<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ..... to .....
Commission File Number 1-5263
THE LUBRIZOL CORPORATION
(Exact name of registrant as specified in its charter)
Ohio 34-0367600
(State or other jurisdiction of (I.R.S.Employer
incorporation or organization) Identification No.)
29400 Lakeland Boulevard
Wickliffe, Ohio 44092-2298
(Address of principal executive offices)
(Zip Code)
(440) 943-4200
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities and Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [ X ] No [ ]
Number of the registrant's common shares, without par value, outstanding, as of
October 31, 2000: 52,071,877.
<PAGE> 2
PART I. FINANCIAL INFORMATION
ITEM 1 FINANCIAL STATEMENTS
---------------------------
THE LUBRIZOL CORPORATION
========================
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------------
September 30 December 31
(In Thousands of Dollars) 2000 1999
--------------------------------------------------------------------------------------------
<S> <C> <C>
ASSETS
Cash and short-term investments ........................ $ 106,153 $ 185,465
Receivables ............................................ 308,135 301,256
Inventories:
Finished products .................................... 133,902 118,135
Products in process .................................. 67,801 56,855
Raw materials ........................................ 71,936 66,102
Supplies and engine test parts ....................... 16,899 17,057
----------- -----------
290,538 258,149
----------- -----------
Other current assets ................................... 31,617 35,572
----------- -----------
Total current assets ............... 736,443 780,442
Property and equipment - net ........................... 674,676 670,512
Goodwill and intangible assets - net ................... 172,640 149,779
Investments in nonconsolidated companies ............... 34,771 30,441
Other assets ........................................... 50,643 51,180
----------- -----------
TOTAL ......................... $ 1,669,173 $ 1,682,354
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Short-term debt and current portion of long-term debt .. $ 16,987 $ 37,584
Accounts payable ....................................... 153,743 138,841
Accrued expenses and other current liabilities ......... 127,140 134,875
----------- -----------
Total current liabilities .......... 297,870 311,300
----------- -----------
Long-term debt ......................................... 380,666 365,372
Postretirement health care obligation .................. 101,704 108,717
Noncurrent liabilities ................................. 50,334 45,054
Deferred income taxes .................................. 59,562 61,787
----------- -----------
Total liabilities .................. 890,136 892,230
----------- -----------
Minority interest ...................................... 32,344
Contingencies and commitments
Shareholders' equity:
Preferred stock without par value - authorized
and unissued:
Serial Preferred Stock - 2,000,000 shares
Serial Preference Shares - 25,000,000 shares
Common Shares without par value:
Authorized 120,000,000 shares
Outstanding - 52,214,677 shares as of September 30,
2000 after deducting 33,981,217 treasury
shares, 54,477,292 shares as of December 31,
1999 after deducting 31,718,602 treasury shares .. 83,588 85,984
Retained earnings .................................... 749,678 758,090
Accumulated other comprehensive income (loss) ....... (86,573) (53,950)
----------- -----------
Total shareholders' equity ......... 746,693 790,124
----------- -----------
TOTAL ......................... $ 1,669,173 $ 1,682,354
=========== ===========
</TABLE>
Amounts shown are unaudited.
-2-
<PAGE> 3
THE LUBRIZOL CORPORATION
========================
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF INCOME
-------------------------------------------------------------------------------------------------------------
Third Quarter Nine Months
Ended September 30 Ended September 30
-------------------------------------------------------------------
(In Thousands Except Per Share Data) 2000 1999 2000 1999
-------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net sales .......................... $ 424,032 $ 431,978 $ 1,298,413 $ 1,311,734
Royalties and other revenues ....... 954 1,251 3,293 3,225
----------- ----------- ----------- -----------
Total revenues ........... 424,986 433,229 1,301,706 1,314,959
Cost of sales ...................... 302,408 295,366 919,615 895,525
Selling and administrative expenses 41,790 43,854 128,655 136,376
Research, testing and development
expenses ......................... 39,051 34,753 110,154 107,251
----------- ----------- ----------- -----------
Total cost and expenses .. 383,249 373,973 1,158,424 1,139,152
Gain from litigation settlement .... 14,476
Special (charge) credit ............ (20,767) 2,577 (23,903)
Other income (expense) - net ....... (5,661) (2,398) (10,014) (5,666)
Interest income .................... 1,820 2,433 6,342 5,235
Interest expense ................... (6,427) (8,066) (20,480) (22,490)
----------- ----------- ----------- -----------
Income before income taxes ......... 31,469 30,458 121,707 143,459
Provision for income taxes ......... 8,214 10,046 36,635 53,925
----------- ----------- ----------- -----------
Net income ......................... $ 23,255 $ 20,412 $ 85,072 $ 89,534
=========== =========== =========== ===========
Net income per share ............... $ 0.44 $ 0.37 $ 1.59 $ 1.64
=========== =========== =========== ===========
Net income per share, diluted ...... $ 0.44 $ 0.37 $ 1.59 $ 1.64
=========== =========== =========== ===========
Dividends per share ................ $ 0.26 $ 0.26 $ 0.78 $ 0.78
=========== =========== =========== ===========
Average common shares outstanding .. 52,790 54,607 53,546 54,573
</TABLE>
Amounts shown are unaudited.
-3-
<PAGE> 4
THE LUBRIZOL CORPORATION
========================
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF CASH FLOWS
---------------------------------------------------------------------------------------
Nine Months Ended
September 30
------------------------------------
(In Thousands of Dollars) 2000 1999
----------------------------------------------------------------------------------------
<S> <C> <C>
Cash provided from (used for):
Operating activities:
Net income ......................................... $ 85,072 $ 89,534
Adjustments to reconcile net income to cash provided
by operating activities:
Depreciation and amortization .................. 73,221 72,462
Deferred income taxes .......................... 3,524 2,489
Special charges ................................ (2,577) 23,903
Change in current assets and liabilities:
Receivables .................................. (19,981) (19,824)
Inventories .................................. (39,261) 16,807
Accounts payable and accrued expenses ........ 19,902 18,620
Other current assets ......................... 2,907 21,524
Other items - net .............................. 2,873 (53)
--------- ---------
Total operating activities ............... 125,680 225,462
Investing activities:
Capital expenditures ............................. (59,566) (47,572)
Acquisitions and investments in nonconsolidated
companies ...................................... (41,141)
Other - net ...................................... 1,680 830
--------- ---------
Total investing activities ............... (99,027) (46,742)
Financing activities:
Short-term borrowing (repayment) ................ 2,211 (22,974)
Long-term borrowing .............................. 18,375 5,000
Long-term repayments ............................. (26,720) (5,037)
Dividends paid ................................... (41,858) (42,558)
Common shares (purchased) net of options exercised (54,602) 1,422
--------- ---------
Total financing activities ............... (102,594) (64,147)
Effect of exchange rate changes on cash ............ (3,371) (4,445)
--------- ---------
Net increase (decrease) in cash and short-term
investments ...................................... (79,312) 110,128
Cash and short-term investments at the beginning
of period ........................................ 185,465 53,639
--------- ---------
Cash and short-term investments at end of period ... $ 106,153 $ 163,767
========= =========
</TABLE>
Amounts shown are unaudited.
-4-
<PAGE> 5
THE LUBRIZOL CORPORATION
========================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2000
1. The accompanying unaudited consolidated financial statements contain all
adjustments (consisting only of normal recurring accruals) necessary to
present fairly the financial position as of September 30, 2000 and December
31, 1999, and the results of operations and cash flows for the applicable
periods ended September 30, 2000 and 1999.
2. Net income per share is computed by dividing net income by average common
shares outstanding during the period. Net income per share, diluted,
includes the dilution effect resulting from outstanding stock options and
stock awards.
Per share amounts are computed as follows:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
------------------ --------------------
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Numerator:
Net income available to
common shares $23,255 $20,412 $85,072 $89,534
======= ======= ======= ========
Denominator:
Weighted average common
shares outstanding 52,790 54,607 53,546 54,573
Dilutive effect of stock
options and awards 65 169 117 132
------- ------- ------- -------
Denominator for net income
per share, diluted 52,855 54,776 53,663 54,705
======= ======= ======= =======
Net income per share $ .44 $ .37 $ 1.59 $ 1.64
======= ======= ======= =======
Net income per share,
diluted $ .44 $ .37 $ 1.59 $ 1.64
======= ======= ======= =======
</TABLE>
3. Total comprehensive income is comprised of the following:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
------------------------ --------------------------
2000 1999 2000 1999
-------- ------- ------- --------
<S> <C> <C> <C> <C>
Net income $23,255 $20,412 $85,072 $ 89,534
Other comprehensive
income (loss) (14,104) 10,335 (32,623) (18,583)
------- ------- ------- --------
Total comprehensive
income $ 9,151 $30,747 $52,449 $ 70,951
======= ======= ======= ========
</TABLE>
Other comprehensive income (loss) in each of the periods above is solely
comprised of foreign currency translation adjustments, net of related tax
effects.
5
<PAGE> 6
THE LUBRIZOL CORPORATION
========================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2000
4. In March 2000, the company purchased certain assets of Alox Corporation
(Alox) from RPM, Inc. Alox is a leading supplier of additives for
corrosion prevention in metalworking products, with 1999 revenues of
approximately $20 million. In March 2000, the company also acquired an
additional 10% interest in its India joint venture, increasing the
company's ownership interest to 50%. The aggregate purchase price of
both acquisitions was approximately $36 million, of which $26 million
was assigned to goodwill and intangible assets. Amortization of
goodwill is on a straight-line basis over 15 years. In June 2000, the
company made an investment of approximately $4.9 million in a joint
venture with GE Transportation Systems to develop and market products
and services to manage critical diesel engine fluids to optimize
service intervals and improve fuel consumption and fueling processes.
This investment will be accounted for using the equity method of
accounting. In September 2000, the company signed a new agreement with
PetroChina Company Limited giving the company control over its
subsidiary in China and providing for capital contributions by each
party of approximately $28 million. The agreement was effective on
September 4, 2000, with a business license issued on September 29, 2000
and therefore, the company has consolidated this operation as of
September 30, 2000.
5. The second phase of the company's cost reduction program began in the
third quarter of 1999 and involves primarily the downsizing of the
company's Painesville, Ohio, manufacturing plant. In the second quarter
of 2000, the company recorded a pre-tax adjustment of $2.6 million
($1.7 million after-tax or $.03 per share), to reduce the amount of the
special charge previously recorded in the third quarter of 1999,
principally because the cost of workforce reductions at Painesville
will be less than originally anticipated. This second phase will result
in the reduction of approximately 5% of the company's workforce, or 190
positions, and the shutdown of 21 of Painesville's 36 production
systems. Through September 30, 2000, the company has shut down 15 of
the 21 targeted systems and completed approximately 59% of the
workforce reduction. Cash expenditures of approximately $.5 million
were made in 2000 related to the cost reduction program. Approximately
$7.5 million remains as an accrued liability at September 30, 2000, of
which $5.0 million relates to employee separations and $2.5 million
relates to equipment cleaning and dismantling. The company expects to
shut down the remaining targeted production units and complete the
workforce reduction by the end of the fourth quarter of 2000.
6. On March 28, 2000, the company entered into an interest rate swap
agreement that effectively converts the interest on $25 million of
outstanding 5.875% notes due in 2008 to a variable rate of three-month
LIBOR less 143 basis points. On April 5, 2000, the company entered into
a similar agreement, for another $25 million of these notes, at a rate
of three-month LIBOR less 118 basis points. On May 12, 2000, the
company entered into two additional similar agreements for these notes,
for $25 million each, at respective rates of three-month LIBOR less 188
basis points and three-month LIBOR less 187.5 basis points.
7. The company had an effective tax rate of 26.1% for the three months
ended September 30, 2000 and 30.1% for the nine months ended September
30, 2000 (30.0% for the nine months before the special charge
adjustment) compared to 33.0% for the three months ended September 30,
1999 (35.0% for the three months ended September 30, 1999 before the
special charge) and 37.6% for the nine months ended September 30, 1999
(37.0% for the nine months ended September 30, 1999 before the
6
<PAGE> 7
THE LUBRIZOL CORPORATION
========================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2000
litigation settlement and special charge). The decrease in the
year-to-date effective tax rate compared to 1999 is due to the U.S. tax
benefit from charitable contributions of technology to an educational
institution, the favorable impact of statutory tax rate changes for
certain foreign subsidiaries and an increase in the U.S. Foreign Sales
Corporation tax benefit on export sales.
8. On May 24, 2000, the company borrowed $18,375,000, through the issuance
of Harris County (Texas) Industrial Development Corporation Marine
Terminal Refunding Revenue Bonds, Series 2000 (the "Bonds"). Proceeds
from the Bonds were used, on June 30, 2000, to repay $18,375,000
aggregate amount of Harris County (Texas) Industrial Development
Corporation Marine Terminal Refunding Revenue Bonds, Series 1991.
The Bonds have a stated maturity of July 1, 2018 and bear interest at a
variable interest rate which will be determined weekly by Morgan
Stanley and Co., the remarketing agent for the Bonds (the interest rate
at September 30, 2000 was 5.6%). At each weekly reset date, the
bondholders may put the Bonds back to the company; however, the company
expects that these Bonds would then be remarketed. If the Bonds cannot
be remarketed, the company has credit facilities in place that would
enable it to refinance the debt for a period beyond one year. The Bonds
are, therefore, classified as long-term debt in the financial
statements.
9. In September 2000, the Emerging Issues Task Force (EITF) of the
Financial Accounting Standards Board issued EITF 00-10, Accounting for
Shipping and Handling Fees and Costs, which is to become effective for
the company no later than the fourth quarter of 2000. EITF 00-10
provides that all amounts billed to a customer in a sale transaction
related to shipping and handling represent revenues earned for the
goods sold and should be classified as revenue. The company currently
nets freight revenues against freight expenses within cost of sales.
The company is currently evaluating the requirements and effects of
EITF 00-10, and estimates that implementation will result in an
increase in revenues of approximately 1% to 3% with a corresponding
increase in cost of sales for the same amount. There will be no effect
on the dollar amount of the company's gross profit or net income.
10. On October 12, 2000, the company reached a settlement of all pending
patent litigation with Imperial Oil Limited (Imperial), a Canadian
affiliate of Exxon Mobil Corporation. Under the settlement agreement,
Lubrizol received $25 million, which will be recorded in the fourth
quarter of 2000, net of related expenses of $5.6 million. The company
and Imperial have also entered into a ten-year agreement for the supply
by the company of $490 million (Canadian dollars) of product to
Imperial.
11. In June 1998, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) 133, "Accounting for
Derivative Instruments and Hedging Activities," which was to become
effective for the company no later than January 1, 2000. In June 1999,
the FASB delayed the required effective date for SFAS 133, which
delayed the required effective date for the company until January 1,
2001. The company has substantially completed its evaluation of the
requirements of SFAS 133 and believes that adoption of the standard
will not have a material effect on the company's financial statements.
7
<PAGE> 8
THE LUBRIZOL CORPORATION
========================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2000
12. The company aggregates its product lines into two principal operating
segments: chemicals for transportation and chemicals for industry. The
company evaluates performance and allocates resources based on segment
contribution income, defined as revenues less expenses directly
identifiable to the product lines aggregated within each segment. In
addition, the company allocates corporate research, testing, selling and
administrative expenses, and excess production capacity costs in arriving
at segment operating profit before tax.
The following table presents a summary of the company's reportable segments
for the three- and nine- months ended September 30, 2000 and 1999 on a
basis of segmentation consistent with the previous year end:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
----------------------------- -----------------------------
2000 1999 2000 1999
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Revenue from external customers:
Chemicals for transportation $ 346,964 $ 358,147 $ 1,066,573 $ 1,092,009
Chemicals for industry 78,022 75,082 235,133 222,950
----------- ----------- ----------- -----------
Total revenues $ 424,986 $ 433,229 $ 1,301,706 $ 1,314,959
=========== =========== =========== ===========
Segment contribution income:
Chemicals for transportation $ 65,542 $ 86,860 $ 217,132 $ 262,028
Chemicals for industry 10,140 12,073 34,840 36,726
----------- ----------- ----------- -----------
Total segment contribution
income $ 75,682 $ 98,933 $ 251,972 $ 298,754
=========== =========== =========== ===========
Segment operating profit before tax:
Chemicals for transportation $ 30,508 $ 49,939 $ 112,152 $ 149,138
Chemicals for industry 5,568 6,919 21,116 21,003
----------- ----------- ----------- -----------
Total segment operating
profit before tax 36,076 56,858 133,268 170,141
Gain from litigation settlement 14,476
Special (charge) credit (20,767) 2,577 (23,903)
Interest expense - net (4,607) (5,633) (14,138) (17,255)
----------- ----------- ----------- -----------
Consolidated income before tax $ 31,469 $ 30,458 $ 121,707 $ 143,459
=========== =========== =========== ===========
</TABLE>
Prior-year amounts have been restated to reflect reclassifications of products
between chemicals for transportation and chemicals for industry operating
segments. Prior-year segment contribution income has been restated to reflect
the exclusion, for internal management reporting purposes, effective January 1,
2000, of excess production capacity from product costs; this change had no
effect on segment operating profit before tax.
8
<PAGE> 9
THE LUBRIZOL CORPORATION
========================
Item 2 - Management's Discussion and Analysis of
Financial Condition and Results of Operations
-------------------------------------------------
RESULTS OF OPERATIONS
Our consolidated revenues for the third quarter and nine months ended September
30, 2000 were down slightly compared to the corresponding periods of 1999. We
continued to experience significant increases in raw material costs in the third
quarter of 2000, and we had lower profit margins for the third quarter and the
first nine months of 2000 as compared to the corresponding periods of 1999. We
have been raising prices, but the increases have not recovered the higher raw
material costs and have been diluted by currency effects. We have benefited from
lower operating expenses and a lower effective tax rate. However, net income for
the third quarter of 2000 decreased 30% compared to the third quarter of 1999
and decreased 13% for the first nine months of 2000 as compared to the first
nine months of 1999, after excluding special items from all periods.
We group our product lines into two operating segments: chemicals for
transportation and chemicals for industry. Chemicals for transportation
comprised approximately 83% of our consolidated revenues and 87% of our segment
pre-tax operating profits for the full year 1999 (82% of revenues and 84% of
operating profits for the nine months ended September 30, 2000). This discussion
and analysis of our financial condition and results of operations is primarily
focused upon the company as a whole, since we believe this provides the most
appropriate understanding of our business. See Note 12 to the financial
statements for further financial disclosures by operating segment.
Consolidated revenues decreased $8.2 million, or 2% (3% excluding acquisitions),
for the third quarter of 2000 compared with the third quarter of 1999, and
decreased $13.3 million, or 1% (2% excluding acquisitions), for the first nine
months of 2000 compared with the first nine months of 1999. On a year-to-year
comparative basis, chemicals for transportation revenues decreased $11.2
million, or 3%, for the third quarter and $25.4 million, or 2%, for the nine
months. On a similar basis, chemicals for industry revenues increased $2.9
million, or 4%, for the third quarter and $12.2 million, or 5%, for the nine
months.
Shipment volume decreased 3% in the third quarter of 2000 (4% excluding
acquisitions) and decreased 2% in the first nine months of 2000 (2% excluding
acquisitions) compared with the same periods in 1999. Shipments to North
American customers decreased 2% for the third quarter and 4% for the first nine
months of 2000, and international shipments decreased 3% for the third quarter
and were flat for the first nine months of 2000 compared with the same periods
in 1999. The drop in international shipments for the third quarter occurred
entirely in September. We believe most of this decrease was due to customer
order pattern, as it appears that October international volume is back to
normal. Nine-month shipments to customers in Asia Pacific and Latin America
increased 3% and 4%, respectively, compared to 1999, as both regions experienced
strong third quarters. Nine-month shipments to customers in Europe decreased 3%,
compared to 1999, due to 11% lower shipments in the third quarter of 2000
compared with third quarter of 1999. This decrease was partially because of
lower customer orders in September 2000 due to disruption from fuel tax protests
in the region and some large tender shipments in the third quarter of 1999 that
did not occur in 2000.
Average additive selling price increased 1% for the third quarter of 2000 and
was flat for the first nine months of 2000 compared with the same periods in
1999, because higher pricing was offset by unfavorable
9
<PAGE> 10
THE LUBRIZOL CORPORATION
========================
Management's Discussion and Analysis of
Financial Condition and Results of Operations
currency and product mix. Sequentially, average selling price increased 1% from
the second quarter to the third quarter of 2000, as a 2% real increase in
selling price was partially offset by unfavorable currency impact.
Cost of sales increased 2% for the third quarter of 2000 and increased 3% for
the first nine months of 2000, compared to the same periods in 1999, because of
higher raw material costs partially offset by lower manufacturing expenses.
Average raw material cost increased 11% for the third quarter of 2000 and 9% for
the first nine months of 2000, compared with the same periods in 1999, due to
the impact of higher crude oil costs on petrochemical prices. Sequentially,
average raw material cost increased 5% in the third quarter as compared to the
second quarter. We expect further increases in average raw material cost of 3%
to 4% in the fourth quarter. In response to the higher raw material costs
experienced during the second quarter, we implemented a third price increase in
the third quarter of 2000.
We have now implemented three price increases in the past twelve months, but
these have failed to recover the full amount of material cost increases and have
been diluted by negative currency affects. Fluctuating crude oil and
petrochemical prices make it difficult to accurately predict when material costs
will stabilize and gross margins will improve, but we do not expect any
improvement during the remainder of this year. Further price increases will be
necessary to recover higher material costs, and therefore, we have announced
another price increase in November 2000.
Manufacturing costs were 9% lower for the third quarter of 2000 compared with
the third quarter of 1999 and 8% lower for the first nine months of 2000
compared with the first nine months of 1999. Half of the reduction in
manufacturing costs for the quarter and a third of the reduction for the nine
months resulted from higher inventory levels with corresponding increases in
capitalized manufacturing labor and overhead costs. Some of this favorable
variance will reverse in the fourth quarter, as we expect to reduce inventory
levels. Manufacturing savings also resulted from the integration of the Adibis
business, restructuring savings at our Painesville plant and favorable currency
effects.
Gross profit (sales less cost of sales) decreased $15.0 million or 11% for the
third quarter of 2000, and $37.4 million or 9% for the first nine months of
2000, compared with the same periods in 1999. The decreases resulted from higher
raw material costs, lower volume and negative currency impact, partially offset
by lower manufacturing expense and the impact of an acquisition. Chemicals for
transportation gross profit decreased $15.6 million, or 14%, for the third
quarter of 2000, and $40.7 million, or 12%, for the first nine months of 2000
compared with the same periods in 1999 due to the factors mentioned above.
Chemicals for industry gross profit increased $.6 million, or 2%, for the third
quarter of 2000, and $3.3 million, or 4%, for the first nine months of 2000
compared with the same periods in 1999, primarily due to gross profit increases
in our performance chemicals, coatings and inks, and synthetic refrigerant
lubricant product groups. These factors caused our gross profit percentage
(gross profit divided by net sales) to be 28.7% in the third quarter of 2000 and
29.2% in the first nine months of 2000, compared with 31.6% and 31.7% in the
respective periods of 1999. Sequentially, gross profit decreased 6% from the
second quarter of 2000 and the gross profit percentage decreased from 29.6% in
the second quarter of 2000.
10
<PAGE> 11
THE LUBRIZOL CORPORATION
========================
Management's Discussion and Analysis of
Financial Condition and Results of Operations
Selling and administrative expenses decreased $2.1 million, or 5%, for the third
quarter of 2000 and $7.7 million, or 6%, for the first nine months of 2000
compared with the respective 1999 periods, due to lower legal expenses, lower
implementation costs for our enterprise-wide management information system,
lower variable compensation costs and favorable currency effects.
Our research, testing and development expenses (technology expenses) increased
$4.3 million, or 12%, for the third quarter of 2000 and increased $2.9 million,
or 3%, for the first nine months of 2000 compared with the same periods of 1999.
Technology expenses were favorably affected in the first half of the year
because of lower activity at third-party testing facilities in the first quarter
of the year resulting, in part, from an industry delay in finalizing
specifications for the U.S. passenger car motor oil technical standard, GF-3.
The specification issues have been resolved and we began testing in the third
quarter, which accounts for the 7% sequential increase in technology expenses
for the third quarter as compared to the second quarter. We expect GF-3 testing
to continue for two to three more quarters.
The change in other income (expense) negatively affected pre-tax income by $3.3
million for the third quarter of 2000 and by $4.3 million for the first nine
months of 2000 compared with the respective 1999 periods. The unfavorable
changes were primarily due to lower equity earnings of affiliated companies and
losses on miscellaneous sales of assets. We also had higher goodwill
amortization resulting from the Alox acquisition.
Interest expense decreased $1.6 million for the third quarter of 2000 and $2.0
million for the first nine months of 2000 compared to the same periods in 1999
principally because of lower interest rates due to the interest rate swap
agreements that we entered into in the first and second quarters of 2000, and
lower principal amounts outstanding because of debt retirement in Germany in
2000.
On March 31, 1999, the company and Exxon Corporation reached a settlement of all
pending intellectual property litigation between the two companies and their
affiliates, except for litigation that was pending in Canada. Under the
settlement agreement, Exxon paid us cash of $16.8 million in April 1999. After
deducting related expenses, this settlement increased pre-tax income by $14.5
million ($9.0 million after-tax or $.16 per share) for the first nine months of
1999. On October 12, 2000, the company reached a settlement of all pending
patent litigation with Imperial Oil Limited (Imperial), a Canadian affiliate of
Exxon Mobil Corporation. Under the settlement agreement, Lubrizol received $25
million, in October 2000 that will be recorded in the fourth quarter of 2000,
net of related expenses of $5.6 million. The company and Imperial have also
entered into a ten-year agreement for the supply by the company of $490 million
(Canadian dollars) of product to Imperial.
In the first quarter of 1999, we recognized additional expense of $3.1 million
($2.9 million after-tax or $.05 per share), to reflect an additional amount for
separation benefits, principally in Japan, under a cost reduction program
originally announced and recognized in the fourth quarter of 1998.
In the third quarter of 1999, we recorded a special charge of $20.8 million
($12.9 million after-tax or $.24 per share) relating principally to the
restructuring of our Painesville, Ohio manufacturing plant.
11
<PAGE> 12
THE LUBRIZOL CORPORATION
========================
Management's Discussion and Analysis of
Financial Condition and Results of Operations
---------------------------------------------
In the second quarter of 2000, we recorded a pre-tax adjustment of $2.6 million
($1.7 million after-tax or $.03 per share), to reduce the amount of the special
charge recorded in the third quarter of 1999 relating to the downsizing of our
Painesville manufacturing facility. The cost of workforce reductions at
Painesville will be less than we originally anticipated because we have
increased the planned number of employees at the end of the second phase of our
cost reduction program due to the assumption of Alox production, retention of a
waste incineration process and higher expected throughput. We also have
eliminated a number of positions without severance pay cost since we have been
able to transfer employees to positions in our other facilities outside of
Painesville.
We had an effective tax rate of 26.1% for the third quarter of 2000 and 30.1%
for the first nine months of 2000 (30.0% for the nine months before the special
charge adjustment) compared to 33.0% for the third quarter of 1999 and 37.6% for
the first nine months of 1999 (35.0% for the first quarter of 1999 and 37.0% for
the first nine months of 1999 before special items for all periods). We also
anticipate an effective tax rate of 30.0% for the full year 2000, as compared
with 36.5% for the full year 1999, prior to the litigation settlement and
special charge. This anticipated decrease in the annual effective tax rate is
due to the U.S. tax benefit from charitable contributions of technology to an
educational institution, the favorable impact of statutory tax rate changes for
certain of our foreign subsidiaries and an increase in the U.S. Foreign Sales
Corporation tax benefit on export sales. The lower tax rate used for the third
quarter of 2000 and first nine months of 2000 (prior to special charge
adjustment) had a favorable effect of $.05 per share and $.15 per share,
respectively, when compared to the rates used for the third quarter of 1999
(prior to the special charge) and for the first nine months of 1999 (prior to
litigation settlement and special charge).
Changes in currency exchange rates in effect during the third quarter and first
nine months of 2000 had an unfavorable effect on net income per share of $.03
and $.12 per share, respectively, as compared to exchange rates in effect during
the comparable periods in 1999.
Primarily as a result of the above factors, net income for the third quarter of
2000 was $23.3 million or $.44 per share as compared to $20.4 million or $.37
per share for the third quarter of 1999 ($33.3 million or $.61 per share for the
third quarter of 1999, after excluding the special charge). For the first nine
months of 2000, net income was $85.1 million or $1.59 per share as compared to
$89.5 million or $1.64 per share for the first nine months of 1999. After
excluding the 2000 second quarter adjustment to the special charge and the 1999
first quarter gain from the litigation settlement and adjustment to the special
charge and the 1999 third quarter special charge, net income for the first nine
months of 2000 was $83.4 million ($1.56 per share; $1.55 per share diluted)
compared to $96.3 million ($1.76 per share) for the first nine months of 1999.
WORKING CAPITAL, LIQUIDITY AND CAPITAL RESOURCES
Cash provided from operating activities was $125.7 million for the first nine
months of 2000 compared with $225.5 million for the first nine months of 1999.
The decrease in cash flow from operations was principally attributable to a $36
million increase in working capital in 2000 compared to $37 million reduction in
working capital in 1999. The working capital change resulted from increased
inventories in 2000 in advance of planned maintenance at some of our facilities,
inventory build up in Texas as safety stock against hurricane disruption and
lower
12
<PAGE> 13
THE LUBRIZOL CORPORATION
========================
Management's Discussion and Analysis of
Financial Condition and Results of Operations
---------------------------------------------
September 2000 shipment volume, as compared to decreased inventory levels in the
first nine months of last year as part of our working capital initiative and the
collection of a $16.1 million income tax refund in the first quarter of 1999,
with no comparable collection this year.
Our capital expenditures in the first nine months of 2000 were $59.6 million
compared with $47.6 million for the same 1999 period. We estimate capital
spending for the full year 2000 will be approximately $80 million as compared to
$64.9 million in 1999. Approximately half of the increase over the prior year is
due to capital spent to transfer capacity from our Painesville facility to our
Texas facilities as part of our cost reduction program.
During the first quarter of 2000, we spent approximately $36 million on two
acquisitions. We acquired certain production assets and working capital of Alox
Corporation (Alox), a leading supplier of additives for corrosion prevention in
metalworking products, with annual revenues of approximately $20 million. We are
integrating the Alox operation into our existing infrastructure and relocating
the manufacturing activity to our Painesville, Ohio plant. We also acquired an
additional 10% interest in our India joint venture, increasing our ownership
interest to 50%. During the second quarter of 2000, we made an investment of
approximately $4.9 million in a joint venture with GE Transportation Systems to
develop and market products and services to manage critical diesel engine fluids
to optimize service intervals and improve fuel consumption and fueling
processes. In September 2000, the company signed a new agreement with PetroChina
Company Limited giving the company control over its subsidiary in China and
providing for capital contributions by each party of approximately $28 million.
We have maintained an active share repurchase program for a number of years,
although we suspended repurchases for most of 1999. We resumed share repurchases
in late 1999 and repurchased approximately 2,325,000 shares for $55.9 million in
the first nine months of 2000. We plan to spend approximately $20 million on
share repurchases during the fourth quarter of 2000. Our net debt to
capitalization ratio, which had decreased from approximately 35% to 25% during
the time share repurchases were suspended, was 30.7% at September 30, 2000. Net
debt is the total of short- and long-term debt, reduced by cash and short-term
investments in excess of an assumed operating cash level of $40 million.
Capitalization is shareholders' equity plus net debt.
Primarily as a result of these activities and the payment of dividends, our
balance of cash and short-term investments decreased $79.3 million at September
30, 2000 compared with December 31, 1999.
Our financial position remains strong with a ratio of current assets to current
liabilities of 2.5 to 1 at September 30, 2000, the same as our ratio at December
31, 1999. We believe our current credit facilities, internally generated funds
and ability to obtain additional financing will be sufficient to meet our future
spending needs.
COST REDUCTION PROGRAM
We initiated a program in 1998 to reduce costs and improve our worldwide
operating structure. The first phase of this program was substantially completed
by the end of the third quarter of 1999. The second phase, which began in the
third quarter of 1999 and involves primarily the downsizing of our Painesville,
Ohio manufacturing facility, will result in the reduction of approximately 5% of
our workforce, or 190 positions, and the shutdown of 21 of Painesville's 36
production systems. Through
13
<PAGE> 14
THE LUBRIZOL CORPORATION
========================
Management's Discussion and Analysis of
Financial Condition and Results of Operations
---------------------------------------------
September 30, 2000, we have shut down 15 of the 21 targeted production
systems and completed approximately 59% of the anticipated workforce reduction.
We expect to shut down the remaining targeted production units, and complete the
workforce reduction, by the end of the fourth quarter of 2000. We have achieved
approximately $5.0 million of savings from the second phase of this program
through September 30, 2000 and we expect to achieve $7.0 million in total
savings by the end of 2000. Beginning in 2001 we estimate we will achieve an
additional $13 million in savings for total estimated annualized savings of $20
million. We will spend approximately $8 million of capital to transfer a portion
of the capacity to our Texas plants, of which $7.8 million has been spent
through September 30, 2000.
CAUTIONARY STATEMENT FOR SAFE HARBOR PURPOSES
This Management's Discussion and Analysis of Financial Condition and Results of
Operations contains forward-looking statements within the meaning of the federal
securities laws. As a general matter, forward-looking statements are those
focused upon future plans, objectives or performance as opposed to historical
items and include statements of anticipated events or trends and expectations
and beliefs relating to matters not historical in nature. Such forward-looking
statements are subject to uncertainties and factors relating to our operations
and business environment, all of which are difficult to predict and many of
which are beyond our control. Such uncertainties and factors could cause our
actual results to differ materially from those matters expressed in or implied
by such forward-looking statements. We identified certain, but not necessarily
all, of these uncertainties and factors in the Management's Discussion and
Analysis contained on pages 22 and 23 of our 1999 Annual Report to our
shareholders, and they are incorporated by reference herein.
14
<PAGE> 15
THE LUBRIZOL CORPORATION
========================
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We operate manufacturing and blending facilities, laboratories and offices
around the world and utilize fixed and variable rate debt to finance our
global operations. As a result, we are subject to business risks inherent
in non-U.S. activities, including political and economic uncertainty,
import and export limitations, and market risk related to changes in
interest rates and foreign currency exchange rates. We believe the
political and economic risks related to our foreign operations are
mitigated due to the stability of the countries in which our largest
foreign operations are located.
In the normal course of business, we use derivative financial instruments
including interest rate swaps and foreign currency forward exchange
contracts to manage our market risks. Our objective in managing our
exposure to changes in interest rates is to limit the impact of such
changes on earnings and cash flow and to lower our overall borrowing
costs. Our objective in managing our exposure to changes in foreign
currency exchange rates is to reduce the economic effect on earnings and
cash flow associated with such changes. Our principal currency exposures
are in the major European currencies, the Japanese yen and certain Latin
American currencies. We do not hold derivatives for trading purposes.
A quantitative and qualitative discussion about our market risk is
contained on page 23 of our 1999 Annual Report to our shareholders. There
have been no material changes in the market risks faced by us since
December 31, 1999.
15
<PAGE> 16
PART II. OTHER INFORMATION
Item 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(c) On August 30, 2000, 1,500 common shares were issued in a
private placement transaction exempt from registration
under the Securities Act of 1933 pursuant to section 4(2)
of that Act. The company issued the shares to a consultant
as partial payment for services rendered in accordance
with a consulting agreement.
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
(10)(c)* Form of Employment Agreement between The Lubrizol
Corporation and certain of its executive officers.
(10)(d)* The Lubrizol Corporation Excess Defined Benefit Plan
(As Amended 10/1/00).
(10)(e)* The Lubrizol Corporation Excess Defined Contribution
Plan (As Amended 10/1/00).
(10)(j)* The Lubrizol Corporation Officers' Supplemental
Retirement Plan (As Amended 10/1/00).
(27) Financial Data Schedule
*Indicates management contract or compensatory plan or arrangement.
(b) Reports on Form 8-K
There were no reports on Form 8-K filed during the quarter
ended September 30, 2000.
SIGNATURES
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.
THE LUBRIZOL CORPORATION
/s/ John R. Ahern
----------------------------
John R. Ahern
Chief Accounting Officer and
Duly Authorized Signatory of
The Lubrizol Corporation
Date: November 13, 2000
16
