<PAGE> 1
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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K/A
AMENDMENT NO. 1
----------
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the fiscal year ended September 30, 1999
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 1-10059
STERLING CHEMICALS HOLDINGS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<CAPTION>
DELAWARE 76-0185186
<S> <C>
(STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION) (I.R.S. EMPLOYER IDENTIFICATION NO.)
1200 SMITH STREET, SUITE 1900
HOUSTON, TEXAS 77002-4312 (713) 650-3700
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
</TABLE>
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, PAR VALUE $.01 PER SHARE
COMMISSION FILE NUMBER 333-04343-01
STERLING CHEMICALS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<CAPTION>
DELAWARE 76-0502785
<S> <C>
(STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION) (I.R.S. EMPLOYER IDENTIFICATION NO.)
1200 SMITH STREET SUITE 1900
HOUSTON, TEXAS 77002-4312 (713) 650-3700
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
</TABLE>
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE
STERLING CHEMICALS, INC. MEETS THE CONDITIONS SET FORTH IN GENERAL
INSTRUCTION I(1)(a) AND (b) OF FORM 10-K, AND IS THEREFORE FILING THIS FORM WITH
THE REDUCED DISCLOSURE FORMAT PROVIDED FOR BY GENERAL INSTRUCTION I(2) OF FORM
10-K
----------
Indicate by check mark whether each of the registrants (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
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of each of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of the Form 10-K or any
amendment to this Form 10-K. X
---
As of December 6, 1999, Sterling Chemicals Holdings, Inc. had 12,751,793
shares of common stock outstanding. As of such date, the aggregate market value
of such common stock held by nonaffiliates, based upon the last sales price of
these shares as reported on the OTC Electronic Bulletin Board maintained by the
National Association of Securities Dealers, Inc., was approximately $36 million.
As of December 6, 1999, all outstanding equity securities of Sterling Chemicals,
Inc. were owned by Sterling Chemicals Holdings, Inc.
Portions of the definitive Proxy Statement relating to the 2000 Annual
Meeting of Stockholders of Sterling Chemicals Holdings, Inc. are incorporated by
reference in Part III of this Form 10-K.
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<PAGE> 2
EXPLANATORY NOTE TO AMENDMENT NO. 1
The undersigned registrant hereby amends its Annual Report on Form 10-K for
the fiscal year ended September 30, 1999, for the sole purpose of filing the
audited financial statements as of and for the year ended September 30, 1999 for
Sterling Canada, Inc., Sterling Fibers, Inc. and Sterling Chemicals Energy,
Inc., which are included in Item 8 "Financial Statements and Supplementary
Data".
PART II.--FINANCIAL INFORMATION
ITEM 8. --FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
1
<PAGE> 3
INDEX TO FINANCIAL STATEMENTS
STERLING CHEMICALS HOLDINGS, INC. AND STERLING CHEMICALS, INC.
<TABLE>
<S> <C>
Sterling Chemicals Holdings, Inc. Consolidated Statements of Operations for the years ended September
30, 1999, 1998, and 1997................................................................................. 5
Sterling Chemicals Holdings, Inc. Consolidated Balance Sheets as of September 30, 1999 and 1998............. 6
Sterling Chemicals Holdings, Inc. Consolidated Statements of Changes in Stockholders' Equity
(Deficiency in Assets) for the years ended September 30, 1999, 1998, and 1997............................ 7
Sterling Chemicals Holdings, Inc. Consolidated Statements of Cash Flows for the years ended
September 30, 1999, 1998, and 1997....................................................................... 8
Sterling Chemicals, Inc. Consolidated Statements of Operations for the years ended September 30, 1999,
1998, and 1997......................................................................................... 9
Sterling Chemicals, Inc. Consolidated Balance Sheets as of September 30, 1999 and 1998...................... 10
Sterling Chemicals, Inc. Consolidated Statements of Changes in Stockholder's Equity (Deficiency in
Assets) for the years ended September 30, 1999, 1998, and 1997 .......................................... 11
Sterling Chemicals, Inc. Consolidated Statements of Cash Flows for the years ended September 30, 1999,
1998, and 1997.......................................................................................... 12
Notes to Consolidated Financial Statements.................................................................. 13
Independent Auditors' Reports............................................................................... 40
STERLING CHEMICALS U.S. SUBSIDIARIES
Sterling Chemicals U.S. Subsidiaries Combined Statements of Operations for the years ended
September 30, 1999, 1998, and 1997....................................................................... 42
Sterling Chemicals U.S. Subsidiaries Combined Balance Sheets as of September 30, 1999 and 1998.............. 43
Sterling Chemicals U.S. Subsidiaries Combined Statements of Changes in Stockholder's Equity for the
years ended September 30, 1999, 1998, and 1997........................................................... 44
Sterling Chemicals U.S. Subsidiaries Combined Statements of Cash Flows for the years ended
September 30, 1999, 1998, and 1997....................................................................... 45
</TABLE>
2
<PAGE> 4
<TABLE>
<S> <C>
Notes to Combined Financial Statements...................................................................... 46
Independent Auditors' Report................................................................................ 58
STERLING PULP CHEMICALS, LTD.
Sterling Pulp Chemicals, Ltd. Statements of Operations for the years ended September 30, 1999, 1998,
and 1997................................................................................................. 59
Sterling Pulp Chemicals, Ltd. Balance Sheets as of September 30, 1999 and 1998.............................. 60
Sterling Pulp Chemicals, Ltd. Statements of Changes in Stockholder's Equity for the years ended
September 30, 1999, 1998, and 1997....................................................................... 61
Sterling Pulp Chemicals, Ltd. Statements of Cash Flows for the years ended September 30, 1999, 1998,
and 1997................................................................................................. 62
Notes to Financial Statements............................................................................... 63
Independent Auditors' Report................................................................................ 72
STERLING CANADA, INC.
Sterling Canada, Inc. Statements of Operations for the years ended September 30, 1999, 1998,
and 1997................................................................................................. 74
Sterling Canada, Inc. Balance Sheets as of September 30, 1999 and 1998...................................... 75
Sterling Canada, Inc. Statements of Changes in Stockholder's Equity for the years ended
September 30, 1999, 1998, and 1997....................................................................... 76
Sterling Canada, Inc. Statements of Cash Flows for the years ended September 30, 1999, 1998,
and 1997................................................................................................. 77
Notes to Financial Statements............................................................................... 78
Independent Auditors' Report................................................................................ 89
STERLING FIBERS, INC.
Sterling Fibers, Inc. Statements of Operations for the years ended September 30, 1999, 1998,
and 1997................................................................................................. 90
</TABLE>
3
<PAGE> 5
<TABLE>
<S> <C>
Sterling Fibers, Inc. Balance Sheets as of September 30, 1999 and 1998...................................... 91
Sterling Fibers, Inc. Statements of Changes in Stockholder's Equity for the years ended
September 30, 1999, 1998, and 1997....................................................................... 92
Sterling Fibers, Inc. Statements of Cash Flows for the years ended September 30, 1999, 1998,
and 1997................................................................................................. 93
Notes to Financial Statements............................................................................... 94
Independent Auditors' Report................................................................................101
STERLING CHEMICALS ENERGY, INC.
Sterling Chemicals Energy, Inc. Statements of Operations for the years ended September 30, 1999, 1998,
and 1997.................................................................................................102
Sterling Chemicals Energy, Inc. Balance Sheets as of September 30, 1999 and 1998............................103
Sterling Chemicals Energy, Inc. Statements of Changes in Stockholder's Equity for the years ended
September 30, 1999, 1998, and 1997.......................................................................104
Sterling Chemicals Energy, Inc. Statements of Cash Flows for the years ended September 30, 1999, 1998,
and 1997.................................................................................................105
Notes to Financial Statements...............................................................................106
Independent Auditors' Report................................................................................110
</TABLE>
4
<PAGE> 6
STERLING CHEMICALS HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
------------------------------------------------
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Revenues ........................................................ $ 720,752 $ 822,590 $ 908,787
Cost of goods sold .............................................. 682,594 745,323 823,265
------------ ------------ ------------
Gross profit .................................................... 38,158 77,267 85,522
Selling, general, and administrative expenses ................... 37,649 38,515 28,053
Impairment of assets ............................................ 26,369 -- --
Other expense ................................................... 10,832 5,962 --
Interest and debt related expenses, net of interest income ...... 104,061 104,455 88,901
------------ ------------ ------------
Loss before taxes and extraordinary item ........................ (140,753) (71,665) (31,432)
Benefit for income taxes ....................................... (34,936) (25,546) (7,296)
------------ ------------ ------------
Loss before extraordinary item .................................. (105,817) (46,119) (24,136)
Extraordinary item, loss on early extinguishment of debt,
net of tax .................................................. 4,212 -- 3,924
------------ ------------ ------------
Net loss ........................................................ (110,029) (46,119) (28,060)
Preferred stock dividends ....................................... 2,683 2,460 905
------------ ------------ ------------
Net loss attributable to common stockholders .................... $ (112,712) $ (48,579) $ (28,965)
============ ============ ============
Per share data:
Loss before extraordinary item .................................. $ (8.60) $ (3.99) $ (2.23)
Extraordinary item .............................................. (0.34) -- (0.35)
------------ ------------ ------------
Loss per common share ........................................... $ (8.94) $ (3.99) $ (2.58)
============ ============ ============
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
5
<PAGE> 7
STERLING CHEMICALS HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
(AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
SEPTEMBER 30,
------------------------------
1999 1998
------------ ------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ........................................................ $ 14,921 $ 11,168
Accounts receivable .............................................................. 141,059 114,571
Inventories ...................................................................... 70,464 73,225
Prepaid expenses ................................................................. 16,236 15,571
Deferred income tax benefit ...................................................... 16,888 5,140
------------ ------------
Total current assets ........................................................... 259,568 219,675
Property, plant, and equipment, net ................................................. 402,723 450,315
Deferred income tax benefit ......................................................... 26,158 --
Other assets ........................................................................ 86,650 95,966
------------ ------------
Total assets ................................................................... $ 775,099 $ 765,956
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY IN ASSETS)
Current liabilities:
Accounts payable ................................................................. $ 72,961 $ 46,983
Accrued liabilities .............................................................. 79,883 71,873
Current portion of long-term debt ................................................ 4,246 8,909
------------ ------------
Total current liabilities ...................................................... 157,090 127,765
Long-term debt ...................................................................... 964,555 873,616
Deferred income tax liability ....................................................... 8,815 11,123
Deferred credits and other liabilities .............................................. 76,893 80,289
Common stock held by ESOP ........................................................... 2,946 5,938
Less: unearned compensation ........................................................ (745) (2,845)
Redeemable preferred stock .......................................................... 20,932 18,249
Commitments and contingencies (Note 6) .............................................. -- --
Stockholders' equity (deficiency in assets):
Common stock, $.01 par value, 20,000,000 shares authorized, 12,305,000 shares
issued and 12,097,000 outstanding at September 30, 1999; and 12,273,000
shares issued and 12,073,000 outstanding at September 30, 1998 ................. 123 123
Additional paid-in capital ....................................................... (542,712) (542,701)
Retained earnings ................................................................ 118,490 229,590
Accumulated other comprehensive income ........................................... (28,768) (32,680)
Deferred compensation ............................................................ (58) (111)
------------ ------------
(452,925) (345,779)
Treasury stock, at cost, 208,000 and 200,000 shares at September 30, 1999
and 1998, respectively ......................................................... (2,462) (2,400)
------------ ------------
Total stockholders' equity (deficiency in assets) ............................ (455,387) (348,179)
------------ ------------
Total liabilities and stockholders' equity (deficiency in assets) .......... $ 775,099 $ 765,956
============ ============
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
6
<PAGE> 8
STERLING CHEMICALS HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF
CHANGES IN STOCKHOLDERS' EQUITY (DEFICIENCY IN ASSETS)
(AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION>
ACCUMULATED
ADDITIONAL OTHER
COMMON STOCK PAID-IN RETAINED COMPREHENSIVE DEFERRED TREASURY
SHARES AMOUNT CAPITAL EARNINGS INCOME COMPENSATION STOCK TOTAL
------ -------- ----------- ---------- ------------- ------------ --------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance, September 30, 1996 .. 10,599 $ 106 $ (560,077) $ 306,656 $ (19,124) $ -- $ -- $ (272,439)
Comprehensive loss:
Net loss ..................... -- -- -- (28,060) -- -- --
Other comprehensive loss,
net of tax:
Cumulative translation
adjustments .............. -- -- -- -- (1,969) -- --
Pension adjustment ......... -- -- -- -- (31) -- --
Comprehensive loss ...... -- -- -- -- -- -- -- (30,060)
Common stock issued in
connection with
AFB Acquisition, net ....... 778 8 9,331 -- -- -- -- 9,339
Preferred stock dividends .... -- -- -- (905) -- -- -- (905)
Employee stock purchase ...... (44) -- (531) -- -- -- -- (531)
Treasury stock purchases ..... (228) -- -- -- -- -- (2,730) (2,730)
Common stock issued in
connection with the
Saskatoon Acquisition, net . 609 6 6,379 -- -- -- -- 6,385
Stock warrants .............. -- -- 2,413 -- -- -- -- 2,413
------- -------- ---------- ---------- ---------- ---------- --------- ----------
Balance, September 30, 1997 .. 11,714 120 (542,485) 277,691 (21,124) -- (2,730) (288,528)
Comprehensive loss:
Net loss ..................... -- -- -- (46,119) -- -- --
Other comprehensive loss,
net of tax:
Cumulative translation
adjustments .............. -- -- -- -- (11,466) -- --
Pension adjustment ......... -- -- -- -- (90) -- --
Comprehensive loss ...... -- -- -- -- -- -- -- (57,675)
Common stock issued in
connection with the
exercise of warrants ....... 345 3 -- -- -- -- -- 3
Preferred stock dividends .... -- -- -- (2,460) -- -- -- (2,460)
Treasury shares issued as
restricted stock ........... 23 -- (48) -- -- (222) 270 --
Treasury shares issued -- -- 168 --
to ESOP .................... -- -- (168) --
Revaluation of ESOP shares to
independently appraised -- -- -- 478
market value ................. -- -- -- 478
Amortization of deferred -- 111 -- 111
compensation ............... -- -- -- -- -- -- (108) (108)
Treasury stock purchases ..... (9) -- -- -- ---------- ---------- --------- ----------
------- -------- ---------- ---------- (32,680) (111) (2,400) (348,179)
Balance, September 30, 1998 .. 12,073 123 (542,701) 229,590
Comprehensive loss: -- -- --
Net loss ..................... -- -- -- (110,029)
Other comprehensive income
(loss), net of tax:
Cumulative translation
adjustments .............. -- -- -- -- 3,972 -- --
Pension adjustment ......... -- -- -- -- (60) -- --
Comprehensive loss ...... -- -- -- -- -- -- -- (106,117)
Common stock issued in c
onnection with the exercise
of warrants ................ 32 -- -- -- -- -- -- --
Preferred stock dividends .... -- -- -- (2,683) -- -- -- (2,683)
Treasury shares issued
as restricted stock ........ 1 -- (11) -- -- (7) 18 --
Revaluation of ESOP shares to
independently appraised
market value ............... -- -- -- 1,612 -- -- -- 1,612
Amortization of deferred
compensation ............... -- -- -- -- -- 60 -- 60
Treasury stock purchases ..... (9) -- -- -- -- -- (80) (80)
------- -------- ---------- ---------- ---------- ---------- --------- ----------
Balance, September 30, 1999 .. 12,097 $ 123 $ (542,712) $ 118,490 $ (28,768) $ (58) $ (2,462) $ (455,387)
======= ======== ========== ========== ========== ========== ========== ==========
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
7
<PAGE> 9
STERLING CHEMICALS HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
--------------------------------------------
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss ......................................................... $ (110,029) $ (46,119) $ (28,060)
Adjustments to reconcile net loss to net cash provided by
operating activities:
Depreciation and amortization ............................... 57,677 55,963 49,849
Interest amortization ....................................... 3,105 4,376 4,163
Extraordinary item, loss on early extinguishment of debt .... 4,212 -- 3,924
Deferred tax benefit ........................................ (38,024) (19,722) (3,107)
Early retirement programs and benefit changes ............... 6,781 -- --
Discount notes amortization ................................. 19,483 16,878 15,499
Impairment of assets ........................................ 26,369 -- --
Other ....................................................... 1,016 1,820 2,328
Change in assets/liabilities:
Accounts receivable ......................................... (11,547) 44,419 (8,985)
Inventories ................................................. 3,207 13,675 (6,674)
Prepaid expenses ............................................ (10,760) (2,852) (7,767)
Other assets ................................................ (1,477) 654 (1,754)
Accounts payable ............................................ 19,137 (32,896) (1,424)
Accrued liabilities ......................................... 4,619 (9,300) 27,305
Other liabilities ........................................... 12,341 18,988 2,017
------------ ------------ ------------
Net cash provided by (used in) operating activities .............. (13,890) 45,884 47,314
------------ ------------ ------------
Cash flows from investing activities:
Capital expenditures ........................................ (29,540) (26,622) (43,428)
Proceeds from sale of assets ................................ 3,583 -- --
Business acquisitions ....................................... -- -- (152,923)
------------ ------------ ------------
Net cash used in investing activities ............................ (25,957) (26,622) (196,351)
------------ ------------ ------------
Cash flows from financing activities:
Proceeds from long-term debt ................................ 814,105 59,862 375,260
Repayment of long-term debt ................................. (751,001) (75,152) (236,104)
Issuance of common stock .................................... -- 3 18,721
Sale of warrants ............................................ -- -- 2,413
Debt issuance costs ......................................... (16,480) -- (9,684)
Issuance of preferred stock ................................. -- -- 4,887
Purchase of treasury stock .................................. (80) (105) (3,256)
Other ....................................................... (3,270) 154 (627)
------------ ------------ ------------
Net cash provided by (used in) financing activities .............. 43,274 (15,238) 151,610
Effect of United States /Canadian exchange rate on cash .......... 326 (814) (224)
------------ ------------ ------------
Net increase in cash and cash equivalents ........................ 3,753 3,210 2,349
Cash and cash equivalents - beginning of year .................... 11,168 7,958 5,609
------------ ------------ ------------
Cash and cash equivalents - end of year .......................... $ 14,921 $ 11,168 $ 7,958
============ ============ ============
Supplemental disclosures of cash flow information:
Interest paid, net of interest income received .............. $ (83,167) $ (80,223) $ (60,387)
Income taxes received ....................................... 4,750 6,653 3,116
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
8
<PAGE> 10
STERLING CHEMICALS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
--------------------------------------------
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Revenues ......................................... $ 720,752 $ 822,590 $ 908,787
Cost of goods sold ............................... 682,594 745,323 823,265
------------ ------------ ------------
Gross profit ..................................... 38,158 77,267 85,522
Selling, general, and administrative expenses .... 36,980 37,319 27,358
Impairment of assets ............................. 26,369 -- --
Other expense .................................... 10,832 5,962 --
Interest and debt related expenses ............... 83,897 86,618 72,931
Interest income from parent ...................... -- -- (1,692)
------------ ------------ ------------
Loss before taxes and extraordinary item ......... (119,920) (52,632) (13,075)
Benefit for income taxes ......................... (29,410) (18,963) (2,148)
------------ ------------ ------------
Loss before extraordinary item ................... (90,510) (33,669) (10,927)
Extraordinary item, loss on early extinguishment
of debt, net of tax ........................... 4,212 -- 3,924
------------ ------------ ------------
Net loss ......................................... $ (94,722) $ (33,669) $ (14,851)
============ ============ ============
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
9
<PAGE> 11
STERLING CHEMICALS, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
SEPTEMBER 30,
----------------------------
1999 1998
------------ ------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents .......................................... $ 14,899 $ 11,159
Accounts receivable ................................................ 143,556 116,398
Inventories ........................................................ 70,464 73,225
Prepaid expenses ................................................... 15,059 13,632
Deferred income tax benefit ........................................ 16,888 5,140
------------ ------------
Total current assets ............................................. 260,866 219,554
Property, plant and equipment, net .................................... 402,723 450,315
Deferred income tax benefit ........................................... 8,384 --
Other assets .......................................................... 80,133 92,634
------------ ------------
Total assets ..................................................... $ 752,106 $ 762,503
============ ============
LIABILITIES AND STOCKHOLDER'S EQUITY (DEFICIENCY IN ASSETS)
Current liabilities:
Accounts payable ................................................... $ 72,731 $ 46,775
Accrued liabilities ................................................ 79,883 71,873
Current portion of long-term debt .................................. 4,246 8,909
------------ ------------
Total current liabilities .......................................... 156,860 127,557
Long-term debt ........................................................ 816,927 745,709
Deferred income tax liability ......................................... 8,815 23,301
Deferred credits and other liabilities ................................ 76,893 83,288
Common stock held by ESOP ............................................. 2,946 5,938
Less: unearned compensation .......................................... (745) (2,845)
Commitments and contingencies ......................................... -- --
Stockholder's equity (deficiency in assets):
Common stock, $.01 par value ....................................... -- --
Additional paid-in capital ......................................... (139,786) (139,786)
Accumulated deficit ................................................ (140,978) (47,868)
Accumulated other comprehensive income ............................. (28,768) (32,680)
Deferred compensation .............................................. (58) (111)
------------ ------------
Total stockholder's equity (deficiency in assets) .................. (309,590) (220,445)
------------ ------------
Total liabilities and stockholder's equity (deficiency in assets) .. $ 752,106 $ 762,503
============ ============
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
10
<PAGE> 12
STERLING CHEMICALS, INC.
CONSOLIDATED STATEMENTS OF
CHANGES IN STOCKHOLDER'S EQUITY (DEFICIENCY IN ASSETS)
(AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION>
RETAINED ACCUMULATED
ADDITIONAL EARNINGS OTHER
COMMON STOCK PAID-IN (ACCUMULATED COMPREHENSIVE DEFERRED
SHARES AMOUNT CAPITAL DEFICIT) INCOME COMPENSATION TOTAL
--------- --------- ---------- ------------ ------------- ------------ ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, September 30, 1996 ........ 1 $ -- $ (165,352) $ 174 $ (19,124) $ -- $ (184,302)
Comprehensive loss:
Net loss ........................... -- -- -- (14,851) --
Other comprehensive loss,
net of tax:
Cumulative translation
adjustments .................... -- -- -- -- (1,969)
Pension adjustment ............... -- -- -- -- (31)
Comprehensive loss ............ -- -- -- -- -- -- (16,851)
Earned ESOP shares ................. -- -- (2,118) -- -- -- (2,118)
Contribution from parent ........... -- -- 27,684 -- -- -- 27,684
--------- --------- ---------- ---------- ---------- ---------- ----------
Balance, September 30, 1997 ........ 1 -- (139,786) (14,677) (21,124) -- (175,587)
Comprehensive loss:
Net loss ........................... -- -- -- (33,669) --
Other comprehensive loss,
net of tax:
Cumulative translation
adjustments ........ -- -- -- -- (11,466)
Pension adjustment ............... -- -- -- -- (90)
Comprehensive loss ............ -- -- -- -- -- -- (45,225)
Issuance of restricted stock ....... -- -- -- -- -- (222) (222)
Revaluation of ESOP shares to
independently appraised
market value ..................... -- -- -- 478 -- -- 478
Amortization of deferred
compensation ..................... -- -- -- -- -- 111 111
--------- --------- ---------- ---------- ---------- ---------- ----------
Balance, September 30, 1998 ........ 1 -- (139,786) (47,868) (32,680) (111) (220,445)
Comprehensive loss:
Net loss ........................... -- -- -- (94,722) --
Other comprehensive income (loss),
net of tax:
Cumulative translation
adjustments ........ -- -- -- -- 3,972
Pension adjustment ............... -- -- -- -- (60)
Comprehensive loss ............ -- -- -- -- -- -- (90,810)
Issuance of restricted stock ....... -- -- -- -- -- (7) (7)
Revaluation of ESOP shares to
independently appraised
market value ..................... -- -- -- 1,612 -- -- 1,612
Amortization of deferred
compensation ..................... -- -- -- -- -- 60 60
--------- --------- ---------- ---------- ---------- ---------- ----------
Balance, September 30, 1999 ........ 1 $ -- $ (139,786) $ (140,978) $ (28,768) $ (58) $ (309,590)
========= ========= ========== ========== ========== ========== ==========
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
11
<PAGE> 13
STERLING CHEMICALS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
--------------------------------------------
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss ................................................... $ (94,722) $ (33,669) $ (14,851)
Adjustments to reconcile net loss to net
cash provided by operating activities:
Depreciation and amortization ........................... 60,349 59,151 53,680
Deferred tax expense (benefit) .......................... (32,498) (13,139) 1,869
Extraordinary item ...................................... 4,212 -- 3,924
Early retirement and benefit charges .................... 6,781 -- --
Impairment of assets .................................... 26,368 -- --
Other ................................................... 1,016 2,020 2,173
Change in assets/liabilities:
Accounts receivable ..................................... (10,877) 45,484 (13,510)
Inventories ............................................. 3,207 13,675 (6,674)
Prepaid expenses ........................................ (11,522) (1,838) (5,733)
Other assets ............................................ 4,811 2,078 (2,271)
Accounts payable ........................................ 17,797 (35,102) (1,288)
Accrued liabilities ..................................... 4,619 (3,441) 27,218
Other liabilities ....................................... 6,556 10,654 2,037
------------ ------------ ------------
Net cash provided by (used in) operating activities ........ (13,903) 45,873 46,574
------------ ------------ ------------
Cash flows from investing activities:
Capital expenditures .................................... (29,540) (26,622) (43,428)
Business acquisitions ................................... -- -- (152,923)
Proceeds from sale of assets ............................ 3,583 -- --
------------ ------------ ------------
Net cash used in investing activities ...................... (25,957) (26,622) (196,351)
------------ ------------ ------------
Cash flows from financing activities:
Proceeds from long-term debt ............................ 814,105 59,862 375,260
Repayment of long-term debt ............................. (751,001) (75,153) (236,104)
Debt issuance costs ..................................... (16,480) -- (9,684)
Intercompany financing .................................. -- 1 3,000
Contribution from parent ................................ -- -- 22,286
Other ................................................... (3,350) 54 (2,380)
------------ ------------ ------------
Net cash provided by (used in) financing activities ........ 43,274 (15,236) 152,378
Effect of United States/Canadian exchange rate on ........ 326 (814) (224)
cash
------------ ------------ ------------
Net increase in cash and cash equivalents .................. 3,740 3,201 2,377
Cash and cash equivalents - beginning of period ............ 11,159 7,958 5,581
------------ ------------ ------------
Cash and cash equivalents - end of year .................... $ 14,899 $ 11,159 $ 7,958
============ ============ ============
Supplement disclosures of cash flow information:
Interest paid, net of interest income received .......... $ (83,180) $ (80,251) $ (60,402)
Income taxes received ................................... 4,750 6,653 3,116
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
12
<PAGE> 14
STERLING CHEMICALS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Sterling Chemicals Holdings, Inc. ("Holdings" and, together with its
subsidiaries, the "Company") manufactures seven commodity petrochemicals at its
Texas City, Texas plant (the "Texas City Plant"). Additionally, the Company
manufactures chemicals for use primarily in the pulp and paper industry at five
plants in Canada and one plant in Valdosta, Georgia (the "Valdosta Plant"), and
manufactures acrylic fibers in a plant near Pensacola, Florida (the "Santa Rosa
Plant"). At its Texas City Plant, the Company produces styrene, acrylonitrile,
acetic acid, plasticizers, methanol, tertiary butylamine ("TBA"), and sodium
cyanide. The Company generally sells its petrochemicals products to customers
for use in the manufacture of other chemicals and products, which in turn are
used in the production of a wide array of consumer goods and industrial
products. The Company produces regular textiles, specialty textiles, and
technical fibers at the Santa Rosa Plant, as well as licensing its acrylic
fibers manufacturing technology to producers worldwide. Sodium chlorate is
produced at the Company's five plants in Canada and the Valdosta Plant. Sodium
chlorite is produced at one of the Company's Canadian locations. In addition,
chlor-alkali and calcium hypochlorite are produced at one of the Canadian
locations. The Company licenses, engineers, and oversees construction of
large-scale chlorine dioxide generators for the pulp and paper industry as part
of the pulp chemicals business. These generators convert sodium chlorate into
chlorine dioxide at pulp mills.
Holdings is a holding company whose only material asset is its investment
in Sterling Chemicals, Inc. ("Chemicals"). Chemicals and its subsidiaries are
substantially all of the consolidated operating assets.
The significant accounting policies of the Company are described below.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of all wholly
owned and majority-owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated. The Company's investment in a cogeneration
joint venture of a 50% equity interest and a 50/50 acrylonitrile marketing joint
venture are accounted for under the equity method with the Company's share of
the operating results of the joint ventures recorded in its Statement of
Operations.
CASH EQUIVALENTS
The Company considers all investments purchased with a remaining maturity
of three months or less to be cash equivalents.
INVENTORIES
Inventories are stated at the lower of cost or market; cost is primarily
determined on the first-in, first-out basis except for stores and supplies,
which are valued at average cost.
The Company enters into agreements with other companies to exchange
chemical inventories in order to minimize working capital requirements and to
facilitate distribution logistics. Balances related to quantities due to or
payable by the Company are included in inventory.
PROPERTY, PLANT, AND EQUIPMENT
Property, plant, and equipment are recorded at cost. Major renewals and
improvements, which extend the useful lives of the equipment, are capitalized.
Major planned maintenance expenses are accrued for during the periods prior to
the maintenance, while routine repair and maintenance expenses are charged to
operations as incurred. Disposals are removed at carrying cost less accumulated
depreciation with any resulting gain or loss reflected in operations.
Depreciation is provided using the straight-line method over estimated useful
lives ranging
13
<PAGE> 15
from 5 to 25 years with the predominant life of the plant and equipment being 15
years. The Company capitalizes interest costs, which are incurred as part of the
cost of constructing major facilities and equipment. The amount of interest
capitalized for the fiscal years 1999, 1998, and 1997 was $1.4 million, $0.8
million, and $3.8 million, respectively.
IMPAIRMENT OF LONG-LIVED ASSETS
Impairment tests of long-lived assets are made when conditions indicate
their carrying cost may not be recoverable. Such impairment tests are based on a
comparison of undiscounted future cash flows or the market value of similar
assets to the carrying cost of the asset. If an impairment is indicated, the
asset value is written down to its estimated fair value. During fiscal 1999, the
Company incurred an impairment loss of $26.4 million related to its methanol
production assets.
PATENTS AND ROYALTIES
The cost of patents is amortized on a straight-line basis over their
estimated useful lives which approximates ten years. The Company capitalized the
value of the chlorine dioxide generator technology acquired in fiscal 1992 based
on the net present value of all estimated remaining royalty payments associated
with the technology. The resulting intangible amount is included in other assets
and is amortized over the average life for these royalty payments of ten years.
DEBT ISSUE COSTS
Debt issue costs relating to long-term debt are amortized over the term of
the related debt instrument using the effective interest method and are included
in other assets.
INCOME TAXES
Deferred income taxes are recorded to reflect the tax effect of the
temporary differences between the financial reporting basis and the tax basis of
the Company's assets and liabilities at enacted rates.
REVENUE RECOGNITION
The Company generates revenues through sales in the open market, raw
material conversion agreements, and long-term supply contracts. In addition, the
Company has entered into shared profit arrangements with respect to certain
petrochemicals products. The Company recognizes revenue from sales in the open
market, raw material conversion agreements, and long-term supply contracts when
the products are shipped. Revenues from shared profit arrangements are estimated
and accrued monthly. Deferred credits are amortized over the life of the
contract which gave rise to them. The Company also generates revenues from the
construction and sale of chlorine dioxide generators, which are recognized using
the percentage of completion method. The Company also receives prepaid
royalties, which are recognized over a period, which is typically ten years. In
addition, the Company generates revenues from the sale of acrylic fibers
manufacturing technology to producers worldwide, which are recognized as earned.
FOREIGN CURRENCY TRANSLATION AND FOREIGN EXCHANGE
The Company's Canadian subsidiaries use the Canadian dollar as their
functional currency. For financial reporting purposes, assets and liabilities of
these subsidiaries denominated in Canadian dollars are translated into United
States dollars at year-end exchange rates and revenues and expenses are
translated at the average monthly exchange rates. Translation adjustments are
reported as a separate component of stockholders' equity, while transaction
gains and losses are included in operations when incurred.
The Company's Canadian subsidiaries enter into forward foreign exchange
contracts to minimize the short-term impact of Canadian dollar fluctuations on
certain of its Canadian dollar denominated commitments. Gains or losses on these
contracts are deferred and are included in operations in the same period in
which the related transactions are settled.
14
<PAGE> 16
HEDGING
The Company periodically enters into contracts to hedge against the
volatility in the price of natural gas, which is used in the production of
styrene and methanol. These transactions generally take the form of price
collars, and are placed with major financial institutions and industrial
companies. The results of the hedging transactions are included in Cost of Goods
Sold as the related production of styrene and methanol occurs.
15
<PAGE> 17
EARNINGS PER SHARE
For purposes of computing net income (loss) per common share, net
income (loss) has been reduced by an amount equal to the fair market value of
Released Shares (as hereinafter defined) at the end of the period, minus the sum
of the amount previously recognized as compensation expense with respect to
Released Shares and the amount of depreciation/appreciation in value of Released
Shares in prior periods. This reduction results from the Company being required,
under certain circumstances, to purchase for cash common stock distributed to
participants by the Sterling Chemicals ESOP (the "ESOP"). "Released Shares" are
shares held by the ESOP but allocated to employees. The weighted average number
of outstanding shares and computation of the net income (loss) per common share
is as follows (in thousands, except per share data):
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
--------------------------------------------
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Net loss attributable to common stockholders .................... $ (112,712) $ (48,579) $ (28,965)
Plus depreciation in value of Released Shares ................... 1,048 298 --
------------ ------------ ------------
Net loss for purpose of computing net income (loss) per share ... $ (111,664) $ (48,281) $ (28,965)
============ ============ ============
Net loss per common share ....................................... $ (8.94) $ (3.99) $ (2.58)
============ ============ ============
Weighted average shares outstanding ............................. 12,495 12,104 11,237
============ ============ ============
</TABLE>
As losses were incurred in fiscal 1999, 1998, and 1997, basic and diluted EPS
are the same amount for these periods.
COMPREHENSIVE INCOME (LOSS)
As of October 1, 1998, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income". SFAS
No. 130 establishes standards for the reporting and displaying of comprehensive
net income and its components. Accumulated Other Comprehensive Income consists
of the following (in thousands):
<TABLE>
<CAPTION>
CUMULATIVE
TRANSLATION
ADJUSTMENT PENSION ADJUSTMENT TOTAL
-------------- ------------------ --------------
<S> <C> <C> <C>
Balance, September 30, 1996 ....... $ (19, 124) $ -- $ (19,124)
Changes ........................... (1,969) (31) (2,000)
-------------- -------------- --------------
Balance, September 30, 1997 ....... (21,093) (31) (21,124)
Changes ........................... (11,466) (90) (11,556)
-------------- -------------- --------------
Balance, September 30, 1998 ....... (32,559) (121) (32,680)
Changes ........................... 3,972 (60) 3,912
-------------- -------------- --------------
Balance, September 30, 1999 ....... $ (28,587) $ (181) $ (28,768)
============== ============== ==============
</TABLE>
There is no tax expense or benefit associated with the cumulative translation
adjustment amounts above. The pension adjustment amounts are net of tax benefit
of $32,000, $49,000, and $17,000 for the fiscal years ended September 30, 1999,
1998, and 1997, respectively.
ENVIRONMENTAL COSTS
Environmental costs are expensed unless the expenditures extend the
economic useful life of the assets. Costs that extend the economic life of the
assets are capitalized and depreciated over the remaining life of such assets.
Liabilities are recorded when environmental assessments and/or remedial efforts
are probable, and the cost can be reasonably estimated.
DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
In preparing disclosures about the fair value of financial instruments, the
Company has assumed that the carrying amount approximates fair value for cash
and cash equivalents, receivables, short-term borrowings, accounts
16
<PAGE> 18
payable, and certain accrued expenses because of the short maturities of those
instruments. The fair values of long-term debt instruments are estimated based
upon quoted market values (if applicable) or on the current interest rates
available to the Company for debt with similar terms and remaining maturities.
Considerable judgment is required in developing these estimates and,
accordingly, no assurance can be given that the estimated values presented
herein are indicative of the amounts that would be realized in a free market
exchange.
ACCOUNTING ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the reported
periods. Significant estimates include environmental reserves, litigation
contingencies, maintenance costs related to shut downs, taxes, and revenues.
Actual results could differ from these estimates.
RECLASSIFICATION
Certain amounts reported in the financial statements for the prior periods
have been reclassified to conform with the current financial statement
presentation with no effect on net income (loss) or stockholders' equity
(deficiency in assets).
17
<PAGE> 19
2. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS:
<TABLE>
<CAPTION>
SEPTEMBER 30,
------------------------------
1999 1998
------------- -------------
(Dollars in Thousands)
<S> <C> <C>
Inventories:
Finished products ............................. $ 37,484 $ 42,436
Raw materials ................................. 10,355 8,089
------------- -------------
Inventories at cost ............................. 47,839 50,525
------------- -------------
Inventories under exchange agreements ......... 2,562 3,031
Stores and supplies ........................... 20,063 19,669
------------- -------------
$ 70,464 $ 73,225
============= =============
Property, plant, and equipment:
Land .......................................... $ 10,274 $ 12,897
Buildings ..................................... 56,728 51,362
Plant and equipment ........................... 673,108 652,872
Construction in progress ...................... 39,388 30,506
Less: accumulated depreciation ............... (376,775) (297,322)
------------- -------------
$ 402,723 $ 450,315
============= =============
Other assets:
Patents and technology, net ................... $ 21,630 $ 26,821
Debt issue costs .............................. 34,055 28,248
Other ......................................... 30,965 40,897
------------- -------------
$ 86,650 $ 95,966
============= =============
Accrued liabilities:
Repairs ....................................... $ 9,635 $ 16,890
Interest ...................................... 20,778 14,433
Compensation .................................. 18,174 5,489
Property taxes ................................ 8,243 7,754
Other ......................................... 23,053 27,307
------------- -------------
$ 79,883 $ 71,873
============= =============
Deferred credits and other liabilities:
Deferred revenue .............................. $ 7,667 $ 15,168
Accrued postretirement benefits ............... 54,084 37,663
Other ......................................... 15,142 27,458
------------- -------------
$ 76,893 $ 80,289
============= =============
</TABLE>
18
<PAGE> 20
3. LONG-TERM DEBT:
Long-term debt consisted of the following:
<TABLE>
<CAPTION>
SEPTEMBER 30,
----------------------------------
1999 1998
--------------- ---------------
(Dollars in Thousands)
<S> <C> <C>
Revolving credit facilities ...................... $ 54,643 $ --
Term loans ....................................... -- 274,000
Saskatoon term loans ............................. 44,045 49,552
ESOP term loan ................................... -- 3,250
11 1/4% notes .................................... 152,485 152,816
11 3/4% notes .................................... 275,000 275,000
12 3/8% notes .................................... 295,000 --
--------------- ---------------
Total Chemicals' debt outstanding ............. 821,173 754,618
13 1/2% notes .................................... 147,628 127,907
--------------- ---------------
Total Holdings' debt outstanding .............. 968,801 882,525
=============== ===============
Less:
Current maturities ............................ (4,246) (8,909)
--------------- ---------------
Total long-term debt ............................. $ 964,555 $ 873,616
=============== ===============
</TABLE>
19
<PAGE> 21
On July 23, 1999, Chemicals completed a private offering (the "12 3/8%
Notes Offering") of $295,000,000 of its 12 3/8% Senior Secured Notes due 2006.
On November 5, 1999, Chemicals completed a registered exchange offer, pursuant
to which all of these notes were exchanged for publicly registered 12 3/8% Notes
with substantially similar terms (the "12 3/8% Notes"). The 12 3/8% Notes are
senior secured obligations of Chemicals and rank equally in right of payment
with all other existing and future senior indebtedness of Chemicals and senior
in right of payment to all existing and future subordinated indebtedness of
Chemicals. The 12 3/8% Notes are guaranteed by all of Chemicals' existing direct
and indirect United States subsidiaries (other than Sterling Chemicals
Acquisitions, Inc.) on a joint and several basis. Each subsidiary's guarantee
ranks equally in right of payment with all of such subsidiary's existing and
future senior indebtedness and senior in right of payment to all existing and
future subordinated indebtedness of such subsidiary. However, the 12 3/8% Notes,
and each subsidiary's guarantee, is subordinated to the extent of the collateral
securing Chemicals' new secured revolving credit facilities described below. The
12 3/8% Notes and the subsidiary guarantees are secured by (i) a second priority
lien on all of Chemicals' and the subsidiary guarantors' United States
production facilities and related assets, (ii) a second priority pledge of all
of the capital stock of each subsidiary guarantor, and (iii) a first priority
pledge of 65% of the stock of certain of the Company's subsidiaries incorporated
outside of the United States.
The 12 3/8% Notes bear interest at the annual rate of 12 3/8%, payable
semi-annually on January 15 and July 15 of each year commencing January 15,
2000. Except as otherwise provided below, the 12 3/8% Notes may not be redeemed
by Chemicals prior to July 15, 2003. From that date until July 15, 2004, the
12 3/8% Notes may be redeemed at a premium of the principal amount thereof at
maturity of 106.188% and from July 15, 2004 until July 15, 2005, the 12 3/8%
Notes may be redeemed at a premium of the principal amount thereof at maturity
of 103.094%. Thereafter, Chemicals may redeem the 12 3/8% Notes at their face
value plus accrued and unpaid interest. Prior to July 15, 2002, Chemicals may
redeem in the aggregate up to 35% of the original principal amount of the
12 3/8% Notes with the proceeds of one or more Public Equity Offerings, as
defined. Such redemptions may be made at a redemption price of 112.375 of the
face value plus accrued and unpaid interest to the redemption date. After such
redemption, at least $191.75 million aggregate principal amount of the 12 3/8%
Notes must remain outstanding.
In addition, on July 23, 1999, Chemicals established two new secured
revolving credit facilities providing up to $155,000,000 in revolving credit
loans (the "New Revolvers") under a single Revolving Credit Agreement (the "New
Credit Agreement"). Under the New Credit Agreement, Chemicals and each of its
direct and indirect United States subsidiaries (other than Sterling Chemicals
Acquisitions, Inc.) are co-borrowers and are jointly and severally liable for
any indebtedness thereunder. The New Revolvers consist of (i) a $70,000,000
revolving credit facility (the "Fixed Assets Revolver") secured by a first
priority lien on all United States production facilities and related assets of
Chemicals and the other co-borrowers, all of the capital stock of Chemicals and
all of the capital stock of each co-borrower and a second priority lien on all
accounts receivable, inventory, and other specified assets of Chemicals and the
other co-borrowers, and (ii) an $85,000,000 revolving credit facility (the
"Current Assets Revolver") secured by a first priority lien on all accounts
receivable, inventory, and other specified assets of Chemicals and the other
co-borrowers.
Funding under the 12 3/8% Notes Offering and the New Revolvers occurred on
July 23, 1999. The proceeds of the 12 3/8% Notes Offering and the initial
borrowings under the New Revolvers were used to completely repay all outstanding
indebtedness under Chemicals existing senior credit facility.
Approximately $54.6 million was drawn under the Fixed Assets Revolver at
September 30, 1999. Borrowings under the Fixed Assets Revolver bear interest, at
Chemicals' option, at an annual rate of either the "LIBOR Rate" (as defined in
the New Credit Agreement) plus 3.75% or the Alternate Base Rate plus 2.25%.
Borrowings under the Current Assets Revolver bear interest, at Chemicals'
option, at an annual rate of either the LIBOR Rate plus 3.00% or the Alternate
Base Rate plus 1.50%. The "Alternate Base Rate" is equal to the greater of the
Base Rate as announced from time to time by The Chase Manhattan Bank in New
York, New York or the "Federal Funds Effective Rate" plus 1/2% (as such terms
are defined in the New Credit Agreement.). At September 30, 1999, the weighted
average interest rate in effect was 9.3%. The New Credit Agreement also requires
Chemicals and the co-borrowers to pay an aggregate commitment fee ranging from
0.75% to 1.25% on the unused portion of the commitment for the Fixed Assets
Revolver, depending on the amount drawn, and an aggregate commitment fee of 0.5%
on the unused portion of the commitment for the Current Assets Revolver.
Available credit under the Current Assets Revolver is subject to a monthly
borrowing base consisting of 85% of eligible accounts receivable and 65% of
eligible inventory with an inventory cap of $42,500,000. In addition, the
borrowing base for the Current Assets Revolver must exceed outstanding
borrowings thereunder by $12,000,000 at all times.
20
<PAGE> 22
The Fixed Assets Revolver matures in five years, with quarterly commitment
reductions totaling 28% of the total commitment in year four and the balance in
year five. The Current Assets Revolver matures in five years, with no scheduled
commitment reductions prior to that time. However, the commitments for each of
the Fixed Assets Revolver and the Current Assets Revolver will be permanently
reduced to the extent required under the New Credit Agreement upon prepayments
made out of specific sources of funds, including asset sales and certain equity
issuances by Holdings.
On July 10, 1997, Sterling Pulp Chemicals (Sask) Ltd. ("Sterling Sask"), an
indirect wholly owned subsidiary of Holdings and Chemicals, acquired
substantially all of the assets of Saskatoon Chemicals Ltd. ("Saskatoon
Chemicals"), a subsidiary of Weyerhaeuser Canada Ltd. (the "Saskatoon
Acquisition"). In connection with the Saskatoon Acquisition, Sterling Sask
entered into a credit agreement (the "Saskatoon Credit Agreement") with The
Chase Manhattan Bank of Canada, individually and as administrative agent.
Funding under the Saskatoon Credit Agreement occurred July 10, 1997, upon
consummation of the Saskatoon Acquisition. The Saskatoon Credit Agreement
provides for a revolving credit facility of Cdn. $8.0 million (the "Saskatoon
Revolver"), and a term loan facility consisting of Cdn. $21.2 million Tranche A
term loan due June 30, 2003, and $36.4 million Tranche B term loan due June 30,
2005 (the "Saskatoon Term Loans"). Advances under the Saskatoon Revolver are
subject to a borrowing base consisting of 85% of eligible accounts receivable
and 65% of eligible inventory with an inventory cap of 50% of the borrowing
base. At September 30, 1999, the borrowing base did not limit such available
credit and there were no borrowings outstanding under the Saskatoon Revolver.
Sterling Sasks' obligations under the Saskatoon Credit Agreement are secured by
substantially all of the assets of Sterling Sask. The Saskatoon Credit Agreement
requires Sterling Sask to satisfy certain financial covenants and tests. In
addition, the Saskatoon Credit Agreement requires that certain amounts of Excess
Cash Flow (as defined therein) be used to prepay amounts outstanding under the
Saskatoon Term Loans. A mandatory prepayment of Cdn. $2 million will be required
in fiscal 2000.
The Sterling Sask Tranche A term loan and the Saskatoon Revolver borrowings
bear interest, at Sterling Sask's option, at an annual rate of either the
Bankers Acceptance Rate or the Base Rate plus an Applicable Margin ranging from
1% to 2.5% depending upon Sterling Sask's Leverage Ratio (as defined in the
Saskatoon Credit Agreement). The Tranche B term loan bears interest, at Sterling
Sask's option, at an annual rate of either the Eurodollar Rate or the Base Rate
plus an Applicable Margin ranging from 0% to 2.5% depending upon Sterling Sask's
Leverage Ratio. The "Base Rate" for the Tranche A term loan and the Saskatoon
Revolver is equal to the greater of the Prime Rate for Canadian Dollar
commercial loans made in Canada, as announced from time to time by the agent
bank, or the rate for Canadian Dollar Bankers Acceptances accepted by the agent
with a term to maturity of 30 days plus 1% (as such terms are defined in the
Saskatoon Credit Agreement). The "Base Rate" for the Tranche B term loan is
equal to the greater of the Prime Rate as announced from time to time by the
agent bank, the "Federal Funds Effective Rate" plus 1/2% or the "Base CD Rate"
plus 1% (as such terms are defined in the Saskatoon Credit Agreement). At
September 30, 1999, the interest rates in effect for the Tranche A and Tranche B
term loans were 7.5% and 8.5%, respectively. The Saskatoon Credit Agreement also
requires Sterling Sask to pay a commitment fee in the amount of 1/2% of the
unused commitment under the Saskatoon Revolver.
As part of the recapitalization of the Company in August of 1996, Chemicals
also issued $275.0 million of its 11 3/4% Senior Subordinated Notes due 2006
(the "11 3/4% Notes") and Holdings issued $191.8 million of discount notes ($100
million initial proceeds) representing 191,751 Units, with each Unit consisting
of one 13 1/2% Senior Secured Discount Note due 2008 (collectively, the "13 1/2%
Notes") and one warrant to purchase three shares of the common stock, par value
$0.01 per share, of Holdings ("Holdings Common Stock") for $0.01 per share.
The 11 3/4% Notes are unsecured senior subordinated obligations of
Chemicals, ranking subordinate in right of payment to all existing and future
senior debt of Chemicals, but pari passu with the 11 1/4% Notes and all future
senior subordinated indebtedness. The 11 3/4% Notes bear interest at the annual
rate of 11 3/4%, payable semi-annually on February 15 and August 15 of each year
commencing February 15, 1997. The 13 1/2% Notes are senior secured obligations
of Holdings and rank equally in right of payment with all other senior
indebtedness of Holdings and senior in right of payment to all subordinated
indebtedness of Holdings. The 13 1/2% Notes will accrete interest until August
15, 2001, with no interest payable in cash until February 15, 2002, at an annual
rate of 13 1/2%, compounded semi-annually. Commencing in 2002, interest will be
payable semi-annually on February 15 and August 15 of each year until maturity.
Except as otherwise provided below, the 11 3/4% Notes may not be redeemed
by Chemicals prior to August 15, 2001. From that date through August 15, 2004,
the 11 3/4% Notes may be redeemed at a premium of the principal
21
<PAGE> 23
amount thereof at maturity varying between 105.875% and 101.958%. Subsequent to
August 15, 2004, Chemicals may redeem the 11 3/4% Notes at their face value plus
accrued and unpaid interest.
Except as otherwise provided below, the 13 1/2% Notes may not be redeemed
by Holdings prior to August 15, 2001. From that date through August 15, 2006,
the 13 1/2% Notes may be redeemed at a premium of the principal amount thereof
at maturity varying between 106.75% and 101.35%. Subsequent to August 15, 2006,
Holdings may redeem the 13 1/2% Notes at their principal amount plus accrued
interest.
On April 7, 1997, Chemicals issued $150.0 million of its 11 1/4% Senior
Subordinated Notes due 2007 (the "11 1/4% Notes"). The 11 1/4% Notes are
unsecured senior subordinated obligations of Chemicals, ranking subordinate in
right of payment to all existing and future senior debt of Chemicals, but pari
passu with the 11 3/4 % Notes and all future senior subordinated indebtedness of
Chemicals.
The 11 1/4% Notes bear interest at the annual rate of 11 1/4%, payable
semi-annually on April 1 and October 1 of each year commencing October 1, 1997.
Except as otherwise provided below, the 11 1/4% Notes may not be redeemed by
Chemicals prior to April 1, 2002. From that date through April 1, 2005, the
11 1/4% Notes may be redeemed at a premium of the principal amount thereof at
maturity varying between 105.625% and 101.875%. Subsequent to April 1, 2005,
Chemicals may redeem the 11 1/4% Notes at their face value plus accrued and
unpaid interest. Prior to April 1, 2000, Chemicals may redeem in the aggregate
up to 35% of the original principal amount of the 11 1/4% Notes with the
proceeds of one or more public equity offerings, as defined. Such redemptions
may be made at a redemption price of 111.25% of the face value plus accrued and
unpaid interest to the redemption date. After such redemption, at least $97.5
million aggregate principal amount of the 11 1/4% Notes must remain outstanding.
Under the terms of our New Credit Agreement, we cannot redeem all or any
portion of Chemicals' 12 3/8% Notes, 11 3/4% Notes, or 11 1/4% Notes at any time
unless expressly required to do so under the relevant indentures. In addition,
our ability to redeem all of any portion of Chemicals' 11 3/4% Notes or 11 1/4%
Notes is restricted under the indenture governing the 12 3/8% Notes.
The indentures governing the 123/8% Notes, 11 1/4% Notes, 11 3/4% Notes,
and 13 1/2% Notes (the "Indentures") contain numerous financial and operating
covenants, including, but not limited to, restrictions on Chemicals' or
Holdings' ability to incur indebtedness, pay dividends, create liens, sell
assets, engage in mergers and acquisitions, and refinance existing indebtedness.
In addition, the Indentures include various circumstances that will constitute,
upon occurrence and subject in certain cases to notice and grace periods, an
event of default thereunder. However, neither the Indentures nor the New Credit
Agreement requires the Company or Chemicals to satisfy any financial ratios or
maintenance tests.
The indentures governing the 11 1/4 % Notes, the 11 3/4% Notes, and the
12 3/8% Notes and the New Credit Agreement contain provisions which restrict the
payment of advances, loans and dividends from Chemicals to Holdings. The most
restrictive of the covenants limits such payments during fiscal 2000 to
approximately $2.0 million, plus any amounts due Holdings from Chemicals under
the intercompany tax sharing agreement. The Saskatoon Credit Agreement contains
provisions, which restrict the payment of advances, loans and dividends from
Sterling Sask to Chemicals. The most restrictive of the covenants limits such
payments during fiscal 2000 to approximately $1.0 million, plus any amounts due
to Chemicals or Holdings from Sterling Sask under the intercompany tax sharing
agreement.
DEBT MATURITIES
The estimated remaining principal payments on the outstanding debt follows:
<TABLE>
<CAPTION>
YEAR ENDING PRINCIPAL
SEPTEMBER 30, PAYMENTS
-------------
(Dollars in
Thousands)
<S> <C>
2000 $ 4,246
2001 2,623
2002 4,726
2003 27,316
2004 52,827
Thereafter ............................................................. 877,063
-------------
Total Debt...................................................... $ 968,801
</TABLE>
22
<PAGE> 24
4. INCOME TAXES
A reconciliation of federal statutory income taxes to the Company's
effective tax benefit before extraordinary item follows:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
-----------------------------------------------
1999 1998 1997
------------- ------------- -------------
(Dollars in Thousands)
<S> <C> <C> <C>
Benefit for income taxes at statutory rates ................ $ (51,526) $ (26,968) $ (11,001)
Taxable foreign dividends .................................. 4,295 -- --
Change in valuation allowance .............................. 1,514 -- --
Non-deductible expenses .................................... 815 -- --
State and foreign income taxes ............................. 550 1,422 3,782
Other ...................................................... 9,416 -- (77)
------------- ------------- -------------
Effective tax benefit ...................................... $ (34,936) $ (25,546) $ (7,296)
============= ============= =============
</TABLE>
The benefit for income taxes is composed of the following:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
-----------------------------------------------
1999 1998 1997
------------- ------------- -------------
(Dollars in Thousands)
<S> <C> <C> <C>
From operations:
Current federal ....................................... $ 2,246 $ (5,900) $ (6,131)
Deferred federal ...................................... (36,724) (21,854) (9,211)
Deferred foreign ...................................... (1,300) 2,132 6,104
Current state ......................................... 842 76 1,942
------------- ------------- -------------
Total tax benefit .......................................... $ (34,936) $ (25,546) $ (7,296)
============= ============= =============
</TABLE>
The components of the Company's deferred income tax assets and liabilities
are summarized below:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
------------------------------
1999 1998
------------- -------------
(Dollars in Thousands)
<S> <C> <C>
Deferred tax assets:
Accrued liabilities ........................................ $ 12,050 $ 12,074
Accrued postretirement cost ................................ 11,991 10,010
Tax loss and credit carry forwards ......................... 64,044 24,783
Discount note interest ..................................... 17,393 11,103
Other ...................................................... 1,628 17,980
------------- -------------
Total deferred tax assets .................................. 107,106 75,950
------------- -------------
Deferred tax liabilities:
Property, plant and equipment .............................. $ (68,732) $ (78,113)
Other ...................................................... (2,629) (3,820)
------------- -------------
Total deferred tax liabilities ............................. (71,361) (81,933)
Valuation allowance ........................................ (1,514) --
------------- -------------
Net deferred tax assets (liabilities) ...................... 34,231 (5,983)
Less: current deferred tax assets .......................... (16,888) (5,140)
------------- -------------
Long-term deferred tax assets (liabilities) ................ $ 17,343 $ (11,123)
============= =============
</TABLE>
The Company has approximately $155 million in United States net operating
losses which will be carried forward and if not utilized in future years, will
expire from fiscal 2018 to 2019. The Company also has approximately Cdn. $6.6
million in Canadian non-capital loss carryforwards and Cdn. $6.5 million of
investment tax credits which will expire from 2000 through 2006.
23
<PAGE> 25
5. EMPLOYEE BENEFITS
The Company has established the following benefit plans:
RETIREMENT BENEFIT PLANS
The Company has non-contributory pension plans in the United States and
employer and employee contributory plans in Canada which cover all salaried and
wage employees. The benefits under these plans are based primarily on years of
service and employees' pay near retirement. For those Company employees who were
employed by the Company as of September 30, 1986, and were previously employed
by Monsanto, the Company recognizes their Monsanto pension years of service for
purposes of determining benefits under the Company's plans. For those Company
employees who were employed by the Company on August 21, 1992, and were
previously employed by Tenneco Inc., the Company recognizes their Tenneco Inc.
pension years of service for purposes of determining benefits under the
Company's plans. The Company's funding policy is consistent with the funding
requirements of federal law and regulations. Plan assets consist principally of
common stocks and government and corporate securities.
For those Company employees as of January 31, 1997, who: (i) were
previously employed by Cytec Industries Inc. and (ii) elect to retire from the
Company on or before January 31, 1999, the Company supplements the standard
pension payable such that the employee's total combined pension from the Company
and from the Cytec Nonbargaining Employees' Retirement Plan equals the amount
the employee would have received had he or she remained an employee of Cytec
until retirement. The estimated liability for such supplements as of September
30, 1999 and 1998 is immaterial.
The Company adopted SFAS No. 132 "Employers' Disclosures about Pensions and
Other Postretirement Benefits", which is effective for the Company for the year
ended September 30, 1999 and revises the required disclosures about pensions and
postretirement benefits other than pensions.
24
<PAGE> 26
Information concerning the pension obligation, plan assets, amounts
recognized in the Company's financial statements, and underlying actuarial
assumptions is stated below.
<TABLE>
<CAPTION>
AUGUST 31,
----------------------------
1999 1998
------------ ------------
(Dollars in Thousands)
<S> <C> <C>
Change in benefit obligation:
Benefit obligation at beginning of year .................... $ 96,327 $ 82,971
Currency rate conversion ................................... 556 (1,314)
Service cost ............................................... 5,198 5,093
Interest cost .............................................. 6,735 6,153
Plan amendments ............................................ 2,878 --
FAS 88 additional benefits ................................. 10,765 --
Actuarial loss (gain) ...................................... (1,205) 7,534
Benefits paid .............................................. (6,864) (4,110)
------------ ------------
Benefit obligation at end of year .......................... $ 114,390 $ 96,327
============ ============
Change in plan assets:
Fair value at beginning of year ............................ $ 86,187 $ 84,598
Currency rate conversion ................................... 498 (1,463)
Actual return on plan assets ............................... 18,705 13
Employer contributions ..................................... 765 7,070
Participants' contributions ................................ -- 79
Benefits paid .............................................. (6,864) (4,110)
------------ ------------
Fair value at end of year .................................. $ 99,291 $ 86,187
============ ============
Development of net amount recognized:
Funded status .............................................. $ (15,100) $ (10,140)
Unrecognized cost:
Actuarial loss (gain) ................................... (4,197) 8,145
Prior service cost ...................................... 7,561 5,867
Transition liability .................................... 1,354 1,737
------------ ------------
Net amount recognized ...................................... $ (10,382) $ 5,609
============ ============
Amounts recognized in the statement of financial position:
Prepaid pension cost ....................................... $ 529 $ 8,855
Accrued pension cost ....................................... (13,531) (3,620)
Intangible asset ........................................... 2,341 189
Accumulated other comprehensive income (pre-tax) ........... 279 185
------------ ------------
Net amount recognized ...................................... $ (10,382) $ 5,609
============ ============
</TABLE>
Net periodic pension costs (income) consist of the following components:
<TABLE>
<CAPTION>
AUGUST 31,
----------------------------------------------
1999 1998 1997
------------ ------------ ------------
(Dollars in Thousands)
<S> <C> <C> <C>
Components of net pension costs:
Service cost-benefits earned during the year ............ $ 5,198 $ 5,093 $ 4,857
Interest on prior year's projected benefit obligation ... 6,735 6,153 5,941
Expected return on plan assets .......................... (7,538) (7,411) (6,009)
Net amortization:
Actuarial loss (gain) ................................ 634 (130) (207)
Prior service cost ................................... 73 658 660
Transition liability ................................. 376 378 378
Settlement/Curtailment loss ............................. 11,337 -- --
------------ ------------ ------------
Net pension costs ....................................... $ 16,815 $ 4,741 $ 5,620
============ ============ ============
Weighted-average assumptions:
Discount Rate ........................................... 7.50% 7.00% 7.75%
Rates of increase in salary compensation level .......... 5.38% 4.75% 5.25%
Expected long-term rate of return on plan assets ........ 8.77% 8.00% 8.50%
</TABLE>
25
<PAGE> 27
POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
The Company provides certain health care benefits and life insurance
benefits for retired employees. Substantially all of the Company's employees
become eligible for these benefits at normal retirement age. The Company accrues
the cost of these benefits during the period in which the employee renders the
necessary service.
Health care benefits are provided to employees who retire from the Company
with ten or more years of service credit except for Canadian employees covered
by collective bargaining agreements. All of the Company's employees are eligible
for postretirement life insurance. Postretirement health care benefits for
United States plans are non-contributory. Benefit provisions for most hourly and
some salaried employees are subject to collective bargaining. In general, the
plans stipulate that retiree health care benefits are paid as covered expenses
are incurred. For United States employees, postretirement medical plan
deductibles are assumed to increase at the rate of the long-term consumer price
index.
As previously discussed, SFAS No. 132 revises the required disclosures
about postretirement benefit plans. Information concerning the plan obligation,
the funded status, amounts recognized in the Company's financial statements, and
underlying actuarial assumptions is stated below.
<TABLE>
<CAPTION>
AUGUST 31,
------------------------------
1999 1998
------------- -------------
(Dollars in Thousands)
<S> <C> <C>
Change in benefit obligation:
Benefit obligation at beginning of year ........................... $ 43,131 $ 38,617
Service cost ...................................................... 1,200 1,466
Interest cost ..................................................... 3,005 2,818
Plan amendments, curtailments, and special termination benefit .... (2,472) --
Actuarial loss .................................................... 3,124 1,602
Benefits paid ..................................................... (2,314) (1,372)
------------- -------------
Benefit obligation at end of year ................................. $ 45,674 $ 43,131
============= =============
Development of net amount recognized:
Funded status ..................................................... $ (45,674) $ (43,131)
Unrecognized cost:
Actuarial loss ................................................. 11,380 3,578
Prior service cost ............................................. (5,943) 165
------------- -------------
Net amount recognized ............................................. $ (40,237) $ (39,388)
============= =============
</TABLE>
Net periodic plan costs (income) consist of the following components:
<TABLE>
<CAPTION>
AUGUST 31,
----------------------------------------------
1999 1998 1997
------------ ------------ ------------
(Dollars in Thousands)
<S> <C> <C> <C>
Components of net plan costs:
Service cost ........................................ $ 1,200 $ 1,466 $ 1,343
Interest cost ....................................... 3,005 2,818 2,494
Expected return on plan assets ...................... -- -- --
Net amortization:
Actuarial loss (gain) ............................ 340 (3) 29
Prior service cost ............................... (233) 29 --
Curtailment and special termination benefit ......... (1,150) -- --
------------ ------------ ------------
Net plan costs ...................................... $ 3,162 $ 4,310 $ 3,866
============ ============ ============
Weighted-average assumptions:
Discount Rate ....................................... 6.75% 7.50% 7.50%
</TABLE>
26
<PAGE> 28
The weighted average annual assumed health care trend rate is assumed to be
7.5% for 1999. The rate is assumed to decrease gradually to 5.8% in 2027 and
remain level thereafter. Assumed health care cost trend rates have a significant
effect on the amounts reported for the health care plans. A one percentage point
change in assumed health care trend rates would have the following effects:
<TABLE>
<CAPTION>
1% Increase 1% Decrease
------------ -------------
(Dollars in Thousands)
<S> <C> <C>
Effect on total of service and interest cost components .... $ 232 $ (201)
Effect on post-retirement benefit obligation ............... 2,257 (1,959)
</TABLE>
The Company recorded a $10.2 million charge, included in Other Expense,
increasing its pension liability and other postretirement benefits liability in
the second quarter of fiscal 1999 as a result of an early retirement program for
employees at the Texas City, Texas plant and certain benefit changes for all
U.S. employees. The early retirement program resulted in curtailment expense for
the pension plan and special termination benefits expenses for both the pension
and the other postretirement benefits plans, partially offset by the curtailment
gain from the reduction of postretirement life insurance benefits for currently
active U.S. employees.
EMPLOYEE STOCK OWNERSHIP TRUST
In connection with the recapitalization of the Company in August of 1996,
an Employee Stock Ownership Trust (the "ESOT") was established which covers
substantially all United States employees. Allocations of shares of common stock
are made annually to participants. The ESOT primarily invests in shares of
Holdings Common Stock and borrowed $6.5 million from Chemicals to purchase
approximately 542,000 shares of Holdings Common Stock. This ESOP loan is payable
in 16 quarterly installments during the period beginning December 31, 1996, and
ending September 30, 2000. The shares of Holdings Common Stock purchased by the
ESOT have been pledged as security for the ESOP loan and such shares are
released and allocated to the ESOT participants' accounts as the ESOP Loan is
discharged. Until the ESOP loan is paid in full, contributions to the ESOT will
be used to pay the outstanding principal and interest on the ESOP loan. In
addition, during fiscal 1998 and 1997, the ESOT purchased 14,000 and 99,000,
respectively, shares of Holdings Common Stock. In fiscal 1999, 1998, and 1997,
160,000, 172,000, and 49,000, respectively, ESOT shares had been allocated to
employees. The Company recorded $0.7 million, $1.4 million, and $1.6 million of
expense related to the ESOT in fiscal 1999, 1998, and 1997, respectively.
SAVINGS AND INVESTMENT PLAN
The Company's Amended and Restated Savings and Investment Plan (the
"Savings Plan") covers substantially all United States employees, including
executive officers. The Savings Plan is qualified under Section 401(k) of the
Internal Revenue Code (the "Code"). Each participant has the option to defer
taxation of a portion of his or her earnings by directing the Company to
contribute a percentage of such earnings to the Savings Plan. A participant may
direct up to a maximum of 15% of eligible earnings to the Savings Plan, subject
to certain limitations set forth in the Code for "highly compensated"
participants. A participant's contributions become distributable upon the
termination of his or her employment. The Company does not make any contribution
to the Savings Plan.
PROFIT SHARING AND BONUS PLANS
In January 1997, the Board of Directors, upon recommendation of the
Compensation Committee, approved the establishment of a Profit Sharing Plan that
is designed to benefit all qualified employees, and a Bonus Plan that will
provide for bonuses to certain exempt salaried employees based on the Company's
annual financial performance. No expenses for profit sharing or bonuses were
incurred in fiscal 1999, 1998, or 1997.
OMNIBUS STOCK AWARDS AND INCENTIVE PLAN
In April 1997, the Board of Directors approved the establishment of the
Omnibus Stock Awards and Incentive Plan (as amended, the "Omnibus Plan"). Under
the Omnibus Plan, the Company may grant to key employees
27
<PAGE> 29
incentive and nonqualified stock options, SARs, restricted stock awards,
performance awards, and phantom stock awards. One million shares of the
Company's stock are reserved for issuance under the Omnibus Plan. The terms and
amounts of the awards (including vesting schedule) are determined by the
Compensation Committee of the Board of Directors. Generally, outstanding stock
options become exercisable (vest) in equal annual installments beginning a year
from date of grant and ending five years from date of grant. In the event of a
specified change of control of the Company or a qualified public offering of
Holdings Common Stock, all awards will immediately vest and become exercisable.
During fiscal 1999 and 1998, the Company issued 1,500 and 23,000,
respectively, restricted stock awards to certain employees. These restricted
stock awards vested 25% immediately and 25% per year over the next three years.
NONQUALIFIED STOCK OPTION PLAN FOR NON-EMPLOYEE DIRECTORS
Also in April 1997, the Board of Directors approved the establishment of
the Nonqualified Stock Option Plan for Non-Employee Directors (the "Nonqualified
Plan"). Each non-employee director of the Company is eligible to participate in
the Nonqualified Plan. Each eligible director on the date of adoption of the
Nonqualified Plan was granted an option to acquire 2,000 shares of Holdings
Common Stock (4,000 shares for the Vice-Chairman), and each eligible director
who is serving on the Board of Directors on each subsequent October 1st is
automatically granted an option to acquire 1,000 shares of Holdings Common Stock
(2,000 shares for the Vice-Chairman). All options expire ten years from date of
grant. All options are granted with an exercise price at or above the fair
market value of a share of Holdings Common Stock on the date of grant (as
determined by the Board of Directors) and vest and are exercisable immediately.
A total of 160,000 shares of Holdings Common Stock are reserved for issuance
under the Nonqualified Plan.
OUTSTANDING STOCK OPTIONS
A summary of the status of the Company's outstanding stock options as of
September 30, 1999 and 1998, and changes during the years then ended is
presented below:
<TABLE>
<CAPTION>
1999 1998 1997
----------------------------- ---------------------------- ----------------------------
SHARES WEIGHTED- SHARES WEIGHTED-AVERAGE SHARES WEIGHTED-AVERAGE
(IN AVERAGE (IN AVERAGE (IN EXERCISE
THOUSANDS) EXERCISE PRICE(1) THOUSANDS) EXERCISE PRICE THOUSANDS) EXERCISE PRICE
---------- ----------------- ---------- ---------------- ---------- ----------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning of year ..... 692 $ 11.74 241 $ 12.00 -- --
Granted .............................. 95 $ 6.08 489 $ 11.62 274 $ 12.00
Exercised ............................ -- -- -- --
Forfeited ............................ (105) $ 6.00 (38) $ 11.94 (33) $ 12.00
---------- ----------------- ---------- ---------------- ---------- ----------------
Outstanding at end of year ........... 682 $ 6.14 692 $ 11.74 241 $ 12.00
========== ================= ========== ================ ========== ================
Options exercisable at end of year ... 178 86 14
========== ========== ===========
</TABLE>
(1) On December 14, 1998, the Company issued to all of its employees who held
stock options on that date new options with an exercise price of $6.00 per
share. The new options were issued in exchange for and cancellation of stock
options previously issued to those employees for the same number of shares and
with the same vesting schedules.
The range of exercise prices for options outstanding at September 30, 1999,
was $6.00 - $12.00, with all exercisable options having an exercise price range
of $6.00 - $12.00.
During fiscal 1998, Holdings granted certain employees rights to purchase
an aggregate of 230,000 shares of Holdings Common Stock, at then current market
prices. These rights expired without being exercised.
All stock options are granted with an exercise price at or above fair
market value of a share of Holdings Common Stock at the grant date. The weighted
average fair value of the stock options granted during fiscal 1999, 1998, and
1997 was $0.6 million, $1.9 million, and $0.5 million, respectively. The fair
value of each such stock option grant is estimated on the date of grant using
the Black-Scholes option pricing model with the following
28
<PAGE> 30
weighted average assumptions used for the grants in fiscal 1999, 1998, and 1997:
risk free interest rate of 5.9%, 4.4% and 6.1%, respectively; expected dividend
yield of 0.0% for all years; expected life of ten years for all years; and
expected volatility of 59%, 29%, and 44%, respectively. Stock options generally
expire ten years from the date of grant and fully vest after five years. The
outstanding stock options at September 30, 1999 have a weighted average
contractual life of approximately 8 years.
In accordance with SFAS 123, "Accounting for Stock-Based Compensation", the
Company utilizes the intrinsic value method of accounting for stock-based
compensation, and no compensation costs have been recognized for stock option
awards described above. Had compensation cost for all option issuances been
determined consistent with SFAS No. 123, it would not have had a material impact
on the Company's pro forma net loss and loss per share for fiscal 1999, 1998,
and 1997.
6. COMMITMENTS AND CONTINGENCIES
PRODUCT CONTRACTS
The Company has certain long-term agreements, which provide for the
dedication of 100% of the Company's production of acetic acid, plasticizers,
TBA, sodium cyanide, and calcium hypochlorite each to one customer. The Company
also has various sales and conversion agreements, which dedicate significant
portions of the Company's production of styrene, acrylonitrile, and methanol to
various customers. Some of these agreements generally provide for cost recovery
plus an agreed margin or element of profit based upon market price.
LEASE COMMITMENTS
The Company has entered into various long-term noncancellable operating
leases. Future minimum lease commitments at September 30, 1999, are as follows:
fiscal 2000 -- $5.3 million; fiscal 2001 -- $4.9 million; fiscal 2002 -- $4.8
million; fiscal 2003 -- $4.1 million; fiscal 2004 -- $3.7 million; and $7.6
million thereafter.
ENVIRONMENTAL AND SAFETY MATTERS
The Company's operations involve the handling, production, transportation,
treatment, and disposal of materials that are classified as hazardous or toxic
waste and that are extensively regulated by environmental and health and safety
laws, regulations, and permit requirements. Environmental permits required for
the Company's operations are subject to periodic renewal and can be revoked or
modified for cause or when new or revised environmental requirements are
implemented. Changing and increasingly strict environmental requirements can
affect the manufacture, handling, processing, distribution, and use of the
Company's chemical products and, if so, the Company's business and operations
may be materially and adversely affected. In addition, changes in affected
environmental requirements can cause the Company to incur substantial costs in
upgrading or redesigning its facilities and processes, including waste
treatment, storage, disposal, and other waste handling practices and equipment.
The Company conducts environmental management programs designed to maintain
compliance with applicable environmental requirements at all of its facilities.
The Company routinely conducts inspection and surveillance programs designed to
detect and respond to leaks or spills of regulated hazardous substances and to
correct identified regulatory deficiencies. The Company believes that its
procedures for waste handling are consistent with industry standards and
applicable requirements. In addition, the Company believes that its operations
are consistent with good industry practice through participation in the
Responsible Care initiatives as a part of membership in the Chemical
Manufacturers Association in the United States and the Canadian Chemical
Producers Association. However, a business risk inherent in chemical operations
is the potential for personal injury and property damage claims from employees,
contractors and their employees, and nearby landowners and occupants. While the
Company believes its business operations and facilities generally are operated
in compliance in all material respects with all applicable environmental and
health and safety requirements, it cannot be sure that past practices or future
operations will not result in material claims or regulatory action, require
material environmental expenditures, or result in exposure or injury claims by
employees, contractors and their employees, and the public. Some risk of
environmental costs and liabilities is inherent in the Company's operations and
products, as it is with other companies engaged in similar businesses.
The Company's operating expenditures for environmental matters, mostly
waste management and compliance, were approximately $30 million, $52 million,
and $50 million for fiscal 1999, 1998, and 1997, respectively. The
29
<PAGE> 31
Company also spent approximately $6 million and $2 million for environmentally
related capital projects in fiscal 1999 and 1998 respectively.
Any significant ban on all chlorine containing compounds could have a
materially adverse effect on the Company's financial condition and results of
operations. British Columbia has a regulation in place requiring elimination of
the use of all chlorine products, including chlorine dioxide, in the bleaching
process by the year 2002. Chlorine dioxide is produced from sodium chlorate,
which is one of the Company's pulp chemicals products. The pulp and paper
industry believes that a ban of chlorine dioxide in the bleaching process will
yield no measurable environmental or public health benefit and is working to
change this regulation, but there can be no assurance that this regulation will
be changed. In the event such a regulation is implemented, the Company would
seek to sell the products it manufactures at its British Columbia facility to
customers in other markets. The Company is not aware of any other laws or
regulations in place in North America that would restrict the use of such
products for other purposes.
LEGAL PROCEEDINGS
Ammonia Release
On May 8, 1994, an ammonia release occurred at the Texas City Plant while a
reactor in the acrylonitrile unit was being restarted after a shutdown for
routine maintenance. Approximately 52 lawsuits and interventions involving
approximately 6,000 plaintiffs were filed against the Company seeking an
unspecified amount of money for alleged damages from the ammonia release.
Approximately 2,600 of the plaintiffs agreed to submit their damage claims
to binding arbitration. A two-week evidentiary hearing was conducted in July
1996 before a three-judge panel to determine the amount of damages. On May 1,
1997, the three-judge panel awarded the plaintiffs an amount of damages which
was well within the limits of the Company's insurance coverage.
Thirty-nine of the plaintiffs tried their cases to a jury in Harris County
District Court. After approximately five months of trial, the jury returned a
verdict on September 2, 1997. The total amount awarded for all 39 plaintiffs was
well within the limits of the Company's insurance coverage.
Approximately 5,980 of the claims in litigation have now been resolved or
are pending final resolution and the Company continues to vigorously defend
against the claims of the approximately 20 remaining plaintiffs.
Nickel Carbonyl Release
On July 30, 1997, as the Company's methanol unit at the Texas City Plant
was being shut down for repair, nickel carbonyl was formed when carbon monoxide
reacted with nickel catalyst in the unit's reformer. After isolating the nickel
carbonyl within the methanol unit, the Company worked with the permission and
guidance of the Texas Natural Resources Conservation Commission to destroy the
nickel carbonyl by incineration on-site.
Prior to its incineration, several Company employees and contractor
employees may have been exposed to nickel carbonyl in the methanol unit. Two
lawsuits and two interventions involving approximately 306 plaintiffs were filed
against the Company seeking an unspecified amount for alleged damages from the
nickel carbonyl release. Since the filing of the lawsuits, approximately 14
plaintiffs' claims (including one intervenor) have been resolved, some of which
are subject to the completion of documentation. The Company continues to
vigorously defend against the claims of the approximately 292 remaining
plaintiffs. Additional claims and litigation against the Company relating to
this incident may ensue.
Ethylbenzene Release
On April 1, 1998, a chemical leak occurred when a line failed in the
ethylbenzene unit at the Texas City Plant. The released chemicals included
ethylbenzene, benzene, polyethylbenzene, and hydrochloric acid. The Company does
not believe any serious injuries were sustained, although a number of citizens
sought medical examinations at local hospitals after a precautionary alert was
given to neighboring communities. There is no lawsuit pending
30
<PAGE> 32
against the Company based on this release, but the Company has received, and in
some instances resolved, claims from individuals for alleged damage from this
incident.
Other Claims
The Company is subject to various other claims and legal actions that arise
in the ordinary course of its business.
LITIGATION CONTINGENCY
The Company has made estimates of the reasonably possible range of
liability with regard to its outstanding litigation for which it may incur
liability. These estimates are based on the Company's judgments using currently
available information as well as consultation with the Company's insurance
carriers and outside legal counsel. A number of the claims in these litigation
matters are covered by the Company's insurance policies or by third-party
indemnification of the Company. The Company, therefore, has also made estimates
of its probable recoveries under insurance policies or from third-party
indemnitors based on its understanding of its insurance policies and
indemnifications, discussions with its insurers and indemnitors, and
consultation with outside legal counsel, in addition to the Company's judgments.
Based on the foregoing, as of September 30, 1999, the Company has accrued
approximately $2.8 million as its estimate of aggregate contingent liability for
these matters and has also recorded aggregate receivables from its insurers and
third-party indemnitors of approximately $2.2 million. At September 30, 1999,
management estimates that the aggregate reasonably possible range of loss for
all litigation combined, in addition to the amount accrued, is from $0 to $5
million. The Company believes that this additional reasonably possible loss is
substantially covered by insurance.
While the Company has based its estimates on its evaluation of available
information to date and the other matters described above, much of the
litigation remains in the discovery stage and it is impossible to predict with
certainty the ultimate outcome. The Company will adjust its estimates as
necessary as additional information is developed and evaluated. However, the
Company believes that the final resolution of these contingencies will not have
a material adverse impact on the financial position, results of operations, or
cash flows of the Company. In addition, the timing of probable insurance and
indemnity recoveries, and payment of liabilities, if any, is not expected to
have a material adverse effect on the financial position, results of operations,
or cash flows of the Company.
7. BUSINESS ACQUISITIONS
On January 31, 1997, the Company acquired the acrylic fibers business (the
"AFB") from Cytec (the "AFB Acquisition"). The AFB, now owned by two wholly
owned subsidiaries of the Company (collectively "Sterling Fibers"), recorded
sales of approximately $92 million during the eight months of operations in
fiscal 1997 and consists of an acrylic fibers plant located near Pensacola,
Florida, and several associated marketing and research offices. Sterling Fibers
is one of two acrylic fibers manufacturers in the United States. Cytec supplies
acrylonitrile to Sterling Fibers through a five-year supply agreement ending in
2002. The acquisition was financed through the incurence of $81 million of term
debt and the issuance of $10 million (liquidation value) of Series A "pay in
kind" mandatory redeemable preferred stock ("Series A Preferred") to Cytec, and
the sale of $10 million of Holdings Common Stock in a private placement. The
Company used the purchase method to account for the acquisition, and operating
results of Sterling Fibers, beginning February 1, 1997, are included with those
of the Company.
On July 10, 1997, Sterling Sask acquired substantially all of the assets of
Saskatoon Chemicals (the "Saskatoon Acquisition"). The acquired assets include a
manufacturing plant near Saskatoon, Saskatchewan, which manufactures sodium
chlorate, caustic soda, calcium hypochlorite, chlorine, and hydrochloric acid.
Total consideration of $69.2 million was financed with: (i) approximately $54.6
million under a new credit facility established by Sterling Sask with a group of
lenders, (ii) approximately $7.3 million pursuant to a private placement of
Holdings Common Stock, and (iii) approximately $7.3 million pursuant to a
private placement of Units, each Unit consisting of shares of Holdings' Series B
"pay in kind" mandatory Cumulative Redeemable Preferred Stock ("Series B
Preferred") and warrants to purchase shares of Holdings Common Stock. The
Saskatoon Acquisition was accounted for under the purchase method, and operating
results of Sterling Sask, beginning July 10, 1997, are included with those of
the Company.
31
<PAGE> 33
The following table presents the unaudited pro forma results of operations
of the Company as if the AFB Acquisition and the Saskatoon Acquisition had
occurred on October 1, 1996. The pro forma results have been prepared for
comparative purposes only and do not purport to be indicative of what would have
occurred had the AFB Acquisition and the Saskatoon Acquisition been made at the
beginning of the fiscal year 1997 or of results which may occur in the future
(in thousands, except per share amounts).
<TABLE>
<CAPTION>
Pro Forma
Twelve Months
Ended
September 30,
1997
--------------
<S> <C>
Revenues......................................................................... $ 988,000
Income (loss) before extraordinary items......................................... $ (27,300)
Net income (loss) attributable to common stockholders............................ $ (34,200)
Net income (loss) per common share............................................... $ (2.85)
</TABLE>
32
<PAGE> 34
8. SEGMENT AND GEOGRAPHIC INFORMATION:
Effective October 1, 1998, the Company adopted SFAS No. 131, "Disclosures
about Segments of an Enterprise and Related Information" and has restated its
segment disclosures for all reporting periods. The Company's operations are
divided into two reportable segments: petrochemicals and pulp chemicals. The
petrochemicals segment manufactures commodity petrochemicals and acrylic fibers.
The pulp chemicals segment manufactures chemicals for use primarily in the pulp
and paper industry. Operating segment information for 1999, 1998, and 1997 is
presented below.
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
-----------------------------------------------
1999 1998 1997
------------- ------------- -------------
(Dollars in Thousands)
<S> <C> <C> <C>
Segment Information (1)
Revenues:
Petrochemicals ..................... $ 530,927 $ 621,605 $ 728,215
Pulp chemicals ..................... 189,825 200,985 180,572
------------- ------------- -------------
Total .................................. $ 720,752 $ 822,590 $ 908,787
Operating income (loss):
Petrochemicals ..................... $ (63,710) $ (3,442) $ 11,524
Pulp chemicals ..................... 27,018 36,232 45,945
------------- ------------- -------------
Total .................................. $ (36,692) $ 32,790 $ 57,469
Depreciation and amortization expenses:
Petrochemicals ..................... $ 34,001 $ 31,894 $ 31,504
Pulp chemicals ..................... 23,676 24,069 18,345
------------- ------------- -------------
Total .................................. $ 57,677 $ 55,963 $ 49,849
Interest expenses:
Petrochemicals ..................... $ 65,426 $ 59,617 $ 53,814
Pulp chemicals ..................... 38,635 44,838 35,087
------------- ------------- -------------
Total .................................. $ 104,061 $ 104,455 $ 88,901
Capital expenditures:
Petrochemicals ..................... $ 21,252 $ 16,768 $ 22,664
Pulp chemicals ..................... 8,288 9,854 20,764
------------- ------------- -------------
Total .................................. $ 29,540 $ 26,622 $ 43,428
Property, plant, and equipment, net:
Petrochemicals ..................... $ 223,519 $ 263,692 $ 282,630
Pulp chemicals ..................... 179,204 186,623 209,406
------------- ------------- -------------
Total .................................. $ 402,723 $ 450,315 $ 492,036
</TABLE>
(1) The petrochemicals segment is based in the United States. The pulp chemicals
segment is primarily based in Canada.
Sales to individual customers constituting 10% or more of total revenues
and sales by segment were as follows:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
----------------------------------------------
1999 1998 1997
------------ ------------ ------------
(Dollars in Thousands)
<S> <C> <C> <C>
Major Customers:
British Petroleum plc and subsidiaries $ 71,803 $ 100,610 *
Export Sales:
Export revenues $ 200,448 $ 233,165 $ 274,139
Percentage of total revenues 28% 28% 30%
</TABLE>
*DOES NOT COMPRISE 10% OF TOTAL REVENUE FOR FISCAL 1997, THEREFORE NOT REPORTED.
33
<PAGE> 35
9. FINANCIAL INSTRUMENTS
FOREIGN EXCHANGE
The Company enters into forward foreign exchange contracts to hedge
Canadian dollar currency transactions on a continuing basis for periods
consistent with its committed exposures. The forward foreign exchange contracts
have varying maturities with none exceeding 18 months. The Company makes net
settlements of United States dollars for Canadian dollars at rates agreed to at
inception of the contracts.
The Company enters into forward foreign exchange contracts to reduce risk
due to Canadian dollar exchange rate movements. The Company does not engage in
currency speculation. The Company had a notional amount of approximately $6
million and $54 million of forward foreign exchange contracts outstanding to buy
Canadian dollars at September 30, 1999 and 1998, respectively. The deferred loss
on these forward foreign exchange contracts at September 30, 1999 and 1998 was
$0.3 million and $4.7 million, respectively. The last of the Company's existing
forward exchange contracts expires in March of 2000, and it does not intend to
enter into any additional forward exchange contracts.
GAS HEDGE
The Company hedged a portion of its natural gas to be used in the
production of styrene and methanol during fiscal 1999, 1998, and 1997. At
September 30, 1999, there were no outstanding natural gas hedges. The Company
had a net loss of $1.5 million, $1.0 million, and $0.1 million due to natural
gas hedging contracts in fiscal 1999, 1998, and 1997.
INTEREST RATE SWAPS
The Company has entered into a declining balance interest rate swap
contract to hedge a portion of its interest rate risk that expires in January
2002. At September 30, 1999, the Company had a contractual notional amount of
$49.1 million outstanding with a fixed rate of 6.66% and a floating rate based
on LIBOR. The Company's interest rate swap is settled on a quarterly basis, with
the interest rate differential received or paid by the Company recognized as
adjustments to interest expense.
CONCENTRATION OF RISK
The Company sells its products primarily to companies involved in the
petrochemicals, acrylic fibers, and pulp and paper manufacturing industries. The
Company performs ongoing credit evaluations of its customers and generally does
not require collateral for accounts receivable. However, letters of credit are
required by the Company on many of its export sales. Historically, the Company's
credit losses have been minimal.
The Company maintains cash deposits with major banks, which from time to
time may exceed federally insured limits. The Company periodically assesses the
financial condition of the institutions and believes that the likelihood of any
possible loss is minimal.
Approximately 37% of the Company's employees are covered by union
agreements. Approximately 5% of the Company's employees are covered by union
agreements which could expire within one year.
INVESTMENTS
It is the policy of the Company to invest its excess cash in investment
instruments or securities whose value is not subject to market fluctuations,
such as certificates of deposit, repurchase agreements, or Eurodollar deposits
with domestic or foreign banks or other financial institutions. Other permitted
investments include commercial paper of major United States corporations with
ratings of A1 by Standard & Poor's Ratings Group or P1 by Moody's Investor
Services, Inc., loan participations of major United States corporations with a
short term credit rating of A1/P1 and direct obligations of the United States
Government or its agencies. In addition, not more than $5 million will be
invested by the Company with any single bank, financial institution, or United
States corporation.
34
<PAGE> 36
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts reflected in the consolidated balance sheet for cash
and cash equivalents, receivables, payables, and certain accrued expenses
approximate fair value due to the short maturities. The following table presents
the carrying values and fair values of the Company's long-term debt at September
30, 1999.
<TABLE>
<CAPTION>
CARRYING VALUE FAIR VALUE
-------------- ------------
(Dollars in Thousands)
<S> <C> <C>
Revolving credit facilities $ 54,643 $ 54,643
Saskatoon Term Loans 44,045 44,045
11 1/4% Notes 152,485 85,500
11 3/4% Notes 275,000 170,500
12 3/8% Notes 295,000 295,000
13 1/2% Notes 147,628 32,598
</TABLE>
The fair values of the 13 1/2% Notes, 11 1/4 % Notes, and 11 3/4% Notes are
based on quoted market prices. Due to the 12 3/8% Notes being issued near the
Company's September 30, 1999 fiscal year-end, the fair value approximates the
carrying value. In addition, due to the New Revolvers and the Saskatoon Term
Loans having variable interest rates, the fair value equals their carrying
value.
At September 30, 1999, the foreign exchange contracts had a fair value of
$0.3 million loss based on then current exchange rates. In addition, the
interest rate swaps had a fair market value of $0.5 million loss, based on the
Company's estimate of what it would have to pay to terminate the swap at
September 30, 1999.
10. RELATED PARTY TRANSACTIONS
In May of 1999, the Company engaged Credit Suisse First Boston Corporation
("CSFB") and Donaldson Lufkin & Jenrette Securities Corporation ("DLJ") as
Joint-Book Running Managers in connection with the issuance by Chemicals of the
12 3/8% Notes. CSFB and DLJ also underwrote the New Credit Agreement with The
CIT Group/Business Credit, Inc. The Company paid CSFB a total of $5,218,750
under these arrangement in fiscal 1999. John L. Garcia, one of the Company's
directors, was a Managing Director and the Head of the Global Chemical
Investment Banking Group of CSFB from 1994 until April of 1999.
Since October 1, 1991, the Company has had ongoing commercial relationships
in the ordinary course of business with certain affiliates of Koch Industries,
Inc., including agreements for the supply of raw materials, sales of
petrochemicals, and transportation of natural gas. During the fiscal years of
the Company ended September 30, 1999, 1998, and 1997:
o the Company made product sales to and purchased raw materials from
Koch Chemical, an indirect wholly owned subsidiary of Koch Industries,
Inc.;
o the Company made payments to John Zink Company, an indirect wholly
owned subsidiary of Koch Industries, Inc., in consideration for
certain contracting and construction services performed at the Texas
City Plant; and
o the Company made payments to Koch Gateway Pipeline Company for the
transportation of natural gas to the Santa Rosa Plant through a
pipeline in which it is a partner.
Each of these relationships represented less than 5% of the Company's revenues
in each of such fiscal years. In addition, in 1998 the Company filed a lawsuit
against John Zink Company seeking recovery for certain types of damages
sustained in connection with a release of nickel carbonyl from the Company's
methanol unit on July 30, 1997. This lawsuit has been voluntarily dismissed but,
under a tolling agreement between the parties, may be refiled at any time. Koch
Capital Services, Inc., an affiliate of Koch Industries, Inc., is a significant
stockholder of the
35
<PAGE> 37
Company and, under the Voting Agreement described below, has the right to
designate a member of the Board of Directors of the Company.
In connection with the Saskatoon Acquisition, the Company paid a one-time
fee of $100,000 to Clipper Capital Associates, Inc. ("Clipper") and Olympus
Partners ("Olympus") to act as placement agents for the Series B Preferred
Stock. Rolf H. Towe, a director of the Company, and Robert Calhoun, a former
director of the Company, are officers of Clipper and affiliates of Clipper.
Affiliates of Clipper and Olympus are significant stockholders of the Company.
In addition, under the Voting Agreement described below, an affiliate of Clipper
has the right to designate a member of the Board of Directors of the Company.
The holders of 6,654,963 shares of Holdings Common Stock, representing
approximately 52% of Holdings outstanding shares, are parties to a Third Amended
and Restated Voting Agreement dated as of February 1, 1999 (the "Voting
Agreement"). Four directors of the Company, Frank P. Diassi, Frank J. Hevrdejs,
T. Hunter Nelson and William A. McMinn, are parties to the Voting Agreement.
Other parties to the Voting Agreement include Koch Capital Services, Inc. (an
affiliate of Koch Industries), affiliates of Clipper ("The Clipper Group"),
affiliates of Olympus, CSFB, and Gordon A. Cain. The parties to the Voting
Agreement are required to vote any shares of Holdings Common Stock owned by them
in favor of three nominees to the Board of Directors of Holdings, one to be
designated by each of Koch Capital Services, Inc., The Clipper Group, and Mr.
Cain. George J. Damiris is the current designee of Koch Capital Services, Inc.,
Rolf H. Towe is the current designee of The Clipper Group, and William A. McMinn
is the current designee of Mr. Cain. The rights of each of Koch Capital
Services, Inc. and The Clipper Group to designate nominees under the Voting
Agreement terminates on the earlier of August 21, 2006 or the time at which they
beneficial own less than 5% of the outstanding shares of Holdings Common Stock,
respectively. The right of Mr. Cain to designate a nominee terminates upon the
earlier of (i) December 15, 2008 and (ii) the later of (a) the expiration of the
Standby Purchase Agreement to which he is a party (described below) and (b) the
time at which Mr. Cain beneficial owns less than 5% of the outstanding shares of
Holdings Common Stock.
The Company paid The Sterling Group, Inc. ("TSG") a one-time transaction
fee of approximately $1.1 million in connection with the AFB Acquisition and a
one-time fee of approximately $0.7 million in connection with the Saskatoon
Acquisition. In addition, the Company paid TSG approximately $12,782 in fiscal
1999 in advisory fees and reimbursement of expenses. Two directors of the
Company, Frank J. Hevrdejs and T. Hunter Nelson, are principals of TSG, with Mr.
Hevrdejs also serving as the President of TSG. Frank P. Diassi, Chairman of the
Board of the Company, Peter W. De Leeuw, President and Chief Executive Officer
of the Company, Robert W. Roten, Vice Chairman of the Board of the Company and
former President and Chief Executive Officer of the Company, William A. McMinn,
a director of the Company, Gary M. Spitz, Chief Financial Officer and a Vice
President of the Company, Richard K. Crump, Vice President--Strategic Planning
of the Company, and David G. Elkins, Vice President, General Counsel and
Secretary of the Company, have all previously co-invested with principals of TSG
in various transactions unrelated to the Company.
Under engagement letters dated April 15, 1998 and April 27, 1998, the
Company engaged Chem Systems, an IBM company, to perform certain consulting
services related to the Company's styrene monomer business. In addition, on
August 10, 1998, the Company engaged Chem Systems to conduct a site study of the
Texas City Plant and to benchmark the Company's best practices and
organizational structures against top quartile performers in the industry.
Finally, in connection with the refinancing in July of 1999, the Company paid
Chem Systems amounts owed to them by DLJ related to the performance of an
appraisal of some of the Company's assets required for the refinancing. During
fiscal 1999, the Company paid Chem Systems an aggregate of $421,164 pursuant to
these arrangements. Peter Spitz, who is the father of Gary M. Spitz (Chief
Financial Officer and a Vice President of the Company), was the Director of Chem
Systems until August of 1999. Peter Spitz did not personally perform any direct
services under any of these arrangements.
As of December 15, 1998, Holdings entered into separate Standby Purchase
Agreements with each of Gordon A. Cain, William A. McMinn, James Crane, Frank P.
Diassi, Frank J. Hevrdejs, and Koch Capital Services, Inc. as described below in
Footnote 11.
11. CAPITAL STOCK
On January 31, 1997, the Company issued 778,232 shares of Holdings Common
Stock in connection with the AFB Acquisition. In addition, on July 10, 1997, the
Company issued 608,334 shares of Holdings Common Stock in connection with the
Saskatoon Acquisition.
36
<PAGE> 38
In connection with the issuance of the 13 1/2% Notes (see Note 3),
Holdings issued 191,751 warrants to purchase three shares of Holdings Common
Stock for $0.01, exercisable beginning in August 1998 until August 2008. During
fiscal 1999 and 1998, 32,460 and 345,123 shares, respectively, of Holdings
Common Stock were issued as a result of 10,820 and 115,041, respectively, of
these warrants being exercised. In connection with the Saskatoon Acquisition,
Holdings also issued to holders of the Series B Preferred Stock warrants to
purchase 201,048 shares of Holdings Common Stock for $0.01, exercisable
beginning in July 1997 until December 2007.
In December 1998, the Company entered into separate Standby Purchase
Agreements (collectively, the "Purchase Agreements") with each of Gordon A.
Cain, William A. McMinn, James Crane, Mr. Diassi, Mr. Hevrdejs, and Koch Capital
Services, Inc. (collectively, the "Purchasers"). Pursuant to the terms of the
Purchase Agreements, the Purchase committed to purchase up to 2.5 million shares
of Common Stock, at a price of $6.00 per share, if, as, and when requested by
the Company at any time or from time to time prior to December 15, 2001. Under
each of the Purchase Agreements, the Company may only require the Purchasers to
purchase such shares if it believes that such capital is necessary to maintain,
reestablish, or enhance its borrowing ability under the Company's revolving
credit facilities or to satisfy any requirement thereunder to raise additional
equity. To induce the Purchasers to enter into the Purchase Agreements, the
Company issued to them warrants to purchase an aggregate of 300,000 shares of
Common Stock at an exercise price of $6.00 per share. Pursuant to the Purchase
Agreements, the Company agreed to issue to the Purchasers additional warrants to
purchase up to 300,000 additional shares of Common Stock if, as, and when they
purchase shares of Common Stock under the Purchase Agreements. Any shares of
Common Stock purchased under the Purchase Agreement and the warrants issued to
the Purchasers as contemplated by the Purchase Agreements will be subject to the
terms of the Third Amended and Restated Voting Agreement dated as of February 1,
1999, the Sterling Chemicals Holdings, Inc. Stockholders Agreement dated
effective as of August 21, 1996, as amended, and the Tag-Along Agreement dated
as of August 21, 1996.
At September 30, 1999, warrants to purchase an aggregate of 698,718
shares Holdings Common Stock were outstanding.
12. MANDATORY REDEEMABLE PREFERRED STOCK
In connection with the AFB Acquisition, the Company authorized 350,000
shares and issued 104,110 shares of non-voting Series A Preferred Stock with a
fair value and carrying value of $10.0 million. The Series A Preferred Stock has
a cumulative dividend rate of 10%, payable in kind semi-annually on January 1
and July 1 of each year commencing July 1, 1997. The Company may redeem all or
any number of shares of Series A Preferred Stock at any time with proper written
notice at a price of $100 per share plus accrued dividends. The holders of
Series A Preferred Stock may elect to have the Company redeem shares on any
dividend payment date after June 30, 2009 with proper written notice at a price
of $100 per share plus accrued dividends. The carrying value of the Series A
Preferred Stock at September 30, 1999 and 1998, was $13.0 million and $11.8
million, respectively (liquidation value of $100 per share).
In connection with the Saskatoon Acquisition, the Company authorized
58,000 shares and issued approximately 7,532 shares of non-voting Series B
Preferred Stock with a fair value of $4.9 million. The Series B Preferred Stock
has a 14% dividend rate through July 10, 2002, and thereafter a variable rate
between 14% and 18% depending on payment terms until redeemed. The dividend is
payable in kind on January 1, April 1, July 1, and October 1 of each year,
commencing October 1, 1997. The Company may redeem all or any number of shares
of Series B Preferred Stock at any time with proper written notice at a price of
$1,000 per share plus a premium ranging from 5% to 1% depending on the date of
redemption plus accrued dividends. The holders of Series B Preferred Stock may
elect to have the Company redeem shares on any dividend payment date after June
30, 2009, with proper written notice at a price of $1,000 per share plus accrued
dividends. The carrying value of the Series B Preferred Stock at September 30,
1999 and 1998, was $7.9 million and $6.5 million, respectively (liquidation
value of $1,000 per share). The difference in the carrying value and the
redemption amount will be accreted as a charge to retained earnings over the
holding period using the effective interest rate method.
13. NEW ACCOUNTING STANDARDS
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts and for hedging activities. Management is currently evaluating the
accounting impact and disclosures required when this statement is adopted in the
first quarter of fiscal 2001.
37
<PAGE> 39
STERLING CHEMICALS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Except as modified below, the Notes to the Company's Consolidated
Financial Statements are incorporated herein by reference insofar as they relate
to Chemicals.
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
INCOME TAXES
Chemicals is included in the consolidated federal tax return filed by
its parent, Holdings. A tax sharing agreement between Holdings and Chemicals
defines the computation of Chemicals' obligations to Holdings. Chemicals'
provision for income taxes is computed as if Chemicals and its subsidiaries file
their annual tax return on a separate company basis. Deferred income taxes are
recorded to reflect the tax effect of the temporary differences between the
financial reporting basis and the tax basis of Chemicals' assets and liabilities
at enacted rates.
EARNINGS PER SHARE
All issued and outstanding shares of Chemicals are held by Holdings, and
accordingly, earnings per share are not presented.
2. INCOME TAXES
A reconciliation of federal statutory income taxes to Chemicals'
effective tax benefit before extraordinary item follows:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in Thousands)
<S> <C> <C> <C>
Benefit for income taxes at statutory rates .... $(44,235) $(20,385) $ (4,576)
Taxable foreign dividends ...................... 4,295 -- --
Change in valuation allowance .................. 1,514 -- --
Non-deductible expenses ........................ 195 -- --
State and foreign income taxes ................. 550 1,422 3,782
Other .......................................... 8,271 -- (1,354)
-------- -------- --------
Effective tax benefit .......................... $(29,410) $(18,963) $ (2,148)
======== ======== ========
</TABLE>
The benefit for income taxes is composed of the following:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in Thousands)
<S> <C> <C> <C>
From operations:
Current federal ........................... $ 2,246 $ (5,900) $ (5,959)
Deferred federal .......................... (31,198) (15,271) (4,235)
Deferred foreign .......................... (1,300) 2,132 6,104
Current state ............................. 842 76 1,942
-------- -------- --------
Total tax provision (benefit) ............. $(29,410) $(18,963) $ (2,148)
======== ======== ========
</TABLE>
38
<PAGE> 40
The components of Chemicals' deferred income tax assets and liabilities
are summarized below:
<TABLE>
<CAPTION>
SEPTEMBER 30,
----------------------
1999 1998
-------- --------
(Dollars in Thousands)
<S> <C> <C>
Deferred tax assets:
Accrued liabilities ................................. $ 12,050 $ 12,074
Accrued postretirement cost ......................... 11,991 10,010
Tax loss and credit carryforward and other .......... 63,663 24,783
Other ............................................... 1,628 17,980
-------- --------
Total deferred tax assets ........................... 89,332 64,847
-------- --------
Deferred tax liabilities:
Property, plant and equipment ....................... $(68,732) $(78,113)
Other ............................................... (2,629) (4,895)
-------- --------
Total deferred tax liabilities ...................... (71,361) (83,008)
Valuation allowance ................................. (1,514) --
-------- --------
Net deferred tax assets (liabilities) ............... 16,457 (18,161)
Less current deferred tax assets .................... (16,888) (5,140)
-------- --------
Long-term deferred tax liabilities .................. $ (431) $(23,301)
======== ========
</TABLE>
39
<PAGE> 41
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of Sterling Chemicals Holdings, Inc.
We have audited the accompanying consolidated balance sheets of Sterling
Chemicals Holdings, Inc. and subsidiaries as of September 30, 1999 and 1998, and
the related consolidated statements of operations, changes in stockholders'
equity (deficiency in assets), and cash flows for each of the three years in the
period ended September 30, 1999. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of Sterling Chemicals Holdings, Inc.
and subsidiaries as of September 30, 1999 and 1998, and the results of their
operations and their cash flows for each of the three years in the period ended
September 30, 1999 in conformity with generally accepted accounting principles.
DELOITTE & TOUCHE LLP
Houston, Texas
December 9, 1999
40
<PAGE> 42
INDEPENDENT AUDITORS' REPORT
To the Stockholder of Sterling Chemicals, Inc.
We have audited the accompanying consolidated balance sheets of Sterling
Chemicals, Inc. and subsidiaries as of September 30, 1999 and 1998, and the
related consolidated statements of operations, changes in stockholder's equity
(deficiency in assets), and cash flows for each of the three years in the period
ended September 30, 1999. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of Sterling Chemicals, Inc. and
subsidiaries as of September 30, 1999 and 1998, and the results of their
operations and their cash flows for each of the years in the period ended
September 30, 1999 in conformity with generally accepted accounting principles.
DELOITTE & TOUCHE LLP
Houston, Texas
December 9, 1999
41
<PAGE> 43
STERLING CHEMICALS UNITED STATES SUBSIDIARIES
COMBINED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
---------------------------------------
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Revenues ......................................... $ 222,353 $ 261,990 $ 262,256
Cost of goods sold ............................... 188,296 209,883 197,555
--------- --------- ---------
Gross profit ..................................... 34,057 52,107 64,701
Selling, general and administrative expenses ..... 19,280 22,098 15,637
Interest and debt related expenses ............... 38,877 36,366 35,165
--------- --------- ---------
Net income (loss) before income taxes ............ (24,100) (6,357) 13,899
Provision (benefit) for income taxes ............. (3,727) (2,217) 6,290
--------- --------- ---------
Net income (loss) ................................ $ (20,373) $ (4,140) $ 7,609
========= ========= =========
</TABLE>
The accompanying notes are an integral part of
the combined financial statements.
42
<PAGE> 44
STERLING CHEMICALS UNITED STATES SUBSIDIARIES
COMBINED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
SEPTEMBER 30,
------------------------
1999 1998
--------- ---------
ASSETS
<S> <C> <C>
Current assets:
Cash and cash equivalents ...................................... $ 9,323 $ 4,093
Accounts receivable ............................................ 45,139 38,562
Inventories .................................................... 29,207 32,532
Prepaid expenses ............................................... 12,748 6,090
--------- ---------
Total current assets ....................................... 96,417 81,277
Property, plant and equipment, net ................................. 196,877 207,177
Due from affiliates ................................................ 121,506 131,771
Other assets ....................................................... 40,275 51,635
--------- ---------
Total assets ............................................... $ 455,075 $ 471,860
========= =========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Accounts payable ............................................... $ 22,399 $ 20,432
Accrued liabilities ............................................ 16,515 16,277
--------- ---------
Total current liabilities .................................. 38,914 36,709
Long-term debt due to parent ....................................... 325,402 323,303
Deferred income taxes .............................................. 7,272 6,509
Deferred credits and other liabilities ............................. 7,227 12,019
Commitments and contingencies (Note 7) ............................. -- --
Stockholder's equity:
Common stock ................................................... -- --
Additional paid-in capital ..................................... 92,734 92,734
Retained earnings .............................................. 11,026 31,399
Accumulated other comprehensive income ......................... (27,500) (30,813)
--------- ---------
Total stockholder's equity ................................. 76,260 93,320
--------- ---------
Total liabilities and stockholder's equity ............. $ 455,075 $ 471,860
========= =========
</TABLE>
The accompanying notes are an integral part of
the combined financial statements.
43
<PAGE> 45
STERLING CHEMICALS UNITED STATES SUBSIDIARIES
COMBINED STATEMENTS OF
CHANGES IN STOCKHOLDER'S EQUITY
(AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION>
ACCUMULATED
ADDITIONAL OTHER
COMMON PAID-IN RETAINED COMPREHENSIVE
STOCK CAPITAL EARNINGS INCOME TOTAL
------- ---------- --------- ------------- ---------
<S> <C> <C> <C> <C> <C>
Balance, September 30, 1996 ............... -- $ 83,395 $ 27,930 $ (19,124) $ 92,201
Acquisition of acrylic fibers business .... -- 9,339 -- -- 9,339
Comprehensive income:
Net income ............................ -- -- 7,609 --
Translation adjustment ................ -- -- -- (1,648)
Comprehensive income ............. -- -- -- -- 5,961
------- --------- --------- --------- ---------
Balance, September 30, 1997 ............... -- 92,734 35,539 (20,772) 107,501
Comprehensive income:
Net loss .............................. -- -- (4,140) --
Translation adjustment ................ -- -- -- (10,041)
Comprehensive loss ............... -- -- -- -- (14,181)
------- --------- --------- --------- ---------
Balance, September 30, 1998 ............... -- 92,734 31,399 (30,813) 93,320
Comprehensive income:
Net loss .............................. -- -- (20,373) --
Translation adjustment ................ -- -- -- 3,313
Comprehensive loss ............... -- -- -- -- (17,060)
------- --------- --------- --------- ---------
Balance, September 30, 1999 ............... -- $ 92,734 $ 11,026 $ (27,500) $ 76,260
======= ========= ========= ========= =========
</TABLE>
The accompanying notes are an integral part of
the combined financial statements.
44
<PAGE> 46
STERLING CHEMICALS UNITED STATES SUBSIDIARIES
COMBINED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
------------------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss) .......................................... $(20,373) $ (4,140) $ 7,609
Adjustments to reconcile net income (loss) to
net cash provided by operating activities:
Depreciation and amortization .......................... 24,153 23,502 20,537
Deferred tax expense (benefit) ......................... (2,404) (2,479) 5,894
Other .................................................. (233) 447 74
Change in assets/liabilities:
Accounts receivable .................................... (6,577) 14,331 10,824
Inventories ............................................ 3,325 (77) (24,897)
Prepaid expenses ....................................... (6,658) (3,291) 570
Due from affiliates .................................... 14,135 1,174 66,042
Other assets ........................................... 5,189 (613) (11,909)
Accounts payable ....................................... 1,966 665 6,509
Accrued liabilities .................................... 238 (531) 4,266
Other liabilities ...................................... (2,182) 298 (2,221)
-------- -------- --------
Net cash flows provided by operating activities ............ 10,579 29,286 83,298
Cash flows from investing activities:
Capital expenditures ................................... (7,682) (10,550) (24,065)
-------- -------- --------
Net cash used in investing activities ...................... (7,682) (10,550) (24,065)
-------- -------- --------
Cash flows from financing activities:
Net change in long-term debt due to Parent ............. 2,099 (20,411) (57,156)
-------- -------- --------
Net cash provided by (used in) financing activities ........ 2,099 (20,411) (57,156)
Effect of United States/Canadian exchange rate on cash ..... 234 (447) (205)
-------- -------- --------
Net increase (decrease) in cash and cash equivalents ....... 5,230 (2,122) 1,872
Cash and cash equivalents--beginning of year ............... 4,093 6,215 4,343
-------- -------- --------
Cash and cash equivalents--end of year ..................... $ 9,323 $ 4,093 $ 6,215
======== ======== ========
Supplemental disclosures of cash flow information:
Income taxes paid ...................................... $ (749) $ (541) $ (766)
</TABLE>
The accompanying notes are an integral part of
the combined financial statements.
45
<PAGE> 47
STERLING CHEMICALS UNITED STATES SUBSIDIARIES
NOTES TO COMBINED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION AND DESCRIPTION OF BUSINESS
On July 23, 1999, Sterling Chemicals, Inc. ("Chemicals") completed a private
offering of $295,000,000 of its 12 3/8% Senior Secured Notes due 2006. On
November 5, 1999, Chemicals completed a registered exchange offer, pursuant to
which all of these 12 3/8% Notes were exchanged for publicly registered 12 3/8%
Notes with substantially similar terms (the "12 3/8% Notes"). The 12 3/8% Notes
are guaranteed by all of Chemicals' existing direct and indirect United States
("United States") subsidiaries (other than Sterling Chemicals Acquisitions,
Inc.) on a joint and several basis and are secured by, among other things, a
second priority pledge of 100% of the stock of these same United States
subsidiaries. These United States subsidiaries consist of Sterling Canada, Inc.
and its United States subsidiaries, Sterling Chemicals Energy, Inc., Sterling
Chemicals International, Inc., and Sterling Fibers, Inc. The financial
statements of these companies (except for Sterling Chemicals Energy, Inc., whose
securities do not constitute a substantial portion of the collateral) have been
combined to present the accompanying financial statements of the Company.
Sterling Canada, Inc. (including its United States and Canadian subsidiaries),
Sterling Chemicals International, Inc., and Sterling Fibers, Inc. are
hereinafter collectively referred to as "Sterling Chemicals United States
Subsidiaries" or the "Company".
The Company manufactures chemicals for use primarily in the pulp and
paper industry at four plants in Canada and one plant in Valdosta, Georgia (the
"Valdosta Plant"), and manufactures acrylic fibers in a plant near Pensacola,
Florida (the "Santa Rosa Plant"). Sodium chlorate is produced at the four plants
in Canada and the Valdosta Plant. Sodium chlorite is produced at one of the
Canadian locations. The Company licenses, engineers, and overseas construction
of large-scale chlorine dioxide generators for the pulp and paper industry as
part of the pulp chemical business. These generators convert sodium chlorate
into chlorine dioxide at pulp mills. The Company produces regular textiles,
specialty textiles, and technical fibers at the Santa Rosa Plant, as well as
licensing its acrylic fibers manufacturing technology to producers worldwide
(collectively, the "acrylic fibers business" or "AFB").
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The significant accounting policies of the Company are described below.
PRINCIPLES OF COMBINATION
The combined financial statements include the accounts of all wholly
owned and majority-owned subsidiaries of the combined entities. All significant
intercompany accounts and transactions among entities included in the combined
financial statements have been eliminated.
CASH EQUIVALENTS
The Company considers all investments purchased with a remaining
maturity of three months or less to be cash equivalents.
INVENTORIES
Inventories are stated at the lower of cost or market; cost is primarily
determined on the first-in, first-out basis except for stores and supplies,
which are valued at average cost.
PROPERTY, PLANT, AND EQUIPMENT
Property, plant, and equipment are recorded at cost. Major renewals and
improvements, which extend the useful lives of the equipment, are capitalized.
Major planned maintenance expenses are accrued for during the
46
<PAGE> 48
periods prior to the maintenance, while routine repair and maintenance expenses
are charged to operations as incurred. Disposals are removed at carrying cost
less accumulated depreciation with any resulting gain or loss reflected in
operations. Depreciation is provided using the straight-line method over
estimated useful lives ranging from 5 to 25 years with the predominant life of
the plant and equipment being 15 years. The Company capitalizes interest costs,
which are incurred as part of the cost of constructing major facilities and
equipment. The amount of interest capitalized for the fiscal years 1999, 1998,
and 1997 was $0 million, $0 million, and $2.7 million, respectively.
IMPAIRMENT OF LONG-LIVED ASSETS
Impairment tests of long-lived assets are made when conditions indicate
their carrying cost may not be recoverable. Such impairment tests are based on a
comparison of undiscounted future cash flows or the market value of similar
assets to the carrying cost of the asset. If an impairment is indicated, the
asset value is written down to its estimated fair value.
PATENTS AND ROYALTIES
The cost of patents is amortized on a straight-line basis over their
estimated useful lives which approximates ten years. The Company capitalized the
value of the chlorine dioxide generator technology acquired in fiscal 1992 based
on the net present value of all estimated remaining royalty payments associated
with the technology. The resulting intangible amount is included in other assets
and is amortized over an average life for these royalty payments of ten years.
INCOME TAXES
The Company is included in the consolidated United States federal income
tax return filed by Chemicals' parent, Sterling Chemicals Holdings, Inc.
("Holdings"). The Company's provision (benefit) for United States income taxes
has been allocated by Chemicals as if the Company filed their annual tax returns
on a separate return basis. The Company's Canadian subsidiaries file separate
federal Canadian tax returns as well as returns in the provinces in which they
operate. For these Canadian subsidiaries, deferred income taxes are recorded to
reflect the tax effect of the temporary differences between the financial
reporting basis and the tax basis of the Company's assets and liabilities.
REVENUE RECOGNITION
The Company generates revenues through sales in the open market and
long-term supply contracts and recognizes these revenues as the products are
shipped. Deferred credits are amortized over the life of the contract which gave
rise to them. The Company also generates revenues from the construction and sale
of chlorine dioxide generators, which are recognized using the percentage of
completion method. The Company also receives prepaid royalties, which are
typically recognized over a period of ten years. In addition, the Company
generates revenues from the sale of acrylic fibers manufacturing technology to
producers worldwide, which are recognized as earned.
FOREIGN CURRENCY TRANSLATION AND FOREIGN EXCHANGE
Assets and liabilities denominated in Canadian dollars are translated
into United States dollars at year-end exchange rates and revenues and expenses
are translated at the average monthly exchange rates. Translation adjustments
are reported as a separate component of stockholders' equity, while transaction
gains and losses are included in operations when incurred.
The Company's Canadian subsidiaries enter into forward foreign exchange
contracts to minimize the short-term impact of Canadian dollar fluctuations on
certain of its Canadian dollar denominated commitments. Gains or
47
<PAGE> 49
losses on these contracts are deferred and are included in operations in the
same period in which the related transactions are settled.
EARNINGS PER SHARE
All issued and outstanding shares of the entities included in the
Company's financial statements are held directly or indirectly by Chemicals, and
accordingly, earnings per share information is not presented.
ENVIRONMENTAL COSTS
Environmental costs are expensed unless the expenditures extend the
economic useful life of the assets. Costs that extend the economic life of the
assets are capitalized and depreciated over the remaining life of such assets.
Liabilities are recorded when environmental assessments and/or remedial efforts
are probable, and the cost can be reasonably estimated.
DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
In preparing disclosures about the fair value of financial instruments,
the Company has assumed that the carrying amount approximates fair value for
cash and cash equivalents, receivables, short-term borrowings, accounts payable,
and certain accrued expenses because of the short maturities of those
instruments. The fair values of long-term debt instruments are estimated based
upon quoted market values (if applicable) or on the current interest rates
available for debt with similar terms and remaining maturities. Considerable
judgment is required in developing these estimates and, accordingly, no
assurance can be given that the estimated values presented herein are indicative
of the amounts that would be realized in a free market exchange.
ACCOUNTING ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reported periods.
Significant estimates include environmental reserves, litigation contingencies,
maintenance costs related to shut downs, and taxes. Actual results could differ
from these estimates.
ALLOCATIONS
The Company is wholly owned by Chemicals, which incurs certain direct
and indirect expenses for the benefit and support of the Company. These services
include, among others, tax planning, treasury, legal, risk management, and the
maintenance of insurance coverage for the Company. Chemicals allocated $3.5
million, $4.1 million, and $2.7 million of such expenses to the Company in
fiscal years 1999, 1998, and 1997, respectively, which are included in selling,
general, and administrative expenses. Allocations are based on the Company's
proportionate share of the respective amount and are determined using various
criteria including headcount, payroll, number of vehicles, and revenue. In
addition, the Company is dependent on Chemicals for financing.
NEW ACCOUNTING STANDARDS
Effective October 1, 1998, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income," which
establishes standards for reporting and displaying of comprehensive income and
its components and SFAS No. 132, "Employers' Disclosures about Pensions and
Other Postretirement Benefits," which establishes revisions to employers'
disclosure about pension and other post retirement benefit plans. Adoption of
these statements in fiscal 1999 had no effect on net income (loss). The only
item of accumulated other comprehensive income is the Company's foreign currency
translation adjustment.
48
<PAGE> 50
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts and for hedging activities. Management is currently evaluating the
accounting impact and disclosures required when this statement is adopted in the
first quarter of fiscal 2001.
RECLASSIFICATION
Certain amounts reported in the financial statements for the prior
periods have been reclassified to conform with the current financial statement
presentation with no effect on net income (loss) or stockholder's equity
(deficiency in assets).
3. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS:
<TABLE>
<CAPTION>
SEPTEMBER 30,
------------------------
1999 1998
--------- ---------
(Dollars in Thousands)
<S> <C> <C>
Inventories:
Finished products ........................... $ 17,513 $ 20,198
Raw materials ............................... 2,235 2,784
--------- ---------
Inventories at cost ................................. 19,748 22,982
--------- ---------
Inventories under exchange agreements ....... 170 34
Stores and supplies ......................... 9,289 9,516
--------- ---------
$ 29,207 $ 32,532
========= =========
Property, plant and equipment:
Land ........................................ $ 2,808 $ 5,440
Buildings ................................... 34,919 30,822
Plant and equipment ......................... 222,528 215,739
Construction in progress .................... 13,073 13,342
--------- ---------
Property, plant and equipment at cost ....... 273,328 265,343
Less: accumulated depreciation .............. (76,451) (58,166)
--------- ---------
$ 196,877 $ 207,177
========= =========
Other assets:
Patents and technology, net ................. $ 20,718 $ 27,017
Other ....................................... 19,557 24,618
--------- ---------
$ 40,275 $ 51,635
========= =========
Accrued liabilities:
Accrued compensation ........................ $ 4,988 $ 927
Billings in excess of costs incurred ........ 3,135 2,593
Other ....................................... 8,392 12,757
--------- ---------
$ 16,515 $ 16,277
========= =========
</TABLE>
4. LONG-TERM DEBT
In August 1996 in connection with a recapitalization transaction,
Chemicals allocated $276.8 million of debt to the Company. In addition, debt of
$81 million incurred at the time Chemicals acquired the acrylic fibers business
(see Note 8) was allocated to the Company. Principal payments are allocated to
the Company by Chemicals as scheduled principal payments are made on a basis
consistent with the original allocation. In addition, the Company makes
principal payments, from time to time, out of available cash. Interest expense
is allocated based on the terms of Chemicals' debt agreements. At September 30,
1999, interest rates ranged from 11.25% to 12.375%. Debt issue costs relating to
long-term debt have been allocated to the Company by Chemicals on a basis
consistent with long-term debt and are included in other assets.
On July 23, 1999, Chemicals completed a private offering of $295,000,000
of its 12 3/8% Notes due 2006 which were subsequently exchanged for the 12 3/8%
Notes. The 12 3/8% Notes are guaranteed by all of Chemicals' existing direct and
indirect United States subsidiaries (other than Sterling Chemicals Acquisitions,
Inc.) on a joint and
49
<PAGE> 51
several basis. Each subsidiary's guarantee ranks equally in right of payment
with all of such subsidiary's existing and future senior indebtedness and senior
in right of payment to all existing and future subordinated indebtedness of such
subsidiary. However, the 12 3/8% Notes and each subsidiary's guarantee, is
subordinated to the extent of the collateral securing Chemicals' new secured
revolving credit facilities described below. The 12 3/8% Notes and the
subsidiary guarantees are secured by (i) a second priority lien on all of
Chemicals' and the subsidiary guarantors' United States production facilities
and related assets, (ii) a second priority pledge of all of the capital stock of
each subsidiary guarantor, and (iii) a first priority pledge of 65% of the stock
of certain of the Chemicals' subsidiaries incorporated outside of the United
States. The proceeds of the offering of the 12 3/8% Notes were used to fully
repay and terminate Chemicals' three outstanding term loans. Upon consummation
of the offering of the 12 3/8% Notes, the debt allocated to the Company by
Chemicals increased to $325.4 million.
In addition, on July 23, 1999, Chemicals established two new secured
revolving credit facilities providing for up to $155,000,000 in revolving credit
loans (the "New Revolvers") under a single Revolving Credit Agreement (the "New
Credit Agreement"). Under the New Credit Agreement, Chemicals and the Company
are co-borrowers and are jointly and severally liable for any indebtedness
thereunder. The New Revolvers consist of (i) a $70,000,000 revolving credit
facility (the "Fixed Assets Revolver") secured by a first priority lien on all
United States production facilities and related assets of Chemicals and the
Company, all of the capital stock of Chemicals and the Company and a second
priority lien on all accounts receivable, inventory, and other specified assets
of Chemicals and the Company, and (ii) an $85,000,000 revolving credit facility
(the "Current Assets Revolver") secured by a first priority lien on all accounts
receivable, inventory, and other specified assets of Chemicals and the Company.
Funding under the 12 3/8% Notes and the New Revolvers occurred on July
23, 1999. The proceeds of the 12 3/8% Notes and the initial borrowings under the
New Revolvers were used to completely repay all outstanding indebtedness under
Chemicals then existing senior credit facility.
Approximately $54.6 million was drawn by Chemicals under the Fixed
Assets Revolver at September 30, 1999, of which no amounts were allocated to the
Company. Borrowings under the Fixed Assets Revolver bear interest, at Chemicals'
option, at an annual rate of either the "LIBOR Rate" (as defined in the New
Credit Agreement) plus 3.75% or the "Alternate Base Rate" plus 2.25%. Borrowings
under the Current Assets Revolver bear interest, at Chemicals' option, at an
annual rate of either the LIBOR Rate plus 3.00% or the "Alternate Base Rate"
plus 1.50%. The "Alternate Base Rate" is equal to the greater of the "Base Rate"
as announced from time to time by The Chase Manhattan Bank in New York, New York
or the "Federal Funds Effective Rate" plus 1/2% (as such terms are defined in
the New Credit Agreement). The New Credit Agreement also requires Chemicals and
the Company to pay an aggregate commitment fee ranging from 0.75% to 1.25% on
the unused portion of the commitment for the Fixed Assets Revolver, depending on
the amount drawn, and an aggregate commitment fee of 0.5% on the unused portion
of the commitment for the Current Assets Revolver. Available credit under the
Current Assets Revolver is subject to a monthly borrowing base consisting of 85%
of eligible accounts receivable and 65% of eligible inventory with an inventory
cap of $42,500,000. In addition, the borrowing base for the Current Assets
Revolver must exceed outstanding borrowings thereunder by $12,000,000 at all
times.
The Fixed Assets Revolver matures in five years, with quarterly
commitment reductions totaling 28% of the total commitment in year four and the
balance in year five. The Current Assets Revolver matures in five years, with no
scheduled commitment reductions prior to that time. However, the commitments for
each of the Fixed Assets Revolver and the Current Assets Revolver will be
permanently reduced to the extent required under the New Credit Agreement upon
prepayments made out of specific sources of funds, including asset sales and
certain equity issuances by Holdings.
5. INCOME TAXES
The Company is included in the consolidated federal United States tax
return filed by Holdings. The Company's provision (benefit) for United States
income taxes has been allocated as if the Company filed their annual federal
United States tax returns on a separate return basis. As of September 30, 1999
and 1998, $14.6 million and $10.5 million, respectively, of deferred income tax
assets were included in Due from Affiliates. For the years ended September 30,
1999, 1998, and 1997 the Company recorded $4.0 million, $4.0 million, and $1.8
million, respectively, of United States income tax benefit in the provision
(benefit) for income taxes.
Canadian deferred income taxes are recorded to reflect the tax
consequences in future years of differences between the tax basis of assets and
liabilities and the financial reporting amounts at each year-end (the liability
method).
50
<PAGE> 52
A reconciliation of the Canadian income taxes to the Canadian effective
tax provision follows:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
-------------------------------
1999 1998 1997
----- ------- -------
(Dollars in Thousands)
<S> <C> <C> <C>
Provision for federal income tax at the statutory rate ............... $ 259 $ 1,367 $ 5,798
Provincial income taxes at the statutory rate ........................ 88 563 2,672
Federal and provincial manufacturing and processing tax credits ...... (50) (286) (889)
Other ................................................................ 16 156 600
----- ------- -------
Total Canadian tax provision ......................................... $ 313 $ 1,800 $ 8,181
===== ======= =======
</TABLE>
The provision for Canadian income taxes is composed of the following:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
--------------------------------
1999 1998 1997
------- ------- ------
(Dollars in Thousands)
<S> <C> <C> <C>
Current federal .................... $ 2,098 $ 2,852 $1,489
Deferred federal ................... (1,859) (1,611) 3,717
Current provincial ................. 619 1,427 798
Deferred provincial ................ (545) (868) 2,177
------- ------- ------
Total Canadian tax provision ....... $ 313 $ 1,800 $8,181
======= ======= ======
</TABLE>
The components of the Company's Canadian deferred income tax assets and
liabilities are summarized below:
<TABLE>
<CAPTION>
SEPTEMBER 30,
----------------------
1999 1998
-------- --------
(Dollars in Thousands)
<S> <C> <C>
Deferred tax assets:
Accrued liabilities ................... $ 318 $ 299
Accrued postretirement cost ........... 1,236 966
Investment tax credits ................ 4,767 6,806
-------- --------
6,321 8,071
-------- --------
Deferred tax liabilities:
Property, plant, and equipment ........ (13,593) (14,459)
Other ................................. -- (121)
-------- --------
(13,593) (14,580)
-------- --------
Net deferred tax liabilities .............. $ (7,272) $ (6,509)
======== ========
</TABLE>
6. EMPLOYEE BENEFITS
The Company's United States employees participate in various employee
benefit plans of Chemicals. Costs, assets, and liabilities associated with
United States employees participating in these various plans are allocated to
the Company by Chemicals based on the number of employees. In addition, the
Company sponsors various employee benefit plans in Canada.
RETIREMENT BENEFIT PLANS
Chemicals has non-contributory pension plans in the United States which
cover all salaried and wage employees. The benefits under these plans are based
primarily on years of service and employees' pay near retirement. Chemicals'
funding policy is consistent with the funding requirements of federal law and
regulations.
51
<PAGE> 53
Plan assets consist principally of common stocks and government and corporate
securities. The liability relating to United States employees allocated to the
Company by Chemicals for the retirement benefit plans and included in Due from
Affiliates was $3.6 million and $2.5 million at September 30, 1999 and 1998,
respectively. The total pension expense relating to United States employees
allocated to the Company was $1.1 million, $1.1 million, and $0.9 million for
the years ended September 30, 1999, 1998, and 1997, respectively.
The Company has employer and employee contributor plans in Canada which
cover all salaried and wage employees. Information for Canadian benefit plans
concerning the pension obligation, plan assets, amounts recognized in the
Company's financial statements, and underlying actuarial assumptions is stated
below.
<TABLE>
<CAPTION>
AUGUST 31,
----------------------
1999 1998
-------- --------
(Dollars in Thousands)
<S> <C> <C>
Change in benefit obligation:
Benefit obligation at beginning of year ................... $ 14,577 $ 13,348
Currency rate conversion .................................. 556 (1,314)
Service cost .............................................. 919 748
Interest cost ............................................. 1,112 1,016
Actuarial loss (gain) ..................................... (124) 1,008
Benefits paid ............................................. (757) (229)
-------- --------
Benefit obligation at end of year ......................... $ 16,283 $ 14,577
======== ========
Change in plan assets:
Fair value at beginning of year ........................... $ 13,062 $ 14,859
Currency rate conversion .................................. 498 (1,463)
Actual return on plan assets .............................. 1,858 (882)
Employer contributions .................................... 669 698
Participants' contributions ............................... -- 79
Benefits paid ............................................. (757) (229)
-------- --------
Fair value at end of year ................................. $ 15,330 $ 13,062
======== ========
Development of net amount recognized:
Funded status ............................................. $ (953) $ (1,515)
Unrecognized cost:
Actuarial loss (gain) ................................ (22) 962
Prior service cost ................................... 333 348
-------- --------
Net amount recognized ..................................... $ (642) $ (205)
======== ========
Amounts recognized in the statement of financial position:
Prepaid pension cost ...................................... $ 529 $ 655
Accrued pension cost ...................................... (1,198) (1,054)
Intangible asset .......................................... 27 175
Accumulated other comprehensive income .................... -- 19
-------- --------
Net amount recognized ..................................... $ (642) $ (205)
======== ========
</TABLE>
52
<PAGE> 54
Net periodic pension costs (income) for the Canadian pension plan consist of the
following components:
<TABLE>
<CAPTION>
AUGUST 31,
-----------------------------------
1999 1998 1997
------- ------- -------
(Dollars in Thousands)
<S> <C> <C> <C>
Components of net pension costs:
Service cost-benefits earned during the year ................ $ 919 $ 748 $ 830
Interest on prior year's projected benefit obligation ....... 1,112 1,016 1,127
Expected return on plan assets .............................. (963) (1,092) (1,212)
Net amortization:
Actuarial loss (gain) .................................. 68 (130) (144)
Prior service cost ..................................... 29 15 16
------- ------- -------
Net pension costs ........................................... $ 1,165 $ 557 $ 617
======= ======= =======
Weighted-average assumptions:
Discount Rate ............................................... 7.50% 7.00% 8.00%
Rates of increase in salary compensation level .............. 4.50% 4.00% 5.00%
Expected long-term rate of return on plan assets ............ 7.50% 7.00% 8.00%
</TABLE>
POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
Chemicals and the Company provide certain health care benefits and life
insurance benefits for retired employees. Substantially all employees become
eligible for these benefits at normal retirement age. The cost of these benefits
are accrued during the period in which the employee renders the necessary
service.
Health care benefits are provided to employees who retire with ten or
more years of service except for Canadian employees covered by collective
bargaining agreements. All employees are eligible for postretirement life
insurance. Postretirement health care benefits for United States. Plans are
non-contributory. Benefit provisions for most hourly and some salaried employees
are subject to collective bargaining. In general, the plans stipulate that
retiree health care benefits are paid as covered expenses are incurred. The
liability relating to United States employees allocated to the Company by
Chemicals for the postretirement benefits other than pensions and included in
Due from Affiliates was $7.3 million and $7.2 million at September 30, 1999 and
1998, respectively. The total postretirement benefits other than pensions
expense for United States employees allocated to the Company was $0.8 million,
$0.8 million, and $0.8 million for the years ended September 30, 1999, 1998, and
1997, respectively. In addition, a curtailment gain of $0.8 million was
allocated during fiscal 1999 related to the reduction of postretirement life
insurance benefits for currently active U.S. employees.
Information for Canadian benefit plans concerning the plan obligation,
the funded status, amounts recognized in the Company's financial statements, and
underlying actuarial assumptions is stated below.
<TABLE>
<CAPTION>
AUGUST 31,
--------------------
1999 1998
------- -------
(Dollars in Thousands)
<S> <C> <C>
Change in benefit obligation:
Benefit obligation at beginning of year ......... $ 4,306 $ 3,831
Service cost .................................... 307 264
Interest cost ................................... 299 286
Actuarial loss (gain) ........................... -- (50)
Benefits paid ................................... (26) (25)
------- -------
Benefit obligation at end of year ............... $ 4,886 $ 4,306
======= =======
Development of net amount recognized:
Funded status ................................... $(4,886) $(4,306)
Unrecognized cost:
Actuarial loss (gain) ...................... 637 669
Prior service cost ......................... -- --
------- -------
Net amount recognized ........................... $(4,249) $(3,637)
======= =======
</TABLE>
53
<PAGE> 55
Net periodic plan costs (income) for the Canadian postretirement benefit consist
of the following components:
<TABLE>
<CAPTION>
AUGUST 31,
------------------------
1999 1998 1997
---- ---- ----
(Dollars in Thousands)
<S> <C> <C> <C>
Components of net plan costs:
Service cost ..................... $307 $264 $208
Interest cost .................... 299 286 202
Net amortization
Actuarial loss (gain) ....... 32 -- --
---- ---- ----
Net plan costs (income) .......... $638 $550 $410
==== ==== ====
Weighted-average assumptions:
Discount Rate .................... 6.75% 7.5% 7.5%
</TABLE>
The weighted average annual assumed health care trend rate is assumed to
be 7.5% for 1999. The rate is assumed to decrease gradually to 5.8% in 2027 and
remain level thereafter. Assumed health care cost trend rates have a significant
effect on the amounts reported for the health care plans. A one-percentage point
change in assumed health care trend rates would have the following effects:
<TABLE>
<CAPTION>
1% INCREASE 1% DECREASE
----------- -----------
(Dollars in Thousands)
<S> <C> <C>
Effect on total of service and interest cost components ......... $ 33 $ (29)
Effect on post-retirement benefit obligation .................... 230 (200)
</TABLE>
SAVINGS AND INVESTMENT PLAN
Chemicals' Amended and Restated Savings and Investment Plan (the
"Savings Plan") covers substantially all United States employees of the Company,
including executive officers. The Savings Plan is qualified under Section 401(k)
of the Internal Revenue Code (the "Code"). Each participant has the option to
defer taxation of a portion of his or her earnings by directing the Company to
contribute a percentage of such earnings to the Savings Plan. A participant may
direct up to a maximum of 15% of eligible earnings to the Savings Plan, subject
to certain limitations set forth in the Code for "highly compensated"
participants. A participant's contributions become distributable upon the
termination of his or her employment. The Company does not make any
contributions to the Savings Plan.
PROFIT SHARING AND BONUS PLANS
In January 1997, the Board of Directors of Holdings, upon recommendation
of its Compensation Committee, approved the establishment of a Profit Sharing
Plan that is designed to benefit all qualified employees, and a Bonus Plan that
will provide for bonuses to exempt salaried employees based on the annual
financial performance of Holdings.
No expenses for profit sharing or bonuses were incurred by Chemicals or
allocated to the Company in fiscal 1999, 1998, or 1997.
54
<PAGE> 56
PHANTOM STOCK PLAN
The Company introduced a phantom stock plan to all eligible full-time
Canadian employees. The effective date of the plan was August 21, 1996. At the
end of each plan year, the plan administrator establishes a "determined
percentage" for the preceding plan year. This percentage is then multiplied be
each participant's compensation for the plan year to determine the award amount.
The award amount is then divided be the fair market value of one share of the
common stock of 'Holdings, as of December 31 of that plan year, to determine the
number of rights to be credited to participants. Upon termination of employment,
the benefit amount becomes payable to the participant. The benefit amount will
be the number of vested rights in the participant's account, multiplied by the
fair market value of one share of common stock of Holdings as of the most recent
valuation date.
The Company has recorded expense of $248,000, $238,000, and $346,000
related to the phantom stock plan for the years ended September 30, 1999, 1998,
or 1997.
7. COMMITMENTS AND CONTINGENCIES
LEASE COMMITMENTS
The Company has entered into various long-term non-cancelable operating
leases. Future minimum lease commitments at September 30, 1999, are as follows:
fiscal 2000 -- $4.5 million; fiscal 2001 -- $4.2 million; fiscal 2002 -- $4.1
million; fiscal 2003 -- $3.9 million; fiscal 2004 -- $3.7 million; and $7.6
million thereafter.
ENVIRONMENTAL AND SAFETY MATTERS
The Company's operations involve the handling, production,
transportation, treatment, and disposal of materials that are classified as
hazardous or toxic waste and that are extensively regulated by environmental and
health and safety laws and regulations. Environmental permits required for the
Company's operations are subject to periodic renewal and can be revoked or
modified for cause or when new or revised environmental laws or permit
requirements are implemented. Changing and increasingly strict environmental
laws, regulations, and permit requirements can affect the manufacturing,
handling, processing, distribution, and use of the Company's products and, if
so, the Company's business and operations may be materially and adversely
affected. In addition, changes in the law, regulations, and permit requirements
can cause the Company to incur substantial costs in upgrading or redesigning its
facilities and processes, including waste treatment, storage, disposal, and
other waste handling practices and equipment.
While the Company believes that its business operations and facilities
generally are operated in compliance with all material aspects of applicable
environmental and health and safety laws, regulations, and disclosure
requirements, there can be no assurance that past practices and future
operations will not result in material claims or regulatory action, require
material environmental expenditures, or result in exposure or injury claims by
employees and the public. Some risk of environmental costs and liabilities is
inherent in the operations and products of the Company, as it is with other
companies engaged in similar businesses. In addition, a catastrophic event at
any of the Company's facilities could result in liabilities to the Company
substantially in excess of its insurance coverages.
Any significant ban on all chlorine containing compounds could have a
materially adverse effect on the Company's financial condition and results of
operations. British Columbia has a regulation in place requiring elimination of
the use of all chlorine products, including chlorine dioxide, in the bleaching
process by the year 2002. Chlorine dioxide is produced from sodium chlorate,
which is one of the Company's pulp chemicals products. The pulp and paper
industry believes that a ban of chlorine dioxide in the bleaching process will
yield no measurable environmental or public health benefit and is working to
change this regulation but there can be no assurance that the regulation will be
changed. In the event such a regulation is implemented, the Company would seek
to sell the products it manufactures at its British Columbia facility to
customers in other markets. The Company is not aware of any other laws or
regulations in place in North America which would restrict the use of such
products for other purposes.
55
<PAGE> 57
LEGAL PROCEEDINGS
The Company is subject to claims and legal actions that arise in the
ordinary course of its business. The Company believes that the ultimate
liability, if any, with respect to these claims and legal actions will not have
a material effect on the financial position or results of operations of the
Company.
PLEDGE OF COMMON STOCK
In order to secure the repayment of indebtedness under the Fixed Assets
Revolver, a first priority pledge of 100% of the common stock of each of the
United States entities included in these financial statements was granted by the
holders of such stock.
In order to secure the repayment of the 12 3/8% Notes, a second
priority pledge of 100% of the common stock of each of the United States
entities included in these financial statements was granted by the holders of
such stock. In addition, a first priority pledge of 65% of the common stock of
each of the Company's non-United States entities was given by the holders of
such stock.
8. BUSINESS ACQUISITION
On January 31, 1997, the Company acquired the AFB from Cytec Industries
Inc. ("Cytec"). The AFB, or Sterling Fibers, recorded sales of approximately $92
million during the eight months of operations in fiscal 1997 and consists of an
acrylic fibers plant located near Pensacola, Florida, and several associated
marketing and research offices. Sterling Fibers is one of two acrylic fibers
manufacturers in the United States. Cytec supplies acrylonitrile to Sterling
Fibers through a five-year supply agreement ending in 2002. The acquisition was
financed through the issuance of $81 million of debt by Chemicals, the issuance
of $10 million (liquidation value) of Series A "pay in kind" mandatory
redeemable preferred stock of Holdings ("Series A Preferred") to Cytec, and the
sale of $10 million of Holdings' common stock in a private placement. At the
acquisition date, the debt and amounts related to the Series A Preferred Stock
were allocated to the Company as long-term debt due to Holdings and amounts
related to Holdings' common stock were recorded as contributed capital. The
Company used the purchase method to account for the acquisition, and operating
results of Sterling Fibers beginning February 1, 1997, are included with those
of the Company.
56
<PAGE> 58
The following table presents the unaudited pro forma results of operations
of the Company as if the AFB acquisition had occurred on October 1, 1996. The
pro forma results have been prepared for comparative purposes only and do not
purport to be indicative of what would have occurred had the AFB Acquisition
been made at the beginning of the fiscal year 1996 or of results which may occur
in the future (in thousands).
<TABLE>
<CAPTION>
PRO FORMA
TWELVE MONTHS
ENDED
SEPTEMBER 30,
1997
--------------
<S> <C>
Revenues............................... $ 306,756
Net income............................. $ 5,408
</TABLE>
9. FINANCIAL INSTRUMENTS
FOREIGN EXCHANGE
The Company enters into forward foreign exchange contracts to hedge
Canadian dollar currency transactions on a continuing basis for periods
consistent with its committed exposures. The forward foreign exchange contracts
have varying maturities with none exceeding 18 months. The Company makes net
settlements of United States dollars for Canadian dollars at rates agreed to at
inception of the contracts.
The Company enters into forward foreign exchange contracts to reduce risk
due to Canadian dollar exchange rate movements. The Company does not engage in
currency speculation. The Company had a notional amount of approximately $6
million and $54 million of forward foreign exchange contracts outstanding to buy
Canadian dollars at September 30, 1999 and 1998, respectively. The deferred loss
on these forward foreign exchange contracts at September 30, 1999 and 1998 was
$0.3 million and $4.7 million, respectively. The last of the Company's existing
forward exchange contracts expired in March of 2000, and it does not intend to
enter into any additional forward exchange contracts.
CONCENTRATION OF RISK
The Company sells its products primarily to companies involved in the
acrylic fiber and pulp and paper manufacturing industries. The Company performs
ongoing credit evaluations of its customers and generally does not require
collateral for accounts receivable. However, letters of credit are required by
the Company on many of its export sales. Historically, the Company's credit
losses have been minimal.
The Company maintains cash deposits with major banks, which from time to
time may exceed federally insured limits. The Company periodically assesses the
financial condition of the institutions and believes that any possible loss is
minimal.
Approximately 36% of the Company's employees are covered by union
agreements. Approximately 8% of the Company's employees are covered by union
agreements which could expire within one year.
INVESTMENTS
It is the policy of the Company to invest its excess cash in investment
instruments or securities whose value is not subject to market fluctuations such
as certificates of deposit, repurchase agreements, or Eurodollar deposits with
domestic or foreign banks or other financial institutions. Other permitted
investments include commercial paper of major United States corporations with
ratings of A1 by Standard & Poor's Ratings Group or P1 by Moody's Investor
Services, Inc., loan participations of major United States corporations with a
short term credit rating of A1/P1, and direct obligations of the United States
Government or its agencies. In addition, not more than $5 million will be
invested by the Company with any single bank, financial institution, or United
States corporation.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts reflected in the consolidated balance sheet for cash
and cash equivalents, receivables, payables, and certain accrued expenses
approximate fair value due to the short maturities. Based on the Company's
allocated portion of Chemicals' debt at September 30, 1999, the carrying value
is $325.4 million, and the fair value is $246.9 million.
57
<PAGE> 59
INDEPENDENT AUDITORS' REPORT
To the Stockholder of
Sterling Canada, Inc.
Sterling Fibers, Inc.
Sterling Chemicals International, Inc.
We have audited the accompanying combined balance sheets of Sterling Chemicals
U.S. Subsidiaries (as defined in Note 1--the "Company") as of September 30, 1999
and 1998, and the related combined statements of operations, changes in
stockholder's equity, and cash flows for each of the three years in the period
ended September 30, 1999. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such combined financial statements present fairly, in all
material respects, the financial position of the Company as of September 30,
1999 and 1998, and the results of its operations and its cash flows for each of
the three years in the period ended September 30, 1999 in conformity with
generally accepted accounting principles.
DELOITTE & TOUCHE LLP
Houston, Texas
December 9, 1999
58
<PAGE> 60
STERLING PULP CHEMICALS, LTD.
STATEMENTS OF OPERATIONS
(U.S. DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Revenues ....................................... $109,510 $112,750 $130,114
Cost of goods sold ............................. 90,656 86,403 91,752
-------- -------- --------
Gross profit ................................... 18,854 26,347 38,362
Selling, general and administrative expenses ... 12,740 16,650 14,468
Interest and debt related expenses ............. 5,548 4,997 4,122
-------- -------- --------
Net income before income taxes ................. 566 4,700 19,772
Provision for income taxes (Note 5) ............ 313 1,800 8,181
-------- -------- --------
Net income ..................................... $ 253 $ 2,900 $ 11,591
======== ======== ========
</TABLE>
The accompanying notes are an integral part of these financial statements.
59
<PAGE> 61
STERLING PULP CHEMICALS, LTD.
BALANCE SHEETS
(U.S. DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
SEPTEMBER 30, SEPTEMBER 30,
1999 1998
------------- -------------
<S> <C> <C>
ASSETS
Current
Cash and cash equivalents ............................................ $ 8,481 $ 3,426
Accounts receivable (net of allowance for doubtful accounts of $205;
1998--$153) ....................................................... 16,840 14,015
Due from related parties (Note 8) .................................... 1,369 954
Other receivables .................................................... 2,254 1,744
Inventories (Note 2) ................................................. 5,146 6,660
Prepaid expenses ..................................................... 633 592
---------- ----------
34,723 27,391
Property, plant and equipment, net (Note 3) ............................... 75,531 80,038
Other assets .............................................................. 440 4,878
---------- ----------
Total assets ......................................................... $ 110,694 $ 112,307
========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current
Accounts payable ..................................................... $ 8,978 $ 13,400
Accrued generator construction costs ................................. 2,967 1,175
Other accrued liabilities ............................................ 7,093 5,213
Due to related parties (Note 8) ...................................... 1,241 7,400
Current portion of long-term debt .................................... -- 4,527
---------- ----------
20,279 31,715
Note payable (Note 4) ..................................................... 56,667 54,095
Deferred income taxes (Note 5) ............................................ 7,272 6,509
Deferred credits and other liabilities .................................... 3,972 3,681
Commitments and contingencies (Note 7) .................................... -- --
Stockholder's equity:
Common stock ......................................................... 1 1
Additional paid-in capital ........................................... 16,871 --
Retained earnings .................................................... 14,470 25,296
Accumulated other comprehensive income ............................... (8,838) (8,990)
---------- ----------
Total stockholder's equity ........................................ 22,504 16,307
---------- ----------
Total liabilities and stockholder's equity ...................... $ 110,694 $ 112,307
========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
60
<PAGE> 62
STERLING PULP CHEMICALS, LTD.
STATEMENTS OF CHANGES IN STOCKHOLDER'S EQUITY
(U.S. DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
ACCUMULATED
COMMON STOCK ADDITIONAL OTHER
-------------------- PAID-IN RETAINED COMPREHENSIVE
SHARES AMOUNT CAPITAL EARNINGS INCOME TOTAL
-------- -------- -------- -------- ------------- --------
<S> <C> <C> <C> <C> <C> <C>
Balance, September 30, 1996... 1 $ 1 $ 36,968 $ 21,471 $ (5,277) $ 53,163
Net capital distributions..... -- -- (29,630) -- -- (29,630)
Comprehensive income:
Net income ................ -- -- -- 11,591 --
Translation adjustment..... -- -- -- -- (715)
Comprehensive income.... -- -- -- -- -- 10,876
-------- -------- -------- -------- -------- --------
Balance, September 30, 1997... 1 1 7,338 33,062 (5,992) 34,409
Net capital distributions..... -- -- (7,338) -- -- (7,338)
Dividends .................... -- -- -- (10,666) -- (10,666)
Comprehensive income:
Net income ................ -- -- -- 2,900 --
Translation adjustment..... -- -- -- -- (2,998)
Comprehensive loss...... -- -- -- -- -- (98)
-------- -------- -------- -------- -------- --------
Balance, September 30, 1998... 1 1 -- 25,296 (8,990) 16,307
Net capital contributions..... -- -- 16,871 -- -- 16,871
Dividends .................... -- -- -- (11,079) -- (11,079)
Comprehensive income:
Net income ................ -- -- -- 253 --
Translation adjustment..... -- -- -- -- 152
Comprehensive income.... -- -- -- -- -- 405
-------- -------- -------- -------- -------- --------
Balance, September 30, 1999... 1 $ 1 $ 16,871 $ 14,470 $ (8,838) $ 22,504
======== ======== ======== ======== ======== ========
</TABLE>
The accompanying notes are an integral part of these financial statements.
61
<PAGE> 63
STERLING PULP CHEMICALS, LTD.
STATEMENTS OF CASH FLOWS
(U.S. DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
------------------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income ................................................... $ 253 $ 2,900 $ 11,591
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization ........................... 7,757 7,700 8,359
Loss on disposal/write off of assets .................... 50 70 --
Deferred tax expense/(benefit) .......................... (539) (2,479) 5,894
Other ................................................... (31) 505 (170)
Changes in assets/liabilities:
Accounts receivable ..................................... (2,156) 6,036 3,803
Due from related parties ................................ (377) 2,216 1,482
Other receivables ....................................... (436) 4,136 1,504
Inventories ............................................. 1,791 (1,113) 434
Prepaid expenses ........................................ (21) 117 (1)
Other assets--net ....................................... 4,530 846 1,339
Accounts payable ........................................ (607) 5,496 (1,336)
Accrued generator construction costs .................... 2,450 (4,414) 1,298
Other accrued liabilities ............................... (2,467) (1,252) 869
Due to related parties .................................. (6,505) 3,702 2,133
Other liabilities ....................................... 299 (4,240) (814)
-------- -------- --------
Net cash provided by operating activities ......................... 3,991 20,226 36,385
-------- -------- --------
Cash flows from investing activities:
Proceeds on disposal of fixed assets ......................... 3,578 -- --
Capital expenditures ......................................... (3,465) (4,381) (3,336)
-------- -------- --------
Net cash provided by (used in) investing activities ............... 113 (4,381) (3,336)
-------- -------- --------
Cash flows from financing activities:
Repayment of long term debt .................................. (4,527) -- --
Contribution from parent ..................................... 16,871 -- --
Distribution to parent ....................................... -- (7,338) (29,630)
Dividends .................................................... (11,079) (10,666) --
-------- -------- --------
Net cash provided by (used in) financing activities ............... 1,265 (18,004) (29,630)
Effect of exchange rate on cash ................................... (314) 405 (1,469)
-------- -------- --------
Net increase (decrease) in cash and cash equivalents .............. 5,055 (1,754) 1,950
Cash and cash equivalents, beginning of year ...................... 3,426 5,180 3,230
-------- -------- --------
Cash and cash equivalents, end of year ............................ $ 8,481 $ 3,426 $ 5,180
======== ======== ========
Supplemental disclosures of cash flow information:
Interest paid, net of interest income received ............... $(11,608) $ (92) $ (1,076)
Income taxes paid ............................................ (749) (541) (766)
</TABLE>
The accompanying notes are an integral part of these financial statements.
62
<PAGE> 64
STERLING PULP CHEMICALS, LTD.
NOTES TO THE FINANCIAL STATEMENTS
(U.S. DOLLARS)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION AND OPERATIONS
Sterling Pulp Chemicals, Ltd. (the "Company") is a Canadian company which
operates four pulp chemical facilities in Canada. These plants primarily produce
sodium chlorate, a chemical used primarily to make chlorine dioxide, which in
turn is used by pulp mills in the pulp bleaching process. The Company sells
sodium chlorate to customers in Canada and the United States. The Company also
oversees construction of large-scale chlorine dioxide generators for the pulp
and paper industry. The Company is a wholly owned subsidiary of Sterling Canada,
Inc. ("Parent"), which is a wholly-owned subsidiary of Sterling Chemicals, Inc.
("Chemicals").
The financial statements of the Company are presented in accordance with
generally accepted accounting principles in the United States of America
("U.S.") and have been translated from Canadian dollars, the Company's
functional currency to U.S. dollars, the reporting currency of the Parent,
following the guidelines established by SFAS No. 52 "Foreign Currency
Translation".
CASH EQUIVALENTS
The Company considers all investments purchased with a remaining maturity
of three months or less to be cash equivalents.
INVENTORIES
Inventories are stated at the lower of cost and market; cost is primarily
determined on the first-in, first-out basis except for stores and supplies,
which are valued at average cost.
The Company enters into agreements with other companies to exchange
chemical inventories in order to minimize working capital requirements and to
facilitate distribution logistics. Balances related to quantities due to or
payable by the Company are included in inventory.
IMPAIRMENT OF LONG-LIVED ASSETS
Impairment tests of long-lived assets are made when conditions indicate
their carrying costs may not be recoverable. Such impairment tests are based on
a comparison of undiscounted future cash flows or the market value of similar
assets to the carrying cost of the asset. If an impairment is indicated, the
asset value is written down to its estimated fair value.
PROPERTY, PLANT, AND EQUIPMENT
Property, plant, and equipment are recorded at cost. Major renewals and
improvements which extend the useful lives of the equipment are capitalized,
while repair and maintenance expenses are charged to operations as incurred.
Disposals are removed at carrying costs less accumulated depreciation with any
resulting gain or loss reflected in operations. Depreciation is provided using
the straight-line method over estimated useful lives ranging from 5 to 25 years
with the predominant life of the plant and equipment being 15 years.
63
<PAGE> 65
INCOME TAXES
The Company files a federal Canadian tax return as well as returns in the
provinces in which it operates.
Deferred income taxes are recorded to reflect the tax consequences in
future years of differences between the tax bases of assets and liabilities and
the financial reporting amounts at each year-end (the liability method).
REVENUE RECOGNITION
The Company generates revenues through sales in the open market pursuant to
short-term and long-term contracts with its customers. The Company recognizes
revenue from sales as the products are shipped. Revenues associated with the
constructing of chlorine dioxide generators are recognized using the percentage
of completion method based on cost incurred compared to total estimated cost.
FOREIGN CURRENCY TRANSLATION AND FOREIGN EXCHANGE
The Company's functional currency is the Canadian dollar. The Parent's
reporting currency is the U.S. dollar. For financial reporting purposes, assets
and liabilities denominated in Canadian dollars are translated into U.S. dollars
at year-end rates of exchange and revenues and expenses are translated at the
average monthly exchange rates. Translation adjustments are reported as a
separate component of stockholder's equity while transaction gains and losses
are included in operations.
ENVIRONMENTAL COSTS
Environmental costs are expensed unless the expenditures extend the
economic useful life of the assets. Costs that extend the economic life of the
assets are capitalized and depreciated over the remaining life of such assets.
Liabilities are recorded when environmental assessments and/or remedial efforts
are probable and the cost can be reasonably estimated.
DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
In preparing disclosures about the fair value of financial instruments, the
Company has assumed that the carrying amount approximates fair value for cash
and cash equivalents, receivables, short-term borrowings, accounts payable, and
certain accrued expenses because of the short maturities of those instruments.
The fair values of long-term debt instruments are estimated based upon quoted
market values (if applicable) or on the current interest rates available to the
Company for debt with similar terms and remaining maturities. Considerable
judgement is required in developing these estimates and, accordingly, no
assurances can be given that the estimated values presented herein are
indicative of the amounts that would be realized in a free market exchange.
ACCOUNTING ESTIMATES
The preparation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting periods. Actual results could differ from these estimates.
EARNINGS PER SHARE
All issued and outstanding shares of the Company are held by the Parent.
Accordingly, earnings per share information is not presented.
64
<PAGE> 66
NEW ACCOUNTING STANDARDS
Effective October 1, 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income," which establishes standards for reporting and displaying
of comprehensive income and its components and SFAS No. 132, "Employers'
Disclosures about Pensions and Other Postretirement Benefits," which establishes
revisions to employers' disclosure about pension and other post retirement
benefit plans. Adoption of these statements in fiscal 1999 had no effect on net
income (loss). The only item of accumulated other comprehensive income is the
Company's foreign currency translation adjustment.
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts and for hedging activities. Management is currently evaluating the
accounting impact and disclosures required when this statement is adopted in the
first quarter of fiscal 2001.
2. INVENTORIES
<TABLE>
<CAPTION>
SEPTEMBER 30,
-------------------------
1999 1998
---------- ----------
(Dollars in Thousands)
<S> <C> <C>
Inventories:
Finished products ..................................... $ 1,872 $ 3,455
Raw materials ......................................... 209 253
---------- ----------
Inventories at cost ........................................ 2,081 3,708
Inventories under exchange agreements ...................... 77 78
Stores and supplies ........................................ 2,988 2,874
---------- ----------
$ 5,146 $ 6,660
========== ==========
</TABLE>
3. PROPERTY, PLANT, AND EQUIPMENT
<TABLE>
<CAPTION>
SEPTEMBER 30,
--------------------------
1999 1998
---------- ----------
(Dollars in Thousands)
<S> <C> <C>
Property, plant, and equipment:
Land .................................................. $ 1,448 $ 4,079
Buildings ............................................. 13,808 11,864
Plant and equipment ................................... 110,711 106,408
---------- ----------
Property, plant, and equipment at cost ................ 125,967 122,351
Less accumulated depreciation ......................... (50,436) (42,313)
---------- ----------
$ 75,531 $ 80,038
========== ==========
</TABLE>
4. NOTE PAYABLE
On August 20, 1992, the Company entered into an agreement for a $109.1
million demand note facility with Sterling NRO, Ltd. ("Sterling NRO"). Sterling
NRO is also owned by the Parent and is therefore related by virtue of common
control. The note has no scheduled terms of repayment and interest is calculated
and payable monthly in arrears at 1.5% above the Bank of Nova Scotia prime rate.
Interest expensed for the years ended September 30, 1999, 1998, and 1997 were
$5.5 million, $4.9 million and $4.2 million, respectively. Principal repayments
for the years ended September 30, 1999 and 1998 were $4.5 million and nil,
respectively.
5. INCOME TAXES
A reconciliation of federal statutory income taxes to the Company's
effective tax provision follows:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in Thousands)
<S> <C> <C> <C>
Provision for federal income tax at the statutory rate ............ 259 $ 1,367 $ 5,798
Provincial income taxes at the statutory rate ..................... 88 563 2,672
Federal and provincial manufacturing and processing tax credits ... (50) (286) (889)
Other ............................................................. 16 156 600
-------- -------- --------
$ 313 $ 1,800 $ 8,181
======== ======== ========
</TABLE>
65
<PAGE> 67
The provision for income taxes is composed of the following:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in Thousands)
<S> <C> <C> <C>
Current federal ................................................... $ 2,098 $ 2,852 $ 1,489
Deferred federal .................................................. (1,859) (1,611) 3,717
Current provincial ................................................ 619 1,427 798
Deferred provincial ............................................... (545) (868) 2,177
-------- -------- --------
Total tax provision .......................................... $ 313 $ 1,800 $ 8,181
======== ======== ========
</TABLE>
The components of the Company's deferred income tax assets and liabilities
are summarized below:
<TABLE>
<CAPTION>
SEPTEMBER 30,
--------------------------
1999 1998
---------- ----------
(Dollars in Thousands)
<S> <C> <C>
Deferred tax assets
Accrued liabilities ............................................. $ 318 $ 299
Accrued postretirement cost ..................................... 1,236 966
Investment tax credits .......................................... 4,767 6,806
---------- ----------
$ 6,321 $ 8,071
---------- ----------
Deferred tax liabilities
Property, plant and equipment ................................... (13,593) (14,459)
Other ........................................................... -- (121)
---------- ----------
(13,593) (14,580)
Net deferred tax liabilities ......................................... $ (7,272) $ (6,509)
========== ==========
</TABLE>
6. EMPLOYEE BENEFITS
The Company has established the following benefit plans:
RETIREMENT BENEFIT PLANS
The Company has employer and employee contributory plans which cover all
salaried and wage employees. The benefits under these plans are based primarily
on years of service and/or employee's pay near retirement. The Company's funding
policy is consistent with the funding requirements of Canadian federal and
provincial laws and regulations. Plan assets consist principally of common
stocks and government and corporate securities.
66
<PAGE> 68
Information concerning the pension obligation, plan assets, amounts recognized
in the Company's financial statements, and underlying actuarial assumptions is
stated below.
<TABLE>
<CAPTION>
AUGUST 31,
--------------------------
1999 1998
---------- ----------
(Dollars in Thousands)
<S> <C> <C>
Change in benefit obligation:
Benefit obligation at beginning of year ................................ $ 14,577 $ 13,348
Currency rate conversion ............................................... 556 (1,314)
Service cost ........................................................... 919 748
Interest cost .......................................................... 1,112 1,016
Actuarial loss (gain) .................................................. (124) 1,008
Benefits paid .......................................................... (757) (229)
---------- ----------
Benefit obligation at end of year ...................................... $ 16,283 $ 14,577
========== ==========
Change in plan assets:
Fair value at beginning of year ........................................ $ 13,062 $ 14,859
Currency rate conversion ............................................... 498 (1,463)
Actual return on plan assets ........................................... 1,858 (882)
Employer contributions ................................................. 669 698
Participants' contributions ............................................ -- 79
Benefits paid .......................................................... (757) (229)
---------- ----------
Fair value at end of year .............................................. $ 15,330 $ 13,062
========== ==========
Development of net amount recognized:
Funded status .......................................................... $ (953) $ (1,515)
Unrecognized cost:
Actuarial loss (gain) ............................................... (22) 962
Prior service cost .................................................. 333 348
---------- ----------
Net amount recognized .................................................. $ (642) $ (205)
========== ==========
Amounts recognized in the statement of financial position:
Prepaid pension cost ................................................... $ 529 $ 655
Accrued pension cost ................................................... (1,198) (1,054)
Intangible asset ....................................................... 27 175
Accumulated other comprehensive income ................................. -- 19
---------- ----------
Net amount recognized .................................................. $ (642) $ (205)
========== ==========
</TABLE>
Net periodic pension costs (income) consist of the following components:
<TABLE>
<CAPTION>
AUGUST 31,
------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in Thousands)
<S> <C> <C> <C>
Components of net pension costs:
Service cost-benefits earned during the year ................... $ 919 $ 748 $ 830
Interest on prior year's projected benefit obligation .......... 1,112 1,016 1,127
Expected return on plan assets ................................. (963) (1,092) (1,212)
Net amortization:
Actuarial loss (gain) ....................................... 68 (130) (144)
Prior service cost .......................................... 29 15 16
-------- -------- --------
Net pension costs .............................................. $ 1,165 $ 557 $ 617
======== ======== ========
Weighted-average assumptions:
Discount Rate .................................................. 7.50% 7.00% 8.00%
Rates of increase in salary compensation level ................. 4.50% 4.00% 5.00%
Expected long-term rate of return on plan assets ............... 7.50% 7.00% 8.00%
</TABLE>
67
<PAGE> 69
POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
The Company provides certain health care and life insurance benefits for
retired employees. Employees become eligible for these benefits at normal
retirement age.
Retiree insurance plans provide health and life insurance benefits to
employees who retire from the Company with ten or more years of service. All of
the Company's employees are eligible for postretirement life insurance and,
except for collectively bargained employees, are eligible for postretirement
medical insurance. Postretirement medical insurance is a non-contributory plan.
Benefit provisions for most hourly and some salaried employees are subject to
collective bargaining.
Information concerning the plan obligation, the funded status, amounts
recognized in the Company's financial statements, and underlying actuarial
assumptions is stated below.
<TABLE>
<CAPTION>
AUGUST 31,
--------------------------
1999 1998
---------- ----------
(Dollars in Thousands)
<S> <C> <C>
Change in benefit obligation:
Benefit obligation at beginning of year ................................ $ 4,306 $ 3,831
Service cost ........................................................... 307 264
Interest cost .......................................................... 299 286
Actuarial loss (gain) .................................................. -- (50)
Benefits paid .......................................................... (26) (25)
---------- ----------
Benefit obligation at end of year ...................................... $ 4,886 $ 4,306
========== ==========
Development of net amount recognized:
Funded status .......................................................... $ (4,886) $ (4,306)
Unrecognized cost:
Actuarial loss ...................................................... 637 669
---------- ----------
Net amount recognized .................................................. $ (4,249) $ (3,637)
========== ==========
</TABLE>
Net periodic plan costs (income) consist of the following components:
<TABLE>
<CAPTION>
AUGUST 31,
------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in Thousands)
<S> <C> <C> <C>
Components of net plan costs:
Service cost ................................................... $ 307 $ 264 $ 208
Interest cost .................................................. 299 286 202
Net amortization:
Actuarial loss .............................................. 32 -- --
-------- -------- --------
Net plan costs ................................................. $ 638 $ 550 $ 410
======== ======== ========
Weighted-average assumptions:
Discount Rate .................................................. 6.75% 7.50% 7.50%
</TABLE>
The weighted average annual assumed health care trend rate is assumed to be
7.5% for 1999. The rate is assumed to decrease gradually to 5.8% in 2027 and
remain level thereafter. Assumed health care cost trend rates
68
<PAGE> 70
have a significant effect on the amounts reported for the health care plans. A
one percentage point change in assumed health care trend rates would have the
following effects:
<TABLE>
<CAPTION>
1% INCREASE 1% DECREASE
----------- -----------
Dollars in Thousands)
<S> <C> <C>
Effect on total of service and interest cost components............. $ 33 $ (29)
Effect on post-retirement benefit obligation........................ 230 (200)
</TABLE>
PROFIT SHARING PLANS
The Company established profit sharing plans for the benefit of salaried
and hourly employees meeting certain eligibility requirements. The Company
distributes a specified percentage of its earnings before interest, taxes,
depreciation, and amortization above a specified level to eligible employees on
a yearly basis. The amount of each eligible employee's quarterly distribution is
related to a specified percentage of each such employee's base salary or wages,
with the percentage determined by the employee's position in the Company. The
profit sharing for each of the fiscal years ended September 30, 1999, 1998, and
1997 was nil.
PHANTOM STOCK PLAN
The Company introduced a phantom stock plan to all eligible full-time
Canadian employees effective August 21, 1996. At the end of each plan year, the
plan administrator establishes a "determined percentage" for the preceding plan
year. This percentage is then multiplied by each participant's compensation for
the plan year to determine the award amount. The award amount is then divided by
the fair market value of one share of the common stock of Sterling Chemicals
Holdings, Inc. ("Holdings"), as of December 31 of that plan year, to determine
the number of rights to be credited to participants. Upon termination of
employment, the benefit amount becomes payable to the participant. The benefit
amount will be the number of vested rights in the participant's account,
multiplied by the fair market value of one share of common stock of Holdings as
of the most recent valuation date.
The Company has recorded expense of $0.2 million, $0.2 million, and $0.3
million related to the phantom stock plan for the years ended September 30,
1999, 1998, and 1997, respectively.
7. COMMITMENTS AND CONTINGENCIES
LEASE COMMITMENTS
The Company has entered into various long-term noncancellable rail car and
other operating leases. Future minimum lease commitments are as follows: fiscal
2000--$4.4 million, fiscal 2001--$4.1 million, fiscal 2002--$4.1 million, fiscal
2003--$3.9 million, fiscal 2004--$3.7 million, and thereafter--$7.6 million.
ENVIRONMENTAL AND SAFETY MATTERS
The Company's operations involve the handling, production, transportation,
treatment, and disposal of materials that are classified as hazardous or toxic
waste and that are extensively regulated by environmental and health and safety
laws and regulations. Environmental permits required for the Company's
operations are subject to periodic renewal and can be revoked or modified for
cause or when new or revised environmental laws or permit requirements are
implemented. Changing and increasingly strict environmental laws, regulations,
and permit requirements can affect the manufacturing, handling, processing,
distribution, and use of the Company's products and, if so, the Company's
business and operations may be materially and adversely affected. In addition,
changes in the law, regulations, and permit requirements can cause the Company
to incur substantial costs in upgrading or redesigning its facilities and
processes, including waste treatment, storage, disposal, and other waste
handling practices and equipment.
69
<PAGE> 71
While the Company believes that its business operations and facilities
generally are operated in compliance with all material aspects of applicable
environmental and health and safety laws, regulations, and disclosure
requirements, there can be no assurance that past practices and future
operations will not result in material claims or regulatory action, require
material environmental expenditures, or result in exposure or injury claims by
employees and the public. Some risk of environmental costs and liabilities is
inherent in the operations and products of the Company, as it is with other
companies engaged in similar businesses. In addition, a catastrophic event at
any of the Company's facilities could result in liabilities to the Company
substantially in excess of its insurance coverages.
Any significant ban on all chlorine containing compounds could have a
materially adverse effect on the Company's financial condition and results of
operations. British Columbia has a regulation in place requiring elimination of
the use of all chlorine products, including chlorine dioxide, in the bleaching
process by the year 2002. Chlorine dioxide is produced from sodium chlorate,
which is the Company's primary pulp chemicals product. The pulp and paper
industry believes that a ban of chlorine dioxide in the bleaching process will
yield no measurable environmental or public health benefit and is working to
change this regulation but there can be no assurance that the regulation will be
changed. In the event such a regulation is implemented, the Company would seek
to sell the products it manufactures at its British Columbia facility to
customers in other markets. The Company is not aware of any other laws or
regulations in place in North America which would restrict the use of such
products for other purposes.
LEGAL PROCEEDINGS
The Company is subject to claims and legal actions that arise in the
ordinary course of its business. The Company believes that the ultimate
liability, if any, with respect to these claims and legal actions will not have
a material effect on the financial position or results of operations of the
Company.
PLEDGE OF COMMON STOCK
In order to secure the repayment of a 1999 issuance of $295,000,000 of
12 3/8% Senior Secured Notes due 2006 by Chemicals, Parent granted the note
holders a first priority pledge of 65% of the Company's common stock.
8. RELATED PARTY TRANSACTIONS
In the normal course of operations of the Company, the following represents
significant transactions with related parties for the fiscal years ended
September 30, 1999, 1998, and 1997:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in Thousands)
<S> <C> <C> <C>
Chemicals:
Management fees .............................................. $ 869 $ 795 $ 848
Parent:
Services, marketing and R&D revenue .......................... $ 921 $ 833 $ 617
Commonly controlled companies:
Sale of goods ................................................ $ 9,295 $ 4,867 $ 347
Purchase of goods ............................................ 6,401 4,580 --
Supply agreement revenue ..................................... -- -- 585
Administration fee revenue ................................... 335 323 361
Interest expense ............................................. 5,630 4,860 4,199
</TABLE>
The amounts due from and to related parties for the years ended September
30, 1999 and 1998 are as follows:
<TABLE>
<CAPTION>
SEPTEMBER 30,
1999 1998
------------ ------------
(Dollars in Thousands)
<S> <C> <C>
Due from related parties:
Parent ............................ $ 12 $ 305
Commonly controlled companies ..... 1,357 649
------------ ------------
$ 1,369 $ 954
============ ============
Due to related parties:
Parent ............................ $ 132 $ 128
Commonly controlled companies ..... 1,109 7,272
------------ ------------
$ 1,241 $ 7,400
============ ============
</TABLE>
70
<PAGE> 72
9. EXPORT SALES
The Company is engaged in the sale of products for export into the United
States. These were primarily sodium chlorate sales and represented 47%, 46%, and
41% of revenues for fiscal 1999, 1998, and 1997, respectively.
10. FINANCIAL INSTRUMENTS
FORWARD EXCHANGE CONTRACTS
The Company enters into forward exchange contracts to hedge foreign
currency transactions on a continuing basis for periods consistent with its
committed exposures. The Company does not engage in currency speculation. The
effect of this practice is to minimize the impact of foreign exchange rate
movements on the Company's operating results. As of September 30, 1999 and 1998,
the Company had a notional amount of approximately $6.0 million and $54.0
million, respectively, of forward foreign exchange contracts outstanding to buy
Canadian dollars. The Company makes net settlements of Canadian dollars for U.S.
dollars at maturity, at rates agreed to at inception of the contracts. The
deferred loss on these forward foreign exchange contracts at September 30, 1999
and 1998 were $0.3 million and $4.7 million, respectively. The last of the
Company's existing forward exchange contracts expires in March of 2000, and it
does not intend to enter into any additional forward exchange contracts.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair value approximated the carrying value of financial instruments
included in current assets and current liabilities on the balance sheet at
September 30, 1999 due to the short maturities. The fair value of the notes
payable on the balance sheet at September 30, 1999 approximated their carrying
value, as the interest rate fluctuates with changes in market rates.
CONCENTRATIONS OF CREDIT RISK
The Company sells its products primarily to companies involved in the pulp
and paper industry. The Company performs ongoing credit evaluations of its
customers and generally does not require collateral for accounts receivable.
The Company maintains cash deposits with major banks which from time to
time may exceed federally insured limits. Management periodically assesses the
financial condition of the institutions and believes that any possible credit
loss is minimal.
Approximately 50% of the Company's employees are covered by union
agreements.
71
<PAGE> 73
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholder of
Sterling Pulp Chemicals, Ltd.
We have audited the accompanying balance sheets of Sterling Pulp Chemicals, Ltd.
(an indirect wholly-owned subsidiary of Sterling Chemicals, Inc.) as at
September 30, 1999 and 1998 and the related statements of operations, changes in
stockholder's equity and cash flows for each of the years ended September 30,
1999, 1998 and 1997. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards
in Canada. Those standards require that we plan and perform an audit to obtain
reasonable assurance whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the accompanying financial statements present fairly, in all
material respects, the financial positions of Sterling Pulp Chemicals, Ltd. as
at September 30, 1999 and 1998, and the results of its operations and its cash
flows for each of the three years ended September 30, 1999, 1998 and 1997, in
conformity with accounting principles generally accepted in the United States of
America.
DELOITTE & TOUCHE LLP
Chartered Accountants
Mississauga, Canada
December 9, 1999
72
<PAGE> 74
REPORT OF MANAGEMENT
Management is responsible for the preparation and content of the financial
statements and other information included in this annual report. The financial
statements have been prepared in conformity with generally accepted accounting
principles appropriate under the circumstances to reflect, in all material
respects, the substance of events and transactions that should be included. The
financial statements reflect management's judgments and estimates as to the
effects of events and transactions that are accounted for or disclosed.
Management maintains accounting systems which are supported by internal
accounting controls that provide reasonable assurance that assets are
safeguarded and that transactions are executed in accordance with management's
authorization and recorded properly to permit the preparation of financial
statements in accordance with generally accepted accounting principles. The
concept of reasonable assurance is based on the recognition that the cost of a
system of internal accounting controls should not exceed the benefits.
Deloitte & Touche LLP performed an independent audit of the Company's
financial statements for fiscal years 1999, 1998, and 1997, for the purpose of
determining that the statements are presented fairly and in accordance with
generally accepted accounting principles. The independent auditors are appointed
by the Board of Directors and meet regularly with the Audit and Compliance
Committee of the Board of Directors, which is comprised solely of outside
directors. The Audit and Compliance Committee meets periodically with the
Company's senior officers and independent accountants to review the adequacy and
reliability of the Company's accounting, financial reporting, and internal
controls.
Peter W. De Leeuw
President and Chief Executive Officer
Paul G. Vanderhoven
Controller - Principal Accounting Officer
December 16, 1999
73
<PAGE> 75
STERLING CANADA, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
--------------------------------------------
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Revenues ......................................... $ 155,673 $ 162,066 $ 170,723
Cost of goods sold ............................... 125,812 124,887 120,584
------------ ------------ ------------
Gross profit ..................................... 29,861 37,179 50,139
Selling, general, and administrative expenses .... 9,839 9,941 7,086
Interest and debt related expenses ............... 29,463 28,484 29,228
------------ ------------ ------------
Net income (loss) before income taxes ............ (9,441) (1,246) 13,825
Provision (benefit) for income taxes ............. 487 (534) 6,047
------------ ------------ ------------
Net income (loss) ................................ $ (9,928) $ (712) $ 7,778
============ ============ ============
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
74
<PAGE> 76
STERLING CANADA, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
SEPTEMBER 30,
----------------------------
1999 1998
------------ ------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ........................... $ 8,588 $ 3,572
Accounts receivable ................................. 33,342 26,399
Inventories ......................................... 6,288 7,866
Prepaid expenses .................................... 12,947 6,590
------------ ------------
Total current assets .............................. 61,165 44,427
Property, plant, and equipment, net .................... 127,658 135,952
Due from affiliates .................................... 139,868 149,650
Other assets ........................................... 34,389 45,947
------------ ------------
Total assets ...................................... $ 363,080 $ 375,976
============ ============
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Accounts payable .................................... $ 14,680 $ 13,538
Accrued liabilities ................................ 11,238 12,867
------------ ------------
Total current liabilities ......................... 25,918 26,405
Long-term debt due to parent ........................... 243,999 245,764
Deferred income taxes .................................. 7,272 6,509
Deferred credits and other liabilities ................. 4,927 9,719
Commitments and contingencies (Note 7) ................. -- --
Stockholder's equity:
Common stock ........................................ -- --
Additional paid-in capital .......................... 83,396 83,396
Retained earnings ................................... 25,068 34,996
Accumulated other comprehensive income .............. (27,500) (30,813)
------------ ------------
Total stockholder's equity ........................ 80,964 87,579
------------ ------------
Total liabilities and stockholder's equity ..... $ 363,080 $ 375,976
============ ============
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
75
<PAGE> 77
STERLING CANADA, INC.
CONSOLIDATED STATEMENTS OF
CHANGES IN STOCKHOLDER'S EQUITY
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
ACCUMULATED
ADDITIONAL OTHER
COMMON PAID-IN RETAINED COMPREHENSIVE
STOCK CAPITAL EARNINGS INCOME TOTAL
------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C>
Balance, September 30, 1996 ............ $ -- $ 83,396 $ 27,930 $ (19,124) $ 92,202
Comprehensive income:
Net income .......................... -- -- 7,778 --
Translation adjustment .............. -- -- -- (1,648)
Comprehensive income ............. 6,130
------------- ------------- ------------- ------------- -------------
Balance, September 30, 1997 ............ -- 83,396 35,708 (20,772) 98,332
Comprehensive income:
Net loss ............................ -- -- (712) --
Translation adjustment .............. -- -- -- (10,041)
Comprehensive loss ............... (10,753)
------------- ------------- ------------- ------------- -------------
Balance, September 30, 1998 ............ -- 83,396 34,996 (30,813) 87,579
Comprehensive income:
Net loss ............................ -- -- (9,928) --
Translation adjustment .............. -- -- -- 3,313
Comprehensive loss ............... (6,615)
------------- ------------- ------------- ------------- -------------
Balance, September 30, 1999 ............ $ -- $ 83,396 $ 25,068 (27,500) $ 80,964
============= ============= ============= ============= =============
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
76
<PAGE> 78
STERLING CANADA, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
--------------------------------------
1999 1998 1997
---------- ---------- ----------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net income (loss).................................................................... $ (9,928) $ (712) $ 7,778
Adjustments to reconcile net income (loss) to net cash provided by operating
activities:
Depreciation and amortization .................................................... 18,328 18,140 11,702
Deferred tax expense (benefit) ................................................... 763 (361) (5,146)
Other ............................................................................ (234) 448 205
Change in assets/liabilities:
Accounts receivable .............................................................. (6,943) 6,863 6,369
Inventories ...................................................................... 1,578 (1,718) (166)
Prepaid expenses ................................................................. (6,357) (2,846) (375)
Due from affiliates .............................................................. 13,095 (3,796) 26,374
Other assets ..................................................................... 5,881 (1,062) (5,591)
Accounts payable ................................................................. 1,142 5,208 (4,864)
Accrued liabilities .............................................................. (1,629) 1,606 (1,281)
Other liabilities ................................................................ (4,792) 298 3,209
---------- ---------- ----------
Net cash flows provided by operating activities ..................................... 10,904 22,068 38,214
---------- ---------- ----------
Cash flows from investing activities-
Capital expenditures ............................................................. (4,357) (6,154) (18,782)
---------- ---------- ----------
Cash flows from financing activities -
Net change in long-term debt due to Parent ....................................... (1,765) (17,806) (17,659)
---------- ---------- ----------
Effect of United States/Canadian exchange rate on cash .............................. 234 (447) (205)
---------- ---------- ----------
Net increase (decrease) in cash and cash equivalents ................................ 5,016 (2,339) 1,568
Cash and cash equivalents--beginning of year ........................................ 3,572 5,911 4,343
---------- ---------- ----------
Cash and cash equivalents--end of year............................................... $ 8,588 $ 3,572 $ 5,911
========== ========== ==========
Supplemental disclosures of cash flow information:
Income taxes paid................................................................. $ (749) $ (541) $ (766)
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
77
<PAGE> 79
STERLING CANADA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(U.S. DOLLARS)
1. BASIS OF PRESENTATION AND DESCRIPTION OF BUSINESS
Sterling Canada, Inc., through its subsidiaries (Sterling Canada, Inc. and
its subsidiaries collectively, the "Company") manufactures chemicals for use
primarily in the pulp and paper industry at four plants in Canada and one plant
in Valdosta, Georgia. These plants primarily produce sodium chlorate, a chemical
used primarily to make chlorine dioxide, which in turn is used by pulp mills in
the pulp bleaching process. The Company also produces sodium chlorite at one of
its Canadian locations and oversees construction of large-scale chlorine dioxide
generators for the pulp and paper industry. Sterling Canada, Inc. is a
wholly-owned subsidiary of Sterling Chemicals, Inc. ("Chemicals"), which is a
wholly owned subsidiary of Sterling Chemicals Holdings, Inc. ("Holdings").
Under SEC rules, specified information is required to be provided with
respect to subsidiaries of an issuer of debt securities whose capital stock is
pledged to secure the repayment of those debt securities. On July 23, 1999,
Chemicals completed a private offering of $295,000,000 of its 12 3/8% Senior
Secured Notes due 2006. On November 5, 1999, Chemicals completed a registered
exchange offer, pursuant to which all of these 12 3/8% Notes were exchanged for
publicly registered 12 3/8% Notes with substantially similar terms (the "12 3/8%
Notes"). The 12 3/8% Notes are guaranteed by Sterling Canada, Inc. and all of
Chemicals' other existing direct and indirect subsidiaries incorporated in the
United States (other than Sterling Chemicals Acquisitions, Inc.) on a joint and
several basis and are secured by, among other things, a second priority pledge
of 100% of the stock of these subsidiaries. The 12 3/8% Notes are also secured
by 65% of the stock of Sterling Pulp Chemicals, Ltd. ("Sterling Pulp") and
Sterling NRO, Ltd., each of which is a subsidiary of Sterling Canada, Inc.
incorporated in Canada. In order to comply with these SEC rules, the financial
statements and footnotes of Sterling Canada, Inc. are presented.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The significant accounting policies of the Company are described below.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of Sterling
Canada, Inc. and all of its direct and indirect wholly owned subsidiaries, which
include Sterling Pulp, Sterling Pulp Chemicals, Inc., Sterling Pulp Chemicals
US, Inc., and Sterling NRO, Ltd. All significant intercompany accounts and
transactions have been eliminated.
CASH EQUIVALENTS
The Company considers all investments purchased with a remaining maturity
of three months or less to be cash equivalents.
INVENTORIES
Inventories are stated at the lower of cost or market; cost is determined
on the first-in, first-out basis except for raw materials and stores and
supplies, which are valued at average cost.
The Company enters into agreements with other companies to exchange
chemical inventories in order to minimize working capital requirements and to
facilitate distribution logistics. Balances related to quantities due to or
payable by the Company are included in inventory.
PROPERTY, PLANT, AND EQUIPMENT
Property, plant, and equipment are recorded at cost. Major renewals and
improvements which extend the useful lives of the equipment are capitalized,
while repair and maintenance expenses are charged to operations as incurred.
78
<PAGE> 80
Disposals are removed at carrying costs less accumulated depreciation with any
resulting gain or loss reflected in operations. Depreciation is provided using
the straight-line method over estimated useful lives ranging from five to 25
years with the predominant life of the plant and equipment being 15 years.
IMPAIRMENT OF LONG-LIVED ASSETS
Impairment tests of long-lived assets are made when conditions indicate
their carrying costs may not be recoverable. Such impairment tests are based on
a comparison of undiscounted future cash flows or the market value of similar
assets to the carrying cost of the asset. If an impairment is indicated, the
asset value is written down to its estimated fair value.
PATENTS AND ROYALTIES
The cost of patents is amortized on a straight-line basis over their
estimated useful lives, which approximates ten years. The Company capitalized
the value of the chlorine dioxide generator technology acquired in fiscal 1992
based on the net present value of all estimated remaining royalty payments
associated with the technology. The resulting intangible amount is included in
other assets and is amortized over the average life for these royalty payments
of ten years.
INCOME TAXES
The Company is included in the consolidated United States federal income
tax return filed by Holdings. The Company's provision (benefit) for United
States income taxes has been allocated by Holdings as if the Company filed its
annual tax returns on a separate return basis. The Company's Canadian
subsidiaries file separate federal Canadian tax returns, as well as returns in
the provinces in which they operate. For these Canadian subsidiaries, deferred
income taxes are recorded to reflect the tax effect of the temporary differences
between the financial reporting basis and the tax basis of the subsidiary's
assets and liabilities.
REVENUE RECOGNITION
The Company generates revenues through sales in the open market pursuant to
short-term and long-term contracts with its customers. The Company recognizes
revenue from sales as the products are shipped. Revenues associated with the
constructing of chlorine dioxide generators are recognized using the percentage
of completion method based on cost incurred compared to total estimated cost.
The Company also receives prepaid royalties for use of the chlorine dioxide
generator technology; such royalties are typically recognized as revenues over a
period of ten years.
FOREIGN CURRENCY TRANSLATION AND FOREIGN EXCHANGE
Assets and liabilities denominated in Canadian dollars are translated into
United States dollars at year-end exchange rates and revenues and expenses are
translated at the average monthly exchange rates. Translation adjustments are
reported as a separate component of stockholder's equity, while transaction
gains and losses are included in operations when incurred.
The Company's Canadian subsidiaries enter into forward foreign exchange
contracts to minimize the short-term impact of Canadian dollar fluctuations on
certain of its Canadian dollar denominated commitments. Gains or losses on these
contracts are deferred and are included in operations in the same period in
which the related transactions are settled.
ENVIRONMENTAL COSTS
Environmental costs are expensed unless the expenditures extend the
economic useful life of the assets. Costs that extend the economic life of the
assets are capitalized and depreciated over the remaining life of such assets.
Liabilities are recorded when environmental assessments and/or remedial efforts
are probable and the cost can be reasonably estimated.
79
<PAGE> 81
DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
In preparing disclosures about the fair value of financial instruments, the
Company has assumed that the carrying amount approximates fair value for cash
and cash equivalents, receivables, accounts payable, and certain accrued
expenses because of the short maturities of those instruments. The fair values
of long-term debt instruments are estimated based upon quoted market values (if
applicable) of the debt allocated to the Company by Chemicals or on the current
interest rates available for debt with similar terms and remaining maturities.
Considerable judgement is required in developing these estimates and,
accordingly, no assurances can be given that the estimated values presented
herein are indicative of the amounts that would be realized in a free market
exchange.
ACCOUNTING ESTIMATES
The preparation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting periods. Actual results could differ from these estimates.
ALLOCATIONS
Sterling Canada, Inc. and each of its subsidiaries is directly or
indirectly wholly owned by Chemicals, which incurs certain direct and indirect
expenses for the benefit and support of the Company. These services include,
among others, tax planning, treasury, legal, risk management, and the
maintenance of insurance coverage for the Company. Chemicals allocated $2.5
million, $2.5 million, and $1.7 million of such expenses to the Company in
fiscal years 1999, 1998, and 1997, respectively, which are included in selling,
general, and administrative expenses. Allocations are based on the Company's
proportionate share of the respective amounts and are determined primarily on
revenue. In addition, the Company is dependent on Chemicals for financing.
EARNINGS PER SHARE
All issued and outstanding shares of the Company are held directly or
indirectly by Chemicals, and accordingly, earnings per share information is not
presented.
NEW ACCOUNTING STANDARDS
Effective October 1, 1998, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income," which
established standards for reporting and displaying of comprehensive income and
its components and SFAS No. 132, "Employers' Disclosures about Pensions and
Other Postretirement Benefits," which established revisions to employers'
disclosure about pension and other postretirement benefit plans. Adoption of
these statements in fiscal 1999 had no effect on net income. The only item of
accumulated other comprehensive income is the Company's foreign currency
translation adjustment.
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," and No. 138, "Accounting for Certain Derivative Instruments and
Certain Hedging Activities", establish accounting and reporting standards for
derivative instruments, including certain derivative instruments embedded in
other contracts, and for hedging activities. The Company is currently evaluating
the accounting impact and disclosures that will be required when these
statements are adopted in the first quarter of fiscal 2001.
80
<PAGE> 82
3. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS:
<TABLE>
<CAPTION>
September 30,
----------------------------
1999 1998
------------ ------------
(Dollars in Thousands)
<S> <C> <C>
Inventories:
Finished products ........................ $ 2,512 $ 4,226
Raw materials ............................ 270 302
------------ ------------
Inventories, at cost ........................ 2,782 4,528
Inventories under exchange agreements ....... 170 35
Stores and supplies ......................... 3,336 3,303
------------ ------------
$ 6,288 $ 7,866
============ ============
Property, plant, and equipment:
Land ..................................... $ 1,465 $ 4,097
Buildings ................................ 27,040 26,820
Plant and equipment ...................... 161,824 154,916
------------ ------------
Property, plant, and equipment, at cost ..... 190,329 185,833
Less accumulated depreciation ............... (62,671) (49,881)
------------ ------------
$ 127,658 $ 135,952
============ ============
Accrued liabilities:
Accrued compensation ..................... $ 2,169 $ 927
Billings in excess of costs incurred ..... 3,135 2,593
Other .................................... 5,934 9,347
------------ ------------
$ 11,238 $ 12,867
============ ============
</TABLE>
4. LONG TERM DEBT
In August 1996, in connection with a recapitalization transaction,
Chemicals allocated $276.8 million of debt to the Company. Principal payments
were allocated to the Company by Chemicals as scheduled principal payments were
made on a basis consistent with the original allocation. In addition, the
Company made payments to Chemicals for application towards the intercompany
allocation of principal, from time to time, out of available cash. Interest
expense is allocated based on the terms of Chemicals' debt agreements. At
September 30, 1999, interest rates ranged from 11.25% to 12.375%. Debt issue
costs relating to long-term debt have been allocated to the Company by Chemicals
on a basis consistent with long-term debt and are included in other assets.
On July 23, 1999, Chemicals completed a private offering of $295,000,000 of
its 12 3/8% Notes due 2006 which were subsequently exchanged for the 12 3/8%
Notes. The 12 3/8% Notes are guaranteed by most of Chemicals' existing direct
and indirect subsidiaries incorporated in the United States, including Sterling
Canada, Inc., Sterling Pulp Chemicals, Inc., and Sterling Pulp Chemicals US,
Inc., on a joint and several basis. Each subsidiary's guarantee ranks equally in
right of payment with all of such subsidiary's existing and future senior
indebtedness and senior in right of payment to all existing and future
subordinated indebtedness of such subsidiary. However, the 12 3/8% Notes and
each subsidiary's guarantee are subordinated to the extent of the collateral
securing Chemicals' new secured revolving credit facilities described below. The
12 3/8% Notes and the subsidiary guarantees are secured by (i) a second priority
lien on all of Chemicals' and the subsidiary guarantors' United States
production facilities and related assets, (ii) a second priority pledge of all
of the capital stock of each subsidiary guarantor, and (iii) a first
81
<PAGE> 83
priority pledge of 65% of the stock of certain of the Chemicals' subsidiaries
incorporated outside of the United States, including Sterling Pulp and Sterling
NRO, Ltd. The proceeds of the offering of the 12 3/8% Notes were used to fully
repay and terminate Chemicals' three outstanding term loans. Upon consummation
of the offering of the 12 3/8% Notes, the debt allocated to the Company by
Chemicals increased to $244.0 million.
In addition, on July 23, 1999, Chemicals established two new secured
revolving credit facilities providing for up to $155,000,000 in revolving credit
loans (the "New Revolvers") under a single Revolving Credit Agreement (the "New
Credit Agreement"). Under the New Credit Agreement, Chemicals and most of its
direct and indirect subsidiaries incorporated in the United States are
co-borrowers and are jointly and severally liable for any indebtedness
thereunder. The New Revolvers consist of (i) a $70,000,000 revolving credit
facility (the "Fixed Assets Revolver") secured by a first priority lien on all
United States production facilities and related assets of Chemicals and the
other co-borrowers, all of the capital stock of Chemicals and the other
co-borrowers and a second priority lien on all accounts receivable, inventory,
and other specified assets of Chemicals and the other co-borrowers, and (ii) an
$85,000,000 revolving credit facility (the "Current Assets Revolver") secured by
a first priority lien on all accounts receivable, inventory, and other specified
assets of Chemicals and the other co-borrowers.
Funding under the 12 3/8% Notes and the New Revolvers occurred on July 23,
1999. The proceeds of the 12 3/8% Notes and the initial borrowings under the New
Revolvers were used to completely repay all outstanding indebtedness under
Chemicals' then existing senior credit facilities.
Approximately $54.6 million was drawn by Chemicals under the Fixed Assets
Revolver at September 30, 1999, of which no amounts were allocated to the
Company. Borrowings under the Fixed Assets Revolver bear interest, at Chemicals'
option, at an annual rate of either the "LIBOR Rate" (as defined in the New
Credit Agreement) plus 3.75% or the "Alternate Base Rate" plus 2.25%. Borrowings
under the Current Assets Revolver bear interest, at Chemicals' option, at an
annual rate of either the LIBOR Rate plus 3.00% or the "Alternate Base Rate"
plus 1.50%. The "Alternate Base Rate" is equal to the greater of the "Base Rate"
as announced from time to time by The Chase Manhattan Bank in New York, New York
or the "Federal Funds Effective Rate" plus 1/2% (as defined in the New Credit
Agreement). The New Credit Agreement also requires Chemicals and the other
co-borrowers to pay an aggregate commitment fee ranging from 0.75% to 1.25% on
the unused portion of the commitment for the Fixed Assets Revolver, depending on
the amount drawn, and an aggregate commitment fee of 0.5% on the unused portion
of the commitment for the Current Assets Revolver. Available credit under the
Current Assets Revolver is subject to a monthly borrowing base consisting of 85%
of eligible accounts receivable and 65% of eligible inventory with an inventory
cap of $42,500,000. In addition, the borrowing base for the Current Assets
Revolver must exceed outstanding borrowings thereunder by $12,000,000 at all
times.
The Fixed Assets Revolver matures on July 23, 2004, with quarterly
commitment reductions totaling 28% of the total commitment in year four and the
balance in year five. The Current Assets Revolver matures on July 23, 2004, with
no scheduled commitment reductions prior to that time. However, the commitments
for each of the Fixed Assets Revolver and the Current Assets Revolver will be
permanently reduced to the extent required under the New Credit Agreement upon
prepayments made out of specific sources of funds, including certain equity
issuances by Holdings and asset sales.
5. INCOME TAXES
The Company is included in the consolidated federal United States tax
return filed by Holdings. The Company's provision (benefit) for United States
income taxes has been allocated as if the Company filed their annual federal
United States tax returns on a separate return basis. As of September 30, 1999
and 1998, $13.1 million and $13.3 million, respectively, of deferred income tax
assets were included in "Due from Affiliates". For the years ended September 30,
1999, 1998, and 1997, the Company recorded $0.2 million, $(2.3) million, and
$(2.1) million, respectively, of United States income tax provision (benefit) in
its provision (benefit) for income taxes.
Canadian deferred income taxes are recorded to reflect the tax consequences
in future years of differences between the tax basis of assets and liabilities
and the financial reporting amounts at each year-end.
82
<PAGE> 84
A reconciliation of the Canadian income taxes to the Canadian effective tax
provision follows:
<TABLE>
<CAPTION>
Year Ended September 30,
--------------------------------------------
1999 1998 1997
------------ ------------ ------------
(Dollars in Thousands)
<S> <C> <C> <C>
Provision for federal income tax at the statutory rate ............... $ 259 $ 1,367 $ 5,798
Provincial income taxes at the statutory rate ........................ 88 563 2,672
Federal and provincial manufacturing and processing tax credits ...... (50) (286) (889)
Other ................................................................ 16 156 600
------------ ------------ ------------
Total Canadian tax provision ......................................... $ 313 $ 1,800 $ 8,181
============ ============ ============
</TABLE>
The provision for Canadian income taxes is composed of the following:
<TABLE>
<CAPTION>
Year Ended September 30,
--------------------------------------------
1999 1998 1997
------------ ------------ ------------
(Dollars in Thousands)
<S> <C> <C> <C>
Current federal ...................................................... $ 2,098 $ 2,852 $ 1,489
Deferred federal ..................................................... (1,859) (1,611) 3,717
Current provincial ................................................... 619 1,427 798
Deferred provincial .................................................. (545) (868) 2,177
------------ ------------ ------------
Total Canadian tax provision ......................................... $ 313 $ 1,800 $ 8,181
============ ============ ============
</TABLE>
The components of the Company's Canadian deferred income tax assets and
liabilities are summarized below:
<TABLE>
<CAPTION>
September 30,
----------------------------
1999 1998
------------ ------------
(Dollars in Thousands)
<S> <C> <C>
Deferred tax assets:
Accrued liabilities ................. $ 318 $ 299
Accrued postretirement cost ......... 1,236 966
Investment tax credits .............. 4,767 6,806
------------ ------------
6,321 8,071
------------ ------------
Deferred tax liabilities:
Property, plant, and equipment ...... (13,593) (14,459)
Other ............................... -- (121)
------------ ------------
(13,593) (14,580)
------------ ------------
Net deferred tax liabilities ........... $ (7,272) $ (6,509)
============ ============
</TABLE>
6. EMPLOYEE BENEFITS
The Company's United States employees participate in various employee
benefit plans of Chemicals. Costs, assets, and liabilities associated with
United States employees participating in these various plans are allocated to
the Company by Chemicals based on the number of employees. In addition, the
Company sponsors various employee benefit plans in Canada.
RETIREMENT BENEFIT PLANS
Chemicals has non-contributory pension plans in the United States which
cover all salaried and wage employees. The benefits under these plans are based
primarily on years of service and employees' pay near retirement. Chemicals'
funding policy is consistent with the funding requirements of federal law and
regulations. Plan assets consist principally of government and corporate
securities. The liability relating to United States employees allocated to the
Company by Chemicals for the retirement benefit plans and included in Due from
Affiliates was $0.4 million and $0.3 million at September 30, 1999 and 1998,
respectively. The total pension expense relating to United States employees
allocated to the Company was $0.1 million, $0.1 million, and $0.2 million for
the years ended September 30, 1999, 1998, and 1997, respectively.
83
<PAGE> 85
The Company has employer and employee contributor plans in Canada which
cover all salaried and wage employees. Information for Canadian benefit plans
concerning the pension obligation, plan assets, amounts recognized in the
Company's financial statements, and underlying actuarial assumptions is stated
below.
<TABLE>
<CAPTION>
August 31,
----------------------------
1999 1998
------------ ------------
(Dollars in Thousands)
<S> <C> <C>
Change in benefit obligation:
Benefit obligation at beginning of year ................. $ 14,577 $ 13,348
Currency rate conversion ................................ 556 (1,314)
Service cost ............................................ 919 748
Interest cost ........................................... 1,112 1,016
Actuarial loss (gain) ................................... (124) 1,008
Benefits paid ........................................... (757) (229)
------------ ------------
Benefit obligation at end of year ....................... $ 16,283 $ 14,577
============ ============
Change in plan assets:
Fair value at beginning of year ......................... $ 13,062 $ 14,859
Currency rate conversion ................................ 498 (1,463)
Actual return on plan assets ............................ 1,858 (882)
Employer contributions .................................. 669 698
Participants' contributions ............................. -- 79
Benefits paid ........................................... (757) (229)
------------ ------------
Fair value at end of year ............................... $ 15,330 $ 13,062
============ ============
Development of net amount recognized:
Funded status ........................................... $ (953) $ (1,515)
Unrecognized cost:
Actuarial loss (gain) ................................ (22) 962
Prior service cost ................................... 333 348
------------ ------------
Net amount recognized ................................... $ (642) $ (205)
============ ============
Amounts recognized in the statement of financial position:
Prepaid pension cost .................................... $ 529 $ 655
Accrued pension cost .................................... (1,198) (1,054)
Intangible asset ........................................ 27 175
Accumulated other comprehensive income .................. -- 19
------------ ------------
Net amount recognized ................................... $ (642) $ (205)
============ ============
</TABLE>
Net periodic pension costs for the Canadian pension plan consist of the
following components:
<TABLE>
<CAPTION>
August 31,
----------------------------------------------
1999 1998 1997
------------ ------------ ------------
(Dollars in Thousands)
<S> <C> <C> <C>
Components of net pension costs:
Service cost-benefits earned during the year ................. $ 919 $ 748 $ 830
Interest on prior year's projected benefit obligation ........ 1,112 1,016 1,127
Expected return on plan assets ............................... (963) (1,092) (1,212)
Net amortization:
Actuarial loss (gain) ..................................... 68 (130) (144)
Prior service cost ........................................ 29 15 16
------------ ------------ ------------
Net pension costs ............................................ $ 1,165 $ 557 $ 617
============ ============ ============
Weighted-average assumptions:
Discount Rate ................................................ 7.5% 7.0% 8.0%
Rates of increase in salary compensation level ............... 4.5% 4.0% 5.0%
Expected long-term rate of return on plan assets ............. 7.5% 7.0% 8.0%
</TABLE>
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<PAGE> 86
POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
Chemicals and the Company provide certain health care benefits and life
insurance benefits for retired employees. Substantially all employees become
eligible for these benefits at normal retirement age. The cost of these benefits
are accrued during the period in which the employee renders the necessary
service.
Health care benefits are provided to employees who retire with ten or more
years of service, excluding Canadian employees covered by collective bargaining
agreements. All employees are eligible for postretirement life insurance.
Postretirement health care benefits for United States plans are
non-contributory. Benefit provisions for most hourly and some salaried employees
are subject to collective bargaining agreements. In general, the plans stipulate
that retiree health care benefits are paid as covered expenses are incurred. The
liability relating to United States employees allocated to the Company by
Chemicals for the postretirement benefits other than pensions and included in
Due from Affiliates was $0.4 million and $0.2 million at September 30, 1999 and
1998, respectively. The total postretirement benefits other than pensions
expense for United States employees allocated to the Company was $0.1 million,
$0.1 million, and $0.1 million for the years ended September 30, 1999, 1998, and
1997, respectively.
Information for Canadian benefit plans concerning the plan obligation, the
funded status, amounts recognized in the Company's financial statements, and
underlying actuarial assumptions is stated below.
<TABLE>
<CAPTION>
August 31,
----------------------------
1999 1998
------------ ------------
(Dollars in Thousands)
<S> <C> <C>
Change in benefit obligation:
Benefit obligation at beginning of year ....... $ 4,306 $ 3,831
Service cost .................................. 307 264
Interest cost ................................. 299 286
Actuarial loss (gain) ......................... -- (50)
Benefits paid ................................. (26) (25)
------------ ------------
Benefit obligation at end of year ............. $ 4,886 $ 4,306
============ ============
Development of net amount recognized:
Funded status ................................. $ (4,886) $ (4,306)
Unrecognized cost:
Actuarial loss (gain) ...................... 637 669
Prior service cost ......................... -- --
------------ ------------
Net amount recognized ......................... $ (4,249) $ (3,637)
============ ============
</TABLE>
Net periodic plan costs for the Canadian postretirement benefit consist of the
following components:
<TABLE>
<CAPTION>
August 31,
--------------------------------------------
1999 1998 1997
------------ ------------ ------------
(Dollars in Thousands)
<S> <C> <C> <C>
Components of net plan costs:
Service cost ............................. $ 307 $ 264 $ 208
Interest cost ............................ 299 286 202
Net amortization of actuarial loss .......... 32 -- --
------------ ------------ ------------
Net plan costs ........................... $ 638 $ 550 $ 410
============ ============ ============
Weighted-average assumptions:
Discount rate ............................ 6.75% 7.5% 7.5%
</TABLE>
The weighted average annual assumed health care trend rate is assumed to be
7.5% for 1999. The rate is assumed to decrease gradually to 5.8% in 2027 and
remain level thereafter. Assumed health care cost trend rates
85
<PAGE> 87
have a significant effect on the amounts reported for the health care plans. A
one-percentage point change in assumed health care trend rates would have the
following effects:
<TABLE>
<CAPTION>
1% 1%
Increase Decrease
--------- ---------
(Dollars in Thousands)
<S> <C> <C>
Effect on total of service and interest cost components ......... $ 33 $ (29)
Effect on post-retirement benefit obligation .................... 230 (200)
</TABLE>
SAVINGS AND INVESTMENT PLAN
Chemicals' Fifth Amended and Restated Savings and Investment Plan (the
"Savings Plan") covers substantially all United States employees of the Company,
including executive officers. The Savings Plan is qualified under Section 401(k)
of the Internal Revenue Code (the "Code"). Each participant has the option to
defer taxation of a portion of his or her earnings by directing the Company to
contribute a percentage of such earnings to the Savings Plan. A participant may
direct up to a maximum of 15% of eligible earnings to the Savings Plan, subject
to certain limitations set forth in the Code for "highly compensated"
participants. A participant's contributions become distributable upon the
termination of his or her employment. The Company does not make any
contributions to the Savings Plan.
PROFIT SHARING PLANS
In January 1997, the Board of Directors of Holdings, upon recommendation of
its Compensation Committee, approved the establishment of a Profit Sharing Plan
that is designed to benefit all qualified employees, and a Bonus Plan that will
provide bonuses to exempt salaried employees depending on the annual financial
performance of Holdings.
No expenses for profit sharing or bonuses were incurred by Holdings or
allocated to the Company in fiscal 1999, 1998, or 1997.
PHANTOM STOCK PLAN
The Company introduced a phantom stock plan to all eligible full-time
Canadian employees. The effective date of the plan was August 21, 1996. At the
end of each plan year, the plan administrator establishes a "determined
percentage" for the preceding plan year. This percentage is then multiplied be
each participant's compensation for the plan year to determine the award amount.
The award amount is then divided be the fair market value of one share of the
common stock of Holdings, as of December 31 of that plan year, to determine the
number of rights to be credited to participants. Upon termination of employment,
the benefit amount becomes payable to the participant. The benefit amount will
be the number of vested rights in the participant's account, multiplied by the
fair market value of one share of common stock of Holdings as of the most recent
valuation date.
The Company has recorded expense of $248,000, $238,000, and $346,000
related to the phantom stock plan for the years ended September 30, 1999, 1998,
or 1997.
7. COMMITMENTS AND CONTINGENCIES
LEASE COMMITMENTS
The Company has entered into various long-term non-cancelable operating
leases. Future minimum lease commitments at September 30, 1999 are as follows:
fiscal 2000 - $4.4 million; fiscal 2001 - $4.1 million; fiscal 2002 - $4.1
million; fiscal 2003 - $3.9 million; fiscal 2004 - $3.7 million; and - $7.6
million thereafter.
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<PAGE> 88
ENVIRONMENTAL AND SAFETY MATTERS
The Company's operations involve the handling, production, transportation,
treatment, and disposal of materials that are classified as hazardous or toxic
waste and that are extensively regulated by environmental and health and safety
laws and regulations. Environmental permits required for the Company's
operations are subject to periodic renewal and can be revoked or modified for
cause or when new or revised environmental requirements are implemented.
Changing and increasingly strict environmental requirements can affect the
manufacturing, handling, processing, distribution, and use of the Company's
products and, if so, the Company's business and operations may be materially and
adversely affected. In addition, changes in affected environmental requirements
can cause the Company to incur substantial costs in upgrading or redesigning its
facilities and processes, including waste treatment, storage, disposal, and
other waste handling practices and equipment.
The Company conducts environmental management programs designed to maintain
compliance with applicable environmental requirements at all of its facilities.
The Company routinely conducts inspection and surveillance programs designed to
detect and respond to leaks or spills of regulated hazardous substances and to
correct identified regulatory deficiencies. The Company believes that its
procedures for waste handling are consistent with industry standards and
applicable requirements. In addition, the Company believes that its operations
are consistent with good industry practice through participation in the
Responsible Care initiatives as a part of membership in the Chemical
Manufacturers Association in the United States and the Canadian Chemical
Producers Association. However, a business risk inherent in chemical operations
is the potential for personal injury and property damage claims from employees,
contractors and their employees, and nearby landowners and occupants. While the
Company believes that its business operations and facilities generally are
operated in compliance in all material respects with applicable environmental
and health and safety requirements, there can be no assurance that past
practices and future operations will not result in material claims or regulatory
action, require material environmental expenditures, or result in exposure or
injury claims by employees, contractors and their employees, or the public. Some
risk of environmental costs and liabilities is inherent in the operations and
products of the Company, as it is with other companies engaged in similar
businesses. In addition, a catastrophic event at any of the Company's facilities
could result in liabilities to the Company substantially in excess of its
insurance coverages.
Any significant ban on all chlorine containing compounds could have a
materially adverse effect on the Company's financial condition and results of
operations. British Columbia has a regulation in place requiring elimination of
the use of all chlorine products, including chlorine dioxide, in the bleaching
process by the year 2002. Chlorine dioxide is produced from sodium chlorate,
which is the Company's primary pulp chemical product. The pulp and paper
industry believes that a ban of chlorine dioxide in the bleaching process will
yield no measurable environmental or public health benefit and is working to
change this regulation but there can be no assurance that the regulation will be
changed. In the event such a regulation is implemented, the Company would seek
to sell the products it manufactures at its British Columbia facility to
customers in other markets. The Company is not aware of any other laws or
regulations in place in North America which would restrict the use of such
products for other purposes.
LEGAL PROCEEDINGS
The Company is subject to claims and legal actions that arise in the
ordinary course of its business. The Company believes that the ultimate
liability, if any, with respect to these claims and legal actions will not have
a material adverse effect on the financial position or results of operations of
the Company.
PLEDGE OF COMMON STOCK
In order to secure the repayment of indebtedness under the Fixed Assets
Revolver, a first priority pledge of 100% of the common stock of each of the
United States entities included in these financial statements was granted by the
holders of such stock.
In order to secure the repayment of the 12 3/8% Notes, a second priority
pledge of 100% of the common stock of each of the United States entities
included in these financial statements was granted by the holders of such stock.
In addition, a first priority pledge of 65% of the common stock of each of the
non-United States entities included in these financial statements was given by
the holders of such stock.
87
<PAGE> 89
8. FINANCIAL INSTRUMENTS
FOREIGN EXCHANGE
The Company may enter into forward foreign exchange contracts to hedge
Canadian dollar currency transactions on a continuing basis for periods
consistent with its committed exposures. The forward foreign exchange contracts
have varying maturities with none exceeding 18 months. The Company makes net
settlements of United States dollars for Canadian dollars at rates agreed to at
inception of the contracts.
The Company may also enter into forward foreign exchange contracts to
reduce risk due to Canadian dollar exchange rate movements. The Company does not
engage in currency speculation. The Company had a notional amount of
approximately $6 million and $54 million of forward foreign exchange contracts
outstanding to buy Canadian dollars at September 30, 1999 and 1998,
respectively. The deferred loss on these forward foreign exchange contracts at
September 30, 1999 and 1998 was $0.3 million and $4.7 million, respectively. The
last of the Company's existing forward exchange contracts expires in March of
2000, and it does not currently intend to enter into any additional forward
exchange contracts.
CONCENTRATION OF RISK
The Company sells its products primarily to companies involved in the pulp
and paper manufacturing industries. The Company performs ongoing credit
evaluations of its customers and generally does not require collateral for
accounts receivable. However, letters of credit are required by the Company on
many of its export sales. Historically, the Company's credit losses have been
minimal.
The Company maintains cash deposits with major banks, which from time to
time may exceed federally insured limits. The Company periodically assesses the
financial condition of these institutions and believes that the possibility of
any loss is minimal.
Approximately 36% of the Company's employees are covered by union
agreements. Approximately 23% of the Company's employees are covered by union
agreements which could expire within one year.
INVESTMENTS
Not more than $5 million may be invested by the Company with any single
bank, financial institution, or United States corporation. It is the policy of
the Company to invest its excess cash in investment instruments or securities
whose value is not subject to market fluctuations, such as certificates of
deposit, repurchase agreements, or Eurodollar deposits with domestic or foreign
banks or other financial institutions. Other permitted investments include
commercial paper of major United States corporations with ratings of A1 by
Standard & Poor's Ratings Group or P1 by Moody's Investor Services, Inc., loan
participations of major United States corporations with a short term credit
rating of A1/P1, and direct obligations of the United States Government or its
agencies.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts reflected in the consolidated balance sheet for cash
and cash equivalents, receivables, payables, and certain accrued expenses
approximate fair value due to short maturities. Based on the Company's allocated
portion of Chemicals' debt at September 30, 1999, the carrying value was $244.0
million and the fair value was $174.3 million.
88
<PAGE> 90
INDEPENDENT AUDITORS' REPORT
To the Stockholder of
Sterling Canada, Inc.
We have audited the accompanying consolidated balance sheets of Sterling Canada,
Inc. (the "Company") as of September 30, 1999 and 1998, and the related
consolidated statements of operations, changes in stockholder's equity, and cash
flows for each of the three years in the period ended September 30, 1999. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of the Company as of September 30,
1999 and 1998, and the results of its operations and its cash flows for each of
the three years in the period ended September 30, 1999, in conformity with
generally accepted accounting principles.
DELOITTE & TOUCHE LLP
Houston, Texas
December 9, 1999
89
<PAGE> 91
STERLING FIBERS, INC.
STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
--------------------------------------
1999 1998 1997
---------- ---------- ----------
<S> <C> <C> <C>
Revenues ............................................... $ 66,580 $ 99,424 $ 90,905
Cost of goods sold ..................................... 62,650 85,441 77,354
---------- ---------- ----------
Gross profit ........................................... 3,930 13,983 13,551
Selling, general, and administrative expenses .......... 9,209 11,939 8,391
Interest and debt related expenses ..................... 9,070 7,556 5,710
---------- ---------- ----------
Net loss before income taxes ........................... (14,349) (5,512) (550)
Benefit for income taxes ............................... (4,018) (1,984) (176)
---------- ---------- ----------
Net loss ............................................... $ (10,331) $ (3,528) $ (374)
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
90
<PAGE> 92
STERLING FIBERS, INC.
BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
SEPTEMBER 30,
----------------------------
1999 1998
------------ ------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ................................................... $ 735 $ 521
Accounts receivable ......................................................... 11,796 10,891
Inventories ................................................................. 22,919 24,666
Prepaid expenses ............................................................ 78 --
------------ ------------
Total current assets ...................................................... 35,528 36,078
Property, plant, and equipment, net ............................................ 69,219 71,225
Other assets ................................................................... 2,582 2,110
------------ ------------
Total assets .............................................................. $ 107,329 $ 109,413
============ ============
LIABILITIES AND STOCKHOLDER'S EQUITY (DEFICIENCY IN ASSETS)
Current liabilities:
Accounts payable ............................................................ $ 8,912 $ 6,794
Accrued liabilities ......................................................... 5,870 3,524
Total current liabilities ................................................. 14,782 10,318
Long-term debt due to parent ................................................... 77,751 73,846
Due to affiliates .............................................................. 17,390 17,512
Deferred credits and other liabilities ......................................... 2,300 2,300
Commitments and contingencies (Note 7) ......................................... -- --
Stockholder's equity (deficiency in assets):
Common stock ................................................................ -- --
Additional paid-in capital .................................................. 9,339 9,339
Accumulated deficit ......................................................... (14,233) (3,902)
------------ ------------
Total stockholder's equity (deficiency in assets) ......................... (4,894) 5,437
------------ ------------
Total liabilities and stockholder's equity (deficiency in assets) ...... $ 107,329 $ 109,413
============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
91
<PAGE> 93
STERLING FIBERS, INC.
STATEMENTS OF
CHANGES IN STOCKHOLDER'S EQUITY (DEFICIENCY IN ASSETS)
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
ADDITIONAL
COMMON PAID-IN ACCUMULATED
STOCK CAPITAL DEFICIT
---------- ---------- -----------
<S> <C> <C> <C>
Balance, September 30, 1996 ................. $ -- $ -- $ --
Acquisition of acrylic fibers business ...... -- 9,339 --
Net loss .................................... -- -- (374)
---------- ---------- ----------
Balance, September 30, 1997 ................. -- 9,339 (374)
Net loss .................................... -- -- (3,528)
---------- ---------- ----------
Balance, September 30, 1998 ................. -- 9,339 (3,902)
Net loss .................................... -- -- (10,331)
---------- ---------- ----------
Balance, September 30, 1999 ................. $ -- $ 9,339 $ (14,233)
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
92
<PAGE> 94
STERLING FIBERS, INC.
STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
--------------------------------------
1999 1998 1997
---------- ---------- ----------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss............................................................................. $ (10,331) $ (3,528) $ (374)
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization .................................................... 5,793 5,431 3,303
Change in assets/liabilities:
Accounts receivable .............................................................. (905) 8,740 2,756
Inventories ...................................................................... 1,747 1,641 (2,949)
Prepaid expenses ................................................................. (192) (589) 790
Due to affiliates ................................................................ (122) 2,686 8,703
Other assets ..................................................................... (743) 227 711
Accounts payable ................................................................. 2,118 (5,201) (1,806)
Accrued liabilities .............................................................. 2,460 (2,110) 358
Other liabilities ................................................................ -- -- (5,430)
---------- ---------- ----------
Net cash flows provided by (used in) operating activities ........................... (175) 7,297 6,062
---------- ---------- ----------
Cash flows used in investing activities -
Capital expenditures ............................................................. (3,516) (4,510) (5,174)
---------- ---------- ----------
Cash flows from financing activities -
Net change in long-term debt due to Parent ....................................... 3,905 (2,570) (584)
---------- ---------- ----------
Net increase in cash and cash equivalents ........................................... 214 217 304
Cash and cash equivalents--beginning of year ........................................ 521 304 0
---------- ---------- ----------
Cash and cash equivalents--end of year............................................... $ 735 $ 521 $ 304
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
93
<PAGE> 95
STERLING FIBERS, INC.
NOTES TO COMBINED FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
Sterling Fibers, Inc. (the "Company") manufactures acrylic fibers in a
plant near Pensacola, Florida (the "Santa Rosa Plant"). The Company produces
regular textiles, specialty textiles, and technical fibers at the Santa Rosa
Plant. The Company is a wholly-owned subsidiary of Sterling Chemicals, Inc.
("Chemicals"), which is a wholly owned subsidiary of Sterling Chemicals
Holdings, Inc. ("Holdings").
On January 31, 1997, the Company acquired its business, including the Santa
Rosa plant and several associated marketing and research offices, from Cytec
Industries Inc. and certain of its affiliates (collectively, "Cytec"). On the
same day, Sterling Chemicals International, Inc., an affiliate of the Company,
acquired all of Cytec's intellectual property related to this business. The
Company recorded sales of approximately $91 million during the eight months of
operations in fiscal 1997. The Company is one of two acrylic fibers
manufacturers in the United States. Cytec supplies acrylonitrile to the Company
through a five-year supply agreement ending in 2002. The acquisition was
financed through borrowings under a new $81 million term loan bank facility by
Chemicals, the issuance of $10 million (liquidation value) of Series A "pay in
kind" preferred stock of Holdings ("Series A Preferred") to Cytec, and the sale
of $10 million of Holdings' common stock in a private placement. At the
acquisition date, $72 million of the bank was allocated to the Company as
long-term debt due to Chemicals and amounts raised from the issuance of
Holdings' common stock was recorded as contributed capital. Chemicals used the
purchase method to account for the acquisition and operating results of the
Company began on February 1, 1997.
The following table presents the unaudited pro forma results of operations
of the Company as if the Company had acquired its business from Cytec on October
1, 1996. The pro forma results have been prepared for comparative purposes only
and do not purport to be indicative of what would have occurred had the
acquisition been made at the beginning of fiscal 1997 or of results which may
occur in the future (in thousands).
<TABLE>
<CAPTION>
PRO FORMA
TWELVE MONTHS
ENDED
SEPTEMBER 30,
1997
--------------
<S> <C>
Revenues............................... $ 135,405
Net loss............................... $ (2,337)
</TABLE>
Under SEC rules, specified information is required to be provided with
respect to subsidiaries of an issuer of debt securities whose capital stock is
pledged to secure the repayment of those debt securities. On July 23, 1999,
Chemicals completed a private offering of $295,000,000 of its 12 3/8% Senior
Secured Notes due 2006. On November 5, 1999, Chemicals completed a registered
exchange offer, pursuant to which all of these 12 3/8% Notes were exchanged for
publicly registered 12 3/8% Notes with substantially similar terms (the "12 3/8%
Notes"). The 12 3/8% Notes are guaranteed by the Company and all of Chemicals'
other existing direct and indirect subsidiaries incorporated in the United
States (other than Sterling Chemicals Acquisitions, Inc.) on a joint and several
basis and are secured by, among other things, a second priority pledge of 100%
of the stock of these subsidiaries. In order to comply with these SEC rules, the
financial statements and footnotes of Sterling Fibers, Inc. are presented.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The significant accounting policies of the Company are described below.
CASH EQUIVALENTS
The Company considers all investments purchased with a remaining maturity
of three months or less to be cash equivalents.
94
<PAGE> 96
INVENTORIES
Inventories are stated at the lower of cost or market. Cost is primarily
determined on the first-in, first-out basis, except for stores and supplies,
which are valued at average cost.
PROPERTY, PLANT, AND EQUIPMENT
Property, plant, and equipment are recorded at cost. Major renewals and
improvements, which extend the useful lives of the equipment, are capitalized.
Major planned maintenance expenses are accrued for during the periods prior to
the maintenance, while routine repair and maintenance expenses are charged to
operations as incurred. Disposals are removed at carrying cost less accumulated
depreciation with any resulting gain or loss reflected in operations.
Depreciation is provided using the straight-line method over estimated useful
lives ranging from 5 to 25 years with the predominant life of the plant and
equipment being 15 years.
IMPAIRMENT OF LONG-LIVED ASSETS
Impairment tests of long-lived assets are made when conditions indicate
their carrying cost may not be recoverable. Such impairment tests are based on a
comparison of undiscounted future cash flows or the market value of similar
assets to the carrying cost of the asset. If an impairment is indicated, the
asset value is written down to its estimated fair value.
INCOME TAXES
The Company is included in the consolidated United States federal income
tax return filed by Holdings. The Company's provision (benefit) for income taxes
has been allocated by Holdings as if the Company filed its annual tax returns on
a separate return basis.
REVENUE RECOGNITION
The Company generates revenues through sales in the open market and
recognizes these revenues as the products are shipped.
EARNINGS PER SHARE
All issued and outstanding shares are held directly by Chemicals and,
accordingly, earnings per share information is not presented.
ENVIRONMENTAL COSTS
Environmental costs are expensed unless the expenditures extend the
economic useful life of the assets. Costs that extend the economic life of the
assets are capitalized and depreciated over the remaining life of such assets.
Liabilities are recorded when environmental assessments and/or remedial efforts
are probable and the cost can be reasonably estimated.
DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
In preparing disclosures about the fair value of financial instruments, the
Company has assumed that the carrying amount approximates fair value for cash
and cash equivalents, receivables, accounts payable, and certain accrued
expenses due to the short maturities of those instruments. The fair values of
long-term debt instruments due to Chemicals are estimated based upon quoted
market values (if applicable) of debt allocated to the Company by Chemicals or
on the current interest rates available for debt with similar terms and
remaining maturities. Considerable judgment is required in developing these
estimates and, accordingly, no assurance can be given that the estimated values
presented herein are indicative of the amounts that would be realized in a free
market exchange.
95
<PAGE> 97
ACCOUNTING ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the reported
periods. Significant estimates include environmental reserves and taxes. Actual
results could differ from these estimates.
ALLOCATIONS
The Company is wholly owned by Chemicals, which incurs certain direct and
indirect expenses for the benefit and support of the Company. These services
include, among others, tax planning, treasury, legal, risk management, and the
maintenance of insurance coverage for the Company. Chemicals allocated $1.3
million, $1.6 million, and $1.0 million of such expenses to the Company in
fiscal years 1999, 1998, and 1997, respectively, which are included in selling,
general, and administrative expenses. Allocations are based on the Company's
proportionate share of the respective amount and are determined primarily on
revenue. In addition, the Company is dependent on Chemicals for financing.
NEW ACCOUNTING STANDARDS
Effective October 1, 1998, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income," which
established standards for reporting and displaying of comprehensive income and
its components. There were no differences between comprehensive loss and net
loss for the Company for the years ended September 30, 1999, 1998, and 1997.
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," and No. 138, "Accounting for Certain Derivative Instruments and
Certain Hedging Activities", establish accounting and reporting standards for
derivative instruments, including certain derivative instruments embedded in
other contracts, and for hedging activities. The Company is currently evaluating
the accounting impact and disclosures that will be required when these
statements are adopted in the first quarter of fiscal 2001.
3. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS:
<TABLE>
<CAPTION>
SEPTEMBER 30,
--------------------
1999 1998
-------- --------
(Dollars in Thousands)
<S> <C> <C>
Inventories:
Finished products ......................... $ 15,000 $ 16,338
Raw materials ............................. 1,965 2,545
-------- --------
Inventories at cost ............................ 16,965 18,883
Stores and supplies ....................... 5,954 5,783
-------- --------
$ 22,919 $ 24,666
======== ========
Property, plant, and equipment:
Land ...................................... $ 1,343 $ 1,343
Buildings ................................. 7,878 7,800
Plant and equipment ....................... 66,491 65,070
Construction in progress .................. 7,287 5,296
-------- --------
Property, plant, and equipment at cost .... 82,999 79,509
Less: accumulated depreciation ............ (13,780) (8,284)
-------- --------
$ 69,219 $ 71,225
======== ========
Accrued liabilities:
Accrued compensation ...................... $ 2,819 $ 1,890
Accrued property taxes .................... 569 652
Accrued insurance ......................... 945 982
Other ..................................... 1,537 --
-------- --------
$ 5,870 $ 3,524
======== ========
</TABLE>
96
<PAGE> 98
4. LONG-TERM DEBT
Chemicals incurred $81 million in bank debt to finance, in part, the
acquisition of the acrylic fibers business from Cytec and allocated $77 million
of this amount to the Company. Principal payments were allocated to the Company
by Chemicals as scheduled principal payments were made on a basis consistent
with the original allocation. Interest expense was allocated based on the terms
of Chemicals' credit agreement. At September 30, 1999, interest rates ranged
from 11.25% to 12.375% in connection with the refinancing of Chemicals' debt.
Debt issue costs relating to long-term debt have been allocated to the Company
by Chemicals on a basis consistent with long-term debt and are included in other
assets.
On July 23, 1999, Chemicals completed a private offering of $295,000,000 of
its 12 3/8% Notes due 2006 which were subsequently exchanged for the 12 3/8%
Notes. The 123/8% Notes are guaranteed by the Company and all of Chemicals'
other existing direct and indirect subsidiaries incorporated in the United
States (other than Sterling Chemicals Acquisitions, Inc.) on a joint and several
basis. Each subsidiary's guarantee ranks equally in right of payment with all of
such subsidiary's existing and future senior indebtedness and senior in right of
payment to all existing and future subordinated indebtedness of such subsidiary.
However, the 12 3/8% Notes and each subsidiary's guarantee are subordinated to
the extent of the collateral securing Chemicals' new secured revolving credit
facilities described below. The 12 3/8% Notes and the subsidiary guarantees are
secured by (i) a second priority lien on all of Chemicals' and the subsidiary
guarantors' United States production facilities and related assets, (ii) a
second priority pledge of all of the capital stock of each subsidiary guarantor,
and (iii) a first priority pledge of 65% of the stock of certain of the
Chemicals' subsidiaries incorporated outside of the United States. The proceeds
of the offering of the 12 3/8% Notes were used to fully repay and terminate
Chemicals' then outstanding term loans. Upon consummation of the offering of the
12 3/8% Notes, the debt allocated to the Company by Chemicals increased to $77.8
million.
In addition, on July 23, 1999, Chemicals established two new secured
revolving credit facilities providing for up to $155,000,000 in revolving credit
loans (the "New Revolvers") under a single Revolving Credit Agreement (the "New
Credit Agreement"). Under the New Credit Agreement, Chemicals and most of its
direct and indirect subsidiaries incorporated in the United States, including
the Company, are co-borrowers and are jointly and severally liable for any
indebtedness thereunder. The New Revolvers consist of (i) a $70,000,000
revolving credit facility (the "Fixed Assets Revolver") secured by a first
priority lien on all United States production facilities and related assets of
Chemicals and the other co-borrowers, all of the capital stock of Chemicals and
the other co-borrowers and a second priority lien on all accounts receivable,
inventory, and other specified assets of Chemicals and the other co-borrowers,
and (ii) an $85,000,000 revolving credit facility (the "Current Assets
Revolver") secured by a first priority lien on all accounts receivable,
inventory, and other specified assets of Chemicals and the other co-borrowers.
Funding under the 12 3/8% Notes and the New Revolvers occurred on July 23,
1999. The proceeds of the 12 3/8% Notes and the initial borrowings under the New
Revolvers were used to completely repay all outstanding indebtedness under
Chemicals then existing senior credit facilities.
Approximately $54.6 million was drawn by Chemicals under the Fixed Assets
Revolver at September 30, 1999, of which no amounts were allocated to the
Company. Borrowings under the Fixed Assets Revolver bear interest, at Chemicals'
option, at an annual rate of either the "LIBOR Rate" (as defined in the New
Credit Agreement) plus 3.75% or the "Alternate Base Rate" plus 2.25%. Borrowings
under the Current Assets Revolver bear interest, at Chemicals' option, at an
annual rate of either the LIBOR Rate plus 3.00% or the "Alternate Base Rate"
plus 1.50%. The "Alternate Base Rate" is equal to the greater of the "Base Rate"
as announced from time to time by The Chase Manhattan Bank in New York, New York
or the "Federal Funds Effective Rate" plus 1/2% (as defined in the New Credit
Agreement). The New Credit Agreement also requires Chemicals and the other
co-borrowers to pay an aggregate commitment fee ranging from 0.75% to 1.25% on
the unused portion of the commitment for the Fixed Assets Revolver, depending on
the amount drawn, and an aggregate commitment fee of 0.5% on the unused portion
of the commitment for the Current Assets Revolver. Available credit under the
Current Assets Revolver is subject to a monthly borrowing base consisting of 85%
of eligible accounts receivable and 65% of eligible inventory with an inventory
cap of $42,500,000. In addition, the borrowing base for the Current Assets
Revolver must exceed outstanding borrowings thereunder by $12,000,000 at all
times.
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<PAGE> 99
The Fixed Assets Revolver matures on July 23, 2004, with quarterly
commitment reductions totaling 28% of the total commitment in year four and the
balance in year five. The Current Assets Revolver matures on July 23, 2004, with
no scheduled commitment reductions prior to that time. However, the commitments
for each of the Fixed Assets Revolver and the Current Assets Revolver will be
permanently reduced to the extent required under the New Credit Agreement upon
prepayments made out of specific sources of funds, including certain equity
issuances by Holdings and asset sales.
5. INCOME TAXES
The Company is included in the consolidated federal tax return filed by
Holdings. The Company's provision (benefit) for income taxes has been allocated
as if the Company filed their annual federal tax returns on a separate return
basis. As of September 30, 1999 and 1998, $1.2 million and $(2.8) million,
respectively, of deferred income tax assets (liabilities) were included in "Due
to Affiliates". For the years ended September 30, 1999, 1998, and 1997, the
Company recorded $4.0 million, $2.0 million, and $0.2 million, respectively, of
income tax benefit in its provision (benefit) for income taxes.
6. EMPLOYEE BENEFITS
The Company's employees participate in various employee benefit plans of
Chemicals. Costs, assets, and liabilities associated with employees
participating in these various plans are allocated to the Company by Chemicals
based on the number of employees.
RETIREMENT BENEFIT PLANS
Chemicals has non-contributory pension plans which cover all salaried and
wage employees. The benefits under these plans are based primarily on years of
service and employees' pay near retirement. Chemicals' funding policy is
consistent with the funding requirements of federal law and regulations. Plan
assets consist principally of government and corporate securities. The liability
allocated to the Company by Chemicals for the retirement benefit plans and
included in Due to Affiliates was $3.2 million and $2.2 million at September 30,
1999 and 1998, respectively. The total pension expense allocated to the Company
was $1.0 million, $1.0 million, and $0.8 million for the years ended September
30, 1999, 1998, and 1997, respectively.
POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
Chemicals and the Company provide certain health care benefits and life
insurance benefits for retired employees. Substantially all employees become
eligible for these benefits at normal retirement age. The cost of these benefits
are accrued during the period in which the employee renders the necessary
service.
All employees are eligible for postretirement life insurance.
Postretirement health care benefits are non-contributory. In general, the plans
stipulate that retiree health care benefits are paid as covered expenses are
incurred. The liability allocated to the Company by Chemicals for the
postretirement benefits other than pensions and included in Due to Affiliates
was $6.9 million and $7.0 million at September 30, 1999 and 1998, respectively.
The total postretirement benefits other than pensions expense allocated to the
Company was $0.7 million, $0.7 million, and $0.7 million for the years ended
September 30, 1999, 1998, and 1997, respectively. In addition, a curtailment
gain of $0.8 million was allocated during fiscal 1999 related to the reduction
of postretirement life insurance benefits for currently active employees.
SAVINGS AND INVESTMENT PLAN
Chemicals' Fifth Amended and Restated Savings and Investment Plan (the
"Savings Plan") covers substantially all employees of the Company, including
executive officers. The Savings Plan is qualified under Section 401(k) of the
Internal Revenue Code (the "Code"). Each participant has the option to defer
taxation of a portion of his or her earnings by directing the Company to
contribute a percentage of such earnings to the Savings Plan. A participant may
direct up to a maximum of 15% of eligible earnings to the Savings Plan, subject
to certain limitations set forth in the Code for "highly compensated"
participants. A participant's contributions become distributable upon the
termination of his or her employment. The Company does not make any
contributions to the Savings Plan.
98
<PAGE> 100
PROFIT SHARING AND BONUS PLANS
In January 1997, the Board of Directors of Holdings, upon recommendation of
its Compensation Committee, approved the establishment of a Profit Sharing Plan
that is designed to benefit all qualified employees, and a Bonus Plan that will
provide bonuses to exempt salaried employees depending on the annual financial
performance of Holdings.
No expenses for profit sharing or bonuses were incurred by Chemicals or
allocated to the Company in fiscal 1999, 1998, or 1997.
7. COMMITMENTS AND CONTINGENCIES
LEASE COMMITMENTS
The Company has entered into various long-term non-cancelable operating
leases. Future minimum lease commitments at September 30, 1999 are as follows:
fiscal 2000 -- $0.1 million; fiscal 2001 -- $0.1 million; and thereafter $0.
ENVIRONMENTAL AND SAFETY MATTERS
The Company's operations involve the handling, production, transportation,
treatment, and disposal of materials that are classified as hazardous or toxic
waste and that are extensively regulated by environmental and health and safety
laws and regulations. Environmental permits required for the Company's
operations are subject to periodic renewal and can be revoked or modified for
cause or when new or revised environmental requirements are implemented.
Changing and increasingly strict environmental requirements can affect the
manufacturing, handling, processing, distribution, and use of the Company's
products and, if so, the Company's business and operations may be materially and
adversely affected. In addition, changes in the affected environmental
requirements can cause the Company to incur substantial costs in upgrading or
redesigning its facilities and processes, including waste treatment, storage,
disposal, and other waste handling practices and equipment.
The Company conducts environmental management programs designed to maintain
compliance with applicable environmental requirements at all of its facilities.
The Company routinely conducts inspection and surveillance programs designed to
detect and respond to leaks or spills of regulated hazardous substances and to
correct identified regulatory deficiencies. The Company believes that its
procedures for waste handling are consistent with industry standards and
applicable requirements. In addition, the Company believes that its operations
are consistent with good industry practice through participation in the
Responsible Care initiatives as a part of membership in the Chemical
Manufacturers Association. However, a business risk inherent in chemical
operations is the potential for personal injury and property damage claims from
employees, contractors and their employees, and nearby landowners and occupants.
While the Company believes that its business operations and facilities generally
are operated in compliance in all material respects with applicable
environmental and health and safety requirements, there can be no assurance that
past practices and future operations will not result in material claims or
regulatory action, require material environmental expenditures, or result in
exposure or injury claims by employees, contractors and their employees, or the
public. Some risk of environmental costs and liabilities is inherent in the
operations and products of the Company, as it is with other companies engaged in
similar businesses. In addition, a catastrophic event at the Company's facility
could result in liabilities to the Company substantially in excess of its
insurance coverages.
LEGAL PROCEEDINGS
The Company is subject to claims and legal actions that arise in the
ordinary course of its business. The Company believes that the ultimate
liability, if any, with respect to these claims and legal actions will not have
a material adverse effect on the financial position or results of operations of
the Company.
99
<PAGE> 101
PLEDGE OF COMMON STOCK
In order to secure the repayment of indebtedness under the Fixed Assets
Revolver, a first priority pledge of 100% of the common stock of the Company was
granted by the holders of such stock.
In order to secure the repayment of the 12 3/8% Notes, a second priority
pledge of 100% of the common stock of the Company was granted by the holders of
such stock.
8. FINANCIAL INSTRUMENTS
CONCENTRATION OF RISK
The Company sells its products primarily to companies involved in the
textiles industry. The Company performs ongoing credit evaluations of its
customers and generally does not require collateral for accounts receivable.
However, letters of credit are required by the Company on many of its export
sales. Historically, the Company's credit losses have been minimal.
The Company maintains cash deposits with major banks, which from time to
time may exceed federally insured limits. The Company periodically assesses the
financial condition of these institutions and believes that the possibility of
any loss is minimal.
None of the Company's employees are covered by union agreements.
INVESTMENTS
Not more than $5 million may be invested by the Company with any single
bank, financial institution, or United States corporation. It is the policy of
the Company to invest its excess cash in investment instruments or securities
whose value is not subject to market fluctuations, such as certificates of
deposit, repurchase agreements, or Eurodollar deposits with domestic or foreign
banks or other financial institutions. Other permitted investments include
commercial paper of major United States corporations with ratings of A1 by
Standard & Poor's Ratings Group or P1 by Moody's Investor Services, Inc., loan
participations of major United States corporations with a short term credit
rating of A1/P1, and direct obligations of the United States Government or its
agencies.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts reflected in the consolidated balance sheet for cash
and cash equivalents, receivables, payables, and certain accrued expenses
approximate fair value due to short maturities. Based on the Company's allocated
portion of Chemicals' debt at September 30, 1999, the carrying value was $77.8
million and the fair value was $69.0 million.
100
<PAGE> 102
INDEPENDENT AUDITORS' REPORT
To the Stockholder of
Sterling Fibers, Inc.
We have audited the accompanying balance sheets of Sterling Fibers, Inc. (the
"Company") as of September 30, 1999 and 1998, and the related statements of
operations, changes in stockholder's equity (deficiency in assets), and cash
flows for each of the three years in the period ended September 30, 1999. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such financial statements present fairly, in all material
respects, the financial position of the Company as of September 30, 1999 and
1998, and the results of its operations and its cash flows for each of the three
years in the period ended September 30, 1999, in conformity with generally
accepted accounting principles.
DELOITTE & TOUCHE LLP
Houston, Texas
December 9, 1999
101
<PAGE> 103
STERLING CHEMICALS ENERGY, INC.
STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
--------------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Revenues .............................. $ 1,763 $ 1,894 $ 1,806
Cost of goods sold .................... 1,763 1,894 1,806
-------- -------- --------
Gross profit .......................... -- -- --
Interest and debt related expenses .... 2,866 2,708 2,622
-------- -------- --------
Loss before income taxes .............. (2,866) (2,708) (2,622)
Benefit for income taxes .............. 803 976 840
Equity in earnings of joint venture ... 2,549 1,871 2,217
-------- -------- --------
Net income ............................ $ 486 $ 139 $ 435
======== ======== ========
</TABLE>
The accompanying notes are an integral part of these financial statements.
102
<PAGE> 104
STERLING CHEMICALS ENERGY, INC.
BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
SEPTEMBER 30,
-------------------
1999 1998
-------- --------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents .......................... $ -- $ --
Accounts receivable ................................ 101 179
-------- --------
Total current assets ............................. 101 179
Property, plant, and equipment, net ................... 4,815 5,568
Due from affiliates ................................... 24,721 23,937
Investment in joint venture ........................... 3,539 3,021
-------- --------
Total assets ..................................... $ 33,176 $ 32,705
======== ========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Accounts payable ................................... $ 1,535 $ 1,550
-------- --------
Total current liabilities ........................ 1,535 1,550
Long-term debt due to parent .......................... 25,934 25,934
Commitments and contingencies (Note 6) ................ -- --
Stockholder's equity:
Common stock ....................................... 1 1
Retained earnings .................................. 5,706 5,220
-------- --------
Total stockholder's equity ....................... 5,707 5,221
-------- --------
Total liabilities and stockholder's equity .... $ 33,176 $ 32,705
======== ========
</TABLE>
The accompanying notes are an integral part of these financial statements.
103
<PAGE> 105
STERLING CHEMICALS ENERGY, INC.
STATEMENTS OF
CHANGES IN STOCKHOLDER'S EQUITY
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
COMMON RETAINED
STOCK EARNINGS
-------- ----------
<S> <C> <C>
Balance, September 30, 1996.............. $ 1 $ 4,646
Net income............................ -- 435
-------- ----------
Balance, September 30, 1997.............. 1 5,081
Net income............................ -- 139
-------- ----------
Balance, September 30, 1998.............. 1 5,220
Net income............................ -- 486
-------- ----------
Balance, September 30, 1999.............. $ 1 $ 5,706
======== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
104
<PAGE> 106
STERLING CHEMICALS ENERGY, INC.
STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
--------------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income ............................................................... $ 486 $ 139 $ 435
Adjustments to reconcile net income to net cash provided by operating
activities:
Depreciation and amortization ......................................... 698 698 698
Undistributed earnings from joint venture ............................. (204) (668) (21)
Change in assets/liabilities:
Accounts receivable ................................................... 78 91 (99)
Due from affiliates ................................................... (784) (119) (1,165)
Other assets .......................................................... (259) 127 149
Accounts payable ...................................................... (15) (268) 3
-------- -------- --------
Net cash flows provided by operating activities .......................... -- -- --
-------- -------- --------
Net increase (decrease) in cash and cash equivalents ..................... -- -- --
Cash and cash equivalents--beginning of year ............................. -- -- --
-------- -------- --------
Cash and cash equivalents--end of year ................................... $ -- $ -- $ --
======== ======== ========
</TABLE>
The accompanying notes are an integral part of these financial statements.
105
<PAGE> 107
STERLING CHEMICALS ENERGY, INC.
NOTES TO FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION AND DESCRIPTION OF BUSINESS
Sterling Chemicals Energy, Inc. (the "Company") owns and operates a turbo
generator that produces electricity which is sold to the Company's parent,
Sterling Chemicals, Inc. ("Chemicals"). The Company also owns a 50% general
partnership interest in a joint venture cogeneration facility ("S&L Cogeneration
Company") with Praxair Energy Resources, Inc. owning the other 50% interest. The
cogeneration facility produces electricity and steam which is sold to Chemicals.
The assets of the Company and S&L Cogeneration Company are located in Texas
City, Texas on leased property adjacent to Chemicals' production facility.
On July 23, 1999, Chemicals completed a private offering of $295,000,000
of its 12 3/8% Senior Secured Notes due 2006. On November 5, 1999, Chemicals
completed a registered exchange offer, pursuant to which all of these 12 3/8%
Notes were exchanged for publicly registered 12 3/8% Notes with substantially
similar terms (the "12 3/8% Notes"). The 12 3/8% Notes are guaranteed by the
Company and all of Chemicals' other existing direct and indirect subsidiaries
incorporated in the United States (other than Sterling Chemicals Acquisitions,
Inc.) on a joint and several basis and are secured by, among other things, a
second priority pledge of 100% of the stock of these subsidiaries.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The significant accounting policies of the Company are described below.
INVESTMENT IN JOINT VENTURE
The Company's investment in the cogeneration joint venture is accounted for
under the equity method with the Company's share of operating results of the
joint venture recorded in its Statement of Operations.
CASH EQUIVALENTS
The Company considers all investments purchased with a remaining maturity
of three months or less to be cash equivalents.
PROPERTY, PLANT, AND EQUIPMENT
Property, plant, and equipment are recorded at cost. Major renewals and
improvements, which extend the useful lives of the equipment, are capitalized.
Depreciation is provided using the straight-line method over estimated useful
lives with the predominant life of the plant and equipment being 15 years.
INCOME TAXES
The Company is included in the consolidated federal income tax return filed
by Holdings. The Company's provision (benefit) for income taxes has been
allocated by Holdings as if the Company filed its annual tax returns on a
separate return basis.
REVENUE RECOGNITION
The Company recognizes revenues from sales of electricity and steam to
Chemicals as they are delivered.
EARNINGS PER SHARE
All issued and outstanding shares of the Company are held directly by
Chemicals and, accordingly, earnings per share information is not presented.
106
<PAGE> 108
DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
In preparing disclosures about the fair value of financial instruments, the
Company has assumed that the carrying amount approximates fair value for
receivables and accounts payable due to the short maturities of those
instruments. The fair values of long-term debt instruments are estimated based
upon quoted market values (if applicable) of the debt allocated to the Company
by Chemicals or on the current interest rates available for debt with similar
terms and remaining maturities. Considerable judgment is required in developing
these estimates and, accordingly, no assurance can be given that the estimated
values presented herein are indicative of the amounts that would be realized in
a free market exchange.
ACCOUNTING ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the reported
periods. Actual results could differ from these estimates.
NEW ACCOUNTING STANDARDS
Effective October 1, 1998, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income," which
established standards for reporting and displaying of comprehensive income.
There were no differences between comprehensive income and net income for the
Company for the years ended September 30, 1999, 1998, and 1997.
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," and No. 138, "Accounting for Certain Derivative Instruments and
Certain Hedging Activities", establish accounting and reporting standards for
derivative instruments, including certain derivative instruments embedded in
other contracts, and for hedging activities. The Company is currently evaluating
the accounting impact and disclosures that will be required when these
statements are adopted in the first quarter of fiscal 2001.
3. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS
<TABLE>
<CAPTION>
SEPTEMBER 30,
------------------------
1999 1998
---------- ----------
(Dollars in Thousands)
<S> <C> <C>
Property, plant, and equipment:
Plant and equipment at cost .................. $ 7,529 $ 7,252
Less: accumulated depreciation ............... (2,714) (1,684)
---------- ----------
$ 4,815 $ 5,568
========== ==========
</TABLE>
4. LONG-TERM DEBT
In August 1996, in connection with a recapitalization transaction,
Chemicals allocated $25.9 million of debt to the Company. Principal payments
were allocated to the Company by Chemicals as scheduled principal payments were
made on a basis consistent with the original allocation. In addition, the
Company makes principal payments, from time to time, out of available cash.
Interest expense is allocated based on the terms of Chemicals' debt agreements.
At September 30, 1999, the weighted average interest rate on long-term debt was
11.7%.
On July 23, 1999, Chemicals completed a private offering of $295,000,000 of
its 12 3/8% Notes due 2006 which were subsequently exchanged for the 12 3/8%
Notes. The 12 3/8% Notes are guaranteed by the Company and all of Chemicals'
other existing direct and indirect subsidiaries incorporated in the United
States (other than Sterling Chemicals Acquisitions, Inc.) on a joint and several
basis. Each subsidiary's guarantee ranks equally in right of payment with all of
such subsidiary's existing and future senior indebtedness and senior in right of
payment to all existing and future subordinated indebtedness of such subsidiary.
However, the 12 3/8% Notes and each subsidiary's guarantee are subordinated to
the extent of the collateral securing Chemicals' new secured revolving credit
facilities described below. The 12 3/8% Notes and the subsidiary guarantees are
secured by (i) a second priority lien on all of Chemicals' and the subsidiary
guarantors' United States production facilities and related assets, (ii) a
second
107
<PAGE> 109
priority pledge of all of the capital stock of each subsidiary guarantor, and
(iii) a first priority pledge of 65% of the stock of certain of the Chemicals'
subsidiaries incorporated outside of the United States. The proceeds of the
offering of the 12 3/8% Notes were used to fully repay and terminate Chemicals'
then outstanding term loans.
In addition, on July 23, 1999, Chemicals established two new secured
revolving credit facilities providing for up to $155,000,000 in revolving credit
loans (the "New Revolvers") under a single Revolving Credit Agreement (the "New
Credit Agreement"). Under the New Credit Agreement, Chemicals and most of its
direct and indirect subsidiaries incorporated in the United States, including
the Company, are co-borrowers and are jointly and severally liable for any
indebtedness thereunder. The New Revolvers consist of (i) a $70,000,000
revolving credit facility (the "Fixed Assets Revolver") secured by a first
priority lien on all United States production facilities and related assets of
Chemicals and other co-borrowers, all of the capital stock of Chemicals and the
other co-borrowers and a second priority lien on all accounts receivable,
inventory, and other specified assets of Chemicals and the other co-borrowers,
and (ii) an $85,000,000 revolving credit facility (the "Current Assets
Revolver") secured by a first priority lien on all accounts receivable,
inventory, and other specified assets of Chemicals and the other co-borrowers.
Funding under the 12 3/8% Notes and the New Revolvers occurred on July 23,
1999. The proceeds of the 12 3/8% Notes and the initial borrowings under the New
Revolvers were used to completely repay all outstanding indebtedness under
Chemicals then existing senior credit facilities.
Approximately $54.6 million was drawn by Chemicals under the Fixed Assets
Revolver at September 30, 1999, of which no amounts were allocated to the
Company. Borrowings under the Fixed Assets Revolver bear interest, at Chemicals'
option, at an annual rate of either the "LIBOR Rate" (as defined in the New
Credit Agreement) plus 3.75% or the "Alternate Base Rate" plus 2.25%. Borrowings
under the Current Assets Revolver bear interest, at Chemicals' option, at an
annual rate of either the LIBOR Rate plus 3.00% or the "Alternate Base Rate"
plus 1.50%. The "Alternate Base Rate" is equal to the greater of the "Base Rate"
as announced from time to time by The Chase Manhattan Bank in New York, New York
or the "Federal Funds Effective Rate" plus 1/2% (as defined in the New Credit
Agreement). The New Credit Agreement also requires Chemicals and the other
co-borrowers to pay an aggregate commitment fee ranging from 0.75% to 1.25% on
the unused portion of the commitment for the Fixed Assets Revolver, depending on
the amount drawn, and an aggregate commitment fee of 0.5% on the unused portion
of the commitment for the Current Assets Revolver. Available credit under the
Current Assets Revolver is subject to a monthly borrowing base consisting of 85%
of eligible accounts receivable and 65% of eligible inventory with an inventory
cap of $42,500,000. In addition, the borrowing base for the Current Assets
Revolver must exceed outstanding borrowings thereunder by $12,000,000 at all
times.
The Fixed Assets Revolver matures on July 23, 2004, with quarterly
commitment reductions totaling 28% of the total commitment in year four and the
balance in year five. The Current Assets Revolver matures on July 23, 2004, with
no scheduled commitment reductions prior to that time. However, the commitments
for each of the Fixed Assets Revolver and the Current Assets Revolver will be
permanently reduced to the extent required under the New Credit Agreement upon
prepayments made out of specific sources of funds, including certain equity
issuances by Holdings and asset sales.
5. INCOME TAXES
The Company is included in the consolidated federal tax return filed by
Holdings. The Company's provision (benefit) for income taxes has been allocated
as if the Company filed its annual federal tax returns on a separate return
basis. As of September 30, 1999 and 1998, $ 2.6 million and $2.4 million,
respectively, of deferred income tax liabilities were included in "Due from
Affiliates". For the years ended September 30, 1999, 1998, and 1997, the Company
recorded $0.1 million, $(0.1) million, and $0.2 million, respectively, of income
tax provision (benefit).
108
<PAGE> 110
6. COMMITMENTS AND CONTINGENCIES
LEGAL PROCEEDINGS
The Company is subject to claims and legal actions that arise in the
ordinary course of its business. The Company believes that the ultimate
liability, if any, with respect to these claims and legal actions will not have
a material adverse effect on the financial position or results of operations of
the Company.
PLEDGE OF COMMON STOCK
In order to secure the repayment of indebtedness under the Fixed Assets
Revolver, a first priority pledge of 100% of the common stock of the Company was
granted by the holders of such stock.
In order to secure the repayment of the 12 3/8% Notes, a second priority
pledge of 100% of the common stock of the Company was granted by the holders of
such stock.
7. FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts reflected in the balance sheet for receivables and
payables approximate fair value due to short maturities. Based on the Company's
allocated portion of Chemicals' debt at September 30, 1999, the carrying value
was $25.9 million and the fair value was $19.7 million.
8. INVESTMENT IN JOINT VENTURE
The amounts included in the Company's financial statements for S&L
Cogeneration Company represent amounts reported by S&L Cogeneration Company
for periods end three months later. Accordingly, amounts included in the
Company's financial statements represent the amounts reported by S&L
Cogeneration Company for the twelve-month periods end December 31, 1999, 1998,
and 1997. Summarized financial information reported by S&L Cogeneration
Company for such periods is:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------
1999 1998 1997
---------- ---------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
Revenues........................................ $ 21,227 $ 20,016 $ 21,801
Net income...................................... 4,910 5,751 4,604
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
1999 1998
---------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C>
Total assets $ 17,307 $ 18,504
</TABLE>
109
<PAGE> 111
INDEPENDENT AUDITORS' REPORT
To the Stockholder of
Sterling Chemicals Energy, Inc.
We have audited the accompanying balance sheets of Sterling Chemicals Energy,
Inc. (the "Company") as of September 30, 1999 and 1998, and the related
statements of operations, changes in stockholder's equity, and cash flows for
each of the three years in the period ended September 30, 1999. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such financial statements present fairly, in all material
respects, the financial position of the Company as of September 30, 1999 and
1998, and the results of its operations and its cash flows for each of the three
years in the period ended September 30, 1999, in conformity with accounting
principles generally accepted in the United States of America.
DELOITTE & TOUCHE LLP
Houston, Texas
December 9, 1999 (September 29, 2000 as to Note 8)
110
<PAGE> 112
STERLING CHEMICALS HOLDINGS, INC.
SUPPLEMENTAL FINANCIAL INFORMATION
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
QUARTERLY FINANCIAL DATA (UNAUDITED)
<TABLE>
<CAPTION>
FISCAL FIRST SECOND THIRD FOURTH
YEAR QUARTER QUARTER QUARTER QUARTER
------ --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Revenues 1999 $ 171,929 $ 152,472 $ 181,729 $ 214,622
1998 230,236 204,504 205,414 182,436
Gross Profit 1999 16,717 4,312 12,198 4,931
1998 19,299 11,359 22,528 24,081
Loss before extraordinary item(1) 1999 (13,100) (24,820) (16,415) (51,482)
1998 (10,145) (16,288) (13,118) (6,568)
Net loss(1) 1999 (13,100) (24,820) (16,415) (55,694)
1998 (10,145) (16,288) (13,118) (6,568)
Per Share Data:
Loss before extraordinary item 1999 $ (1.11) $ (1.96) $ (1.37) $ (4.15)
1998 (0.91) (1.37) (1.13) (0.60)
Net loss attributable to common stockholders 1999 (1.11) (1.96) (1.37) (4.49)
1998 (0.91) (1.37) (1.13) (0.60)
</TABLE>
(1) During the first and third quarters of fiscal 1999, the Company recorded
$2.3 million and $1.7 million, respectively, of expense related to workforce
reductions in the petrochemicals and pulp chemicals businesses. In addition,
during the second quarter of fiscal 1999, the Company recorded a one-time
non-cash pretax charge of $6.8 million related to early retirement programs and
benefit changes. During the fourth quarter of fiscal 1999, the Company recorded
a $4.2 million after-tax ($6.5 million pre-tax) extraordinary item related to
unamortized debt issue costs as a result of the prepayment of certain term
loans. The Company also recorded non-cash expense related to the impairment of
its methanol production assets of $26.4 million in the fourth quarter of fiscal
1999. During the second and third quarters of fiscal 1998, the Company recorded
$3.0 million and $3.0 million, respectively, of expense related to voluntary
severance programs offered by the Company at the Company's Texas City plant.
111
<PAGE> 113
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrants have duly caused this report to be signed
on their behalf by the undersigned, thereunto duly authorized.
STERLING CHEMICALS HOLDINGS, INC.
STERLING CHEMICALS, INC.
(Registrants)
Date: November 22, 2000 /s/ FRANK P. DIASSI
----------------------------------------
Frank P. Diassi
Chairman of the Board of Directors
(Principal Executive Officer)
Date: November 22, 2000 /s/ GARY M. SPITZ
----------------------------------------
Gary M. Spitz
Executive Vice President-Finance and
Chief Financial Officer
(Principal Financial Officer)
<PAGE> 114
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<S> <C>
23.1 Consent of Independent Auditors
</TABLE>
