U.S. dollar. These declines were partially offset by higher coatings segment revenues despite weakening aircraft production in the fourth quarter of 2001. Sales from the Company's new joint venture ("Q2 Technologies") also helped offset the sales decline with its strong performance in sales of its sulfur removal technology to industrial customers.
Operating income as reported was $14.2 million in 2001 compared to $25.1 million reported in 2000. Excluding special items, operating income decreased to $22.8 million in 2001 from $26.8 million in 2000. The decline was primarily due to a lower gross profit margin related to the overall sales decline in 2001. Gross profit as a percentage of sales also declined (40.2% for 2001 compared to 41.9% for 2000) primarily as a result of lower sales volumes and higher raw material costs in addition to product mix changes. Excluding special items, operating income as a percentage of sales was 9.1% in 2001 compared to 10.0% in the prior year.
Overall selling, general, and administrative costs as reported for 2001 were $80.5 million compared to $86.9 million in 2000. Both 2001 and 2000 include costs related to special items. Special items include an additional reserve for doubtful accounts primarily related to U.S. steel customers that filed for bankruptcy protection under Chapter 11 and totaled $2.0 million and $1.7 million in 2001 and 2000, respectively, and $0.3 million related to organizational structure costs in 2001. The restructuring and environmental charges discussed below (see "Restructuring and Related Activities" and "Environmental Clean-up Activities") are also considered special items. Excluding special items and adjusting for the U.S. pulp and paper sale in 2000, overall SG&A costs declined 6% compared to 2000. The decline in SG&A is primarily due to continued cost containment efforts as well as foreign exchange impacts.
Other income variance primarily reflects lower license fee revenue in 2001 in addition to gains on fixed asset disposals in 2000 versus losses in 2001. Net interest expense was lower in 2001 reflecting increased interest income and lower overall short-term borrowings in addition to lower interest rates in 2001. Equity income was lower in 2001 compared to 2000, reflecting lower income from the Company's joint ventures in Mexico, Japan, and Venezuela, as well as losses incurred by the Venture. Minority interest was higher in 2001, primarily due to higher net income from joint ventures in Brazil and Q2 Technologies.
The Company's effective tax rate was 31% in both 2001 and 2000. The Company has been assessed approximately $2.0 million of additional taxes based on an audit of certain subsidiaries for prior years. The Company has initiated an appeal process related to this assessment and currently believes its reserves are adequate. The Company is currently reviewing the effective rate for 2002, which is dependent on many internal and external factors, including but not limited to the profitability of the Company's foreign operations and favorable determination relative to the above-referenced audits, but expects the effective tax rate to be 32%.
Comparison of 2000 with 1999
Consolidated net sales for 2000 increased $1.9 million over 1999. The sales growth was the net result of a 5% increase in volume and a 3% improvement in price/mix, offset by a 5% negative impact from foreign currency translation. Also, the sale of the U.S. pulp and paper business in May 2000 unfavorably impacted the sales comparison by 2%. The improvement for the year was mainly attributable to metalworking process chemicals sales growth in Brazil and the Asia/Pacific region, primarily due to strong demand from the steel industry, offset by reductions in the European region due to foreign currency translation and lower coatings segment revenues. Coatings segment revenues declined as a result of lower aircraft production.
Operating income as reported was $25.1 million in 2000 compared to $27.3 million reported in 1999. Operating income decreased to $25.1 million in 2000 from $27.0 million (excluding the impacts of the restructuring and integration credit adjustments) in 1999. The decline was primarily due to a lower gross profit
margin as a percentage of sales (41.9% for 2000 compared to 43.5% for 1999). This decrease is mainly a result of higher raw material costs.
Selling, general, and administrative costs in 2000 decreased approximately $1.8 million or 2% from 1999, reflecting the Company's continued cost containment programs and a positive foreign exchange impact. This decrease was offset by a $1.7 million additional reserve for doubtful accounts related to two U.S. steel customers that filed for bankruptcy protection under Chapter 11.
Minority interest was significantly higher in 2000, primarily due to higher net income from joint ventures in Brazil and China. Net interest expense was lower in 2000 reflecting increased interest income and lower overall short-term borrowings. Other income variance reflects lower license revenue and gains on fixed asset disposals.
The Company's effective tax rate in 2000 was 31% compared with 40% in 1999. The decrease in effective tax rate is primarily due to the implementation of several global tax planning initiatives, the most significant of which is related to the Company's net operating loss carryforward position in Brazil. The impact of the tax planning initiatives in Brazil is being magnified as these operations become more profitable.
During 2000, the Company performed a comprehensive review of the strategic position of certain individual business units and related assets and decided to exit certain businesses. Accordingly, the Company recorded valuation reserves for certain assets of $0.9 million and a pre-tax gain on the sale of its U.S. pulp and paper business of $2.4 million.
Restructuring and Related Activities
In the third and fourth quarters of 2001, Quaker's management approved restructuring plans to realign its organization and reduce operating costs. Quaker's restructuring plans include the closure and sale of its manufacturing facilities in the U.K. and France. In addition, Quaker consolidated certain functions within its global business units and reduced administrative functions, as well as expensed costs related to abandoned acquisitions. Included in the third and fourth quarter restructuring charges are provisions for severance for 16 and 37 employees, respectively.
Restructuring and related charges of $2.958 million and $2.896 million were expensed during the third and fourth quarters of 2001, respectively. The third quarter charge comprised $0.520 million related to employee separations, $2.038 million related to facility rationalization charges, and $0.400 million related to abandoned acquisitions. The fourth quarter charge comprised $2.124 million related to employee separations, $0.575 million related to facility rationalization charges, and $0.197 million related to abandoned acquisitions. Employee separation benefits under each plan varied depending on local regulations within certain foreign countries and included severance and other benefits. As of December 31, 2001, Quaker had completed 25 of the planned 53 employee separations under the 2001 plans. Quaker expects to substantially complete the initiatives contemplated under the restructuring plans by September 30, 2002. Upon conclusion of its restructuring and other cost savings initiatives, Quaker expects to achieve annualized savings of approximately $4.0 million in cost of sales and operating expenses. These estimated cost savings were calculated based upon expected cost reductions primarily related to employee separations as well as lower operating and depreciation expense resulting from factory rationalizations. However, Quaker cannot give any assurance whether the entire estimated cost savings will be realized.
Components of accrued restructuring costs and amounts charged against the 2001 plans as of December 31, 2001 were as follows:
In the fourth quarter of 1998, the Company announced and implemented a restructuring and integration plan to better align its organizational structure with market demands, improve operational performance, and reduce costs. The components of the 1998 pre-tax restructuring and integration charge included severance and other benefit costs of $4.0 million and early pension and postemployment benefits of $1.3 million. At the end of 1999, the Company had substantially implemented these initiatives and reversed approximately $314,000 of the original charge. The remaining restructuring and integration liability at December 31, 2000 of $244,000 was paid in January 2001 (see Note 2 of Notes to Consolidated Financial Statements). The liabilities for early pension and postemployment benefits are included in the Company's pension and postretirement benefits obligations (see Note 7 of Notes to Consolidated Financial Statements).
Environmental Clean-up Activities
The Company is involved in environmental clean-up activities and litigation in connection with an existing plant location and former waste disposal sites (see Note 13 of Notes to Consolidated Financial Statements). During the second quarter of 2000, it was discovered during an internal environmental audit that AC Products, Inc. (ACP), a wholly owned subsidiary, had failed to properly report its air emissions. In response, an internal investigation of all environmental, health, and safety matters at ACP was conducted. ACP voluntarily disclosed these matters to regulators and took steps to correct all environmental, health, and safety issues discovered. In addition, ACP is involved in certain soil and groundwater remediation activities identified in prior years. In connection with these activities, the Company recorded pre-tax charges totaling $0.5 million and $1.5 million in 2001 and 2000, respectively. The Company believes that the potential-known liabilities associated with these matters range from approximately $1.4 million to $2.3 million, for which the Company has sufficient reserves. Notwithstanding the foregoing, the Company cannot be certain that liabilities in the form of remediation expenses, fines, penalties, and damages will not be incurred in excess of the amount reserved.
General
The Company does not currently use financial instruments that expose it to significant risk involving foreign currency transactions; however, the size of non-U.S. activities has a significant impact on reported operating results and the attendant net assets. During the past three years, sales by non-U.S. subsidiaries accounted for approximately 54% to 56% of the consolidated net annual sales (see Note 11 of Notes to Consolidated Financial Statements).
Euro
On January 1, 1999, 11 of the 15 member countries of the European Union established fixed conversion rates between their existing currencies ("legacy currencies") and one common currency--the euro. The euro trades on currency exchanges and is used in business transactions. Beginning in January 2002, new euro-denominated bills and coins were issued, and legacy currencies were withdrawn from circulation. The
Company's operating subsidiaries affected by the euro conversion have established plans to address the systems and business issues raised by the euro currency conversion. The euro conversion did not have a material adverse impact on the Company's financial condition or results of operations.
Forward-Looking and Cautionary Statements
Except for historical information and discussions, statements contained in this Annual Report may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements involve a number of risks, uncertainties, and other factors that could cause actual results to differ materially from those projected in such statements.
Such risks and uncertainties include, but are not limited to, significant increases in raw material costs, worldwide economic and political conditions, and foreign currency fluctuations that may affect worldwide results of operations. Furthermore, the Company is subject to the same business cycles as those experienced by steel, automobile, aircraft, appliance, or durable goods manufacturers.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
Quaker is exposed to the impact of interest rates, foreign currency fluctuations, changes in commodity prices, and credit risk.
Interest Rate Risk. Quaker's exposure to market rate risk for changes in interest rates relates primarily to its short and long-term debt. Most of Quaker's long-term debt has a fixed interest rate, while its short-term debt is negotiated at market rates which can be either fixed or variable. Accordingly, if interest rates rise significantly, the cost of short-term debt to Quaker will increase. This can have a material adverse effect on Quaker depending on the extent of Quaker's short-term borrowings. As of December 31, 2001, Quaker had $1,000 in short-term borrowings.
Foreign Exchange Risk. A significant portion of Quaker's revenues and earnings is generated by its foreign operations. All such operations use the local currency as their functional currency. Accordingly, Quaker's financial results are affected by risks typical of international business such as currency fluctuations, particularly between the U.S. dollar, the Brazilian real and the E.U. euro. As exchange rates vary, Quaker's results can be materially adversely affected.
In the past, Quaker has used, on a limited basis, forward exchange contracts to hedge foreign currency transactions and foreign exchange options to reduce exposure to changes in foreign exchange rates. The amount of any gain or loss on these derivative financial instruments was immaterial, and there are no contracts or options outstanding at December 31, 2001.
Commodity Price Risk. Many of the raw materials used by Quaker are commodity chemicals, and, therefore, Quaker's earnings can be materially adversely affected by market changes in raw material prices. In certain cases, Quaker has entered into fixed-price purchase contracts having a term of up to one year. These contracts provide for protection to Quaker if the price for the contracted raw materials rises, however, in certain limited circumstances, Quaker will not realize the benefit if such prices decline. Quaker has not been, nor is it currently a party to, any derivative financial instrument relative to commodities.
Credit Risk. Quaker establishes allowances for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments. If the financial condition of Quaker's customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. Downturns in the overall economic climate may also tend to exacerbate specific customer financial issues. A significant portion of Quaker's revenues is derived from sales to customers in the U.S. steel industry, where a number of bankruptcies occurred during recent years. In 2000 and 2001, Quaker recorded additional provisions
for doubtful accounts primarily related to bankruptcies in the U.S. steel industry. When a bankruptcy occurs, Quaker must judge the amount of proceeds, if any, that may ultimately be received through the bankruptcy or liquidation process. As part of its terms of trade, Quaker may custom manufacture products for certain large customers and/or may ship product on a consignment basis. These practices may increase the Company's exposure should a bankruptcy occur, and may require writedown or disposal of certain inventory due to its estimated obsolescence or limited marketability. Customer returns of products or disputes may also result in similar issues related to the realizability of recorded accounts receivable or returned inventory.
Item 8.
Item 8. Financial Statements and Supplementary Data.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders and Board of Directors of Quaker Chemical Corporation
In our opinion, the consolidated financial statements listed in the index appearing under Item 8 on page 16 and listed in the index appearing under Item 14(a)(1) on page 39, present fairly, in all material respects, the financial position of Quaker Chemical Corporation and its subsidiaries at December 31, 2001 and 2000, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2001, in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule listed in the index appearing under Item 14(a)(2) on page 39 presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedule are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP
PricewaterhouseCoopers LLP Philadelphia, Pennsylvania March 13, 2002
QUAKER CHEMICAL CORPORATION
CONSOLIDATED STATEMENT OF OPERATIONS
See notes to consolidated financial statements.
QUAKER CHEMICAL CORPORATION
CONSOLIDATED BALANCE SHEET
See notes to consolidated financial statements.
QUAKER CHEMICAL CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS
See notes to consolidated financial statements.
QUAKER CHEMICAL CORPORATION
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
See notes to consolidated financial statements.
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands except per share amounts)
Note 1--Significant Accounting Policies
Principles of consolidation: All majority-owned subsidiaries are included in the Company's consolidated financial statements, with appropriate elimination of intercompany balances and transactions. Investments in associated (less than majority-owned) companies are accounted for under the equity method.
Translation of foreign currency: Assets and liabilities of non-U.S. subsidiaries and associated companies are translated into U.S. dollars at the respective rates of exchange prevailing at the end of the year. Income and expense accounts are translated at average exchange rates prevailing during the year. Translation adjustments resulting from this process are recorded directly in shareholders' equity and will be included in income only upon sale or liquidation of the underlying investment.
Cash and cash equivalents: The Company considers all highly liquid investments with original maturities of three months or less to be cash equivalents.
Inventories: Inventories are valued at the lower of cost or market value. Cost of domestic inventories, except for those of the coatings segment, are determined using the last-in, first-out ("LIFO") method. Cost of non-U.S. subsidiaries and the domestic coatings segment inventories are determined using the first-in, first-out ("FIFO") method.
Long-lived assets: Property, plant, and equipment are stated at cost. Depreciation is computed using the straight-line method on an individual asset basis over the following estimated useful lives: buildings and improvements, 10 to 45 years; and machinery and equipment, 3 to 15 years. The carrying value of long-lived assets is evaluated whenever changes in circumstances indicate the carrying amount of such assets may not be recoverable. If necessary, the Company recognizes an impairment loss for the difference between the carrying amount of the assets and their estimated fair value. Fair value is based on current and anticipated future undiscounted cash flows. Expenditures for renewals and betterments which increase the estimated useful life or capacity of the assets are capitalized; expenditures for repairs and maintenance are expensed when incurred.
Intangible assets: Intangible assets consist of goodwill and other intangibles arising from acquisitions which are being amortized on a straight-line basis over various periods not exceeding 40 years. The realizability and period of benefit of goodwill is evaluated periodically to assess recoverability and, if warranted, impairment or adjustment of the period benefited would be recognized. At December 31, 2001 and 2000, accumulated amortization amounted to $9,195 and $8,016, respectively.
Revenue recognition: Sales are recorded when products are shipped to customers and services earned. As part of the Company's chemical management services, certain third party products are transferred to customers at no gross profit and, accordingly, these transactions have no effect on net sales. Third party products transferred under these arrangements totaled $20,654, $19,733, and $16,289 for 2001, 2000, and 1999, respectively. License fees and royalties are recorded when earned and are included in other income.
Research and development costs: Research and development costs are expensed as incurred. Research and development expenses during 2001, 2000, and 1999 were $8,851, $8,496 and $8,524, respectively.
Concentration of credit risk: Financial instruments, which potentially subject the Company to a concentration of credit risk, principally consist of cash equivalents, short-term investments, and trade receivables. The Company invests temporary and excess cash in money market securities and financial instruments having
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
maturities typically within 90 days. The Company has not experienced losses from the aforementioned investments.
The Company sells its principal products to major steel, automotive, and related companies around the world. The Company maintains allowances for potential credit losses. As of December 31, 2001 and 2000, the allowance for doubtful accounts was $5,155 and $2,960, respectively. Historically, the Company has experienced some losses related to poor financial condition of certain customers. Prior to 2000, such losses were not material. In 2001 and 2000, the Company recorded allowances of $2,000 and $1,672, respectively, primarily related to U.S. steel customers that filed for bankruptcy under Chapter 11.
Environmental liabilities and expenditures: Accruals for environmental matters are recorded when it is probable that a liability has been incurred and the amount of the liability can be reasonably estimated. If no amount in the range is considered more probable than any other amount, the Company records the lowest amount in the range in accordance with generally accepted accounting principles. Accrued liabilities are exclusive of claims against third parties and are not discounted. Environmental costs and remediation costs are capitalized if the costs extend the life, increase the capacity or improve safety or efficiency of the property from the date acquired or constructed, and/or mitigate or prevent contamination in the future.
Comprehensive income (loss): The Company presents comprehensive income (loss) in its Statement of Shareholders' Equity. The components of accumulated other comprehensive loss for 2001 include: accumulated foreign currency translation adjustments of $21,529, minimum pension liability of $2,275, and unrealized holding losses on available-for-sale securities of $271. The components of accumulated other comprehensive loss for 2000 include: accumulated foreign currency translation adjustments of $15,963 and minimum pension liability of $751.
Recently issued accounting standards: In June 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 141, "Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 141 requires all business combinations initiated after June 30, 2001 to be accounted for using the purchase method. In addition, companies are required to review goodwill and intangible assets reported in connection with prior acquisitions, possibly disaggregate and report separately previously identified intangible assets, and possibly reclassify certain intangible assets into goodwill. SFAS No. 142 establishes new guidelines for accounting for goodwill and other intangible assets. Goodwill associated with acquisitions consummated after June 30, 2001 is not amortized. The Company has not recognized such goodwill. Additionally, upon adoption, existing goodwill is no longer amortized, but instead will be assessed for impairment on at least an annual basis. The Company implemented the remaining provisions of SFAS No. 142 on January 1, 2002. The Company does not expect to recognize an impairment charge in 2002 in accordance with SFAS No. 142. The non-amortization provisions of SFAS No. 142 for goodwill and intangibles is expected to result in an increase in operating income ranging from approximately $500 to $1,000 in 2002.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143 addresses accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated retirement costs. This statement is effective for fiscal years beginning after June 15, 2002. The Company is currently assessing the impact of this new standard.
In July 2001, the FASB issued SFAS No. 144, "Impairment or Disposal of Long-Lived Assets." The provisions of this statement provide a single accounting model for impairment of long-lived assets. The statement is effective for fiscal years beginning after December 15, 2001. The Company adopted this standard on
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
January 1, 2002. Management has assessed the impact of the new standard and determined there to be no material impact to the financial statements.
Accounting estimates: The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, and disclosure of contingencies at the date of the financial statements and the reported amounts of net sales and expenses during the reporting period. Actual results could differ from such estimates.
Reclassifications: Certain reclassifications of prior years' data have been made to improve comparability.
Note 2--Restructuring and Related Activities
In the third and fourth quarters of 2001, the Company's management approved restructuring plans to realign its organization and reduce operating costs. The Company's restructuring plans include the closure and sale of its manufacturing facilities in the U.K. and France. In addition, the Company consolidated certain functions within its global business units and reduced administrative functions, as well as expensed costs related to abandoned acquisitions. Included in the third and fourth quarter restructuring charges are provisions for the severance of 16 and 37 employees, respectively.
Restructuring and related charges of $2,958 and $2,896 were expensed during the third and fourth quarters of 2001, respectively. The third quarter charge comprised $520 related to employee separations, $2,038 related to facility rationalization charges, and $400 related to abandoned acquisitions. The fourth quarter charge comprised $2,124 related to employee separations, $575 related to facility rationalization charges, and $197 related to abandoned acquisitions. Employee separation benefits under each plan varied depending on local regulations within certain foreign countries and included severance and other benefits. As of December 31, 2001, the Company completed 25 of the planned 53 employee separations under the 2001 plans. The Company expects to substantially complete the initiatives contemplated under the restructuring plans by September 30, 2002. Upon conclusion of its restructuring and other cost savings initiatives, the Company expects to achieve annualized savings of approximately $4,000 in cost of sales and operating expenses. These estimated cost savings were calculated based upon expected cost reductions primarily related to employee separations as well as lower operating and depreciation expense resulting from factory rationalizations. However, the Company cannot give any assurance whether the entire estimated cost savings will be realized.
Components of accrued restructuring costs and amounts charged against the 2001 plans as of December 31, 2001 were as follows:
(Dollars in thousands)
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
In the fourth quarter of 1998, the Company announced and implemented a restructuring and integration plan to better align its organizational structure with market demands, improve operational performance, and reduce costs. The components of the 1998 pre-tax restructuring and integration charge included severance and other benefit costs of $4,000 and early pension and postemployment benefits of $1,300. At the end of 1999, the Company had substantially implemented these initiatives and reversed approximately $314 of the original charge. The remaining restructuring and integration liability at December 31, 2000 of $244 was paid in January 2001.
The liabilities for early pension and postemployment benefits are included in the Company's pension and postretirement benefits obligations (see Note 7 of Notes to Consolidated Financial Statements).
Note 3--Investments in Associated Companies
Investments in associated (less than majority-owned) companies are accounted for under the equity method. See Exhibit 21 in Part IV of this Form 10-K for a listing of the associated companies and their relative ownership percentages.
Summarized financial information of the associated companies, in the aggregate, is as follows:
In January 2001, the Company contributed its Conshohocken, Pennsylvania property and buildings (the "Site") to a real estate joint venture (the "Venture") in exchange for a 50% ownership in the Venture. The Venture did not assume any debt or other obligations of the Company. The Venture credited the Company's capital account with the estimated fair value of the Site, which amount was in excess of the book value of the contribution. The Company recorded its investment in the Venture at book value, which totaled $4,736.
The Venture is renovating certain of the existing buildings at the Site, as well as building new office space (the "Project"). In December 2000, the Company entered into an agreement with the Venture to lease approximately 40% of the Site's available office space for a 15-year period commencing February 2002, with multiple renewal options. The Company believes the terms of this lease are no worse than the terms it would have obtained from an unaffiliated third party. As of February 28, 2002, approximately half of the Site's remaining office space was under lease to unaffiliated third parties.
The Venture is funding the Project with a $21,000 construction loan from The Bank of New York (the "Venture Loan"), of which approximately $11,766 was outstanding as of December 31, 2001. The Venture Loan
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
is secured in part by a mortgage on the Site and guarantees of completion and payment of interest and operating expenses executed by certain Venture partners other than the Company.
The Company has not guaranteed, nor is it obligated to pay any principal, interest or penalties on the Venture Loan, even in the event of default by the Venture. At December 31, 2001, the Venture had property with a book value of $19,003, total assets of $19,816 and total liabilities of $14,547. The Venture expects to complete the Project in mid-2002, and expects to refinance the Venture Loan, which matures in July 2002 subject to extension under certain conditions, on acceptable terms. The Company can offer no assurances that the refinancing will be successful. If cash flows permit, the Company will be eligible to receive priority distributions from the Venture.
Note 4--Inventories
Total inventories comprise:
Inventories valued under the LIFO method amounted to $5,636 and $6,497 at December 31, 2001 and 2000, respectively. The estimated replacement costs for these inventories using the FIFO method were approximately $5,196 and $6,287, respectively.
Note 5--Property, Plant, and Equipment
Property, plant, and equipment comprise:
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
Note 6--Taxes on Income
Taxes on income consist of the following:
Total deferred tax assets and liabilities are composed of the following at December 31:
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
The following is a reconciliation of income taxes at the Federal statutory rate with income taxes recorded by the Company for the years ended December 31:
At December 31, 2001, the Company has foreign net operating loss carryforwards of $2,670, of which $477 expire between 2002 and 2006. There is no time limit for the remaining net operating loss carryforwards of $2,193. Due to the uncertainty of the realization of these deferred tax assets, the Company has established a valuation allowance against these carryforward benefits.
U.S. income taxes have not been provided on the undistributed earnings of non-U.S. subsidiaries since it is the Company's intention to continue to reinvest these earnings in those subsidiaries for working capital and expansion needs. The amount of such undistributed earnings at December 31, 2001 was approximately $109,000. Any income tax liability which might result from ultimate remittance of these earnings is expected to be substantially offset by foreign tax credits.
Note 7--Pension and Other Postretirement Benefits
The Company maintains various noncontributory retirement plans, the largest of which is in the U.S., covering substantially all of its employees in the U.S. and certain other countries. The plans of the Company's subsidiaries in the Netherlands and in the United Kingdom are subject to the provision of SFAS No. 87, "Employers' Accounting for Pensions." The plans of the remaining non-U.S. subsidiaries are, for the most part, either fully insured or integrated with the local governments' plans and are not subject to the provisions of SFAS No. 87.
The following table shows the components of pension costs for the periods indicated:
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
The U.S. defined benefit pension plan is the largest plan. The significant assumptions for the U.S. plan were as follows:
All other pension plans used assumptions in determining the actuarial present value of the projected benefit obligations which are consistent with (but not identical to) those of the U.S. plan.
The Company has postretirement benefit plans that provide medical and life insurance benefits for certain of its retired employees. Both the medical and life insurance plans are currently unfunded.
The following table shows the components of postretirement costs for the periods indicated:
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
The following table shows the Company plans' funded status reconciled with amounts reported in the consolidated balance sheet as of December 31:
The projected benefit obligation, accumulated benefit obligation, and fair value of plan assets for the pension plans with accumulated benefit obligations in excess of plan assets were $55,284, $50,601, and $38,602, respectively, as of December 31, 2001 and $7,075, $6,222, and $0, respectively, as of December 31, 2000.
The discount rate used in determining the accumulated postretirement benefit obligation was 7.25% in 2001 and 7.5% in 2000.
In valuing costs and liabilities, different health care cost trend rates were used for retirees under and over age 65. The average assumed rate for medical benefits for all retirees was 8% in 2001, gradually decreasing to
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
5% over nine years. A 1% increase in the health care cost trend rate would increase total service and interest cost for 2001 by $37 and the accumulated postretirement benefit obligation as of December 31, 2001 by $544.
A 1% decrease in the health care cost trend rate would decrease total service and interest cost for 2001 by $33 and the accumulated postretirement benefit obligation as of December 31, 2001 by $488.
The Company maintains a plan under which supplemental retirement benefits are provided to certain officers. Benefits payable under the plan are based on a combination of years of service and existing postretirement benefits. Included in total pension costs are charges of $681, $575, and $511 in 2001, 2000, and 1999, respectively, representing the annual accrued benefits under this plan.
Profit sharing plan: The Company had maintained a qualified profit sharing plan covering substantially all domestic employees other than those who are compensated on a commission basis. Contributions were $617 and $1,251 for 2000 and 1999 respectively. In January 2001, this plan was replaced by an enhanced employer match on the Company's 401(k) plan. The Company's 401(k) matching contributions for 2001 were $530.
Note 8--Debt
Debt consisted of the following:
The long-term financing agreements require the maintenance of certain financial covenants with which the Company is in compliance.
During the next five years, payments on long-term debt are due as follows: $2,857 in 2002, 2003, 2004, 2005 and 2006.
At December 31, 2001 and 2000, the Company had outstanding short-term borrowings with banks under lines of credit in the aggregate of $1 and $27, respectively.
As of December 31, 2001, the Company has available a $18,000 unsecured line of credit. Any borrowings under this line of credit will be at the bank's most competitive rate of interest in effect at the time. There were no outstanding borrowings under this line of credit at December 31, 2001 or 2000.
As of December 31, 2001, the Company maintained a $5,135 stand-by letter of credit guarantying payment of the industrial development authority bonds. This letter of credit is renewed annually.
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
At December 31, 2001 and 2000, the values at which the financial instruments are recorded are not materially different from their fair market value.
Note 9--Shareholders' Equity
Holders of record of the Company's common stock for a period of 36 consecutive calendar months or less are entitled to 1 vote per share of common stock. Holders of record of the Company's common stock for a period greater than 36 consecutive calendar months are entitled to 10 votes per share of common stock.
Treasury stock is held for use by the various Company plans which require the issuance of the Company's common stock.
The Company is authorized to issue 10,000,000 shares of preferred stock, $1.00 par value, subject to approval by the Board of Directors. The Board of Directors may designate one or more series of preferred stock and the number of shares, rights, preferences, and limitations of each series. No preferred stock has been issued.
Under provisions of a stock purchase plan which permits employees to purchase shares of stock at 85% of the market value, 13,463 shares, 20,857 shares, and 30,962 shares were issued from treasury in 2001, 2000, and 1999, respectively. The number of shares that may be purchased by an employee in any year is limited by factors dependent upon the market value of the stock and the employee's base salary. At December 31, 2001, 486,537 shares are available for purchase.
The Company has a long-term incentive program for key employees which provides for the granting of options to purchase stock at prices not less than market value on the date of the grant. Most options are exercisable between one and three years after the date of the grant for a period of time determined by the Company not to exceed seven years from the date of grant for options issued in 1999 or later and ten years for options issued in prior years. The Company has adopted the disclosure-only provisions of SFAS No. 123, "Accounting for Stock-based Compensation." Accordingly, no compensation expense has been recognized for the stock option plans. Had compensation cost been determined based on the fair value at grant date for awards in 2001, 2000, and 1999 consistent with the provisions of SFAS No. 123, the Company's net earnings and earnings per share would have been reduced to the pro forma amounts indicated below:
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
The fair value of each option grant is estimated on the date of the grant using the Black-Scholes option-pricing model with the following weighted-average assumptions:
The table below summarizes transactions in the plan during 2001, 2000, and 1999:
The following table summarizes information about stock options outstanding at December 31, 2001:
Options were exercised for cash, resulting in the issuance of 166,215 shares in 2001 and 25,350 shares in 2000. Options to purchase 999,000 shares were available at December 31, 2001 for future grants.
The program also provides for cash awards and commencing in 1999, common stock awards, the value of which is determined based on operating results over a three-year period for awards issued in 1999, and over a four-year period in prior years. The effect on operations of the change in the estimated value of incentive units during the year was $25, $921, and $2,246 in 2001, 2000, and 1999, respectively.
Shareholders of record on February 20, 1990 received two stock purchase rights for each three shares of common stock outstanding. These rights expired on February 20, 2000. On March 6, 2000, the Board of Directors approved a new Rights Plan and declared a dividend of one new right (the "Rights") for each outstanding share of common stock to shareholders of record on March 20, 2000.
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
The Rights become exercisable if a person or group acquires or announces a tender offer which would result in such person's acquisition of 20% or more of the Company's common stock.
Each Right, when exercisable, entitles the registered holder to purchase one one-hundredth of a share of a newly authorized Series B preferred stock at an exercise price of sixty-five dollars per share subject to certain anti-dilution adjustments. In addition, if a person or group acquires 20% or more of the outstanding shares of the Company's common stock, without first obtaining Board of Directors' approval, as required by the terms of the Rights Agreement, each Right will then entitle its holder (other than such person or members of any such group) to purchase, at the Right's then current exercise price, a number of one one-hundredth shares of Series B preferred stock having a total market value of twice the Right's exercise price.
In addition, at any time after a person acquires 20% of the outstanding shares of common stock and prior to the acquisition by such person of 50% or more of the outstanding shares of common stock, the Company may exchange the Rights (other than the Rights which have become null and void), in whole or in part, at an exchange ratio of one share of common stock or equivalent share of preferred stock, per Right.
The Board of Directors can redeem the Rights for $.01 per Right at any time prior to the acquisition by a person or group of beneficial ownership of 20% or more of the Company's common stock. Until a Right is exercised, the holder thereof will have no rights as a shareholder of the Company, including without limitation, the right to vote or to receive dividends. Unless earlier redeemed or exchanged, the Rights will expire on March 20, 2010.
Restricted stock bonus: As part of the Company's 2001 Global Annual Incentive Plan ("Annual Plan"), approved by shareholders on May 9, 2001, a restricted stock bonus of 100,000 shares of the Company's stock was granted to an executive of the Company. The shares were issued in April 2001, in accordance with the terms of the Annual Plan, and registered in the executive's name. The shares are subject to forfeiture if the Company fails to achieve a target level of earnings per share for the year 2001 and will vest over a four-year period, subject to the executive's continued employment by the Company. In 2001, 10,000 shares were earned and $177 was charged to selling, general, and administrative expenses ("SG&A"). The remaining shares have been recorded as unearned compensation and will be charged to SG&A when earned.
Note 10--Earnings Per Share
The following table summarizes earnings per share ("EPS") calculations for the years ended December 31, 2001, 2000, and 1999:
The following number of stock options are not included in dilutive earnings per share since in each case the exercise price is greater than the market price: 79, 190, and 192, in 2001, 2000, and 1999, respectively.
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
Note 11--Business Segments
The Company's reportable segments are as follows:
(1) Metalworking process chemicals--products used as lubricants for various heavy industrial and manufacturing applications.
(2) Coatings--temporary and permanent coatings for metal products and chemical milling maskants.
(3) Other chemical products--primarily chemicals used in the manufacturing of paper in 2000 and 1999, as well as other various chemical products.
Segment data includes direct segment costs as well as general operating costs, including depreciation, allocated to each segment based on net sales. Inter-segment transactions are immaterial.
The table below presents information about the reported segments for the years ended December 31:
Operating income comprises revenue less related costs and expenses. Nonoperating expenses primarily consist of general corporate expenses identified as not being a cost of operation, interest expense, interest income, and license fees from nonconsolidated associates.
A reconciliation of total segment operating income to total consolidated income before taxes for the years ended December 31, 2001, 2000, and 1999 is as follows:
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
The following sales and long-lived asset information is by geographic area as of and for the years ended December 31:
Note 12--Business Acquisitions and Divestitures
On March 30, 2001, the Company acquired from its Canadian licensee, H. L. Blachford, Ltd., rights to market to, sell to, and service all Canadian integrated steel makers and certain accounts in the Canadian metalworking market. The purchase price totaling approximately $1,450, together with a five-year earn-out provision of five percent on net sales to certain accounts purchased, resulted in intangible assets of $1,364.
On May 31, 2000, the Company completed the sale of its U.S. pulp and paper business for $5,200. The Company recorded a pre-tax gain on the sale of $2,370. Pro-forma results of operations have not been presented because the effects were not material.
On June 25, 1998, the Company completed formation of a majority-owned joint venture in Brazil and small businesses in Italy and Venezuela for approximately $9,350, of which goodwill comprised $5,500. The agreement provided for an earn-out provision if certain performance targets were met. Those targets were met and $3,500 was paid in 2000, resulting in additional goodwill.
Note 13--Commitments and Contingencies
The Company is involved in environmental clean-up activities and litigation in connection with an existing plant location and former waste disposal sites. The Company identified certain soil and groundwater contamination at AC Products, Inc. ("ACP"), a wholly owned subsidiary. In coordination with the Santa Ana California Regional Water Quality Board, ACP is remediating the contamination. During the second quarter of 2000, it was discovered during an internal environmental audit that ACP had failed to properly report its air emissions. In response, an internal investigation of all environmental, health, and safety matters at ACP was conducted. ACP has voluntarily disclosed these matters to regulators and has taken steps to correct all environmental, health, and safety issues discovered. In connection with these activities the Company recorded pre-tax charges totaling $500 and $1,500 in 2001 and 2000, respectively. The Company believes that the potential-known liabilities associated with these matters ranges from approximately $1,400 to $2,300, for which the Company has sufficient reserves. Notwithstanding the foregoing, the Company cannot be certain that
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
liabilities in the form of remediation expenses, fines, penalties, and damages will not be incurred in excess of the amount reserved.
Additionally, although there can be no assurance regarding the outcome of other environmental matters, the Company believes that it has made adequate accruals for costs associated with other environmental problems of which it is aware. Approximately $260 was accrued at December 31, 2001 and 2000, respectively, to provide for such anticipated future environmental assessments and remediation costs.
A non-consolidated, non-operating subsidiary of the Company is a co-defendant in claims filed by multiple claimants alleging injury due to exposure to asbestos. Although there can be no assurance regarding the potential liabilities associated with the existing claims proceedings, the subsidiary believes that it has adequate insurance coverage and has made adequate accruals for all potential liabilities related to claims of which it is aware. Effective October 31, 1997, the subsidiary's insurance carriers agreed to be responsible for all damages and costs (including attorneys' fees) arising out of all existing and future asbestos claims up to applicable policy limits. At December 31, 2001, the subsidiary had accrued approximately $50 to provide for anticipated damages and costs incurred prior to October 31, 1997.
The Company is party to other litigation which management currently believes will not have a material adverse effect on the Company's results of operations, cash flows or financial condition.
The Company leases certain manufacturing and office facilities and equipment under non-cancelable operating leases with various terms from one to 25 years expiring in 2020. Rent expense for 2001, 2000, and 1999 was $3,359, $2,299, and $2,159, respectively. The Company's minimum rental commitments under non-cancelable operating leases at December 31, 2001, were approximately $3,851 in 2002, $3,233 in 2003, $2,326 in 2004, $1,637 in 2005, $1,562 in 2006, and $12,903 thereafter.
Note 14--Quarterly Results (unaudited)
Note 15--Subsequent Event (unaudited)
On March 1, 2002, the Company acquired certain assets and liabilities of United Lubricants Corporation ("ULC") for approximately $14,000, subject to post-closing adjustments. The Company is currently assessing the allocation of the purchase price. Pro-forma results of operations have not been presented because the effects were not material.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
None.
PART III
Item 10.
Item 10. Directors and Executive Officers of the Registrant.
Incorporated by reference is the information beginning immediately following the caption "Item 1 - -Election of Directors and Nominee Biographies" in the Registrant's definitive Proxy Statement to be filed no later than 120 days after the close of its fiscal year ended December 31, 2001 (the "2002 Proxy Statement") to, but not including, the caption "Compensation of Directors," the information in the 2002 Proxy Statement beginning immediately following the caption "Board Committee and Meeting Attendance" to, but not including, the caption "Item 2 - -Ratification of Selection of Independent Accountants" and the information appearing in Item 4(a) on pages 5 and 6 of this Report.
Section 16(a) Beneficial Ownership Reporting Compliance.
Based solely on the Company's review of certain reports filed with the Securities and Exchange Commission pursuant to Section 16(a) of the Securities Exchange Act of 1934 (the "1934 Act"), as amended, and written representations of the Company's officers and directors, the Company believes that, with one exception, all reports required to be filed pursuant to Section 16(a) of the 1934 Act with respect to transactions in the Company's Common Stock through December 31, 2001 were filed on a timely basis. Mark A. Featherstone filed his initial statement on Form 3 (which disclosed one grant of stock options) after the required filing date.
Item 11.
Item 11. Executive Compensation.
Incorporated by reference is the information beginning immediately following the caption "Compensation of Directors" to, but not including, the caption "Board Committee and Meeting Attendance" in the 2002 Proxy Statement and the information beginning immediately following the caption "Executive Compensation" to, but not including, the caption "Report of the Compensation/Management Development Committee on Executive Compensation" contained in the 2002 Proxy Statement.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
Incorporated by reference is the information beginning immediately following the caption "Stock Ownership of Certain Beneficial Owners and Management" to, but not including, the subcaption "Section 16(a) Beneficial Ownership Reporting Compliance" contained in the 2002 Proxy Statement.
Item 13.
Item 13. Certain Relationships and Related Transactions.
No information is required to be provided in response to this Item 13.
PART IV
Item 14.
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.
(a) Exhibits and Financial Statement Schedules
1. Financial Statements and Supplementary Data.
2. Financial Statement Schedules
All other schedules are omitted because they are not applicable or the required information is shown in the financial statements or notes thereto.
Financial statements of 50% or less owned companies have been omitted because none of the companies meets the criteria requiring inclusion of such statements.
3. Exhibits (numbered in accordance with Item 601 of Regulation S-K)
* This exhibit is a management contract or compensation plan or arrangement required to be filed as an exhibit to this Report.
(b) Reports on Form 8-K.
No reports on Form 8-K were filed by the Registrant during the last quarter of the period covered by this Report.
(c) The exhibits required by Item 601 of Regulation S-K filed as part of this Report or incorporated herein by reference are listed in subparagraph (a)(2) of this Item 14.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
QUAKER CHEMICAL CORPORATION Registrant
By: /S/ RONALD J. NAPLES ----------------------------------- Ronald J. Naples Chairman of the Board and Chief Executive Officer
Date: March 13, 2002
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
QUAKER CHEMICAL CORPORATION
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
EXHIBIT INDEX