<PAGE> 1
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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission file number 001-13255
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SOLUTIA INC.
------------
(Exact name of registrant as specified in its charter)
DELAWARE 43-1781797
-------- ----------
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
10300 OLIVE BOULEVARD, P.O. Box 66760, ST. LOUIS, MISSOURI 63166-6760
---------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(314) 674-1000
--------------
(Registrant's telephone number, including area code)
Indicated by check mark whether the registrant (1) has filed all
reports to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding twelve months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Outstanding at
Class June 30, 1998
----- -------------
Common Stock, $0.01 par value 115,914,200 shares
- ----------------------------- ------------------
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<PAGE> 2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
<TABLE>
SOLUTIA INC.
STATEMENT OF CONSOLIDATED INCOME
(DOLLARS IN MILLIONS, EXCEPT PER SHARE)
<CAPTION>
THREE MONTHS SIX MONTHS
ENDED ENDED
JUNE 30, JUNE 30,
------------------------ --------------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
NET SALES $ 745 $ 770 $1,465 $1,489
Cost of Goods Sold 539 581 1,072 1,124
------ ------ ------ ------
GROSS PROFIT 206 189 393 365
Marketing Expenses 37 35 74 71
Administrative Expenses 34 36 65 63
Technological Expenses 20 21 40 39
------ ------ ------ ------
OPERATING INCOME 115 97 214 192
Equity Earnings from Affiliates 6 8 12 17
Interest Expense (11) (12) (23) (21)
Other Income (Expense)--Net (1) 1 3 5
------ ------ ------ ------
INCOME BEFORE INCOME TAXES 109 94 206 193
Income Taxes 37 32 70 66
------ ------ ------ ------
NET INCOME $ 72 $ 62 $ 136 $ 127
====== ====== ====== ======
BASIC EARNINGS PER SHARE $ 0.62 $ 0.53 $ 1.17 $ 1.08
====== ====== ====== ======
DILUTED EARNINGS PER SHARE $ 0.58 $ 0.51 $ 1.09 $ 1.05
====== ====== ====== ======
Weighted Average Equivalent Shares (in millions):
Basic 116.2 117.7 116.6 117.4
Effect of Dilutive Securities:
Common share equivalents - common stock issuable
upon exercise of outstanding stock options 7.9 4.1 7.9 3.9
------ ------ ------ ------
Diluted 124.1 121.8 124.5 121.3
====== ====== ====== ======
See accompanying Notes to Consolidated Financial Statements.
</TABLE>
1
<PAGE> 3
<TABLE>
SOLUTIA INC.
STATEMENT OF CONSOLIDATED FINANCIAL POSITION
(DOLLARS IN MILLIONS)
<CAPTION>
JUNE 30, DECEMBER 31,
1998 1997
-------- ------------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 12 $ 24
Trade receivables, net of allowance of $6 in 1998 and $6 in 1997 433 425
Miscellaneous receivables and prepaid expenses 137 136
Deferred income tax benefit 82 91
Inventories 348 325
------ ------
TOTAL CURRENT ASSETS 1,012 1,001
PROPERTY, PLANT AND EQUIPMENT:
Land 17 17
Buildings 365 357
Machinery and equipment 2,732 2,707
Construction in progress 105 107
------ ------
Total property, plant and equipment 3,219 3,188
Less accumulated depreciation 2,318 2,265
------ ------
NET PROPERTY, PLANT AND EQUIPMENT 901 923
INVESTMENT IN AFFILIATES 421 423
LONG-TERM DEFERRED INCOME TAX BENEFIT 302 300
OTHER ASSETS 132 121
------ ------
TOTAL ASSETS $2,768 $2,768
====== ======
LIABILITIES AND STOCKHOLDERS' DEFICIT
CURRENT LIABILITIES:
Accounts payable $ 286 $ 221
Wages and benefits 82 106
Restructuring reserves 26 40
Miscellaneous accruals 386 335
Short-term debt 15 193
------ ------
TOTAL CURRENT LIABILITIES 795 895
LONG-TERM DEBT 597 597
POSTRETIREMENT LIABILITIES 974 958
OTHER LIABILITIES 452 449
STOCKHOLDERS' DEFICIT:
Common stock (authorized, 600,000,000 shares, par value $0.01)
Issued: 118,400,635 shares in 1998 and 1997 1 1
Additional contributed capital (126) (119)
Treasury stock, at cost (2,486,435 shares in 1998 and 992,828 shares in
1997) (68) (22)
Unearned ESOP shares (27) (31)
Accumulated other comprehensive income 8 12
Reinvested earnings 162 28
------ ------
STOCKHOLDERS' DEFICIT (50) (131)
------ ------
TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT $2,768 $2,768
====== ======
See accompanying Notes to Consolidated Financial Statements.
</TABLE>
2
<PAGE> 4
<TABLE>
SOLUTIA INC.
STATEMENT OF CONSOLIDATED CASH FLOW
(DOLLARS IN MILLIONS)
<CAPTION>
SIX MONTHS
ENDED
JUNE 30,
--------------------------
1998 1997
---- ----
<S> <C> <C>
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
OPERATING ACTIVITIES:
Net income $ 136 $ 127
Adjustments to reconcile to Cash Provided by Operations:
Items that did not use (provide) cash:
Deferred income taxes 7 11
Depreciation and amortization 69 67
Other 3 (22)
Working capital changes that provided (used) cash:
Accounts receivable (8) (18)
Inventories (24) 3
Accounts payable and accrued liabilities 71 (159)
Other 2 (28)
Other items 3 41
----- -----
TOTAL CASH PROVIDED BY OPERATIONS 259 22
----- -----
INVESTING ACTIVITIES:
Property, plant and equipment purchases (48) (64)
Acquisition and investment payments (1) --
Investment and property disposal proceeds 8 --
----- -----
CASH USED IN INVESTING ACTIVITIES (41) (64)
----- -----
FINANCING ACTIVITIES:
Net transactions with Monsanto Company -- 42
Net repayment of debt obligations (175) --
Treasury stock purchases (70) --
Dividend payments (2) --
Common stock issued under employee stock plans 17 --
----- -----
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES (230) 42
----- -----
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (12) --
CASH AND CASH EQUIVALENTS:
BEGINNING OF YEAR 24 --
----- -----
END OF PERIOD $ 12 $ --
===== =====
See accompanying Notes to Consolidated Financial Statements.
</TABLE>
3
<PAGE> 5
SOLUTIA INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS)
1. BASIS OF PRESENTATION
Solutia Inc. (the "Company" or "Solutia") is an international producer and
marketer of a range of high performance chemical-based materials which are
used by its customers to make consumer, household, automotive and industrial
products. Prior to September 1, 1997, the businesses that form the Company
were wholly owned by Monsanto Company ("Monsanto"). On September 1, 1997,
Monsanto distributed all of the outstanding shares of common stock of the
Company as a dividend to Monsanto stockholders (the "Spinoff"). The
distribution resulted in the issuance of one share of the Company's common
stock for every five shares of Monsanto common stock held of record as of
August 20, 1997. As a result of the Spinoff, the Company became an
independent publicly held company listed on the New York Stock Exchange and
its operations ceased to be owned by Monsanto. Monsanto and Solutia entered
into a number of agreements with respect to the separation of the companies
and to provide mechanisms for an orderly transition following the Spinoff.
Financial data included in the accompanying unaudited financial statements,
for periods prior to the Spinoff, were prepared on a basis which reflected an
estimate of what the historical assets, liabilities and operations would have
been if Solutia had been organized as a separate legal entity, owning certain
net assets of Monsanto. Financial data included in the accompanying
unaudited financial statements, for periods subsequent to the Spinoff, have
been prepared on a basis which reflects the historical assets, liabilities,
and operations of the businesses contributed to Solutia by Monsanto.
These financial statements should be read in conjunction with the audited
financial statements and notes thereto set forth in Solutia's 1997 Annual
Report to stockholders and incorporated by reference in the Company's annual
report on Form 10-K, filed with the Securities and Exchange Commission on
March 13, 1998. As indicated in the notes to the audited financial
statements included in the Company's 1997 Annual Report, Monsanto provided
certain general and administrative services to Solutia prior to the Spinoff.
The cost for these services was allocated to Solutia based upon the net
capital employed in Solutia's operations, as well as other methods which
management believed to be reasonable. In preparation for the Spinoff,
Monsanto began a transition plan of separation. As part of this plan,
Monsanto discontinued its allocation of corporate expenses for these general
and administrative services on April 1, 1997 as these expenses were
specifically identified and segregated as part of Solutia's ongoing cost
infrastructure.
The accompanying unaudited consolidated financial statements reflect all
adjustments which in the opinion of management are necessary to present
fairly the financial position, results of operations and cash flows for the
interim periods reported. Such adjustments are of a normal, recurring
nature. The results of operations for the three-month and six-month periods
ended June 30, 1998 are not necessarily indicative of the results to be
expected for the full year.
2. INVENTORIES
The components of inventories as of June 30, 1998 and December 31, 1997 were
as follows:
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1998 1997
-------- ------------
<S> <C> <C>
Finished goods $ 283 $ 259
Goods in process 100 60
Raw materials and supplies 112 148
----- -----
Inventories, at FIFO cost 495 467
Excess of FIFO over LIFO cost (147) (142)
----- -----
Total $ 348 $ 325
===== =====
</TABLE>
4
<PAGE> 6
3. INTERCOMPANY TRANSACTIONS
Included in the Statement of Consolidated Income for the three months and six
months ended June 30, 1997 were sales to Monsanto of $13 million and $33
million, respectively, and allocated interest expense of $12 million and $21
million, respectively. Sales were made at Monsanto's established transfer
prices. As discussed in Note 1, Monsanto discontinued its allocation of the
cost of general and administrative expenses to Solutia, effective April 1,
1997, as part of its transition plan of separation. Such expenses were
specifically identified and segregated as part of Solutia's on-going cost
infrastructure. Allocated costs from Monsanto for general and administrative
services were $12 million for the six months ended June 30, 1997. Interest
expense charged to Solutia in 1997 represents an allocation from Monsanto of
its total interest expense.
4. CONTINGENCIES
Monsanto is a party to a number of lawsuits and claims relating to Solutia,
for which Solutia has assumed responsibility in the Spinoff and which Solutia
intends to defend vigorously. Such matters arise out of the normal course of
business and relate to product liability, government regulation, including
environmental issues, and other issues. Certain of the lawsuits and claims
seek damages in very large amounts. Although the results of litigation
cannot be predicted with certainty, management's belief is that the final
outcome of such litigation will not have a material adverse effect on
Solutia's consolidated financial position, profitability or liquidity in any
one year, as applicable.
5. EARNINGS PER SHARE
Effective December 31, 1997, Solutia adopted Statement of Financial
Accounting Standards ("SFAS") No. 128, "Earnings per Share." Under this new
standard, the presentation of primary and fully diluted earnings per share
required by the previous standards was replaced by basic and diluted earnings
per share. Basic earnings per share measures operating performance assuming
no dilution from securities or contracts to issue common stock. Diluted
earnings per share measures operating performance giving effect to the
dilution that would occur when securities or contracts to issue common stock
are exercised or converted.
For periods ended prior to the Spinoff, the number of weighted average shares
outstanding and common share equivalents used in the earnings per share
calculation was based upon the weighted average number of Monsanto shares
outstanding and Monsanto common share equivalents for the applicable period,
adjusted for the distribution ratio in the Spinoff of one share of the
Company's common stock for every five shares of Monsanto common stock.
6. COMPREHENSIVE INCOME
Effective January 1, 1998, Solutia adopted SFAS No. 130, "Reporting
Comprehensive Income." This statement establishes the standards for
reporting and displaying comprehensive income and its components in a full
set of general-purpose financial statements. Comprehensive income includes
net income and several other items that are recognized directly in reinvested
earnings under current accounting standards.
Comprehensive income for the three months and six months ended June 30, 1998
and 1997 is detailed as follows:
<TABLE>
<CAPTION>
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
---------------------- ---------------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
NET INCOME $72 $ 62 $136 $127
Foreign currency translation adjustment 4 39 (4) 29
--- ---- ---- ----
COMPREHENSIVE INCOME $76 $101 $132 $156
=== ==== ==== ====
</TABLE>
Accumulated other comprehensive income as of June 30, 1998 and December 31,
1997 is detailed as follows:
<TABLE>
<CAPTION>
JUNE 30, 1998 DECEMBER 31, 1997
------------- -----------------
<S> <C> <C>
Accumulated currency adjustment $15 $19
Minimum pension liability adjustment (7) (7)
--- ---
ACCUMULATED OTHER COMPREHENSIVE INCOME $ 8 $12
=== ===
</TABLE>
5
<PAGE> 7
7. SEGMENT DATA
Segment data for the three months and six months ended June 30, 1998 and 1997
were as follows:
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30,
----------------------------------------------------------------
1998 1997
----------------------------- -----------------------------
NET INTERSEGMENT NET INTERSEGMENT
SALES SALES PROFIT SALES SALES PROFIT
----- ------------ ------ ----- ------------ ------
<S> <C> <C> <C> <C> <C> <C>
SEGMENT:
Chemicals $222 $2 $ 54 $251 $ 5 $ 58
Fibers 256 -- 62 248 -- 36
Polymers & Resins 269 -- 78 273 -- 80
---- --- ---- ---- --- ----
SEGMENT TOTALS 747 2 194 772 5 174
RECONCILIATION TO CONSOLIDATED TOTALS:
Sales eliminations (2) (2) (5) (5)
Other revenues -- 3
Less unallocated service costs:
Cost of goods sold (20) (20)
Marketing, administrative and
technological expenses (59) (57)
Equity earnings from affiliates 6 8
Interest expense (11) (12)
Other income (expense)-net (1) 1
---- --- ---- ---- --- ----
CONSOLIDATED TOTALS:
NET SALES $745 $-- $770 $--
==== === ---- ==== === ----
INCOME BEFORE INCOME TAXES $109 $ 94
==== ====
</TABLE>
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30,
-----------------------------------------------------------------
1998 1997
------------------------------ -----------------------------
NET INTERSEGMENT NET INTERSEGMENT
SALES SALES PROFIT SALES SALES PROFIT
----- ------------ ------ ----- ------------ ------
<S> <C> <C> <C> <C> <C> <C>
SEGMENT:
Chemicals $ 447 $ 4 $ 110 $ 480 $ 9 $ 109
Fibers 507 -- 120 492 -- 79
Polymers & Resins 513 -- 142 526 5 146
------ --- ----- ------ ---- -----
SEGMENT TOTALS 1,467 4 372 1,498 14 334
RECONCILIATION TO CONSOLIDATED TOTALS:
Sales eliminations (4) (4) (14) (14)
Other revenues 2 5
Less unallocated service costs:
Cost of goods sold (43) (41)
Marketing, administrative and
technological expenses (115) (101)
Equity earnings from affiliates 12 17
Interest expense (23) (21)
Other income (expense)-net 3 5
------ --- ----- ------ ---- -----
CONSOLIDATED TOTALS:
NET SALES $1,465 $-- $1,489 $ --
====== === ----- ====== ==== -----
INCOME BEFORE INCOME TAXES $ 206 $ 193
===== =====
</TABLE>
Segment profit only includes operating expenses directly attributable to the
segment. Unallocated service costs are managed centrally and primarily
include costs of technology, engineering and manufacturing services that are
provided to the segments.
6
<PAGE> 8
8. OTHER EVENT
During June 1998, the Company amended certain of its postretirement health
care plans primarily to adjust cost-sharing provisions. The amendment
results in $161 million reduction in the Company's accumulated postretirement
benefit obligation, which is being amortized over the average remaining
service life of plan participants of approximately 12 years.
9. SUBSEQUENT EVENT
The Company announced that it is reviewing options for its phosphorus
derivatives business that include sale, alliance and joint venture, and has
retained an investment banking firm to assist in this evaluation. No
estimate of the potential outcome can be reasonably determined.
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The following unaudited pro forma condensed consolidated statement of income
for the three months and six months ended June 30, 1997 give effect to the
Spinoff and Solutia's 1997 public debt offering as if the Spinoff and the
public debt offering had occurred at January 1, 1997. The pro forma
information is presented for illustrative purposes only and may not be
indicative of the results that would have been obtained had the transactions
actually occurred on the date assumed, nor is it necessarily indicative of
future consolidated results of operations.
The unaudited pro forma condensed consolidated financial statements should be
read in conjunction with the historical financial statements and the related
notes thereto contained elsewhere in this report on Form 10-Q.
<TABLE>
SOLUTIA INC.
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF INCOME
(DOLLARS IN MILLIONS, EXCEPT PER SHARE)
<CAPTION>
THREE MONTHS ENDED JUNE 30, 1997
---------------------------------------------
PRO FORMA
HISTORICAL ---------------------------
SOLUTIA ADJUSTMENTS SOLUTIA
---------- ----------- -------
<S> <C> <C> <C>
NET SALES $ 770 (5) <FA> $ 765
Cost of Goods Sold 581 (2) <FB> 579
------ ---- ------
GROSS PROFIT 189 (3) 186
Marketing, administrative, and technological expenses 92 4 <FB> 102
6 <FE>
------ ---- ------
OPERATING INCOME 97 (13) 84
Equity Earnings from Affiliates 8 8
Interest Expense (12) (5) <FF> (17)
Other Income (Expense)--Net 1 1
------ ---- ------
INCOME BEFORE INCOME TAXES 94 (18) 76
Income Taxes 32 (6) <FG> 26
------ ---- ------
NET INCOME $ 62 $(12) $ 50
====== ==== ======
DILUTED EARNINGS PER SHARE $ 0.51 $ 0.41
====== ======
Diluted weighted average equivalent shares 121.8 121.8
====== ======
See accompanying Notes to Unaudited Pro Forma Condensed Consolidated Financial Statements.
</TABLE>
7
<PAGE> 9
<TABLE>
SOLUTIA INC.
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF INCOME
(DOLLARS IN MILLIONS, EXCEPT PER SHARE)
<CAPTION>
SIX MONTHS ENDED JUNE 30, 1997
----------------------------------------------
PRO FORMA
HISTORICAL --------------------------
SOLUTIA ADJUSTMENTS SOLUTIA
---------- ----------- -------
<S> <C> <C> <C>
NET SALES $1,489 (9) <FA> $1,480
Cost of Goods Sold 1,124 (1) <FB> 1,121
1 <FC>
(3) <FD>
------ ---- ------
GROSS PROFIT 365 (6) 359
Marketing, administrative, and technological expenses 173 11 <FB> 193
(9) <FD>
18 <FE>
------ ---- ------
OPERATING INCOME 192 (26) 166
Equity Earnings from Affiliates 17 17
Interest Expense (21) (13) <FF> (34)
Other Income (Expense)--Net 5 5
------ ---- ------
INCOME BEFORE INCOME TAXES 193 (39) 154
Income Taxes 66 (14) <FG> 52
------ ---- ------
NET INCOME $ 127 $(25) $ 102
====== ==== ======
DILUTED EARNINGS PER SHARE $ 1.05 $ 0.84
====== ======
Diluted weighted average equivalent shares 121.3 121.3
====== ======
<CAPTION>
See accompanying Notes to Unaudited Pro Forma Condensed Consolidated Financial Statements.
<FN>
NOTES TO UNAUDITED PRO FORMA CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
<FA> To record the estimated effect of new selling prices and arrangements on
former intercompany sales from Solutia to Monsanto.
<FB> To record the assumed increase in retiree medical and pension costs as a
result of the Spinoff.
<FC> To record the estimated effect of transactions with the P4 joint venture
formed by Monsanto in conjunction with the Spinoff.
<FD> To reverse the historical Monsanto corporate expense allocation to the
Company because the company is no longer subject to the allocation of
corporate expenses from Monsanto following the Spinoff.
<FE> Because the Company is no longer subject to this corporate expense
allocation, a pro forma adjustment was made to record estimated general
corporate costs that the Company believes it would have incurred had the
Company been a separate public company for the periods presented.
<FF> To record additional interest expense as a result of the Company's
assumption of debt from Monsanto and the borrowings of Solutia's 1997 public
debt offering.
<FG> To record the estimated provision for income tax as a result of the pro
forma adjustments referred to in Notes <FA> through <FF> above at an estimated
combined U.S. federal income and state income tax rate of 36 percent.
</TABLE>
8
<PAGE> 10
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Management's Discussion and Analysis of Financial Condition and Results of
Operations includes forward-looking statements within the meaning of Section 27A
of the Securities Act of 1933, as amended, and Section 21E of the Securities
Exchange Act of 1934, as amended. These forward-looking statements include all
statements regarding expected future cash flows, financial resources, effective
changes in accounting due to recently issued accounting standards, benefits from
new technology, the cost of remediating the year 2000 issue and the effect of
unremediated or undiscovered year 2000 issues on the Company's operations.
Although the Company believes its expectations reflected in such forward-looking
statements are based on reasonable assumptions, no assurance can be given that
such expectations will prove to have been correct. Important factors that could
cause actual results to differ materially from the expectations reflected in the
forward-looking statements herein include, among others, those set forth below
as well as general economic and business and market conditions, efficacy of new
technology, and increased competitive and/or customer pressure.
RESULTS OF OPERATIONS--SECOND QUARTER 1998 COMPARED WITH THE SECOND QUARTER
1997
Net sales for the quarter decreased as compared with the second quarter of 1997.
Declining raw material prices continued to put downward pressure on selected
selling prices and have had an effect on all of the Company's segments. In
addition, lower volumes in the Chemicals segment contributed to the decline.
Net sales for the Chemicals segment comprised the majority of the decline as
compared to net sales in the second quarter of last year. Intermediate
products were most significantly affected due to volume reductions and lower
average selling prices. The volume drop was caused by planned shutdowns for
maintenance and the competitive ammonia market which resulted from excess
worldwide supply. The over-supplied ammonia market also caused the majority
of the segment's pricing decline. Higher sales volumes, principally in
Acrilan(R) and carpet staple, led to the increase in second quarter sales for
the Company's Fibers segment. Acrilan(R) volumes were driven by the upholstery
and industrial markets. The overall carpet market is strong, particularly in
the builder and commercial segments. Also, carpet price increases initiated
in the first quarter have remained in place. The decrease in second quarter
net sales for the Polymers & Resins segment was principally the result of
lower average selling prices offset by volume improvements in the Saflex(R)
plastic interlayer and resins business units. Currency exchange rates had a
minimal impact on all segment's profitability due to the sourcing of ex-U.S.
sales from ex-U.S. manufacturing facilities.
Operating income for Solutia during the second quarter of 1998 increased
$18 million, or 19 percent, from the second quarter of 1997 to $115 million.
Operating income for the second quarter of 1997 includes $10 million of
pre-tax environmental litigation charges that was offset partially by $8
million of reversals of prior-year restructuring reserves. The improvement in
operating income was principally the result of lower raw material costs and
good manufacturing performance. Marketing, administration and technology
expenses were essentially flat as compared to the same period of 1997.
The decrease in the Chemicals segment profit in the second quarter of 1998
primarily was driven by lower volumes, as discussed above, and average
selling prices below those of the prior year. The significant improvement in
the Fibers segment profit was attributed to the effect of the sales volume
increase previously described, lower raw material costs and good
manufacturing performance. Second quarter segment profit for Polymers &
Resins declined slightly versus the second quarter of last year. The decrease
resulted primarily because of the effect of lower sales previously discussed and
higher manufacturing costs. The higher manufacturing costs were associated with
planned downtime for maintenance projects and changeover costs for the Saflex(R)
plastic interlayer business unit as it expands production of its new Saflex
IIIG(TM) product.
The decrease in "Equity Earnings from Affiliates" was principally the result
of lower earnings for the Company's Flexsys L.P. joint venture. The lower
earnings were primarily attributed to startup costs associated with the joint
venture's PPD2 facility. This new unit will produce 4-amino-diphenylamine, a
product that extends the life of rubber products.
RESULTS OF OPERATIONS--FIRST SIX MONTHS 1998 COMPARED WITH FIRST SIX MONTHS
1997
Net sales for the six months ended June 30, 1998 decreased slightly as
compared to the same period of 1997. This decline was driven by lower
average selling prices in all segments and unfavorable currency exchange
rates, offset by volume improvements.
9
<PAGE> 11
The Chemicals segment's net sales declined as compared to the previous year
primarily due to lower average selling prices for intermediates and lower volume
of phosphorus and derivative products. Intermediates price declines resulted
from formula pricing that passed decreased raw material prices on to customers.
The lower volume experienced in phosphorus and derivatives was due to price
reduction actions by competitors. Significantly higher carpet staple and
Acrilan(R) volumes more than offset price decreases in the Fibers segment.
Carpet volume increases were due to strong builder and commercial sales and new
Wear-Dated(R) introductions while Acrilan(R) volume improvements were driven by
the upholstery and industrial markets. Price reductions in the Fibers segment
were caused by competitive pressures on carpet staple despite a recent price
increase. In the Polymers & Resins segment, price deterioration and unfavorable
currency exchange rate movements caused sales to be lower than the comparable
1997 period. These events were offset partially, however by volume
improvements. Lower average selling prices were felt most significantly by the
Company's Saflex(R) plastic interlayer unit and the resins business. Such price
declines were caused by competitor actions seeking volume increases through
price reductions and lower raw material costs. Unfavorable currency exchange
rate movements had an impact on Saflex(R) plastic interlayer selling prices
also.
Operating income for the first six months of 1998 was $214 million, which
represented an increase of $22 million over the comparable period of 1997. The
improvement in operating income was due largely to lower raw material prices
and good manufacturing performance. Additionally, the 1997 period contains
$12 million of pre-tax charges primarily associated with the adoption of
Statement of Position (SOP) 96-1, "Environmental Remediation Liabilities." In
addition, this year-over-year comparison was affected by the inclusion in 1998
of stand-alone expenses for certain general and administrative services that
were previously provided by Monsanto. As discussed in note 1 of the "Notes to
the Consolidated Financial Statements," Monsanto provided these services prior
to the Spinoff under a cost allocation arrangement. If Solutia had operated as
a stand-alone entity for all of 1997, management estimates that general and
administrative services would have been higher by approximately $6 million in
order to reflect the cost of replacing the services represented by these
allocations.
Profit in the Chemicals segment was essentially unchanged from the same
period of the prior year due to lower average selling prices offsetting the
segment's good manufacturing performance. The significant improvement in the
Fibers segment profit resulted from volume increases, good manufacturing
performance and lower raw material costs offset by lower average selling
prices. Polymers & Resins segment profit declined slightly due to the lower
sales discussed above and higher manufacturing costs. Increased manufacturing
costs resulted from planned downtime for maintenance projects and changeover
costs of the Saflex(R) plastic interlayer business unit as it expands
production of its new Saflex IIIG(TM) product.
Equity Earnings from Affiliates was lower for the 1998 six-month period as
compared to the 1997 period primarily due to the lower earnings from the
Company's Flexsys L.P. joint venture. The lower earnings were primarily
attributed to start-up costs associated with the joint venture's PPD2
facility. The new unit will produce 4-amino-diphenylamine, a product that
extends the life of rubber products.
LIQUIDITY AND CAPITAL RESOURCES
Solutia's working capital at June 30, 1998 increased to $217 million from
$106 million at December 31, 1997, primarily due to increased inventories and
decreased short-term debt offset by increased accounts payable and
miscellaneous accruals. Inventories were increased during the six-month
period to prepare for planned maintenance shutdowns and the introductions of
new Saflex(R) plastic interlayer and nylon industrial products. The increase
in accounts payable resulted from longer payment terms obtained after
December 31, 1997.
The Company continues to focus on reducing its outstanding short-term debt.
During the quarter, approximately $105 million of commercial paper was
repaid. Since the September 1, 1997 spin-off, Solutia has repaid
approximately $415 million of debt.
During the second quarter of 1998, approximately 1.0 million shares of common
stock were repurchased under the Company's previously announced stock
repurchase program for approximately $27 million. To date, approximately 3.3
million shares of the authorized 5 million shares have been repurchased.
The Company believes that its cash flow from operations, supplemented by
periodic additional borrowings, provides it with sufficient resources to
finance operations and planned capital needs.
10
<PAGE> 12
RECENTLY ISSUED ACCOUNTING STANDARDS
In March 1998, the American Institute of Certified Public Accountants issued
Statement of Position ("SOP") 98-1, "Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use." SOP 98-1 establishes the
accounting guidance for the capitalization of certain internal-use software
costs once certain criteria are met. This accounting standard will be
effective for the Company beginning January 1, 1999. The adoption of SOP
98-1 is not expected to have a material impact on the Company.
In April 1998, the American Institute of Certified Public Accountants issued
SOP 98-5, "Reporting on the Costs of Start-Up Activities." SOP 98-5 provides
guidance on the financial reporting of start-up costs and organization costs.
It requires costs of start-up activities and organization costs to be
expensed as incurred. This statement will be effective for the Company's
financial statements for the year ended December 31, 1999. The adoption of
SOP 98-5 is not expected to have a material impact on the Company.
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133
provides comprehensive and consistent standards for the recognition and
measurement of derivative and hedging activities. It requires that
derivatives be recorded on the Statement of Consolidated Financial Position
at fair value and establishes criteria for hedges of changes in the fair
value of assets, liabilities or firm commitments, hedges of variable cash
flows of forecasted transactions, and hedges of foreign currency exposures of
net investments in foreign operations. Changes in the fair value of
derivatives that do not meet the criteria for hedges would be recognized in
the Statement of Consolidated Income. This statement will be effective for
the Company beginning January 1, 2000. The Company is evaluating SFAS No.
133 and has not determined its effect on the consolidated financial
statements.
THE YEAR 2000 ISSUE
The year 2000 ("Y2K") issue refers to the inability of a date-sensitive
computer program to recognize a two-digit date field designated "00" as the
year 2000. Mistaking "00" for 1900 could result in a system failure or
miscalculations causing disruptions to operations, including manufacturing, a
temporary inability to process transactions, send invoices, or engage in
other normal business activities. This is a significant issue for most, if
not all companies, with far reaching implications, some of which cannot be
anticipated or predicted with any degree of certainty.
During 1997, the Company completed an initial assessment of the magnitude of
its Y2K issue relating to information systems and determined that significant
portions of its software required modification or repair to properly function
beyond December 31, 1999. The majority of the Company's Y2K issue is being
addressed through the implementation of software licensed from SAP AG which is
Y2K compliant. Assessment and remediation of issues that are not covered by the
SAP implementation, including process control systems and embedded chips, are
also continuing with the assistance of external resources and third-party
software vendors. In addition, the Company is developing a testing program
to be carried out in 1999 as well as contingency plans. The Company is
communicating with its suppliers and customers to determine the extent of the
Company's vulnerability to the failure of third parties to remediate their
own Y2K issue. The implementation of SAP and the evaluation and
remediation of other Y2K issues is continuing and remains on-track for
completion during mid-1999. To date, the Company has incurred approximately
$5 million related to Y2K remedial work, excluding the cost of SAP
implementation. Additional costs to evaluate and remediate the remaining
issues are currently estimated to be in the range of $5 - $10 million and
will be expensed as incurred over the last six months of 1998 and 1999.
Based on the status of the SAP implementation and the remediation of other
issues, management does not expect the Y2K issue to pose significant
operational problems for the Company. However, if the SAP implementation
and remediation of other issues are not completed or if problems are not
identified and remediated on a timely basis, Y2K could have a material
adverse effect on the Company, depending on the nature and extent of any
remaining non-compliance. Furthermore, if the Company's customers and
suppliers fail to rectify their Y2K issues in their own systems the resultant
effect on the Company may be material.
The estimated costs and date of completion of Y2K remediation are based on
management's best estimates, which were derived from numerous assumptions
about future events, including the availability or certain resources,
third-party modification plans, and other factors. There can be no guarantee
that these estimates will be achieved and actual results could differ
materially. Specific factors that might cause material differences include, but
are not limited to, the availability and cost of personnel trained in this area
and the ability to identify and correct all relevant computer codes and embedded
chips.
11
<PAGE> 13
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company's Report on Form 10-K for the year ended December 31, 1997, and
the Company's Report on Form 10-Q for the quarter ended March 31, 1998,
described a number of lawsuits and a related claim against Monsanto regarding
the alleged discharge of hazardous substances, including polychlorinated
biphenyls ("PCBs") from the Anniston, Alabama plant site. On June 17, 1998
the Company arrived at an agreement in principle to settle the action brought
in Circuit Court for Calhoun County by one of the churches near the plant for
a payment of $2.5 million and the purchase in January 1999 of a new
air-conditioned van for the church.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the Company's Annual Meeting of Stockholders on April 22, 1998, five
matters were submitted to a vote of stockholders.
1. The following directors were elected, each to hold office for a
three-year term that will expire at the Annual Meeting of
Stockholders in 2001 (or until their respective successors are
elected and qualified, or until their earlier death, resignation,
or removal). Votes were cast as follows:
<TABLE>
<CAPTION>
VOTES
VOTES "WITHHOLD
NAME "FOR" AUTHORITY"
---- ----- ----------
<S> <C> <C>
John C. Hunter III 101,725,843 1,595,320
William D. Ruckelshaus 101,672,100 1,649,063
John B. Slaughter 101,681,697 1,639,466
</TABLE>
The following directors are continuing current terms expiring at
the Annual Meeting of Stockholders in 1999: Joan T. Bok, Howard
M. Love, and Robert G. Potter.
The following directors are continuing terms expiring at the
Annual Meeting of Stockholders in 2000: Robert T. Blakely, Paul
H. Hatfield, Robert H. Jenkins, and Frank A. Metz, Jr.
2. The Solutia Inc. 1997 Stock-Based Incentive Plan was approved by
the stockholders. A total of 76,964,604 votes were cast in favor
of the plan, 24,983,562 votes were cast against it, and 1,372,997
votes were counted as abstentions.
3. The Solutia Inc. Annual Incentive Plan was approved by the
stockholders. A total of 95,224,110 votes were cast in favor of
the plan, 6,670,707 votes were cast against it, and 1,426,346
votes were counted as abstentions.
4. The Solutia Inc. 1998-1999 Long-Term Incentive Plan was approved
by the stockholders. A total of 94,990,212 votes were cast in
favor of the plan, 6,752,925 votes were cast against it, and
1,578,026 votes were counted as abstentions.
5. The appointment by the Board of Directors of Deloitte & Touche
L.L.P. as principal independent auditors for the year 1998 was
ratified by the stockholders. A total of 102,190,050 votes were
cast in favor of ratification, 581,829 votes were cast against
it, and 549,284 votes were counted as abstentions.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits -- See the Exhibit index at page 14 of this report.
(b) The Company did not file any reports on Form 8-K during the quarter
ended June 30, 1998.
12
<PAGE> 14
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.
SOLUTIA INC.
--------------------------------------
(Registrant)
/s/ ROGER S. HOARD
--------------------------------------
(Vice President and Controller)
(On behalf of the Registrant and as
Principal Accounting Officer)
Date: July 24, 1998
13
<PAGE> 15
EXHIBIT INDEX
These Exhibits are numbered in accordance with the Exhibit Table of
Item 601 of Regulation S-K.
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- ------ -----------
<C> <S>
2 Omitted - Inapplicable
3 Omitted - Inapplicable
4 Omitted - Inapplicable
10 1. Solutia Inc. Annual Incentive Plan (incorporated herein by
reference to Appendix A of the Solutia Inc. Notice of Annual
Meeting and Proxy Statement dated March 11, 1998)
2. Solutia Inc. 1998-1999 Long-Term Incentive Plan (incorporated
herein by reference to Appendix B of the Solutia Inc. Notice of
Annual Meeting and Proxy Statement dated March 11, 1998)
11 Omitted -- Inapplicable; see "Statement of Consolidated Income" on page 1.
15 Omitted -- Inapplicable
18 Omitted -- Inapplicable
19 Omitted -- Inapplicable
22 Omitted -- Inapplicable
23 Omitted -- Inapplicable
24 Omitted -- Inapplicable
27 Financial Data Schedule
99 Omitted -- Inapplicable
</TABLE>
14
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
Statement of Consolidated Income of Solutia Inc. and Subsidiaries for
the six months ended June 30, 1998, and the Statement of Consolidated
Financial Position as of June 30, 1998. Such information is qualified
in its entirety by reference to such combined financial statements.
</LEGEND>
<MULTIPLIER> 1,000,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> JUN-30-1998
<CASH> 12
<SECURITIES> 0
<RECEIVABLES> 439
<ALLOWANCES> 6
<INVENTORY> 348
<CURRENT-ASSETS> 1,012
<PP&E> 3,219
<DEPRECIATION> 2,318
<TOTAL-ASSETS> 2,768
<CURRENT-LIABILITIES> 795
<BONDS> 597
<COMMON> 1
0
0
<OTHER-SE> (51)
<TOTAL-LIABILITY-AND-EQUITY> 2,768
<SALES> 1,465
<TOTAL-REVENUES> 1,465
<CGS> 1,072
<TOTAL-COSTS> 1,072
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 23
<INCOME-PRETAX> 206
<INCOME-TAX> 70
<INCOME-CONTINUING> 136
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 136
<EPS-PRIMARY> 1.17
<EPS-DILUTED> 1.09
</TABLE>
