UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 1999
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OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission File Number 1-8864
USG CORPORATION
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(Exact name of registrant as specified in its charter)
Delaware 36-3329400
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
125 South Franklin Street, Chicago, Illinois 60606-4678
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(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code (312) 606-4000
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Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
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Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13, or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
Yes X No
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As of March 31, 1999, 49,778,883 shares of USG common stock were outstanding.
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Table of Contents
Page
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PART I FINANCIAL STATEMENTS
Item 1. Financial Statements:
<CAPTION>
<S> <C>
Consolidated Statement of Earnings:
Three Months Ended March 31, 1999 and 1998 3
Consolidated Balance Sheet:
As of March 31, 1999 and December 31, 1998 4
Consolidated Statement of Cash Flows:
Three Months Ended March 31, 1999 and 1998 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Results
of Operations and Financial Condition 10
Report of Independent Public Accountants 21
PART II OTHER INFORMATION
Item 1. Legal Proceedings 22
Item 6. Exhibits and Reports on Form 8-K 26
SIGNATURES 27
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</TABLE>
<TABLE>
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
USG CORPORATION
CONSOLIDATED STATEMENT OF EARNINGS
(dollars in millions except per share data)
(Unaudited)
Three Months
Ended March 31,
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<CAPTION>
1999 1998
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<S> <C> <C>
Net sales $ 823 $ 735
Cost of products sold 592 539
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Gross profit 231 196
Selling and administrative expenses 77 72
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Operating profit 154 124
Interest expense 13 13
Interest income (1) (1)
Other expense, net 1 2
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Earnings before income taxes 141 110
Income taxes 55 43
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Net earnings 86 67
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Basic earnings per common share 1.73 1.42
Diluted earnings per common share 1.71 1.35
Dividends paid per common share 0.10 -
Average number of common shares 49,691,088 47,125,604
Average diluted number of common shares 50,351,176 49,717,163
See accompanying Notes to Consolidated Financial Statements.
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<TABLE>
USG CORPORATION
CONSOLIDATED BALANCE SHEET
(dollars in millions)
(Unaudited)
As of As of
March 31, December 31,
1999 1998
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<CAPTION>
<S> <C> <C>
Assets
Current Assets:
Cash and cash equivalents $ 128 $ 152
Receivables (net of reserves of $19 and $18) 406 349
Inventories 228 234
Current and deferred income taxes 26 62
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Total current assets 788 797
Property, plant and equipment (net of reserves
for depreciation and depletion of $316 and $298) 1,284 1,214
Other assets 357 346
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Total Assets 2,429 2,357
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Liabilities and Stockholders' Equity
Current Liabilities:
Accounts payable 177 157
Accrued expenses 204 237
Notes payable 10 10
Current portion of long-term debt 16 25
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Total current liabilities 407 429
Long-term debt 563 561
Deferred income taxes 170 169
Other liabilities 700 680
Stockholders' Equity:
Preferred stock - -
Common stock 5 5
Treasury stock (10) (10)
Capital received in excess of par value 311 317
Deferred currency translation (34) (30)
Reinvested earnings 317 236
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Total stockholders' equity 589 518
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Total Liabilities and Stockholders' Equity 2,429 2,357
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See accompanying Notes to Consolidated Financial Statements.
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<TABLE>
USG CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS
(dollars in millions)
(Unaudited)
Three Months
Ended March 31,
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1999 1998
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<CAPTION>
<S> <C> <C>
Operating Activities:
Net earnings $ 86 $ 67
Adjustments to reconcile net earnings to net cash:
Depreciation, depletion and amortization 22 20
Current and deferred income taxes 37 32
(Increase) decrease in working capital:
Receivables (57) (42)
Inventories 6 (9)
Payables 20 17
Accrued expenses (33) (34)
(Increase) decrease in other assets (16) 3
Increase (decrease) in other liabilities 26 (3)
Other, net (6) (3)
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Net cash from operating activities 85 48
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Investing Activities:
Capital expenditures (92) (58)
Net proceeds from asset dispositions 1 1
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Net cash to investing activities (91) (57)
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Financing Activities:
Issuance of debt 16 48
Repayment of debt (33) (67)
Short-term borrowings, net 10 12
Cash dividends paid (5) -
Issuances of common stock 6 10
Purchases of common stock (12) -
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Net cash (to) from financing activities (18) 3
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Net decrease in cash and cash equivalents (24) (6)
Cash and cash equivalents at beginning of period 152 72
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Cash and cash equivalents at end of period 128 66
============ ============
Supplemental Cash Flow Disclosures:
Interest paid 26 22
Income taxes paid 18 10
See accompanying Notes to Consolidated Financial Statements.
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<PAGE>
USG CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)
(1) The consolidated financial statements of USG Corporation and its
subsidiaries ("USG" or the "Corporation") included herein have been prepared
pursuant to the rules and regulations of the Securities and Exchange Commission.
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, revenues and expenses.
Actual results could differ from those estimates. In the opinion of management,
the statements reflect all adjustments, which are of a normal recurring nature,
necessary to present fairly the Corporation's financial position as of March 31,
1999, and December 31, 1998, and results of operations and cash flows for the
three months ended March 31, 1999 and 1998. While these interim financial
statements and accompanying notes are unaudited, they have been reviewed by
Arthur Andersen LLP, the Corporation's independent public accountants. These
financial statements and notes are to be read in conjunction with the financial
statements and notes included in the Corporation's 1998 Annual Report on Form
10-K dated February 26, 1999.
(2) Basic earnings per share were computed by dividing net earnings by the
weighted average number of common shares outstanding for the period. The
dilutive effect of the potential exercise of outstanding options and warrants to
purchase shares of common stock is calculated using the treasury stock method.
The reconciliation of basic earnings per share to diluted earnings per share is
shown in the following table (dollars in millions except share data):
<TABLE>
Three Months Ended Net Shares Per Share
March 31, Earnings (000) Amount
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<CAPTION>
<S> <C> <C> <C>
1999
Basic earnings $ 86 49,691 $ 1.73
Effect of Dilutive Securities:
Options 660
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Diluted Earnings 86 50,351 1.71
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1998
Basic earnings 67 47,126 1.42
Effect of Dilutive Securities:
Options 949
Warrants 1,642
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Diluted Earnings 67 49,717 1.35
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(3) Total comprehensive income, consisting of net earnings and foreign currency
translation adjustments, amounted to $82 million and $64 million for the three
months ended March 31, 1999 and 1998, respectively. There was no tax impact on
the foreign currency translation adjustments.
(4) USG's operations are organized into two operating segments: North American
Gypsum, which manufactures, markets and distributes gypsum wallboard and related
products in the United States, Canada and Mexico, and Worldwide Ceilings, which
manufactures and markets ceiling tile, ceiling grid and other interior systems
products worldwide. Operating segment results for the first quarters of 1999 and
1998 were as follows (dollars in millions): <TABLE>
Net Sales Operating Profit
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Three Months Ended March 31, 1999 1998 1999 1998
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<CAPTION>
<S> <C> <C> <C> <C>
North American Gypsum $ 687 $ 599 $ 155 $ 122
Worldwide Ceilings 157 160 13 14
Corporate - - (14) (12)
Eliminations (21) (24) - -
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Total 823 735 154 124
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(5) The Corporation uses derivative instruments to manage well-defined interest
rate, energy cost and foreign currency exposures. The Corporation does not use
derivative instruments for trading purposes. The criteria used to determine if
hedge accounting treatment is appropriate are (i) the designation of the hedge
to an underlying exposure (ii) whether or not overall uncertainty is being
reduced and (iii) if there is a correlation between the value of the derivative
instrument and the underlying obligation.
Interest Rate Derivative Instruments:
The Corporation utilizes interest rate swap agreements to manage the impact of
interest rate changes on its underlying floating-rate debt. These agreements are
designated as hedges and qualify for hedge accounting. Amounts payable or
receivable under these swap agreements are accrued as an increase or decrease to
interest expense on a current basis. To the extent the underlying floating-rate
debt is reduced, the Corporation terminates swap agreements accordingly so as
not to be in an overhedged position. In such cases, the Corporation recognizes
gains and/or losses in the period in which the agreement is terminated.
Energy Derivative Instruments:
The Corporation uses swap agreements to hedge anticipated purchases of fuel to
be utilized in the manufacturing processes for gypsum wallboard and ceiling
tile. Under these swap agreements, the Corporation receives or makes payments
based on the differential between a specified price and the actual closing price
for the current month's energy price contract. These contracts are designated as
hedges and qualify for hedge accounting. Amounts payable or receivable under
these swap agreements are accrued as an increase or decrease to cost of products
sold, along with the actual spot energy cost of the corresponding underlying
hedge transaction, the combination of which amounts to the predetermined
specified contract price.
Foreign Exchange Derivative Instruments:
The Corporation has operations in a number of countries and has intercompany
transactions among them and, as a result, is exposed to changes in foreign
currency exchange rates. The Corporation manages these exposures on a
consolidated basis, which allows netting of certain exposures to take advantage
of any natural offsets. To the extent the net exposures are hedged, forward
contracts are used. Gains and/or losses on these foreign currency hedges are
included in net earnings in the period in which the exchange rates change.
(6) As of March 31, 1999, common shares totaling 2,067,825 were reserved for
future issuance in conjunction with existing stock option grants. In addition,
572,645 common shares were reserved for future grants.
(7) One of the Corporation's subsidiaries, United States Gypsum Company ("U.S.
Gypsum"), is a defendant in asbestos lawsuits alleging both property damage and
personal injury. See Part II, Item 1. "Legal Proceedings" for information
concerning the asbestos litigation.
The Corporation and certain of its subsidiaries have been notified by state and
federal environmental protection agencies of possible involvement as one of
numerous "potentially responsible parties" in a number of so-called "Superfund"
sites in the United States. The Corporation believes that neither these matters
nor any other known governmental proceeding regarding environmental matters will
have a material adverse effect upon its results of operations or financial
position. See Part II, Item 1. "Legal Proceedings" for additional information on
environmental litigation.
(8) Under a revolving accounts receivable facility, the trade receivables of
U.S. Gypsum and USG Interiors, Inc. are being purchased by USG Funding
Corporation and transferred to a trust administered by Chase Manhattan Bank as
trustee. Certificates representing an ownership interest of up to $130 million
in the trust have been issued to an affiliate of Citicorp North America, Inc.
USG Funding, a special-purpose subsidiary of USG Corporation, is a separate
corporate entity with its own separate creditors that will be entitled to be
satisfied out of USG Funding's assets prior to any value in USG Funding becoming
available to its shareholder. Receivables and debt outstanding in connection
with the receivables facility remain in receivables and long-term debt,
respectively, on the Corporation's consolidated balance sheet.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
CONSOLIDATED RESULTS
Net Sales
USG's net sales in the first quarter of 1999 were a record $823 million, up 12%
from $735 million in the comparable 1998 period. This increase was attributable
to strong demand and record selling prices for USG's SHEETROCK brand gypsum
wallboard.
Gross Profit
Gross profit as a percent of net sales was 28.1% in the first quarter of 1999,
up from 26.7% in the prior-year period. The 1999 margin primarily reflects the
higher selling prices for SHEETROCK brand wallboard.
Selling and Administrative Expenses
Selling and administrative expenses in the first quarter of 1999 totaled $77
million, up 7% from $72 million in the first quarter of 1998. However, these
expenses as a percent of net sales improved to 9.4% from 9.8% a year ago. The
higher level of expense dollars in the 1999 period primarily reflects increases
for marketing programs and compensation and benefits.
Interest Expense
Interest expense of $13 million was incurred in each of the 1999 and 1998 first
quarters.
Income Taxes
Taxes on income amounted to $55 million and $43 million in the first quarters of
1999 and 1998, respectively.
Net Earnings
Net earnings in the first quarter of 1999 were $86 million, up 28% from $67
million in the prior-year period. Diluted earnings per share increased to $1.71
from $1.35 a year ago.
<TABLE>
CORE BUSINESS RESULTS
(dollars in millions) Net Sales Operating Profit
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Three Months Ended March 31, 1999 1998 1999 1998
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<CAPTION>
<S> <C> <C> <C> <C>
North American Gypsum:
U.S. Gypsum Company $ 460 $ 411 $ 134 $ 107
L&W Supply Corporation 300 244 10 5
CGC Inc. (gypsum) 34 34 5 5
Other subsidiaries 22 20 6 5
Eliminations (129) (110) - -
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Total 687 599 155 122
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Worldwide Ceilings:
USG Interiors, Inc. 108 107 12 11
USG International 52 57 - 2
CGC Inc. (ceilings) 10 10 1 1
Eliminations (13) (14) - -
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Total 157 160 13 14
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Corporate - - (14) (12)
Eliminations (21) (24) - -
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Total USG Corporation 823 735 154 124
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</TABLE>
North American Gypsum
Net sales in the first quarter of 1999 increased 15% to $687 million and
operating profit increased 27% to $155 million as compared to the first quarter
of 1998.
United States Gypsum Company: U.S.Gypsum's net sales in the first quarter of
1999 were the highest ever for a quarter as its plants continued to run at full
capacity. Operating profit rose 25%. Shipments of SHEETROCK brand wallboard
totaled 2.201 billion square feet, a record for any first quarter and a 3%
increase from 2.137 billion square feet a year ago. Shipments of SHEETROCK brand
joint compound and DUROCK brand cement board were at record levels for any
quarter. Margins improved for U.S. Gypsum's SHEETROCK brand wallboard as
realized selling prices averaged $141.33 per thousand square feet during the
first quarter of 1999. This average price represented a new all-time high and a
13% increase over $125.31 for the prior-year period. Manufacturing costs for
wallboard were down slightly from the first quarter of last year.
L&W Supply Corporation: Net sales for L&W Supply, the leading specialty building
products distribution business in the United States, totaled $300 million in the
first quarter of 1999, a record level for a quarter and a 23% increase versus
1998. Operating profit for L&W Supply doubled from a year ago. This performance
reflects wallboard shipments that set a first quarter record, all-time high
selling prices on wallboard and increased sales and gross profit for its
complementary building materials. During the first quarter of 1999, L&W Supply
added a net 5 locations bringing their total to 192.
CGC Inc.: Net sales and operating profit for the gypsum business of Canada-based
CGC Inc. were unchanged from the first quarter of 1998. Higher SHEETROCK brand
wallboard selling prices and increased wallboard shipments in Canada and exports
to the United States were offset by a lower Canadian dollar.
Worldwide Ceilings
Net sales in the first quarter of 1999 declined 2% to $157 million versus the
first quarter of 1998. Operating profit of $13 million was down $1 million.
Demand in North America was solid, while international ceilings demand was
generally below 1998 levels. USG's domestic ceilings business, USG Interiors,
had operating profit of $12 million, an increase of $1 million over the first
quarter of 1998. The ceilings division of CGC Inc. contributed $1 million of
operating profit, the same as last year's first quarter. USG International had
breakeven performance in the first quarter versus $2 million of operating profit
last year. This decline reflects continued soft business conditions in Eastern
Europe and Asia.
MARKET CONDITIONS AND OUTLOOK
Based on leading indicators, such as new housing starts, existing home sales and
nonresidential construction activity, the outlook for 1999 continues to be
positive. Key drivers of demand for USG's products, such as consumer confidence,
employment rates and interest rates, all remain at favorable levels.
Housing starts during the first three months of 1999 ran at exceptionally strong
levels. The Corporation is currently forecasting 1999 U.S. housing starts to
approximate 1.6 million units, down only slightly from the 1.617 million units
experienced in 1998.
The repair and remodel market has been the fastest growing segment for USG,
accounting for the second-largest portion of its sales. Record 1998 sales of
existing homes of 4.8 million units will support residential repair and
remodeling in 1999. This, combined with strong nonresidential repair and
remodeling, will continue to provide growth in this market segment.
Sales of USG products to the nonresidential construction market are expected to
remain strong in 1999. Future demand for USG products from new nonresidential
construction is gauged by floor space for which contracts are signed.
Installation of gypsum and ceilings products follows signing of construction
contracts by about a year. Floor space for which contracts were signed rose 5%
in 1998, although segments that are most relevant to USG's business, such as
offices, stores, hotels and motels, grew at a much higher rate.
Most of USG's sales outside of the United States come from Canada, Western
Europe and Latin America. USG's exposure to the economic problems of Asia and
Russia is small.
LIQUIDITY AND CAPITAL RESOURCES
Financial Strategy
USG is executing a strategy to create future earnings growth through investment
in its businesses and immediate returns to investors through dividends and share
repurchases.
Earnings Growth: USG's plan for earnings growth includes: introducing new
products and product platforms; improving service; strengthening its brands;
adding capacity to serve growing customers and markets; renovating manufacturing
capacity to make USG the undisputed low-cost producer; and expanding
distribution. USG anticipates that these initiatives will also reduce the impact
of cyclicality on its earnings.
Dividends: In March 1999, USG paid its second cash dividend of $0.10 per share.
USG initiated a $0.10 quarterly dividend in December 1998, the first cash
dividend paid by USG since 1988.
Share Repurchases: USG has also begun a multiyear share-repurchase program in
1998, under which it will repurchase up to 5 million shares, or approximately
10% of USG's common stock currently outstanding. Share repurchases are being
made in the open market or through privately negotiated transactions and are
being financed with available cash from operations. USG has acquired
approximately 482,000 shares since the program began in the fourth quarter of
last year.
Capital Expenditures
Capital spending amounted to $92 million in the first quarter of 1999, compared
with $58 million in the corresponding 1998 period. As of March 31, 1999, capital
expenditure commitments for the replacement, modernization and expansion of
operations amounted to $428 million, compared with $481 million as of December
31, 1998. USG's capital expenditures program includes the following projects:
Wallboard Capacity Modernization and Expansion: As a major part of USG's
earnings growth strategy, U.S. Gypsum is replacing high-cost wallboard capacity
with new, low-cost plants and production lines. These projects also will add a
net 2 billion square feet of capacity to serve growing regional markets and
customers.
In the Southeast, construction of a new plant in Bridgeport, Ala., is nearly
complete. This facility, which will manufacture SHEETROCK brand wallboard using
100% synthetic gypsum, will begin operation in the second quarter of 1999.
In the Midwest, U.S. Gypsum is building a new production line for SHEETROCK
brand wallboard at its East Chicago, Ind., plant. This new line is scheduled for
startup in the fourth quarter of 1999.
In the Northeast, ground was broken in 1998 for a new wallboard plant in
Aliquippa, Pa. The Aliquippa plant will manufacture SHEETROCK brand wallboard
using 100% synthetic gypsum. Construction of this facility is expected to be
completed in early 2000.
In the Northwest, a new wallboard plant will be built in Rainier, Ore. A
significant portion of the new capacity provided by this plant will replace
existing USG shipments into the region from plants as far away as Iowa, Texas
and Ontario, Canada. This facility is expected to be fully operational in 2001.
In the Southwest, a new production line at U.S. Gypsum's plant in Plaster City,
Calif., will provide annual capacity of 700 million square feet of wallboard and
replace a 41-year-old, high-cost production line. This facility also is expected
to be fully operational in 2001.
Gypsum Fiber Project: Construction continues on a facility to manufacture
FIBEROCK brand gypsum fiber panels, USG's newest product platform. This
production line, which is being built at the Gypsum, Ohio, wallboard plant, is
scheduled for startup in the third quarter of 1999.
Cost-Reduction Projects: Additional capital investments include cost-reduction
projects such as the installation of stock-cleaning equipment to utilize lower
grades of recycled paper and process control upgrades to improve raw material
usage and operating efficiencies.
Working Capital
Working capital (current assets less current liabilities) as of March 31, 1999,
amounted to $381 million, compared with $368 million as of December 31, 1998.
The ratio of current assets to current liabilities was 1.9 to 1 as of both
dates.
Receivables increased to $406 million as of March 31, 1999, from $349 million as
of December 31, 1998. Inventories decreased to $228 million from $234 million,
and accounts payable rose to $177 million from $157 million. These variations
reflect an increased level of business in the first quarter of 1999 as compared
to the fourth quarter of 1998.
Cash and cash equivalents as of March 31, 1999, amounted to $128 million, down
from $152 million as of December 31, 1998. During the first quarter of 1999, net
cash flows to investing activities were $91 million. This reflects capital
spending of $92 million (discussed above), offset slightly by net proceeds of $1
million from asset dispositions. Net cash flows to financing activities of $18
million reflect a $7 million net reduction in debt (discussed below), $12
million used for stock repurchases, and $5 million for cash dividends, partially
offset by $6 million received from the exercise of stock options. Net cash flows
from operating activities totaled $85 million.
Debt
As of March 31, 1999, total debt amounted to $589 million, down $7 million from
$596 million as of December 31, 1998. During the first quarter of 1999, USG
retired the remaining $25 million of 8.75% debentures due 2017 and called about
$8 million of old higher-cost industrial revenue bonds (IRBs). This was
partially offset by an increase in IRBs associated the Gypsum, Ohio, capital
project and by borrowings on CGC's Canadian credit facility.
Available Liquidity
The Corporation has additional liquidity available through several financing
arrangements. Revolving credit facilities in the United States, Canada and
Europe allow the Corporation to borrow up to an aggregate of $606 million
(including a $125 million letter of credit subfacility in the United States),
under which, as of March 31, 1999, outstanding revolving loans totaled $114
million and letters of credit issued and outstanding amounted to $16 million,
leaving the Corporation with $476 million of unused and available credit. The
Corporation had additional borrowing capacity of $50 million as of March 31,
1999, under a revolving accounts receivable facility. (See Note 8.) A shelf
registration statement filed with the Securities and Exchange Commission allows
the Corporation to offer from time to time debt securities, shares of preferred
and common stock or warrants to purchase shares of common stock, all having an
aggregate initial offering price not to exceed $300 million. As of the date of
this report, no securities had been issued pursuant to this registration.
OTHER MATTERS
Year 2000 Compliance
In 1996, USG began an evaluation of its computer-based systems to determine the
extent of the modifications required to make those systems year 2000 compliant
and to devise a plan to complete such modifications prior to January 1, 2000.
The plan that was devised is divided into five phases: identification (a basic
inventory of all systems), assessment, remediation, testing and completion. The
plan encompasses all of USG's computer systems including mainframe, midrange,
client server and desktop systems as well as all specialized control systems for
plant operations or other facilities including those that are considered
embedded systems. USG's mainframe systems are responsible for most of the
information processing done by the Corporation and will receive a majority of
the efforts dedicated to this project as well as a majority of the budget
allocated to it.
Of the plan phases, identification and assessment are essentially completed, and
the process of modification, encompassing the three phases of remediation,
testing and completion, is substantially under way. As of March 31, 1999,
approximately 87% of the planned modifications to USG's mainframe systems had
been completed. The remaining 13% of the modifications are currently in the
process of remediation, testing and completion and are expected to be completed
by the second quarter of 1999. With respect to the midrange, client server and
desktop systems, upgrading to these systems is expected to be completed by mid-
1999. With respect to embedded systems, all operations have been assessed and
remediation plans, where necessary, are under way. All necessary upgrades and
remediation are scheduled for completion by the middle of 1999. For purposes of
this description, embedded systems are intended to cover manufacturing plant
control equipment and building information and mechanical systems such as
telecommunication systems, HVAC, security systems and other monitoring
equipment.
Suppliers and Customers: USG's year 2000 compliance plan also includes an
analysis of critical third-party suppliers of material and services to determine
their year 2000 compliance status. Virtually all critical suppliers to U.S. and
Canadian operations have been surveyed regarding their compliance status. Any
remaining unsurveyed critical suppliers and those supporting other operations
will be contacted by the middle of 1999. At this point, based on responses
received to date, it is not possible to forecast whether there will be, or the
extent of, any significant disruption due to third-party supplier failures.
However, the plan contemplates that USG will be in ongoing contact with its
critical suppliers through at least January 1, 2000, to assure that those
suppliers either are able to continue to perform without disruption or where
feasible are replaced by ones that can so perform. USG also has been in contact
with most of its major customers on the status of each party's year 2000
compliance plans and expects to continue such information exchanges through
January 1, 2000, in order to maintain those business relationships and to obtain
updated information for its own ongoing contingency planning.
Costs: The cost of carrying out USG's compliance plan is currently estimated at
$12 million. As of March 31, 1999, about 56% of the budgeted amount has been
incurred. Much of the balance will be expended in the remaining months of 1999
with a small amount projected for early 2000.
Contingency Plans: At this time, USG expects to be internally compliant with
respect to year 2000 issues by the middle of 1999. It is too soon to know
whether it might experience significant disruptions due to year 2000 problems
that affect the operating environment in which it conducts business such as
disruptions to transportation, communications and electric power or other energy
systems or due to other similar causes. However, the inability of USG or its
critical suppliers and customers to effectuate solutions to their respective
year 2000 issues on a timely and cost-effective basis may have a material
adverse effect on USG.
In view of the uncertainties that USG faces with respect to year 2000 issues, it
has begun to formulate contingency plans to provide for continuation of its
operations in the event of possible year 2000 disruptions. It expects to
complete an initial version of its contingency planning by midyear 1999, but its
plans will be continually evaluated and modified as required by developments and
circumstances that may emerge between now and January 1, 2000.
USG's contingency plans will provide for the continuation of its business and
operations through the transition period surrounding January 1, 2000. The
planning process will involve detailed review by operating personnel of all of
the information that has been gathered concerning critical suppliers, customers
and internal systems to determine all foreseeable risks to the continuation of
business operations. Based on that review process, USG will prepare a detailed
set of operating procedures for dealing with the identified risks. These
procedures will be specific to each operation and will provide for flexible
responses to conditions as they are perceived to develop towards the critical
date of January 1, 2000. Without suggesting any decisions have been made to
implement these plans or that the following list is in any way exhaustive, the
kinds of responses that could be taken in the appropriate circumstances would
be: building up inventories of raw materials or finished goods, replacing or
supplementing existing suppliers, altering terms of shipment or payment with
customers, adding backup power and communications equipment to certain
facilities, and expanding communications resources by providing cellular phones
and laptop computers to more personnel.
Worst-Case Scenario: Based on the status of the Corporation's progress with
respect to its year 2000 compliance plan, the most reasonably likely worst case
scenario is that there might be a local or regional disruption to its plant
production due to temporary power outages or similar disruption of public
service suppliers. The Corporation's contingency planning will be aimed at
mitigating the impact of any such disruptions by arranging production at other
facilities in the region to replace any that are impacted by a short-term
disruption.
Whether this approach will be feasible depends upon the level of operations
generally at the time of any such occurrence. If the industry continues to
operate at full capacity with production subject to allocation, it will probably
not be feasible to replace disrupted production without further impacting the
short-supply situation. Since the Corporation has gypsum wallboard plants in
many parts of the U.S. and Canada, it is better positioned to deal with
potential disruptions than most of its competitors.
A key uncertainty in contingency planning for possible disruptions is what
impact these may have upon consumers of USG products. In the context of the
worst-case scenario, some consumers will undoubtedly be impacted by the
disruptions with a resultant decrease in demand for USG products. Similarly, the
critical period for likely disruption will fall in the heart of winter (December
- - February) when the industry typically experiences a seasonal slowing down of
building activity.
USG's contingency planning will attempt to analyze the interplay of these
various factors taking advantage of years of operating experience to create a
reasonable and flexible plan to respond to a very unpredictable and largely
unique set of circumstances.
Conclusion: While USG is early in the process of contingency planning at this
point, management believes that, in terms of the Corporation's internal
operating systems, it will be able to continue its North American operations
without material disruption. Based on management's present knowledge, it also
does not foresee any significant long-lasting disruptions to USG's businesses in
North America from external causes. Outside of North America, management is less
certain, but still believes that USG's businesses can sustain themselves through
whatever difficulties are encountered without material adverse consequences to
its overall business.
Euro Currency Conversion
Effective January 1, 1999, 11 of the 15 countries that are members of the
European Union introduced a new, single currency unit, the euro. Prior to full
implementation of the new currency for the participating countries on January 1,
2002, there will be a three-year transition period during which parties may use
either the existing currencies or the euro. However, during the transition
period, all exchanges between currencies of the participating countries are
required to be first converted through the euro.
USG has conducted a comprehensive analysis to address the euro currency issue.
USG's efforts are focused on two phases. The first phase addresses USG's
European operations during the transition period. The second phase covers the
full conversion of these operations to the euro. The Corporation was ready for
the transition period that began on January 1, 1999, and expects to be ready for
the full conversion by January 1, 2001, one year ahead of the mandatory
conversion date. USG also is prepared to deal with its critical suppliers and
customers during the transition period and will communicate with them as
appropriate. The Corporation does not expect the introduction of the euro
currency to have a material adverse impact on its business, results of
operations or financial position.
Legal Contingencies
One of the Corporation's subsidiaries, U.S. Gypsum, is a defendant in asbestos
lawsuits alleging both property damage and personal injury. U.S. Gypsum
historically has accrued $18 million annually for asbestos-related costs. In
view of the high level of personal injury filings that followed the termination
of the Georgine settlement, as discussed in Part II, Item 1. "Legal
Proceedings," U.S. Gypsum increased its quarterly accrual of $4.5 million to
$12.5 million in the fourth quarter of 1998 and the first quarter of 1999.
Although U.S. Gypsum expects that an increased level of accrual will continue to
be necessary during 1999 and possibly longer, the amount of future periodic
accruals will depend upon factors that include, but may not be limited to, the
rate at which new asbestos- related claims are filed, the imposition of medical
criteria through legislation or negotiated agreements, U.S. Gypsum's average
settlement cost and the necessity of higher-cost settlements in particular
jurisdictions. If Personal Injury Cases continue to be filed and settled at the
rates experienced in the first three months of 1999, it is probable that U.S.
Gypsum's rate of accrual will be increased. In addition, U.S. Gypsum will
continue to evaluate whether its ultimate probable liability for future personal
injury cases can be reasonably estimated. If such an estimate can be made, it is
probable that additional charges to results of operations would be necessary,
although whether such an estimate can be made and, if so, the timing and amount
of the resulting charge to results of operations cannot presently be determined.
However, the amount of the periodic and other charges described above could be
material to results of operations in the period in which they are taken. The
asbestos litigation is not expected to have a significant impact on the
Corporation's liquidity or cash flows during 1999. See Part II, Item 1. "Legal
Proceedings" for additional information on asbestos litigation.
The Corporation and certain of its subsidiaries have been notified by state and
federal environmental protection agencies of possible involvement as one of
numerous "potentially responsible parties" in a number of so-called "Superfund"
sites in the United States. The Corporation believes that neither these matters
nor any other known governmental proceeding regarding environmental matters will
have a material adverse effect upon its results of operations or financial
position. See Part II, Item 1. "Legal Proceedings" for additional information on
environmental litigation.
FORWARD-LOOKING STATEMENTS
This report contains forward-looking statements related to management's
expectations about future conditions. Actual business or other conditions may
differ significantly from management's expectations and accordingly affect the
Corporation's sales and profitability or other results. Actual results may
differ due to factors over which the Corporation has no control, including
economic activity such as new housing construction, interest rates and consumer
confidence; competitive activity such as price and product competition;
increases in raw material and energy costs; risk of disruption due to year 2000
issues such as those described above; euro currency issues such as the ability
and willingness of third parties to convert affected systems in a timely manner
and the actions of governmental agencies or other third parties; and the outcome
of contested asbestos-related litigation. The Corporation assumes no obligation
to update any forward-looking information contained in this report.
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors of USG Corporation:
We have reviewed the accompanying condensed consolidated balance sheet of USG
CORPORATION (a Delaware corporation) AND SUBSIDIARIES as of March 31, 1999, and
the related condensed consolidated statement of earnings for the three-month
periods ended March 31, 1999 and 1998 and the condensed consolidated statement
of cash flows for the three months ended March 31, 1999 and 1998. These
financial statements are the responsibility of the Corporation's management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit conducted in accordance
with generally accepted auditing standards, the objective of which is the
expression of an opinion regarding the financial statements taken as a whole.
Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the financial statements referred to above for them to be in
conformity with generally accepted accounting principles.
/s/ ARTHUR ANDERSEN LLP
- -----------------------
ARTHUR ANDERSEN LLP
Chicago, Illinois
April 15, 1999
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Asbestos and Related Insurance Litigation
One of the Corporation's subsidiaries, U.S. Gypsum, is among many defendants in
lawsuits arising out of the manufacture and sale of asbestos-containing
materials. U.S. Gypsum sold certain asbestos-containing products beginning in
the 1930's; in most cases, the products were discontinued or asbestos was
removed from the formula by 1972, and no asbestos-containing products were
produced after 1977. Some of these lawsuits seek to recover compensatory and in
many cases punitive damages for costs associated with the maintenance or removal
and replacement of asbestos-containing products in buildings (the "Property
Damage Cases"). Others seek compensatory and in many cases punitive damages for
personal injury allegedly resulting from exposure to asbestos-containing
products (the "Personal Injury Cases"). It is anticipated that additional
asbestos-related suits will be filed.
Summary - The following is a brief summary; see Note 15 to the financial
statements in the Corporation's 1998 Annual Report for additional information
about the asbestos litigation.
U.S. Gypsum is a defendant in 11 Property Damage Cases, many of which involve
multiple buildings. One of the cases is a conditionally certified class action
comprised of all colleges and universities in the United States, which
certification is presently limited to the resolution of certain allegedly
"common" liability issues. (Central Wesleyan College v. W.R. Grace & Co., et
al., U.S.D.C.S.C.). Fourteen additional property damage claims have been
threatened against U.S. Gypsum. During the years 1996-1998, 5 new Property
Damage Cases were filed against U.S. Gypsum while 26 were closed; the Company
spent an average of $23.5 million per year on the defense and settlement of
Property Damage Cases, but received a total of $154.5 million over the
three-year period from insurance carriers, including reimbursement for
expenditures in prior years.
U.S. Gypsum's estimated cost of resolving pending Property Damage Cases is
discussed below. (See "Estimated Cost.")
U.S. Gypsum is also a defendant in Personal Injury Cases brought by
approximately 104,000 claimants, as well as an additional 42,300 claims that
have been settled but will be closed over time. Filings of new Personal Injury
Cases totaled approximately 80,000 claims in 1998, compared to 23,500 claims in
1997, 28,000 claims in 1996 and 14,000 in 1995. Filings of Personal Injury Cases
increased substantially as a result of a 1997 ruling by the U.S. Supreme Court
rejecting the Georgine v. Amchem class action settlement, in which U.S. Gypsum
had participated as a member of the Center for Claims Resolution, referred to
below. During the first three months of 1999, approximately 11,000 new Personal
Injury Claims were filed against U.S. Gypsum. U.S. Gypsum's average cost to
resolve Personal Injury Cases during the years 1996-1998 was approximately
$1,800 per claim, exclusive of defense costs. Over that period, U.S. Gypsum
expended an average of $40.4 million per year on Personal Injury Cases, of which
an average of $31.4 million was paid by insurance.
U.S. Gypsum is a member, together with 19 other former producers of asbestos-
containing products, of the Center for Claims Resolution (the "Center"), which
has assumed the handling of all Personal Injury Cases pending against U.S.
Gypsum and the other members of the Center. Costs of defense and settlement are
shared among the members of the Center pursuant to predetermined sharing
formulae. Most of U.S. Gypsum's personal injury liability and defense costs are
currently being paid by its insurance carriers, including those insurance
carriers that in 1985 signed an Agreement Concerning Asbestos-Related Claims
(the "Wellington Agreement"), obligating them to provide coverage for the
defense and indemnity costs incurred by U.S. Gypsum in Personal Injury Cases.
Punitive damages have never been awarded against U.S. Gypsum in a Personal
Injury Case; whether such an award would be covered by insurance under the
Wellington Agreement would depend on state law and the terms of the individual
policies.
U.S. Gypsum's estimated cost of resolving pending Personal Injury Cases is
discussed below. (See "Estimated Cost.")
U.S. Gypsum sued its insurance carriers in 1983 to obtain coverage for asbestos
cases (the "Coverage Action") and has settled all disputes with most of its
solvent carriers. As of March 31, 1998, after deducting insolvent coverage and
insurance paid out to date, approximately $233 million of potential insurance
remained, including approximately $188 million of insurance from six carriers
that have agreed, subject to certain limitations and conditions, to cover
asbestos-related costs, and approximately $45 million from three carriers that
have not yet agreed to make their coverage available on acceptable terms. A
minimum of $10 million of the disputed coverage is expected to be available
regardless of the outcome of further proceedings. U.S. Gypsum is attempting to
resolve its disputes with the nonsettling carriers through either a negotiated
resolution or further litigation in the Coverage Action.
U.S. Gypsum's total expenditures for all asbestos-related matters, including
property damage, personal injury, insurance coverage litigation and related
expenses, exceeded aggregate insurance payments by $24 million in 1998, but
insurance payments exceeded asbestos-related expenses by $0.7 million in 1997
and $41 million in 1996, due primarily to nonrecurring reimbursement for amounts
expended in prior years.
Four of U.S. Gypsum's domestic insurance carriers, as well as underwriters of
portions of various policies issued by Lloyds and other London market companies,
providing a total of approximately $106 million of coverage, are insolvent.
Because these policies would already have been consumed by U.S. Gypsum's
asbestos expenses to date if the carriers had been solvent, the insolvencies
will not adversely affect U.S. Gypsum's coverage for future asbestos-related
costs. However, U.S. Gypsum is pursuing claims for reimbursement from the
insolvent estates and other sources and expects to recover a presently
indeterminable portion of the policy amounts from these sources.
Estimated Cost - The asbestos litigation involves numerous uncertainties that
affect U.S. Gypsum's ability to estimate reliably its probable liability in the
Personal Injury and Property Damage Cases. In the Property Damage Cases, such
uncertainties include the identification and volume of asbestos-containing
products in the buildings at issue in each case, which is often disputed; the
claimed damages associated therewith; the viability of statute of limitations,
product identification and other defenses, which varies depending upon the facts
and jurisdiction of each case; the amount for which such cases can be resolved,
which normally (but not uniformly) has been substantially lower than the claimed
damages; and the viability of claims for punitive and other forms of multiple
damages. Uncertainties in the Personal Injury Cases include the number,
characteristics and venue of Personal Injury Cases that are filed against U.S.
Gypsum; the Center's ability to continue to negotiate pretrial settlements at
historical or acceptable levels; the level of physical impairment of claimants;
the viability of claims for punitive damages; any changes in membership in the
Center; and the ability to develop an alternate claims-handling vehicle that
retains the key benefits of Georgine. As a result, any estimate of U.S. Gypsum's
liability, while based upon the best information currently available, may not be
an accurate prediction of actual costs and is subject to revision as additional
information becomes available and developments occur.
Subject to the above uncertainties, and based in part on information provided by
the Center, U.S. Gypsum estimates that it is probable that Property Damage and
Personal Injury Cases pending at March 31, 1999, can be resolved for an amount
totaling between $327 million and $410 million, including defense costs. Most of
these amounts are expected to be expended over the next three to five years,
although settlements of some Personal Injury Cases will be consummated over
periods as long as seven years. Significant insurance funding is available for
these costs, as detailed below, although resolution of the pending cases is
expected to consume U.S. Gypsum's remaining insurance. At this time, U.S. Gypsum
does not believe that the number and severity of asbestos-related cases that
ultimately will be filed in the future can be predicted with sufficient accuracy
to provide the basis for a reasonable estimate of the liability that will be
associated with such cases.
Accounting for Asbestos Liability: As of March 31, 1999, U.S. Gypsum had
reserved $327 million for liability from pending Property Damage and Personal
Injury Cases (equaling the lower end of the estimated range of costs provided
above). U.S. Gypsum had a corresponding receivable from insurance carriers of
approximately $198 million, the estimated portion of the reserved amount that is
expected to be paid or reimbursed by insurance that is either committed or
probable of recovery. Additional amounts may be reimbursed by insurance
depending upon the outcome of litigation and negotiations relating to the $35
million of insurance that is presently disputed.
U.S. Gypsum compares its estimates of liability to then-existing reserves and
available insurance assets and from time to time adjusts its reserves as
appropriate. As of March 31, 1999, U.S. Gypsum had an additional $35 million
reserved for asbestos liabilities and asbestos-related expenses. The Company
historically has accrued $18 million annually for asbestos costs. In view of the
high level of personal injury filings that followed the termination of Georgine,
U.S. Gypsum accrued an additional $8 million in the fourth quarter of 1998 and
the first quarter of 1999. The Company expects that an increased level of
accrual will continue to be necessary during 1999 and possibly longer. The
amount of future periodic accruals will depend upon factors that include, but
may not be limited to, the rate at which new asbestos-related claims are filed,
the potential imposition of medical criteria, U.S. Gypsum's average settlement
cost, and the necessity of higher-cost settlements in particular jurisdictions.
If Personal Injury Cases continue to be filed and settled at the rates
experienced in the first three months of 1999, it is probable that U.S. Gypsum's
rate of accrual will be increased. In addition, the Company will continue to
evaluate whether its ultimate probable liability for future Personal Injury
Cases can be reasonably estimated. If such an estimate can be made, it is
probable that additional charges to results of operations would be necessary,
although whether such an estimate can be made and, if so, the timing and amount
of the resulting charge to results of operations cannot presently be determined.
However, the amount of the periodic and other charges described above could be
material to results of operations in the period in which they are taken.
Conclusion - The above estimates and reserves are re-evaluated periodically as
additional information becomes available. Additional periodic charges to results
of operations are expected to be necessary in light of future events, and such
charges could be material to results of operations in the period in which they
are taken. However, it is management's opinion, taking into account all of the
above information and uncertainties, including currently available information
concerning U.S. Gypsum's liabilities, reserves and probable insurance coverage,
that the asbestos litigation will not have a material adverse effect on the
liquidity or financial position of the Corporation.
Environmental Litigation
The Corporation and certain of its subsidiaries have been notified by state and
federal environmental protection agencies of possible involvement as one of
numerous "potentially responsible parties" in a number of so-called "Superfund"
sites in the United States. In most of these sites, the involvement of the
Corporation or its subsidiaries is expected to be minimal. The Corporation
believes that appropriate reserves have been established for its potential
liability in connection with all Superfund sites but is continuing to review its
accruals as additional information becomes available. Such reserves take into
account all known or estimated costs associated with these sites, including site
investigations and feasibility costs, site cleanup and remediation, legal costs,
and fines and penalties, if any. In addition, environmental costs connected with
site cleanups on USG-owned property are also covered by reserves established in
accordance with the foregoing. The Corporation believes that neither these
matters nor any other known governmental proceeding regarding environmental
matters will have a material adverse effect upon its results of operations or
financial position.
<TABLE>
Item 6. Exhibits and Reports on Form 8-K
<CAPTION>
<S> <C>
(15) Letter of Arthur Andersen LLP regarding unaudited financial
information.
(27) Financial Data Schedule (electronic filing only).
</TABLE>
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.
USG CORPORATION
By /s/ Dean H. Goossen
---------------------------
Dean H. Goossen,
Corporate Secretary,
USG Corporation
By /s/ Raymond T. Belz
---------------------------
May 4, 1999 Raymond T. Belz,
Senior Vice President and
Controller, USG Corporation
Exhibit (15)
May 4, 1999
USG Corporation
125 South Franklin Street
Chicago, Illinois 60606
Gentlemen:
We are aware that USG Corporation has incorporated by reference into previously
filed Registration Statement Numbers 33-40136 and 33-64217 on Form S-3 and 33-
22581, as amended, 33-22930, 33-36303, 33-52573, 33-52715, 33-63554, and
33-65383 on Form S-8 its Form 10-Q for the quarter ended March 31, 1999, which
includes our report dated April 15, 1999, covering the unaudited condensed
financial information contained therein. Pursuant to Regulation C of the
Securities Act of 1933, these reports are not considered a part of the
registration statement prepared or certified by our firm or reports prepared or
certified by our firm within the meaning of Sections 7 and 11 of the Act.
Very truly yours,
/s/ ARTHUR ANDERSEN LLP
- -----------------------
ARTHUR ANDERSEN LLP
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