UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
--------------------------
FORM 10-Q
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2005
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 1-13612
CONGOLEUM CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 02-0398678
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
3500 Quakerbridge Road
P.O. Box 3127
Mercerville, NJ 08619-0127
(Address of principal executive offices, including zip code)
(609) 584-3000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities 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 whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). YES |_| NO |X|
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act). YES |_| NO |X|
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Class Outstanding at October 31, 2005
----------------------------- --------------------------------
Class A Common Stock 3,662,790
Class B Common Stock 4,608,945
1
CONGOLEUM CORPORATION
Index
Page
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements:
Consolidated Balance Sheets as of September 30, 2005
(unaudited) and December 31, 2004.................................... 3
Condensed Consolidated Statements of Operations for the Three
and Nine Months ended September 30, 2005 and 2004 (unaudited)........ 4
Condensed Consolidated Statements of Cash Flows for the Nine Months
ended September 30, 2005 and 2004 (unaudited)........................ 5
Notes to Unaudited Condensed Consolidated Financial Statements
(unaudited).......................................................... 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................... 27
Item 3. Quantitative and Qualitative Disclosures About Market Risk.......... 40
Item 4. Controls and Procedures............................................. 41
PART II. OTHER INFORMATION
Item 1. Legal Proceedings................................................... 42
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds......... 42
Item 3. Defaults Upon Senior Securities..................................... 42
Item 4. Submission of Matters to a Vote of Security Holders................. 42
Item 5. Other Information................................................... 42
Item 6. Exhibits............................................................ 43
Signature.................................................................... 44
2
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets
(In thousands, except per share amounts)
September 30, December 31,
2005 2004
(unaudited)
-------------------------------------------------------------------------------------------------------------------
ASSETS
Current assets:
Cash and cash equivalents ............................................................ $ 17,658 $ 29,710
Restricted cash ...................................................................... 11,334 15,682
Accounts receivable, less allowances of $1,509 and $1,174 as of September 30, 2005
and December 31, 2004, respectively ............................................... 26,159 17,621
Inventories .......................................................................... 37,065 39,623
Prepaid expenses and other current assets ............................................ 7,302 5,124
Deferred income taxes ................................................................ 10,678 10,678
-------------------------------------------------------------------------------------------------------------------
Total current assets ............................................................ 110,196 118,438
Property, plant, and equipment, net .................................................... 75,107 79,550
Other assets, net ...................................................................... 14,642 14,894
-------------------------------------------------------------------------------------------------------------------
Total assets .................................................................... $ 199,945 $ 212,882
-------------------------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable ..................................................................... $ 9,583 $ 10,296
Accrued liabilities .................................................................. 22,694 26,395
Asbestos-related liabilities ......................................................... 18,771 21,079
Revolving credit loan ................................................................ 12,595 9,500
Accrued taxes ........................................................................ 1,282 1,670
Liabilities subject to compromise - current ............................................ 21,377 14,225
-------------------------------------------------------------------------------------------------------------------
Total current liabilities ....................................................... 86,302 83,165
Asbestos-related
liabilities ............................................................................ 2,738 2,738
Deferred income taxes .................................................................. 10,678 10,678
Liabilities subject to compromise - long term .......................................... 135,841 137,290
-------------------------------------------------------------------------------------------------------------------
Total liabilities ............................................................... 235,559 233,871
-------------------------------------------------------------------------------------------------------------------
STOCKHOLDERS' EQUITY (DEFICIT)
Class A common stock, par value $0.01; 20,000,000 shares authorized; 4,736,950
shares issued and 3,652,190 shares outstanding as of September 30, 2005 and
December 31, 2004 ................................................................... 47 47
Class B common stock, par value $0.01; 4,608,945 shares authorized, issued and
outstanding at September 30, 2005 and December 31, 2004 ............................. 46 46
Additional paid-in capital ............................................................. 49,106 49,106
Retained deficit ....................................................................... (58,455) (43,830)
Accumulated other comprehensive loss ................................................... (18,545) (18,545)
--------- ---------
(27,801) (13,176)
Less Class A common stock held in treasury, at cost; 1,085,760 shares at
September 30, 2005 and December 31, 2004 ............................................ 7,813 7,813
-------------------------------------------------------------------------------------------------------------------
Total stockholders' equity (deficit) .............................................. (35,614) (20,989)
--------- ---------
-------------------------------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity ........................................ $ 199,945 $ 212,882
-------------------------------------------------------------------------------------------------------------------
The accompanying notes are an integral part of the
condensed consolidated financial statements.
3
CONGOLEUM CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
--------------------- -----------------------
2005 2004 2005 2004
(In thousands, except per share amounts)
Net sales ..................................... $ 60,507 $ 58,871 $ 176,245 $ 173,822
Cost of sales ................................. 47,270 41,812 135,577 126,326
Selling, general and administrative expenses .. 10,556 12,959 48,416 37,961
-------- -------- --------- ---------
Income (loss) from operations .............. 2,681 4,100 (7,748) 9,535
Other income (expense):
Interest income ............................ 91 26 273 26
Interest expense ........................... (2,670) (2,417) (7,788) (6,976)
Other income ............................... 223 212 638 877
-------- -------- --------- ---------
Income (loss) before taxes ................. 325 1,921 (14,625) 3,462
Provision for income taxes .................... -- 768 -- 1,384
-------- -------- --------- ---------
Net income (loss) ............................. $ 325 $ 1,153 $ (14,625) $ 2,078
======== ======== ========= =========
Net income (loss) per common share, basic ..... $ 0.04 $ 0.14 $ (1.77) $ 0.25
======== ======== ========= =========
Net income (loss) per common share, diluted ... $ 0.04 $ 0.13 $ (1.77) $ 0.25
======== ======== ========= =========
Weighted average number of common shares
outstanding, basic ........................ 8,261 8,260 8,261 8,260
======== ======== ========= =========
Weighted average number of common shares
outstanding, diluted ...................... 8,642 8,583 8,261 8,422
======== ======== ========= =========
The accompanying notes are an integral part of the
condensed consolidated financial statements.
4
CONGOLEUM CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended
September 30,
----------------------
2005 2004
(In thousands)
Cash flows from operating activities:
Net (loss) income ......................................................... $(14,625) $ 2,078
Adjustments to reconcile net (loss) income to net cash (used in)
provided by operating activities:
Depreciation ........................................................... 8,083 8,126
Amortization ........................................................... 288 419
Asbestos-related charge ................................................ 15,454 --
Deferred income taxes .................................................. -- 550
Changes in certain assets and liabilities:
Accounts receivable ................................................ (8,538) (5,009)
Inventories ........................................................ 2,558 1,899
Prepaid expenses and other assets .................................. 577 3,498
Accounts payable ................................................... (712) 8,990
Accrued expenses ................................................... 3,415 14,526
Asbestos-related expenses .......................................... (20,819) (4,500)
Asbestos-related expense reimbursements from insurance settlement .. 6,091 --
Other liabilities .................................................. (1,838) 504
-------- --------
Net cash (used in) provided by operating activities ............. (10,066) 31,081
-------- --------
Cash flows from investing activities:
Capital expenditures ................................................... (3,640) (2,246)
Proceeds from asset retirement ......................................... -- 30
-------- --------
Net cash used in investing activities ........................... (3,640) (2,216)
Cash flows from financing activities:
Net short-term borrowings .............................................. 3,095 (1,594)
Net change in restricted cash .......................................... (1,441) (1,854)
-------- --------
Net cash provided by financing activities ....................... 1,654 (3,448)
-------- --------
Net (decrease) increase in cash and cash equivalents ......................... (12,052) 25,417
Cash and cash equivalents:
Beginning of period ....................................................... 29,710 2,169
-------- --------
End of period ............................................................. $ 17,658 $ 27,586
======== ========
The accompanying notes are an integral part of the
condensed consolidated financial statements.
5
CONGOLEUM CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2005
(Unaudited)
1. Basis of Presentation
The accompanying unaudited condensed consolidated financial statements
have been prepared in accordance with accounting principles generally accepted
in the United States for interim financial information and with Rule 10-01 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by accounting principles generally accepted in the United
States for complete financial statements. In the opinion of management, all
adjustments (consisting of normal and recurring adjustments as well as
provisions to effect its plan to settle asbestos liability) considered necessary
for a fair presentation of Congoleum Corporation's (the "Company" or
"Congoleum") condensed consolidated financial position, results of operations
and cash flows have been included. Operating results for the three and nine
months period ended September 30, 2005 are not necessarily indicative of the
results that may be expected for the year ending December 31, 2005. For further
information, refer to the consolidated financial statements and related
footnotes included in the Company's Annual Report on Form 10-K for the year
ended December 31, 2004.
Based upon the nature of the Company's operations, facilities and
management structure, the Company considers its business to constitute a single
segment for financial reporting purposes.
Certain amounts appearing in the prior period's condensed consolidated
financial statements have been reclassified to conform to the current period's
presentation.
The financial statements of Congoleum have been prepared on a going
concern basis, which contemplates the realization of assets and the satisfaction
of liabilities in the normal course of business. Accordingly, the financial
statements do not include any adjustments that might be necessary should the
Company be unable to continue as a going concern. As described more fully below
and in Note 6 of the Notes to Unaudited Condensed Consolidated Financial
Statements, there is substantial doubt about the Company's ability to continue
as a going concern unless it obtains relief from its substantial asbestos
liabilities through a successful reorganization under Chapter 11 of the United
States Bankruptcy Code (the "Bankruptcy Code").
On December 31, 2003, Congoleum filed a voluntary petition with the United
States Bankruptcy Court for the District of New Jersey (the "Bankruptcy Court")
(Case No. 03-51524) seeking relief under Chapter 11 of the Bankruptcy Code as a
means to resolve claims asserted against it related to the use of asbestos in
its products decades ago. During 2003, Congoleum obtained the requisite votes of
asbestos personal injury claimants necessary to seek approval of a proposed,
pre-packaged Chapter 11 plan of reorganization. In January 2004, the Company
filed its proposed plan of reorganization and disclosure statement with the
Bankruptcy Court. In November 2004, Congoleum filed a modified plan of
reorganization and related documents with the Bankruptcy Court reflecting the
result of further negotiations with representatives of the Asbestos Claimants'
Committee, the Future Claimants' Representative and other asbestos claimant
representatives. The Bankruptcy Court approved the disclosure statement and plan
voting procedures in December 2004 and Congoleum obtained the requisite votes of
asbestos personal injury claimants necessary to seek approval of the modified
6
plan. In April 2005, Congoleum announced that it had reached an agreement in
principle with representatives of the Asbestos Claimants' Committee and the
Future Claimants' Representative to make certain modifications to its proposed
plan of reorganization and related documents governing the settlement and
payment of asbestos-related claims against Congoleum. Under the agreed-upon
modifications, asbestos claimants with claims settled under Congoleum's
pre-petition settlement agreements would agree to forbear from exercising the
security interest they were granted and share on a pari passu basis with all
other present and future asbestos claimants in insurance proceeds and other
assets of the trust to be formed upon confirmation of the plan under Section
524(g) of the Bankruptcy Code (the "Plan Trust") to pay asbestos claims against
Congoleum. In July 2005, Congoleum filed an amended plan of reorganization (the
"Sixth Plan") and related documents with the Bankruptcy Court which reflected
the result of these negotiations, as well as other technical modifications. The
Bankruptcy Court approved the disclosure statement and voting procedures and
Congoleum commenced solicitation of acceptances of the Sixth Plan in August
2005. In September 2005, Congoleum learned that certain asbestos claimants were
unwilling to agree to forbear from exercising their security interest as
contemplated by the Sixth Plan. In October 2005, Congoleum sought and obtained
an extension of the voting deadline to December 14, 2005 to allow time to
address this issue. Congoleum is presently in negotiations with these claimants,
as well as other constituencies, to determine the modifications of the Sixth
Plan and other steps that may be appropriate for the implementation of the plan.
The Bankruptcy Court has given Congoleum permission to file a new amended plan
and disclosure statement by December 2, 2005. On November 7, 2005, the
Bankruptcy Court denied a request to extend Congoleum's exclusive right to file
a plan of reorganization and solicit acceptances thereof. The Bankruptcy Court
ruled that other parties may file proposed reorganization plans by December 2,
2005. It is unclear whether any person other than Congoleum will attempt to
propose a plan or what any such plan would provide or propose.
There can be no assurance that the Company will finalize the terms of a
new amended plan by that date, that the Company will receive the acceptances
necessary for confirmation of a new amended plan of reorganization, that a new
amended plan will not be modified further, that a new amended plan will receive
necessary court approvals from the Bankruptcy Court or the Federal District
Court, or that such approvals will be received in a timely fashion, that a new
amended plan will be confirmed, or that a new amended plan, if confirmed, will
become effective.
Congoleum is presently involved in litigation with certain insurance
carriers related to disputed insurance coverage for asbestos related
liabilities, and certain insurance carriers filed various objections to
Congoleum's previously proposed plans of reorganization and related matters and
may file objections to any new amended plan. Certain other parties have also
filed various objections to Congoleum's previously proposed plans of
reorganization and may file objections to any new amended plan.
Although the terms of a new amended plan have not been determined, the
Company is negotiating amendments and modifications with reference to the terms
of the Sixth Plan. Any descriptions of the Sixth Plan provided in these Notes to
Unaudited Condensed Consolidated Financial Statements are provided to assist the
reader in understanding the basis from which any further amended plan may be
negotiated. There can be no assurance that the terms of any new amended plan
will not materially differ from the terms of the Sixth Plan or that Congoleum
will reach agreement on a new amended plan on or before December 2, 2005.
7
The Sixth Plan would leave the Company's non-asbestos creditors
unimpaired and would resolve all pending and future asbestos claims against the
Company. The Sixth Plan provides, among other things, for an assignment of
certain rights in, and proceeds of, Congoleum's applicable insurance to the Plan
Trust that would fund the settlement of all pending and future asbestos claims
and protect the Company from future asbestos-related litigation by channeling
all asbestos claims to the Plan Trust under Section 524(g) of the Bankruptcy
Code. The Bankruptcy Court has authorized the Company to pay its trade creditors
in the ordinary course of business. The Company expects that it will take until
some time in the second or third quarter of 2006 at the earliest to obtain
confirmation of any new amended plan of reorganization.
Based on the Sixth Plan, the Company has made provision in its financial
statements for the minimum amount of the range of estimates for its contribution
to effect its plan to settle asbestos liabilities through the Plan Trust. The
Company recorded charges aggregating approximately $26 million in prior years
and a further approximately $15.5 million in the second quarter of 2005, to
provide for the estimated minimum costs of completing its reorganization given
the revised timeline then assumed in the second quarter of 2005 for anticipated
confirmation and as based on the Sixth Plan. The Company is not yet able to
determine the additional costs that may be required to effect a new amended
plan, and actual amounts that will be contributed to the Plan Trust and costs
for pursuing and implementing any plan of reorganization could be materially
higher than currently recorded. Delays in proposing, filing and obtaining
approval of any new amended plan of reorganization could result in a proceeding
that takes longer and is more costly than the Company has estimated. The Company
may record significant additional charges should the minimum estimated cost
increase.
For more information regarding the Company's asbestos liability and plan
for resolving that liability, please refer to Note 6 of the Notes to Unaudited
Condensed Consolidated Financial Statements.
AICPA Statement of Position 90-7, "Financial Reporting by Entities in
Reorganization under the Bankruptcy Code" ("SOP 90-7") provides financial
reporting guidance for entities that are reorganizing under the Bankruptcy Code.
The Company implemented this guidance in consolidated financial statements for
periods after December 31, 2003.
Pursuant to SOP 90-7, companies are required to segregate pre-petition
liabilities that are subject to compromise and report them separately on the
balance sheet. Liabilities that may be affected by a plan of reorganization are
recorded at the amount of the expected allowed claims, even if they may be
settled for lesser amounts. Substantially all of the Company's liabilities at
December 31, 2003 have been reclassified as liabilities subject to compromise.
Obligations arising post-petition, and pre-petition obligations that are
secured, are not classified as liabilities subject to compromise.
Additional pre-petition claims (liabilities subject to compromise) may
arise due to the rejection of executory contracts or unexpired leases, or as a
result of the allowance of contingent or disputed claims.
8
2. Recent Accounting Principles:
Stock Based Compensation
In December 2004, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 123 (revised 2004), Share-Based Payment. SFAS No. 123(R) replaces SFAS
No. 123, Accounting for Stock-Based Compensation, supersedes APB Opinion No. 25,
Accounting for Stock Issued to Employees and amends SFAS No. 95, Statement of
Cash Flows. SFAS No. 123(R) requires all share-based payments to employees,
including grants of employee stock options, to be recognized in the financial
statements based on their fair values. Pro forma disclosure is no longer an
alternative to financial statement recognition. SFAS No. 123(R) was originally
effective for public companies at the beginning of the first interim or annual
period beginning after June 15, 2005. In April 2005, the Securities and Exchange
Commission ("SEC") provided for a phased-in implementation process for public
companies. Based on the Company's year end of December 31, the Company must
adopt SFAS No. 123(R) on January 1, 2006.
SFAS No. 123(R) allows for either prospective recognition of compensation
expense or retrospective recognition, which may be back to the original issuance
of SFAS No. 123 or only to interim periods in the year of adoption. The Company
is currently evaluating these transition methods and determining the effect on
the Company's consolidated results of operations and whether the adoption will
result in amounts that are similar to the current pro forma disclosures under
SFAS No. 123. For 2005, the Company will continue to disclose stock-based
compensation information in accordance with FASB Statement No. 148 ("SFAS 148"),
"Accounting for Stock-Based Compensation--Transition and Disclosure--an
Amendment of FASB Statement No. 123," and Statement No. 123 ("SFAS 123"),
"Accounting for Stock-Based Compensation."
A reconciliation of consolidated net income (loss), as reported, to pro
forma consolidated net income (loss) including compensation expense for the
Company's stock-based plans as calculated based on the fair value at the grant
dates for awards made under these plans in accordance with the provisions of
SFAS 123 as amended by SFAS 148, as well as a comparison of as reported and pro
forma basic and diluted earnings per share, follows:
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
2005 2004 2005 2004
---------- ---------- ---------- ----------
(Dollars in thousands, except per share amounts)
Net income (loss):
As reported $ 325 $ 1,153 $ (14,625) $ 2,078
Deduct: Total stock-based employee
compensation expense determined
under fair value based method for
all awards, net of related tax effects (59) (57) (173) (161)
---------- ---------- ---------- ----------
As adjusted $ 266 $ 1,096 $ (14,798) $ 1,917
========== ========== ========== ==========
Net ncome (loss) per share:
As reported basic $ .04 $ 0.14 $ (1.77) $ 0.25
Pro forma compensation expense (.01) (0.01) (.02) (0.02)
---------- ---------- ---------- ----------
Pro forma basic $ .03 $ 0.13 $ (1.79) $ 0.23
========== ========== ========== ==========
Net Income / (Loss) per share:
As reported diluted $ 0.04 $ 0.13 $ (1.77) $ 0.25
Pro forma compensation expense (0.01) (0.01) (0.02) (0.02)
---------- ---------- ---------- ----------
As adjusted diluted $ 0.03 $ 0.12 $ (1.79) $ 0.23
========== ========== ========== ==========
9
3. Inventories
A summary of the major components of inventories is as follows (in
thousands):
September 30, December 31,
2005 2004
------------- ------------
Finished goods $ 28,126 $ 32,811
Work-in-process 2,041 1,415
Raw materials and supplies 6,898 5,397
-----------------------------------------------------------------
Total inventories $ 37,065 $ 39,623
-----------------------------------------------------------------
4. Income / (Loss) Per Share
Basic net income (loss) per share is calculated by dividing net income
(loss) by the weighted average number of common shares outstanding during the
period. Diluted net income (loss) per share is calculated by dividing net income
(loss) by the weighted average number of shares of common stock and common stock
equivalents outstanding during the period, unless their effect is anti-dilutive.
5. Environmental and Other Liabilities
The Company records a liability for environmental remediation claims when
a cleanup program or claim payment becomes probable and the costs can be
reasonably estimated. As assessments and cleanup programs progress, these
liabilities are adjusted based upon the progress in determining the timing and
extent of remedial actions and the related costs and damages. The recorded
liabilities, totaling $4.6 million at September 30, 2005 and at December 31,
2004, are not reduced by the amount of insurance recoveries. Such estimated
insurance recoveries approximated $2.1 million at September 30, 2005 and at
December 31, 2004, and are reflected in other noncurrent assets and are
considered probable of recovery.
10
The Company is named, together with a large number (in most cases,
hundreds) of other companies, as a potentially responsible party ("PRP") in
pending proceedings under the federal Comprehensive Environmental Response,
Compensation and Liability Act, as amended ("CERCLA"), and similar state laws.
In addition, in four other instances, although not named as a PRP, the Company
has received a request for information. The pending proceedings relate to eight
disposal sites in New Jersey, Pennsylvania, and Maryland in which recovery from
generators of hazardous substances is sought for the cost of cleaning up the
contaminated waste sites. The Company's ultimate liability and funding
obligations in connection with those sites depends on many factors, including
the volume of material contributed to the site, the number of other PRPs and
their financial viability, the remediation methods and technology to be used and
the extent to which costs may be recoverable from insurance. However, under
CERCLA, and certain other laws, the Company as a PRP, can be held jointly and
severally liable for all environmental costs associated with a site.
The most significant exposure to which the Company has been named a PRP
relates to a recycling facility site in Elkton, Maryland. The PRP group at this
site is made up of 81 companies, substantially all of which are large
financially solvent entities. Two removal actions were substantially complete as
of December 31, 1998 and a groundwater treatment system was installed
thereafter. EPA recently selected a remedy for the soil and shallow groundwater;
however, the remedial investigation/feasibility study related to the deep
groundwater has not been completed. The PRP group estimates that future costs of
the remedy recently selected by EPA based on engineering estimates would be
approximately $11 million. Congoleum's proportionate share, based on waste
disposed at the site, is estimated to be approximately 5.7%, or $0.7 million.
The majority of Congoleum's share of costs is presently being paid by one of its
insurance carriers, whose remaining policy limits for this claim will cover
approximately half this amount. Congoleum expects the balance to be funded by
other insurance carriers and the Company.
The Company also accrues remediation costs for certain of the Company's
owned facilities on an undiscounted basis. The Company has entered into an
administrative consent order with the New Jersey Department of Environmental
Protection and has established a remediation trust fund of $100 thousand as
financial assurance for certain remediation funding obligations. Estimated total
cleanup costs of $ 1.7 million, including capital outlays and future maintenance
costs for soil and groundwater remediation, are primarily based on engineering
studies. Of this amount, $0.3 million is included in current liabilities subject
to compromise and $1.4 million is included in non-current liabilities subject to
compromise.
The Company anticipates that these matters will be resolved over a period
of years and that after application of expected insurance recoveries, funding
the costs will not have a material adverse impact on the Company's liquidity or
financial position. However, unfavorable developments in these matters could
result in significant expenses or judgments that could have a material adverse
effect on the financial position of the Company.
11
6. Asbestos Liabilities
Claims Settlement and Chapter 11 Reorganization
In early 2003, the Company announced a strategy for resolving current and
future asbestos claims liability through confirmation of a pre-packaged plan of
reorganization under Chapter 11 of the Bankruptcy Code. Later in 2003, the
Company entered into a settlement agreement with various asbestos personal
injury claimants (the "Claimant Agreement"). As contemplated by the Claimant
Agreement, the Company also entered into agreements establishing a pre-petition
trust (the "Collateral Trust") to distribute funds in accordance with the terms
of the Claimant Agreement and granting the Collateral Trust a security interest
in the Company's rights under its applicable insurance coverage and payments
from the Company's insurers for asbestos claims. Under the terms of the Sixth
Plan, participants in the Claimant Agreement who vote in favor of the plan agree
to forbear from exercising the security interest in and priority rights to
distributions from the Collateral Trust. As discussed below, in September 2005
certain asbestos claimants indicated that they are not willing to agree to
forbear from exercising their security interest as contemplated by the Sixth
Plan. The Company is presently in negotiations with these claimants, as well as
other constituencies, to determine the modifications of the Sixth Plan and other
steps that may be appropriate for the implementation of the plan. Although the
terms of any new amended plan have not been determined, the Company is
negotiating amendments and modifications with reference to the terms of the
Sixth Plan. There can be no assurance that the terms of any new amended plan
will not materially differ from the terms of the Sixth Plan.
The Claimant Agreement established a compensable disease valuation matrix
(the "Matrix") and allowed claimants who qualified to participate in the
Claimant Agreement (the "Qualifying Claimants") to settle their claims for the
Matrix value, secured in part (75%) by a security interest in the collateral
granted to the Collateral Trust. The Collateral Trust provides for distribution
of trust assets according to various requirements that give priority (subject to
aggregate distribution limits) to participating claimants who had pre-existing
unfunded settlement agreements ("Pre-Existing Settlement Agreements") with the
Company and participating claimants who qualified for payment under unfunded
settlement agreements entered into by the Company with plaintiffs that had
asbestos claims pending against the Company and which claims were scheduled for
trial after the effective date of the Claimant Agreement but prior to the
commencement of the Company's anticipated Chapter 11 reorganization case
("Trial-Listed Settlement Agreements").
The Claimant Agreement incorporated Pre-Existing Settlement Agreements and
the settlement of certain Trial-Listed Settlement Agreement claims for a fully
secured claim against the Collateral Trust, and it settled all other claims for
a secured claim against the Collateral Trust equal to 75% of the claim value and
an unsecured claim for the remaining 25%. Under the Sixth Plan, after the
establishment of the Plan Trust, the assets in the Collateral Trust would be
transferred to the Plan Trust and any claims subject to the Claimant Agreement
would be channeled to the Plan Trust and paid in accordance with the terms of
the Sixth Plan, which incorporates the forbearance.
12
In October 2003, the Company began soliciting acceptances for its proposed
pre-packaged plan of reorganization and the Company received the votes necessary
for acceptance of the plan in late December 2003. On December 31, 2003,
Congoleum filed a voluntary petition with the United States Bankruptcy Court for
the District of New Jersey (Case No. 03-51524) seeking relief under Chapter 11
of the Bankruptcy Code. In January 2004, the Company filed its proposed plan of
reorganization and disclosure statement with the Bankruptcy Court.
In November 2004, Congoleum filed a modified plan of reorganization and
related documents with the Bankruptcy Court reflecting the result of further
negotiations with representatives of the Asbestos Claimants' Committee, the
Future Claimants' Representative and other asbestos claimant representatives.
The Bankruptcy Court approved the disclosure statement and plan voting
procedures in December 2004 and Congoleum obtained the requisite votes of
asbestos personal injury claimants necessary to seek approval of the modified
plan.
In April 2005, Congoleum announced that it had reached an agreement in
principle with representatives of the Asbestos Claimants' Committee and the
Future Claimants' Representative to make certain modifications to its proposed
plan of reorganization and related documents governing the settlement and
payment of asbestos-related claims against Congoleum. Under the agreed-upon
modifications, asbestos claimants with claims settled under Congoleum's
pre-petition settlement agreements would agree to forbear from exercising the
security interest they were granted and share on a pari passu basis with all
other present and future asbestos claimants in insurance proceeds and other
assets of the Plan Trust.
In July 2005, Congoleum filed the Sixth Plan and related documents with
the Bankruptcy Court which reflected the result of these negotiations, as well
as other technical modifications. The Bankruptcy Court approved the disclosure
statement and voting procedures and Congoleum commenced solicitation of
acceptances of the Sixth Plan in August 2005. In September 2005, Congoleum
learned that certain asbestos claimants were unwilling to agree to forbear from
exercising their security interest as contemplated by the Sixth Plan.
In October 2005, Congoleum sought and obtained an extension of the voting
deadline to December 14, 2005 to allow time to address this issue. Congoleum is
presently in negotiations with these claimants, as well as other constituencies,
to determine the modifications of the Sixth Plan and other steps that may be
appropriate for the implementation of the plan. The Bankruptcy Court has given
Congoleum permission to file a new amended plan and disclosure statement by
December 2, 2005. On November 7, 2005, the Bankruptcy Court denied a request to
extend Congoleum's exclusive right to file a plan of reorganization and solicit
acceptances thereof. The Bankruptcy Court ruled that other parties may file
proposed reorganization plans by December 2, 2005. It is unclear whether any
person other than Congoleum will attempt to propose a plan or what any such plan
would provide or propose.
There can be no assurance that the Company will finalize the terms of a
new amended plan by that date, that the Company will receive the acceptances
necessary for confirmation of a new amended plan of reorganization, that a new
amended plan will not be modified further, that a new amended plan will receive
necessary court approvals from the Bankruptcy Court or the Federal District
Court, or that such approvals will be received in a timely fashion, that a new
amended plan will be confirmed, or that a new amended plan, if confirmed, will
become effective.
13
Congoleum is presently involved in litigation with certain insurance
carriers related to disputed insurance coverage for asbestos related
liabilities, and certain insurance carriers filed various objections to
Congoleum's previously proposed plans of reorganization and related matters and
may file objections to any new amended plan. Certain other parties have also
filed various objections to Congoleum's previously proposed plans of
reorganization and may file objections to any new amended plan.
During 2005, the Company has entered into a number of settlement
agreements with excess insurance carriers over coverage for asbestos-related
claims. In May 2005, certain AIG companies agreed to pay approximately $103
million over ten years to the Plan Trust. This settlement resolves coverage
obligations of policies with a total of $114 million in liability limits for
asbestos bodily injury claims, and is subject to the effectiveness of a plan of
reorganization that provides AIG with certain specified relief including a
channeling injunction pursuant to Section 524(g) of the Bankruptcy Code. An
insurer has appealed the approval order granted by the Bankruptcy Court to the
U.S. District Court, where it is pending. In June 2005, the Company entered into
a settlement agreement with certain underwriters at Lloyd's, London, pursuant to
which the certain underwriters paid approximately $20 million into an escrow
account in exchange for a release of insurance coverage obligations. The escrow
agent will transfer the funds to the Plan Trust once a plan of reorganization
with the Section 524(g) protection specified in the settlement agreement goes
effective and the Bankruptcy Court approves the transfer of the funds. In August
2005, the Company entered into a settlement agreement with Federal Insurance
Company pursuant to which Federal will pay $4 million to the Plan Trust once a
plan of reorganization with the Section 524(g) protection specified in the
settlement agreement goes effective and the Bankruptcy Court approves the
transfer of the funds. A motion to reconsider the Bankruptcy Court's approval of
the settlement with Federal is scheduled to be heard by the Bankruptcy Court on
November 21, 2005. In October 2005, Congoleum entered into a settlement
agreement with Mt. McKinley Insurance Company and Everest Reinsurance Company
pursuant to which Mt. McKinley and Everest has paid $21.5 million into an escrow
account. The escrow agent will transfer the funds to the Plan Trust once a plan
goes effective and the Bankruptcy Court approves the transfer of the funds.
Court approval of these settlement agreements may be appealed by other insurance
carriers who are not party to the agreements, or by other parties. It also is
possible that a settling insurer may argue that any new amended plan is not
substantially similar to the Sixth Plan and therefore is relieved of its
settlement obligation.
Although the terms of a new amended plan have not yet been determined, the
Company is negotiating amendments and modifications with reference to the terms
of the Sixth Plan. There can be no assurance that terms of any new amended plan
will not materially differ from the terms of the Sixth Plan or that the Company
will reach agreement on a new amended plan before December 2, 2005. The
following description of the Sixth Plan is provided to assist the reader in
understanding the basis from which any further amended plan may be negotiated.
There can be no assurance that the terms of any new amended plan will not
materially differ from the terms of the Sixth Plan or that the Company will
reach agreement on a new amended plan on or before December 2, 2005. The Company
expects that it will take until some time in the second or third quarter of 2006
at the earliest to obtain confirmation of any new amended plan of
reorganization.
Under the Sixth Plan and related documents, Congoleum's assignment of
insurance recoveries to the Plan Trust is net of costs incurred by Congoleum in
connection with insurance coverage litigation. Congoleum is entitled to withhold
from recoveries, or seek reimbursement from the Plan Trust, for coverage
litigation costs incurred after January 1, 2003 in excess of $6 million.
Furthermore, once insurance recoveries exceed $375 million, Congoleum is
entitled to withhold from recoveries, or seek reimbursement from the Plan Trust,
for the first $6 million of such costs for which it could not presently seek
reimbursement due to the above items of the Sixth Plan. Congoleum also paid
14
$1.3 million in claims processing fees in connection with claims settled under
the Claimant Agreement. Under the Sixth Plan, Congoleum is entitled to withhold
from recoveries, or seek reimbursement from the Plan Trust, for the $1.3 million
claims processing fee once insurance recoveries exceed $375 million. There can
be no assurance that any future plan will provide for Congoleum to recover any
coverage litigation costs or claims processing fees.
In connection with modifications to the Sixth Plan and certain prior
proposed plans and to the Collateral Trust, Congoleum agreed to indemnify the
Claimants Counsel and the trustee of the Collateral Trust for all acts relating
to the modifications of such plan, and the Collateral Trust made on or after
April 1, 2005, including attorneys' fees, up to a maximum of $3 million.
The Sixth Plan provides for the channeling of asbestos property damage
claims in addition to asbestos personal injury claims to the Plan Trust. There
were no property damage claims asserted against the Company at the time of its
bankruptcy filing. The Bankruptcy Court approved an order establishing a bar
date of May 3, 2004 for the filing of asbestos property damage claims. The
claims agent appointed in the Company's bankruptcy proceeding advised the
Company that, as of the bar date, it received 35 timely filed asbestos property
damage claims asserting liquidated damages in the amount of approximately $0.8
million plus additional unspecified amounts. The Company objected to certain
claims on various grounds, and the Bankruptcy Court ultimately allowed 19 claims
valued at $133 thousand.
The Sixth Plan provides that the Company will issue a promissory note (the
"Company Note") to the Plan Trust. Under the terms of the Sixth Plan, the
original principal amount of the Company Note will be $2,738,234.75 (the
"Original Principal Amount") and will be subject to increase as of the last
trading day of the 90 consecutive trading day period commencing on the first
anniversary of the effective date of the Company's confirmed Chapter 11 plan of
reorganization (the "Principal Adjustment Date") in an amount equal to the
excess, if any, of the amount by which 51% of the Company's market
capitalization as of the Principal Adjustment Date (based upon (subject to
certain exceptions) the total number of shares of the Company's common stock
outstanding as of such date multiplied by the average of the closing trading
prices of the Company's Class A common stock for the 90 consecutive trading days
ending on the Principal Adjustment Date) exceeds the Original Principal Amount
(the "Additional Principal Amount"), plus any accrued but unpaid interest or
other amounts that may be added to such principal amount pursuant to the terms
of the Company Note. This adjustment amount could result in the principal amount
of the note increasing materially. For example, if the adjustment amount were
calculated during the 90 consecutive day trading period ended September 30,
2005, the resulting adjustment amount would be $14.9 million. Under the terms of
the Sixth Plan, interest on the outstanding principal of the Company Note will
accrue at a rate of 9% per annum, with interest on the Original Principal Amount
payable quarterly and interest on the Additional Principal Amount added to the
Additional Principal Amount as additional principal. Upon the earlier of August
1, 2008 and the date that all of the Company's outstanding 8-5/8% Senior Notes
due 2008 (the "Senior Notes") are repaid in full, interest on the then
outstanding Additional Principal Amount will become payable quarterly.
Under the terms of the Sixth Plan, all principal on the Company Note then
outstanding together with any accrued but unpaid interest will be payable in
full on the tenth anniversary of the date of the Company Note, subject to the
right of the Plan Trust to accelerate all amounts then owed on the Company Note
following an uncured event of default under the Company Note. Events of default
under the Company Note would include the failure to pay interest and principal
prior to the expiration of a 10-day grace period following the applicable due
date, the occurrence of an event of default under the indenture governing the
15
Senior Notes, the breach by the Company of any covenant or agreement contained
in the Company Note which remains uncured 30 days following notice by the Plan
Trust to the Company and its controlling shareholder, American Biltrite Inc.
("ABI"), of the breach and a material breach of the pledge agreement (the "ABI
Pledge Agreement") by ABI (which agreement is discussed below) which remains
uncured 30 days following notice by the Plan Trust to ABI and the Company of the
breach. The terms of the Company Note would provide that, upon the occurrence of
an event of default under the Company Note, the Company and ABI would have 10
days from the date they receive notice that an event of default has occurred to
cure the event of default. If the event of default remains uncured after the
10-day cure period, the aggregate outstanding principal amount of the Company
Note together with any accrued but unpaid interest thereon would become
immediately due and payable if the event of default relates to an uncured event
of default under the indenture governing the Senior Notes, and with regard to
other events of default under the Company Note, the Plan Trust may, upon notice
to the Company and ABI, declare the aggregate outstanding principal amount of
the Company Note together with any accrued but unpaid interest thereon to be
immediately due and payable. The Plan Trust's rights to payment under the
Company Note will be subordinate and subject in right of payment to the prior
payment in full of all amounts owing and payable pursuant to the Senior Notes
and the Company's credit facility, except that regularly scheduled interest
payments under the Company Note are expected to be payable by the Company so
long as no default or event of default has occurred or is continuing under the
indenture governing the Senior Notes or the Company's credit facility.
The Sixth Plan contemplates that, pursuant to the ABI Pledge Agreement,
ABI will pledge all of the shares of the Company's common stock that ABI owns,
together with any other equity interests and rights ABI may own or hold in the
Company, as of the date of the Company Note, as collateral for the Company's
obligations under the Company Note. As additional security for the Company Note,
the ABI Pledge Agreement and the terms of the Sixth Plan provide that any
amounts that the Company would be obligated to pay ABI pursuant to any rights of
indemnity that ABI may have against the Plan Trust for asbestos-related claims
pursuant to the Sixth Plan or a certain Joint Venture Agreement, entered into in
1992, to which both the Company and ABI are parties (as amended, the "Joint
Venture Agreement"), will not be paid by the Plan Trust until after any amounts
due and payable to the Plan Trust under the Company Note have been paid in full
to the Plan Trust. Until such time, any such indemnity payments that would
otherwise have been payable by the Plan Trust to ABI would be set aside by the
Plan Trust and held in escrow by the Plan Trust for ABI's benefit and pledged by
ABI as additional collateral securing the Company's obligations under the
Company Note until released from such escrow and paid to ABI, as further
provided under the Sixth Plan, the Company Note and the ABI Pledge Agreement.
The Company Note, the ABI Pledge Agreement and the Sixth Plan also provide
that the Company would be prohibited from making any payments to ABI pursuant to
any rights of indemnity that ABI may have against the Company for claims
pursuant to the Joint Venture Agreement until after any amounts due and payable
to the Plan Trust under the Company Note have been paid in full to the Plan
Trust. Until such time, any such indemnity payments that would otherwise have
been payable to ABI by the Company will be paid by the Company to the Plan Trust
and the Plan Trust will set aside and hold in escrow such amounts for ABI's
benefit and ABI will pledge such amounts as additional collateral securing the
Company's obligations under the Company Note until released from such escrow and
paid to ABI, as further provided under the Sixth Plan, the Company Note and the
ABI Pledge Agreement.
16
Under the Sixth Plan, ABI would be permitted to prepay the principal
amount of the Company Note, in whole but not in part, without any penalty or
premium at any time following the Principal Adjustment Date and any interest
that may have accrued but not yet paid at the time of any principal repayment
would be due and payable at the time of the principal repayment. The Company
would be obligated to repay ABI for any amounts paid by ABI pursuant to the
Company Note, which repayment obligation would by evidenced by a promissory note
or notes to be issued by the Company to ABI. Any such note would have similar
payment terms as those expected to be afforded to the Plan Trust with regard to
the Company Note, which rights of repayment are expected to be subordinate and
subject in right of payment to the prior payment in full of all amounts owing
and payable to the Plan Trust with regard to the Company Note and with regard to
amounts owing and payable pursuant to the Senior Notes and credit facility,
except that the right of full subordination with regard to the Senior Notes and
credit facility would contain an exception that would allow the Company to make
regularly scheduled interest payments to ABI pursuant to any such note so long
as no default or event of default has occurred or is continuing under the
indenture governing the Senior Notes or the Company's credit facility.
The Sixth Plan also provides that if ABI prepays the Company Note and ABI
sells all or substantially all of the shares of the Company's stock that it
holds as of the Principal Adjustment Date during the three-year period following
such date, ABI would be obligated to make a contribution to the Plan Trust if
the equity value of the Company implied by the price paid to ABI for the shares
of the Company's stock exceeded the greater of $2,738,234.75 or 51% of the
Company's market capitalization as of the Principal Adjustment Date (based upon
(subject to certain exceptions) the total number of shares of the Company's
common stock outstanding as of such date multiplied by the average of the
closing trading prices of the Company's Class A common stock for the 90
consecutive trading days ending on the Principal Adjustment Date). In such
instance, the Sixth Plan would obligate ABI to pay to the Plan Trust an amount
equal to 50% of such excess amount. Under the terms of the Sixth Plan, the
Company would be obligated to repay ABI for any amounts paid by ABI to the Plan
Trust pursuant to this obligation. In satisfaction of this repayment obligation,
the Company would issue a promissory note to ABI in a principal amount equal to
the amount of any such payments made by ABI plus any accrued but unpaid interest
or other amounts that may be added to such principal amount pursuant to the
terms of the promissory note which would be subordinate and subject in right of
payment to the prior payment in full of all amounts owing and payable pursuant
to the Senior Notes and credit facility, except that regularly scheduled
interest payments could be paid on such note so long as no default or event of
default has occurred or is continuing under the indenture governing the Senior
Notes or the Company's credit facility.
The Sixth Plan provides that the Plan Trust would be able to transfer the
Company Note, in whole but not in part, at any time following the Principal
Adjustment Date. Upon any transfer of the Company Note, the amounts pledged by
ABI and held in escrow by the Plan Trust for ABI's benefit with regard to ABI's
indemnity rights discussed above will be paid by the Plan Trust, first, to the
Plan Trust in repayment of principal then outstanding on the Company Note
together with any accrued but unpaid interest thereon and, second, any amounts
remaining would be distributed by the Plan Trust to ABI.
17
Under the Sixth Plan and related documents, ABI has agreed to make a cash
contribution in the amount of $250 thousand to the Plan Trust upon the formation
of the Plan Trust. Under the Sixth Plan, ABI would receive certain relief as may
be afforded under Section 524(g)(4) of the Bankruptcy Code from asbestos claims
that derive from claims made against the Company, which claims are expected to
be channeled to the Plan Trust. However, the Sixth Plan does not provide that
any other asbestos claims that may be asserted against ABI would be channeled to
the Plan Trust.
While the Company believes that it will be able to negotiate a new amended
plan which is feasible and should be confirmed by the Bankruptcy Court, there
are sufficient risks and uncertainties such that no assurances of the outcome
can be given. In addition, the remaining costs to effect the reorganization
process, consisting principally of legal and advisory fees and contributions to
the Plan Trust, including one or more notes expected to be contributed to the
Plan Trust by the Company, are expected to be approximately $12.7 million at a
minimum, not including any Additional Principal Amount arising from revaluation
of the Company Note, and could be materially higher. The Company is not yet able
to determine the additional costs that may be required to effect a new amended
plan, and actual amounts that will be contributed to the Plan Trust and costs
for pursuing and implementing any plan of reorganization could be materially
higher.
Based on the Sixth Plan, the Company has made provision in its financial
statements for the minimum amount of the range of estimates for its contribution
to effect its plan to settle asbestos liabilities through the Plan Trust. The
Company recorded charges aggregating approximately $26 million in prior years
and a further approximately $15.5 million in the second quarter of 2005, to
provide for the estimated minimum costs of completing its reorganization given
the revised timeline then assumed in the second quarter of 2005 for anticipated
confirmation and as based on the Sixth Plan. The Company is not yet able to
determine the additional costs that may be required to effect a new amended
plan, and actual amounts that will be contributed to the Plan Trust and costs
for pursuing and implementing any plan of reorganization could be materially
higher than currently recorded. Delays in proposing, filing and obtaining
approval of any new amended plan of reorganization could result in a proceeding
that takes longer and is more costly than the Company has estimated. The Company
may record significant additional charges should the minimum estimated cost
increase.
Pending Asbestos Claims
In 2003, the Company was one of many defendants in approximately 22
thousand pending lawsuits (including workers' compensation cases) involving
approximately 106 thousand individuals, alleging personal injury or death from
exposure to asbestos or asbestos-containing products. Claims involving
approximately 80 thousand individuals have been settled pursuant to the Claimant
Agreement and litigation related to unsettled or new claims is presently stayed
by the Bankruptcy Code. The Company expects unsettled and future claims to be
handled in accordance with the terms of a plan of reorganization and the Plan
Trust.
18
Nearly all asbestos-related claims that have been brought against the
Company to date allege that various diseases were caused by exposure to
asbestos-containing products, including resilient sheet vinyl and tile
manufactured by the Company (or, in the workers' compensation cases, exposure to
asbestos in the course of employment with the Company). The Company discontinued
the manufacture of asbestos-containing sheet products in 1983 and
asbestos-containing tile products in 1974. In general, governmental authorities
have determined that asbestos-containing sheet and tile products are nonfriable
(i.e., cannot be crumbled by hand pressure) because the asbestos was
encapsulated in the products during the manufacturing process. Thus,
governmental authorities have concluded that these products do not pose a health
risk when they are properly maintained in place or properly removed so that they
remain nonfriable. The Company has issued warnings not to remove
asbestos-containing flooring by sanding or other methods that may cause the
product to become friable.
Status of Insurance Coverage
During the period that Congoleum produced asbestos-containing products,
the Company purchased primary and excess insurance policies providing in excess
of $1 billion of coverage for general and product liability claims. Through
August 2002, substantially all asbestos-related claims and defense costs were
paid through primary insurance coverage. In August 2002, the Company received
notice that its primary insurance limits had been paid in full. The payment of
limits in full by one of the primary insurance companies was based on its
contention that limits in successive policies were not cumulative for asbestos
claims and that Congoleum was limited to only one policy limit for multiple
years of coverage. Certain excess insurance carriers claimed that the
non-cumulation provisions of the primary policies were not binding on them and
that there remained an additional $13 million in primary insurance limits plus
related defense costs before their policies were implicated. There is insurance
coverage litigation currently pending between Congoleum and its excess insurance
carriers, and the guaranty funds and associations for the State of New Jersey.
The litigation was initiated in September 2001, by one of Congoleum's excess
insurers (the "Coverage Action"). In April 2003, the New Jersey Supreme Court
ruled in another case involving the same non-cumulation provisions as in the
Congoleum primary policies (the "Spaulding Case") that the non-cumulation
provisions are invalid under New Jersey law and that the primary policies
provide coverage for the full amount of their annual limits for all successive
policies. Congoleum has reached a settlement agreement ("Insurance Settlement")
with the insurance carrier whose policies contained the non-cumulation
provisions, pursuant to which the insurance carrier will pay Congoleum $15.4
million in full satisfaction of the applicable policy limits, of which $14.5
million has been paid to date. Pursuant to the terms of the Security Agreement,
the Company is obligated to pay any insurance proceeds it receives under the
Insurance Settlement, net of any fees and expenses it may be entitled to deduct,
to the Collateral Trust. Payment of such fees and expenses are subject to
Bankruptcy Court order or approval. The Company does not expect the Insurance
Settlement to have a material effect on its financial condition or results of
operations. As of December 31, 2002, the Company had entered into additional
settlement agreements with asbestos claimants exceeding the amount of previously
disputed coverage. The excess carriers have objected to the reasonableness of
several of these settlements, and Congoleum believes that they will continue to
dispute the reasonableness of the settlements and contend that their policies
still are not implicated and will dispute their coverage for that and other
various reasons in ongoing coverage litigation. The excess insurance carriers
have also raised various objections to the Company's previously proposed plans
of reorganization and may raise objections to any new amended plan that is
proposed.
19
The excess insurance carriers have objected to the global settlement of
the asbestos claims currently pending against Congoleum as contemplated by the
Claimant Agreement on the grounds that, among other things, the negotiations
leading to the settlement and the Claimant Agreement violate provisions in their
insurance policies, including but not limited to the carriers' right to
associate in the defense of the asbestos cases, the duty of Congoleum to
cooperate with the carriers and the right of the carriers to consent to any
settlement. The excess insurance carriers also contend the Claimant Agreement is
not fair, reasonable or in good faith. Congoleum disputes the allegations and
contentions of the excess insurance carriers. In November 2003, the Court denied
a motion for summary judgment by the excess insurance carriers that the Claimant
Agreement was not fair, reasonable or in good faith, ruling that material facts
concerning these issues were in dispute. In April 2004, the Court denied motions
for summary judgment by the excess carriers that the Claimant Agreement was not
binding on them because Congoleum had breached the consent and cooperation
clauses of their insurance policies by, among other things, entering into the
Claimant Agreement without their consent. Congoleum argues, among other things,
that it was entitled to enter into the Claimant Agreement and/or the Claimant
Agreement was binding on the excess insurance carriers because they were in
breach of their policies and/or had denied coverage and/or had created a
conflict with Congoleum by reserving rights to deny coverage and/or the Claimant
Agreement was fair, reasonable and in good faith and/or there was and is no
prejudice to the excess insurance carriers from the Claimant Agreement and/or
the excess insurance carriers had breached their duties of good faith and fair
dealing.
In August 2004, the Court entered a case management order that divides the
trial into three phases. A new judge was assigned to the case effective February
23, 2005 and the schedule was modified as a result.
In February 2005, the Court ruled on a series of summary judgment motions
filed by various insurers. The Court denied a motion for summary judgment filed
by certain insurers, holding that there were disputed issues of fact regarding
whether the Claimant Agreement and other settlement agreements between Congoleum
and the claimants had released Congoleum and the insurers from any liability for
the asbestos bodily injury claims of the claimants who signed the Claimant
Agreement and the other settlement agreements.
The Court also denied another motion for summary judgment filed by various
insurers who argued that they did not have to cover the liability arising from
the Claimant Agreement because they had not consented to it.
The Court granted summary judgment regarding Congoleum's bad faith claims
against excess insurers (other than first-layer excess insurers), holding that
the refusal of these excess insurers to cover the Claimant Agreement was at
least fairly debatable and therefore not in bad faith.
The first phase of the trial began on August 2, 2005 and will address all
issues and claims relating to whether the insurers are obligated to provide
coverage under the policies at issue in this litigation for the global Claimant
Agreement entered into by Congoleum, including but not limited to all issues and
claims relating to both Congoleum's decision and conduct in entering into the
Claimant Agreement and filing a pre-packaged bankruptcy and the insurance
company defendants' decisions and conduct in opposing the Claimant Agreement and
Congoleum's pre-packaged bankruptcy, the reasonableness and good faith of the
Claimant Agreement, whether the Claimant Agreement breached any insurance
20
policies and, if so, whether the insurance companies suffered any prejudice, and
whether the insurance companies' opposition to the Claimant Agreement and
bankruptcy and various other conduct by the insurers has breached their duties
of good faith and fair dealing such that they are precluded from asserting that
Congoleum's decision to enter into the Claimant Agreement constitutes any
breach(es) on the part of Congoleum. The Company believes, however, that even if
the insurers were to succeed in the first phase of the Coverage Action, such
result would not deprive individual claimants of the right to seek payment from
the insurers who issued the affected insurance policies. Additionally, Congoleum
could negotiate settlements with some or all of the signatories to the Claimant
Agreement and seek payment from its insurers for such settlements. Such result
would not preclude the Company from attempting to amend the Claimant Agreement
and thereafter seek recovery under the Claimant Agreement as amended; moreover,
the Company does not believe that it would be deprived of coverage-in-place
insurance for future obligations of or demands upon the insurers under the
applicable insurance policies. However, there can be no assurances of the
outcome of these matters or their potential effect on the Company's ability to
obtain approval of its plan of reorganization.
The second phase of the trial will address all coverage issues, including
but not limited to trigger and allocation. The final phase of the trial will
address bad faith punitive damages, if appropriate.
In March 2005, the Company filed a motion in the Bankruptcy Court asking
the Bankruptcy Court to vacate its prior order lifting the automatic stay in
bankruptcy to permit the Coverage Action to proceed. The Company requested that
the Coverage Action proceedings be stayed until the Company has completed its
plan confirmation process in the Bankruptcy Court. A hearing on the Company's
motion was held in April 2005 and the motion was denied.
In October 2005, a federal appeals court ruled that the law firm of
Gilbert Heintz & Randolph, which had been acting as the Company's insurance
co-counsel in the Coverage Action, had other representations which were in
conflict with its representation of Congoleum. As a result of this ruling,
Gilbert Heintz & Randolph has filed a motion to withdraw as coverage counsel and
Congoleum retained the firm of Covington & Burling to represent it as co-counsel
with Dughi & Hewit in the insurance coverage litigation and insurance settlement
matters previously handled by Gilbert Heintz. The retention of Covington &
Burling is subject to Bankruptcy Court approval. A Bankruptcy Court hearing on
Covington & Burling's retention was held on November 7, 2005 and has been
adjourned to November 29, 2005, pending certain additional disclosures requested
by the Bankruptcy Court.
Given the actions of its excess insurance carriers, the Company believes
it likely that it would currently have to fund any asbestos-related expenses for
defense expense and indemnity itself. However, litigation by asbestos claimants
against the Company is stayed pursuant to the Company's bankruptcy proceedings,
and the Company does not anticipate its future expenditures for defense and
indemnity of asbestos-related claims, other than expenditures pursuant to a plan
of reorganization, will be significant.
21
Accounting for Asbestos-Related Claims
Under the terms of the Claimant Agreement, the Company's claims processing
agent processed 79,630 claims meeting the requirements of the Claimant Agreement
with a settlement value of approximately $466 million. In addition, Pre-Existing
Settlement Agreements and Trial-Listed Settlement Agreements with claims secured
by the Collateral Trust total approximately $25 million. As a result of
tabulating ballots on its fourth amended plan, the Company is also aware of
claims by claimants whose claims were not determined under the Claimant
Agreement but who have submitted claims with a value of approximately $512
million based on the settlement values applicable in the Sixth Plan.
The Company's gross liability of approximately $491 million for these
settlements and contingent liability for the additional approximately $512
million in unsettled claims is substantially in excess of the total assets of
the Company. The Company believes that it does not have the necessary financial
resources to litigate and/or fund judgments and/or settlements of the asbestos
claims in the ordinary course of business. Therefore, the Company believes the
most meaningful measure of its probable loss due to asbestos litigation is the
amount it will have to contribute to the Plan Trust plus the costs to effect its
reorganization under Chapter 11. At September 30, 2005, the Company estimates
the minimum remaining amount of the contributions and costs to be $12.7 million,
of which it has recorded $10.0 million as a current liability and $2.7 million
as a non-current liability. These amounts do not include the liability
associated with a $14.5 million insurance settlement recorded as restricted
cash, which the Company expects to contribute, less any amounts withheld
pursuant to reimbursement arrangements, to the Plan Trust. At September 30, 2005
this liability (comprised of the original settlement plus interest to date, less
$6.1 million in reimbursements approved by the bankruptcy court) amounted to
$8.7 million and is included in current asbestos-related liabilities. The
Company is not yet able to determine the additional costs that may be required
to effect a new amended plan, and actual amounts that will be contributed to the
Plan Trust and costs for pursuing and implementing any plan of reorganization
could be materially higher.
The Company recorded charges aggregating approximately $26 million in
prior years and a further approximately $15.5 million in the second quarter of
2005, to provide for the estimated minimum costs of completing its
reorganization given the revised timeline then assumed in the second quarter of
2005 for anticipated confirmation and based on the Sixth Plan. Additional
charges may be required in the future should the minimum estimated cost
increase. The maximum amount of the range of possible asbestos-related losses is
limited to the going concern or liquidation value of the Company, an amount
which the Company believes is substantially less than the minimum gross
liability for the known claims against it.
The Company has not attempted to make an estimate of its probable
insurance recoveries for financial statement purposes given the accounting for
its estimate of future asbestos-related costs. Substantially all future
insurance recoveries have been assigned to the Collateral Trust or Plan Trust.
22
Amounts Recorded in Financial Statements
The table below provides an analysis of changes in the Company's asbestos
reserves and related receivables from December 31, 2004 to September 30, 2005:
Reimbursement
From
Balance at Reserve Insurance Balance at
(In thousands) 12/31/04 Spending Addition Settlements 9/30/05
-----------------------------------------------------------
Reserves
Current $ 6,550 $ (9,610) $13,092 -- $ 10,032
Long-Term 2,738 -- -- -- 2,738
Receivables
Current (1,509) (11,209) 2,362 $6,091 (4,265)
Long-Term (7,300) -- -- -- (7,300)
-----------------------------------------------------------
Net Asbestos Liability $ 479 $(20,819) $15,454 $6,091 $ 1,205
======== ======== ======= ====== ========
Restricted Cash
Insurance Proceeds $ 14,530 (6,091) 302 -- $ 8,741
7. Product Warranties
The Company provides product warranties for specific product lines and
accrues for estimated future warranty cost in the period in which the revenue is
recognized. The following table sets forth activity in the Company's warranty
reserves (in millions) for the:
Nine Months Ended Nine Months Ended
September 30, September 30,
2005 2004
---- ----
Beginning balance $ 2.8 $ 2.7
Accruals 2.5 4.4
Charges (3.2) (4.2)
----- -----
Ending balance $ 2.1 $ 2.9
===== =====
8. Liabilities Subject to Compromise
As a result of the Company's Chapter 11 filing (see Notes 1 and 6 to the
Unaudited Condensed Consolidated Financial Statements), pursuant to SOP 90-7,
the Company is required to segregate pre-petition liabilities that are subject
to compromise and report them separately on the consolidated balance sheet.
Liabilities that may be affected by a plan of reorganization are recorded at the
amount of the expected allowed claims, even if they may be settled for lesser
amounts. Substantially all of the Company's pre-petition debt is recorded at
face value and is classified within liabilities subject to compromise. In
addition, the Company's accrued interest expense on its Senior Notes is also
recorded in liabilities subject to compromise.
23
Liabilities subject to compromise at September 30, 2005 and December 31,
2004 are as follows:
(In thousands)
September 30, December 31,
2005 2004
--------------------------------------------------------------------------------
Current
Other pre-petition payables and accrued interest $ 21,377 $ 14,225
Non-current
Debt (at face value) 100,000 100,000
Pension liability 15,490 16,936
Other post-retirement benefit obligation 8,067 8,303
Other pre-petition liabilities 12,284 12,051
--------- ---------
--------------------------------------------------------------------------------
Non-current 135,841 137,290
--------------------------------------------------------------------------------
Total liabilities subject to compromise $ 157,218 $ 151,515
========= =========
--------------------------------------------------------------------------------
Additional pre-petition claims (liabilities subject to compromise) may
arise due to the rejection of executory contracts or unexpired leases, or as a
result of the allowance of contingent or disputed claims.
9. Accrued Liabilities
A summary of the significant components of accrued liabilities consists of
the following:
(In thousands)
September 30, December 31,
2005 2004
--------------------------------------------------------------------------------
Accrued warranty, marketing and sales promotion $ 17,864 $ 18,487
Employee compensation and related benefits 3,576 4,735
Other 1,254 3,173
--------------------------------------------------------------------------------
Total accrued liabilities $ 22,694 $ 26,395
--------------------------------------------------------------------------------
As a result of the Company's Chapter 11 bankruptcy filing and in
accordance with SOP 90-7, certain liabilities are included in liabilities
subject to compromise on the balance sheet as of September 30, 2005 (see Note
8).
24
10. Pension Plans
The Company sponsors several non-contributory defined benefit pension
plans covering most of the Company's employees. Benefits under the plans are
based on years of service and employee compensation. Amounts funded annually by
the Company are actuarially determined using the projected unit credit and unit
credit methods and are equal to or exceed the minimum required by government
regulations. The Company also maintains health and life insurance programs for
retirees (reflected in the table below in "Other Benefits").
The following summarizes the components of the net periodic benefit cost
for the Pension and Other Benefit Plans for the three months ended September 30,
2005 and 2004:
(In thousands)
Three Months Ended Three Months Ended
September 30, 2005 September 30, 2004
------------------ ------------------
Other Other
Pension Benefits Pension Benefits
------- -------- ------- --------
Components of Net Periodic Benefit Cost:
Service cost $ 285 $ 46 $ 312 $ 50
Interest cost 1,092 130 1,052 140
Expected return on plan assets (976) -- (842) --
Recognized net actuarial loss 280 15 349 11
Amortization of transition obligation (9) -- (18) --
Amortization of prior service cost (72) (47) (72) (116)
------- ----- ------- -----
Net periodic benefit cost $ 600 $ 144 $ 781 $ 85
======= ===== ======= =====
The weighted average assumptions used to determine net periodic benefit
cost were as follows:
September 30, 2005 September 30, 2004
------------------ ------------------
Other Other
Pension Benefits Pension Benefits
------- -------- ------- --------
Discount rate 6.25% 6.25% 6.25% 6.75%
Expected long-term return on plan assets 7.00% -- 7.00% --
Rate of compensation increase 4.00% -- 4.00% --
5.50% 5.50%
25
The following summarizes the components of the net periodic benefit cost
for the Pension and Other Benefit Plans for the nine months ended September 30,
2005 and 2004:
(In thousands)
Nine Months Ended Nine Months Ended
September 30, 2005 September 30, 2004
------------------ ------------------
Other Other
Pension Benefits Pension Benefits
------- -------- ------- --------
Components of Net Periodic Benefit Cost:
Service cost $ 995 $ 138 $ 982 $ 150
Interest cost 3,280 390 3,212 420
Expected return on plan assets (2,738) -- (2,538) --
Recognized net actuarial loss 1,049 45 1,098 33
Amortization of transition obligation (45) -- (54) --
Amortization of prior service cost (216) (141) (214) (348)
------- ----- ------- -----
Net periodic benefit cost $ 2,325 $ 432 $ 2,486 $ 255
======= ===== ======= =====
The weighted average assumptions used to determine net periodic benefit
cost were as follows:
September 30, 2005 September 30, 2004
------------------ ------------------
Other Other
Pension Benefits Pension Benefits
------- -------- ------- --------
Discount rate 6.25% 6.25% 6.25% 6.75%
Expected long-term return on plan assets 7.00% -- 7.00% --
Rate of compensation increase 4.00% -- 4.00% --
5.50% 5.50%
26
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with the Unaudited
Condensed Consolidated Financial Statements and notes thereto contained in Item
1 of this Quarterly Report on Form 10-Q.
Results of Operations
The Company's business is cyclical and is affected by the same economic
factors that affect the remodeling and housing industries in general, including
the availability of credit, consumer confidence, changes in interest rates,
market demand and general economic conditions.
In addition to external economic factors, the Company's results are
sensitive to sales and manufacturing volume, competitors' pricing, consumer
preferences for flooring products, raw material costs and the mix of products
sold. The manufacturing process is capital intensive and requires substantial
investment in facilities and equipment. The cost of operating these facilities
generally does not vary in direct proportion to production volume and,
consequently, operating results fluctuate disproportionately with changes in
sales volume.
On December 31, 2003, Congoleum filed a voluntary petition with the United
States Bankruptcy Court for the District of New Jersey (the "Bankruptcy Court")
(Case No. 03-51524) seeking relief under Chapter 11 of the Bankruptcy Code (the
"Bankruptcy Code") as a means to resolve claims asserted against it related to
the use of asbestos in its products decades ago. During 2003, Congoleum obtained
the requisite votes of asbestos personal injury claimants necessary to seek
approval of a proposed, pre-packaged Chapter 11 plan of reorganization. In
January 2004, the Company filed its proposed plan of reorganization and
disclosure statement with the Bankruptcy Court. In November 2004, Congoleum
filed a modified plan of reorganization and related documents with the
Bankruptcy Court reflecting the result of further negotiations with
representatives of the Asbestos Claimants' Committee, the Future Claimants'
Representative and other asbestos claimant representatives. The Bankruptcy Court
approved the disclosure statement and plan voting procedures in December 2004
and Congoleum obtained the requisite votes of asbestos personal injury claimants
necessary to seek approval of the modified plan. In April 2005, Congoleum
announced that it had reached an agreement in principle with representatives of
the Asbestos Claimants' Committee and the Future Claimants' Representative to
make certain modifications to its proposed plan of reorganization and related
documents governing the settlement and payment of asbestos-related claims
against Congoleum. Under the agreed-upon modifications, asbestos claimants with
claims settled under Congoleum's pre-petition settlement agreements would agree
to forbear from exercising the security interest they were granted and share on
a pari passu basis with all other present and future asbestos claimants in
insurance proceeds and other assets of the trust to be formed upon confirmation
of the plan under Section 524(g) of the Bankruptcy Code (the "Plan Trust") to
pay asbestos claims against Congoleum. In July 2005, Congoleum filed an amended
plan of reorganization (the "Sixth Plan") and related documents with the
Bankruptcy Court which reflected the result of these negotiations as well as
other technical modifications. The Bankruptcy Court approved the disclosure
statement and voting procedures and Congoleum commenced solicitation of
acceptances of the Sixth Plan in August 2005. In September 2005, Congoleum
learned that certain asbestos claimants were unwilling to agree to forbear from
exercising their security interest as contemplated by the Sixth Plan. In October
2005, Congoleum sought and obtained an extension of the voting deadline to
27
December 14, 2005 to allow time to address this issue. Congoleum is presently in
negotiations with these claimants, as well as other constituencies, to determine
the modifications of the Sixth Plan and other steps that may be appropriate for
the implementation of the Plan. The Bankruptcy Court has given Congoleum
permission to file a new amended plan and disclosure statement by December 2,
2005. On November 7, 2005, the Bankruptcy Court denied a request to extend
Congoleum's exclusive right to file a plan of reorganization and solicit
acceptances thereof. The Bankruptcy Court ruled that other parties may file
proposed reorganization plans by December 2, 2005. It is unclear whether any
person other than Congoleum will attempt to propose a plan or what any such plan
would provide or propose.
There can be no assurance that the Company will finalize the terms of a
new amended plan by that date, that the Company will receive the acceptances
necessary for confirmation of a new amended plan of reorganization, that a new
amended plan will not be modified further, that a new amended plan will receive
necessary court approvals from the Bankruptcy Court or the Federal District
Court, or that such approvals will be received in a timely fashion, that a new
amended plan will be confirmed, or that a new amended plan, if confirmed, will
become effective.
Congoleum is presently involved in litigation with certain insurance
carriers related to disputed insurance coverage for asbestos related
liabilities, and certain insurance carriers filed various objections to
Congoleum's previously proposed plans of reorganization and related matters and
may file objections to any new amended plan. Certain other parties have also
filed various objections to Congoleum's previously proposed plans of
reorganization and may file objections to any new amended plan.
Although the terms of a new amended plan have not been determined, the
Company is negotiating amendments and modifications with reference to the terms
of the Sixth Plan. Any descriptions of the Sixth Plan provided in this Quarterly
Report on Form 10-Q are provided to assist the reader in understanding the basis
from which any further amended plan may be negotiated. There can be no assurance
that the terms of any new amended plan will not materially differ from the terms
of the Sixth Plan or that the Company will reach agreement on a new amended plan
on or before December 2, 2005. The Company expects that it will take until some
time in the second or third quarter of 2006 at the earliest to obtain
confirmation of any new amended plan of reorganization.
In anticipation of Congoleum's commencement of the Chapter 11 cases,
Congoleum entered into a settlement agreement with various asbestos personal
injury claimants (the "Claimant Agreement"), which provides for an aggregate
settlement value of at least $466 million as well as an additional number of
individually negotiated trial listed settlements with an aggregate value of
approximately $25 million, for total settlements of approximately $491 million.
As contemplated by the Claimant Agreement, Congoleum also entered into
agreements establishing a pre-petition trust (the "Collateral Trust") to
distribute funds in accordance with the terms of the Claimant Agreement and
granting the Collateral Trust a security interest in Congoleum's rights under
its applicable insurance coverage and payments from Congoleum's insurers for
asbestos claims. Under the terms of the Sixth Plan, after the establishment of
the Plan Trust, the assets in the Collateral Trust would be transferred to the
Plan Trust and any claims subject to the Claimant Agreement would be channeled
to the Plan Trust and paid in accordance with the terms of the Sixth Plan. As a
result of tabulating ballots on its fourth amended plan, the Company is also
aware of claims by claimants whose claims were not determined under the Claimant
Agreement but who have submitted claims with a value of approximately $512
million based on the settlement values applicable in the Sixth Plan. Based on
28
the Sixth Plan, the Company has made provision in its financial statements for
the minimum amount of the range of estimates for its contribution to effect its
plan to settle asbestos liabilities through the Plan Trust. The Company recorded
charges aggregating approximately $26 million in prior years and a further
approximately $15.5 million in the second quarter of 2005, to provide for the
estimated minimum costs of completing its reorganization given the revised
timeline then assumed in the second quarter of 2005 for anticipated confirmation
and as based on the Sixth Plan. The Company is not yet able to determine the
additional costs that may be required to effect a new amended plan, and actual
amounts that will be contributed to the Plan Trust and costs for pursuing and
implementing any plan of reorganization could be materially higher than
currently recorded. The Company may record significant additional charges should
the minimum estimated cost increase. Delays in proposing, filing and obtaining
approval of any new amended plan of reorganization could result in a proceeding
that takes longer and is more costly than the Company has estimated.
For more information regarding the Company's asbestos liability and plan
for resolving that liability, please refer to Notes 1 and 17 of the Notes to
Consolidated Financial Statements contained in Item 8 of the Company's Annual
Report on Form 10-K for the year ended December 31, 2004. In addition, please
refer to "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Risk Factors That May Affect Future Results - The
Company has significant asbestos liability and funding exposure, and any plan of
reorganization may not be confirmed" for a discussion of certain factors that
could cause actual results to differ from the Company's goals for resolving its
asbestos liability through a plan of reorganization.
Three and nine months ended September 30, 2005 as compared to three and
nine months ended September 30, 2004.
Net sales for the quarter ended September 30, 2005 were $60.5 million as
compared to $58.9 million for the quarter ended September 30, 2004, an increase
of $1.6 million or 2.7%. The increase resulted primarily from the impact of
higher sales to the manufactured housing industry reflecting hurricane-related
orders for both mobile homes and RV trailers (up 17.5%) and the impact of price
increases taken in late 2004 and early 2005 (up 5.5%) partially offset by lower
sales of residential products (down 3.0%), the reduction in inventory by a major
customer during the quarter (down 3.0%) and lower sales of do-it-yourself tile
to mass merchandisers (down 33%). Net sales for the nine months ended September
30, 2005 totaled $176.2 million as compared to $173.8 million for the same
period in the prior year, an increase of $2.4 million or 1.4%. The increase
reflects higher sales to the manufactured housing category (up 12.0%) and the
impact of selling price increases instituted in late 2004 and 2005 (up 7%)
partially offset by lower sales of do-it-yourself tile to the mass merchandiser
category (down 36%) and sales of residential products (down 6.0%)
29
Gross profit for the quarter ended September 30, 2005 totaled $13.2
million, or 21.9% of net sales, compared to $17.1 million, or 29.0% of net
sales, for the same period last year. The major factor leading to the
deterioration in gross margin percent was the sharp rise in raw material costs
experienced during the second half of 2004 and ongoing through 2005, which
reduced margins by 7.5 percentage points of net sales, coupled with a poorer
sales mix (3.5 percentage points of net sales) and the unfavorable absorption
impact of lower production volumes (1.5 percentage points of net sales). This
was partially mitigated by the 5.5 percentage point increase in selling prices.
Gross profit for the nine months ended September 30, 2005 was $40.7 million or
23.1% of net sales, compared to $47.5 million, or 27.3% of net sales for the
same period in the prior year. The lower gross profit dollars and margin percent
reflect higher raw material costs (9 percentage points of net sales) and the
unfavorable absorption impact of lower production volumes (2.5 percentage points
of net sales) partially offset by higher selling prices (7.0 percentage points
of net sales). Raw material costs are expected to remain high in 2005 and until
additional capacity becomes available.
Selling, general and administrative expenses were $10.6 million for the
quarter ended September 30, 2005 as compared to $13.0 million for the quarter
ended September 30, 2004, a decrease of $2.4 million. The decrease in expenses
reflects lower sales support and merchandising expenses of $1.1 million, lower
incentive compensation related expenses of $0.6 million and lower insurance
costs of $0.5 million. As a percent of net sales, selling, general and
administrative costs were 17.4% for the quarter ended September 30, 2005
compared to 22.0% for the same period last year. Selling, general and
administrative expenses for the nine months ended September 30, 2005 totaled
$48.4 or 27.5% of sales as compared to $38.0 million or 21.8% for the same
period last year. The increase in expenses reflects a $15.5 million charge taken
during the second quarter of 2005 for reorganization expenses partially offset
by the factors outlined for the third quarter of 2005.
Income from operations was $2.7 million for the quarter ended September
30, 2005 compared to income of $4.1 million for the quarter ended September 30,
2004. The reduction in operating income was a result of the lower gross margin
dollars partially offset by lower operating expenses. For the nine months ended
September 30, 2005 loss from operations totaled $7.7 million as compared to
income from operations of $9.5 million for the same period in the prior year.
The decline in income from operations reflected the impact of the reorganization
charge and higher raw material costs.
Liquidity and Capital Resources
The consolidated financial statements of the Company have been prepared on
a going concern basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. Accordingly, the
unaudited condensed consolidated financial statements do not include any
adjustments that might be necessary should the Company be unable to continue as
a going concern. As described more fully in the Notes to the Unaudited Condensed
Consolidated Financial Statements contained in Part I, Item 1 of this Quarterly
Report on Form 10-Q, there is substantial doubt about the Company's ability to
continue as a going concern unless it obtains relief from its substantial
asbestos liabilities through a successful reorganization under Chapter 11 of the
Bankruptcy Code.
30
On December 31, 2003, Congoleum filed a voluntary petition with the
Bankruptcy Court (Case No. 03-51524) seeking relief under the Bankruptcy Code.
See Notes 1 and 6 of the Notes to the Unaudited Condensed Consolidated Financial
Statements, which are contained in Part I, Item 1 of this Quarterly Report on
Form 10-Q, for a discussion of the Company's bankruptcy proceedings. These
matters will have a material adverse impact on liquidity and capital resources.
During the third quarter of 2005, the Company paid $7.9 million in fees and
expenses related to implementation of its planned reorganization under Chapter
11 and litigation with certain insurance companies, bringing the total year to
date spending in connection with these matters to $20.8 million. Pursuant to
terms of the Claimant Agreement and related documents, Congoleum is entitled to
reimbursement for certain expenses it incurs for claims processing costs and
expenses in connection with pursuit of insurance coverage. At September 30,
2005, Congoleum had $11.6 million recorded as a receivable for such
reimbursements. The amount and timing of reimbursements that will be received
will depend on when the trust receives funds from insurance settlements or other
sources and whether the insurance proceeds exceed $375 million, which is the
required threshold for reimbursement of the first $7.3 million spent by
Congoleum relating to these reimbursable costs and expenses. Congoleum believes
this threshold will eventually be met, although there can be no assurances to
that effect. Congoleum expects to spend a further $12.7 million at a minimum in
fees, expenses, and trust contributions in connection with obtaining
confirmation of its plan, which amount is recorded in its reserve for
asbestos-related liabilities (in addition to the $8.7 million insurance
settlement being held as restricted cash). It also expects to spend a further
$11.6 million at a minimum in connection with pursuit of insurance coverage, for
which it expects to be reimbursed as discussed above. The Company currently
holds $3.7 million in restricted cash that may be available to offset future
costs incurred pursuing insurance coverage, subject to approval by the
Bankruptcy Court. Required expenditures could be materially higher than these
estimates.
Due to the Chapter 11 proceedings, the Company has been precluded from
making interest payments on its outstanding 8-5/8% Senior Notes due 2008 (the
"Senior Notes") since January 1, 2004. The amount of accrued interest that is
due but has not been paid on the Senior Notes during this period is
approximately $18.6 million, including interest on the unpaid interest due.
Pursuant to the terms of the Sixth Plan, payment of such accrued interest would
be required for such plan to go effective.
While Congoleum is not yet able to determine the effect, if any, that the
terms of any new amended plan of reorganization may have on its liquidity and
capital resources, it is the Company's intent to seek plan terms that would not
have a materially different impact on its liquidity and capital resources than
the terms of the Sixth Plan, although there can be no assurances to that effect.
On November 7, 2005, the Bankruptcy Court denied a request to extend Congoleum's
exclusive right to file a plan of reorganization and solicit acceptances
thereof. The Bankruptcy Court ruled that other parties may file proposed
reorganization plans by December 2, 2005. It is unclear whether any person other
than Congoleum will attempt to propose a plan or what any such plan would
provide or propose.
As part of the Sixth Plan, Congoleum expects that it will issue a
promissory note (the "Company Note") to the Plan Trust Under the terms of the
Sixth Plan, the original principal amount of the Company Note will be
approximately $2.7 million and will be subject to increase as of the last
trading day of the 90 consecutive trading day period commencing on the first
anniversary of the effective date of the Company's plan of reorganization in an
amount equal to the excess, if any, of the amount by which 51% of the Company's
market capitalization as of that date exceeds $2.7 million, as determined in
31
accordance with the terms of the Sixth Plan. This adjustment amount could result
in the principal amount of the note increasing materially. For example, if the
adjustment amount were calculated for the period ended September 30, 2005, the
resulting adjustment amount would be $14.9 million. Although the scheduled
repayment date for this note does not occur until its tenth anniversary of
issuance, this debt may affect Congoleum's ability to obtain other sources of
financing or refinance existing obligations. In addition, it is expected that
the terms of the Note will require the Company to make regularly scheduled
interest payments prior to such note's maturity date.
The Sixth Plan would obligate Congoleum, together with the Plan Trust, to
indemnify certain asbestos claimant representatives for all costs and
liabilities (including attorneys' fees) relating to the negotiation of the
modification of the Sixth Plan and certain prior proposed plans and the
collateral trust made on or after April 1, 2005. Congoleum's indemnification
obligations in this regard are capped under the Sixth Plan and Plan Trust
agreement at $3.0 million. In addition, the Sixth Plan would further obligate
Congoleum to fund any actual costs in excess of $2.0 million incurred by such
asbestos claimant representatives in connection with the confirmation of the
Sixth Plan, subject to Bankruptcy Court approval of those costs.
Unrestricted cash and cash equivalents, including short-term investments
at September 30, 2005, were $17.7 million, a decrease of $12.1 million from
December 31, 2004. Net cash used by operations during the first nine months of
2005 was $10.1 million, as compared to $31.0 million of cash provided by
operations in the first nine months of 2004. The increase in cash used by
operations in the first nine months of 2005 versus the first nine months of 2004
was primarily due to higher receivables, higher asbestos related payments,
higher payments of accrued liabilities, and lower accounts payable. Under the
terms of its revolving credit agreement, payments on the Company's accounts
receivable are deposited in an account assigned by the Company to its lender and
the funds in that account are used by the lender to pay down any loan balance.
Funds deposited in this account but not yet applied to the loan balance, which
amounted to $2.6 million and $1.2 million at September 30, 2005 and December 31,
2004, respectively, are recorded as restricted cash. Additionally, $8.7 million
of a $14.5 million settlement received in August 2004 from an insurance carrier,
which is subject to the lien of the Collateral Trust, is included as restricted
cash at September 30, 2005. The Company expects to contribute these funds, less
any amounts withheld pursuant to reimbursement arrangements, to the Plan Trust
upon confirmation of its plan of reorganization. Working capital was $23.8
million at September 30, 2005, down from $35.3 million at December 31, 2004. The
ratio of current assets to current liabilities at September 30, 2005 was 1.3
versus 1.4 at December 31, 2004.
Capital expenditures for the nine months ended September 30, 2005 totaled
$3.6 million. The Company is currently planning capital expenditures of
approximately $5.5 million in 2005 and between $6 million and $7 million in
2006, primarily for maintenance and improvement of plants and equipment, which
it expects to fund with cash from operations and credit facilities.
In January 2004, the Bankruptcy Court authorized entry of a final order
approving Congoleum's debtor-in-possession financing, which replaced its
pre-petition credit facility on substantially similar terms. The
debtor-in-possession financing agreement (as amended and approved by the
Bankruptcy Court to date) provides a revolving credit facility expiring on
December 31, 2005 with borrowings up to $30.0 million. A further amendment
extending the term to December 31, 2006 has been executed and is subject to
Bankruptcy Court approval. Interest is based on 0.75% above the prime rate. This
financing agreement contains certain covenants, which include the maintenance of
32
minimum earnings before interest, taxes, depreciation and amortization
("EBITDA"). It also includes restrictions on the incurrence of additional debt
and limitations on capital expenditures. The covenants and conditions under this
financing agreement must be met in order for the Company to borrow from the
facility. The Company was in compliance with these covenants at September 30,
2005. Borrowings under this facility are collateralized by inventory and
receivables. At September 30, 2005, based on the level of receivables and
inventory, $27.0 million was available under the facility, of which $4.4 million
was utilized for outstanding letters of credit and $12.6 million was utilized by
the revolving loan. The Company anticipates that its debtor-in-possession
financing facility will be replaced with a revolving credit facility on
substantially similar terms upon confirmation of a new amended plan of
reorganization. While the Company expects the facilities discussed above will
provide it with sufficient liquidity, there can be no assurances that it will
continue to be in compliance with the required covenants, that the Company will
be able to obtain a similar or sufficient facility upon exit from bankruptcy, or
that the debtor-in-possession facility (as extended) will be renewed prior to
that facility's expiration.
The Company's principal sources of capital are net cash provided by
operating activities and borrowings under its financing agreement. The Company
believes that net cash provided by operating activities and borrowings under its
financing agreement will be adequate to fund working capital requirements, debt
service payments, and planned capital expenditures for the foreseeable future,
plus its current estimates for costs to settle and resolve its asbestos
liabilities through its Sixth Plan. The Company's inability to obtain
confirmation of an amended plan in a timely manner would have a material adverse
effect on the Company's ability to fund its operating, investing and financing
requirements. The Company also anticipates it will be able to obtain suitable
exit financing upon confirmation of an amended plan although there can be no
assurance that such financing will be obtained. Such financing will be required
to replace its debtor-in-possession credit facility and permit the Company to
pay accrued interest on its Senior Notes and other obligations needed to be
satisfied in connection with the confirmation of an amended plan of
reorganization. If the Company's cash flow from operations is materially less
than anticipated, and/or if the costs in connection with seeking confirmation of
an amended plan of reorganization or in connection with the insurance coverage
litigation are materially more than anticipated, or if sufficient funds from
insurance proceeds are not available at confirmation to reimburse coverage
litigation costs as expected, the contemplated exit financing, when combined
with net cash provided from operating activities, may not provide sufficient
funds for its and the Company may not be able to obtain confirmation of and go
effective with an amended plan of reorganization.
In addition to the provision for asbestos litigation discussed previously,
the Company has also recorded what it believes are adequate provisions for
environmental remediation and product-related liabilities (other than
asbestos-related claims), including provisions for testing for potential
remediation of conditions at its own facilities. The Company is subject to
federal, state and local environmental laws and regulations and certain legal
and administrative claims are pending or have been asserted against the Company.
Among these claims, the Company is a named party in several actions associated
with waste disposal sites (more fully discussed in Note 5 to the Unaudited
Condensed Consolidated Financial Statements). These actions include possible
obligations to remove or mitigate the effects on the environment of wastes
deposited at various sites, including Superfund sites and certain of the
Company's owned and previously owned facilities. The contingencies also include
claims for personal injury and/or property damage. The exact amount of such
future cost and timing of payments are indeterminable due to such unknown
33
factors as the magnitude of cleanup costs, the timing and extent of the remedial
actions that may be required, the determination of the Company's liability in
proportion to other potentially responsible parties, and the extent to which
costs may be recoverable from insurance. The Company has recorded provisions in
its financial statements for the estimated probable loss associated with all
known general and environmental contingencies. While the Company believes its
estimate of the future amount of these liabilities is reasonable, and that they
will be paid over a period of five to ten years, the timing and amount of such
payments may differ significantly from the Company's assumptions. Although the
effect of future government regulation could have a significant effect on the
Company's costs, the Company is not aware of any pending legislation which would
reasonably have such an effect. There can be no assurances that the costs of any
future government regulations could be passed along to its customers. Estimated
insurance recoveries related to these liabilities are reflected in other
non-current assets.
The outcome of these environmental matters could result in significant
expenses incurred by or judgments assessed against the Company.
Risk Factors That May Affect Future Results
Some of the information presented in or incorporated by reference in this
report constitutes "forward-looking statements," within the meaning of the
Private Securities Litigation Reform Act of 1995, that involve risks,
uncertainties and assumptions. These statements can be identified by the use of
the words such as "anticipate," "believe," "estimate," "expect," "intend,"
"plan," "project" and other words of similar meaning. In particular, these
include statements relating to intentions, beliefs or current expectations
concerning, among other things, future performance, results of operations, the
outcome of contingencies such as bankruptcy and other legal proceedings, and
financial conditions. These statements do not relate strictly to historical or
current facts. These forward-looking statements are based on the Company's
expectations, as of the date of this report, of future events, and the Company
undertakes no obligation to update any of these forward-looking statements.
Although the Company believes that these expectations are based on reasonable
assumptions, within the bounds of its knowledge of its business and operations,
there can be no assurance that actual results will not differ materially from
its expectations. Readers are cautioned not to place undue reliance on any
forward-looking statements. Any or all of these statements may turn out to be
incorrect. By their nature, forward-looking statements involve risks and
uncertainties because they relate to events and depend on circumstances that may
or may not occur in the future. Any forward-looking statements made in this
report speak only as of the date of such statement. It is not possible to
predict or identify all factors that could potentially cause actual results to
differ materially from expected and historical results. Factors that could cause
or contribute to the Company's actual results differing from its expectations
include those factors discussed below and in the Company's other filings with
the Securities and Exchange Commission.
The Company has significant asbestos liability and funding exposure, and any
plan of reorganization may not be confirmed.
As more fully set forth in Notes 1 and 6 of the Notes to Unaudited
Condensed Consolidated Financial Statements, which are included in this
Quarterly Report on Form 10-Q, the Company has significant liability and funding
exposure for asbestos claims. The Company has entered into settlement agreements
with various asbestos claimants totaling approximately $491 million and is aware
34
of additional unsettled claims with a proposed settlement value of approximately
$512 million. Satisfaction of this obligation pursuant to the terms of an
amended plan of reorganization is dependent on a determination by the Bankruptcy
Court that the plan has satisfied certain criteria under the Bankruptcy Code,
among other things.
There can be no assurance that the Company will finalize the terms of a
new amended plan by December 2, 2005, the current deadline for the Company to
submit a new amended plan and disclosure statement, that the Company will
receive the acceptances necessary for confirmation of a new amended plan of
reorganization, that a new amended plan will not be modified further, that a new
amended plan will receive necessary court approvals from the Bankruptcy Court or
the Federal District Court, or that such approvals will be received in a timely
fashion, that a new amended plan will be confirmed, or that a new amended plan,
if confirmed, will become effective. On November 7, 2005, the Bankruptcy Court
denied a request to extend Congoleum's exclusive right to file a plan of
reorganization and solicit acceptances thereof. The Bankruptcy Court ruled that
other parties may file proposed reorganization plans by December 2, 2005. It is
unclear whether any person other than Congoleum will attempt to propose a plan
or what any such plan would provide or propose.
A new amended plan of reorganization and any alternative plan of
reorganization pursued by the Company or confirmed by the Bankruptcy Court and
the Federal District Court could materially differ from the terms of the Sixth
Plan. Furthermore, the estimated costs and contributions to effect an amended
plan of reorganization or an alternative plan could be significantly greater
than currently estimated. Any plan of reorganization pursued by the Company will
be subject to numerous conditions, approvals and other requirements, including
Bankruptcy Court and Federal District Court approvals, and there can be no
assurance that such conditions, approvals and other requirements will be
satisfied or obtained.
Confirmation of a plan of reorganization will depend on the Company
obtaining exit financing to provide it with sufficient liquidity to pay accrued
interest and other obligations upon the plan going effective. If the Company's
cash flow from operations is materially less than anticipated, and/or if the
costs in connection with seeking confirmation of an amended plan of
reorganization or in connection with the insurance coverage litigation are
materially more than anticipated, or if sufficient funds from insurance proceeds
are not available at confirmation to reimburse coverage litigation costs as
expected, the Company may be unable to obtain sufficient exit financing, when
combined with net cash provided from operating activities, to provide sufficient
funds and the Company may not be able to obtain confirmation and effectiveness
of an amended plan of reorganization.
Some additional factors that could cause actual results to differ from the
Company's goals for resolving its asbestos liability through an amended plan of
reorganization include: (i) the future cost and timing of estimated asbestos
liabilities and payments, (ii) the availability of insurance coverage and
reimbursement from insurance companies that underwrote the applicable insurance
policies for the Company for asbestos-related claims, (iii) the costs relating
to the execution and implementation of any plan of reorganization pursued by the
Company, (iv) timely reaching agreement with other creditors, or classes of
creditors, that exist or may emerge, (v) satisfaction of the conditions and
obligations under the Company's outstanding debt instruments, (vi) the response
from time to time of the Company's and ABI's lenders, customers, suppliers and
other constituencies to the ongoing process arising from the Company's strategy
to settle its asbestos liability, (vii) the Company's ability to maintain
35
debtor-in-possession financing sufficient to provide it with funding that may be
needed during the pendency of its Chapter 11 case and to obtain exit financing
sufficient to provide it with funding that may be needed for its operations
after emerging from the bankruptcy process, in each case, on reasonable terms,
(viii) timely obtaining sufficient creditor and court approval of any
reorganization plan pursued by it and the court overruling any objections to the
plan that may be filed, (ix) costs of, developments in and the outcome of
insurance coverage litigation pending in New Jersey State Court involving
Congoleum and certain insurers, (x) the extent to which the Company is able to
obtain reimbursement for costs of the coverage litigation, and (xi) compliance
with the Bankruptcy Code, including Section 524(g). In any event, if the Company
is not successful in obtaining sufficient creditor and court approval of its
amended plan of reorganization, such failure would have a material adverse
effect upon its business, results of operations and financial condition.
In addition, there has been federal legislation proposed that, if adopted,
would establish a national trust to provide compensation to victims of
asbestos-related injuries and channel all current and future asbestos-related
personal injury claims to that trust. Due to the uncertainties involved with the
pending legislation, the Company does not know the effects that any such
legislation, if adopted, may have upon its business, results of operations or
financial condition, or upon any plan that may be proposed in the future. To
date, the Company has expended significant amounts pursuant to resolving its
asbestos liability relating to its Chapter 11 plan of reorganization. To the
extent any federal legislation is enacted, which does not credit the Company for
amounts paid by the Company pursuant to its plan of reorganization or requires
the Company to pay significant amounts to any national trust or otherwise, such
legislation could have a material adverse effect on the Company's business,
results of operations and financial condition. As a result of the Company's
significant liability and funding exposure for asbestos claims, there can be no
assurance that if it were to incur any unforecasted or unexpected liability or
disruption to its business or operations it would be able to withstand that
liability or disruption and continue as an operating company.
For further information regarding the Company's asbestos liability,
insurance coverage and strategy to resolve its asbestos liability, please see
Notes 1 and 6 of Notes to Unaudited Condensed Consolidated Financial Statements,
which are included in this Quarterly Report on Form 10-Q.
The Company may incur substantial liability for environmental, product and
general liability claims in addition to asbestos-related claims, and its
insurance coverage and its likely recoverable insurance proceeds may be
substantially less than the liability incurred by the Company for these claims.
Environmental Liabilities. Due to the nature of the Company's business and
certain of the substances which are or have been used, produced or discharged by
the Company, the Company's operations are subject to extensive federal, state
and local laws and regulations relating to the generation, storage, disposal,
handling, emission, transportation and discharge into the environment of
hazardous substances. The Company has historically expended substantial amounts
for compliance with existing environmental laws or regulations, including
environmental remediation costs at both third-party sites and Company-owned
36
sites. The Company will continue to be required to expend amounts in the future
for costs related to prior activities at its facilities and third party sites,
and for ongoing costs to comply with existing environmental laws; such amounts
may be substantial. There is no certainty that these amounts will not have a
material adverse effect on its business, results of operations and financial
condition because, as a result of environmental requirements becoming
increasingly strict, the Company is unable to determine the ultimate cost of
compliance with environmental laws and enforcement policies. Moreover, in
addition to potentially having to pay substantial amounts for compliance, future
environmental laws or regulations may require or cause the Company to modify or
curtail its operations, which could have a material adverse effect on the
Company's business, results of operations and financial condition.
Product and General Liabilities. In the ordinary course of its business,
the Company becomes involved in lawsuits, administrative proceedings, product
liability claims (in addition to asbestos-related claims) and other matters. In
some of these proceedings, plaintiffs may seek to recover large and sometimes
unspecified amounts and the matters may remain unresolved for several years.
These matters could have a material adverse effect on the Company's business,
results of operations and financial condition if the Company is unable to
successfully defend against or settle these matters, its insurance coverage is
insufficient to satisfy unfavorable judgments or settlements relating to these
matters, or the Company is unable to collect insurance proceeds relating to
these matters.
The Company is dependent upon a continuous supply of raw materials from third
party suppliers and would be harmed if there were a significant, prolonged
disruption in supply or increase in its raw material costs.
The Company's business is dependent upon a continuous supply of raw
materials from third party suppliers. The principal raw materials used by the
Company in its manufacture of sheet and tile flooring are vinyl resins,
plasticizers, latex, limestone, stabilizers, cellulose paper fibers, urethane
and transfer print paper. The Company purchases most of these raw materials from
multiple sources. Although the Company has generally not had difficulty in
obtaining its requirements for these materials, it has occasionally experienced
significant price increases for some of these materials. Raw material prices in
2004 and 2005 increased significantly and recent industry supply conditions for
specialty resins used in flooring have been very tight, despite significant
price increases, in part due to an explosion at a large resin plant in 2004 that
destroyed the plant and due to the effect of hurricanes in 2005. Although the
Company has been able to obtain sufficient supplies of specialty resin and other
raw materials, there can be no assurances that it may not have difficulty in the
future, particularly if global supply conditions deteriorate.
The Company believes that suitable alternative suppliers are generally
available for substantially all of its raw material requirements, although
quantities of certain materials available from alternative suppliers may be in
limited supply and production trials may be required to qualify new materials
for use. However, the Company does not have readily available alternative
sources of supply for specific designs of transfer print paper, which are
produced utilizing print cylinders engraved to the Company's specifications.
Although no loss of this source of supply is anticipated, replacement could take
a considerable period of time and interrupt production of some of the Company's
products. In an attempt to protect against this risk of loss of supply, the
Company maintains a raw material inventory and continually seeks to develop new
sources which will provide continuity of supply for its raw material
requirements. However, there is no certainty that the Company's maintenance of
its raw material inventory or its ongoing efforts to develop new sources of
supply would be successful in avoiding a material adverse effect on its
business, results of operations and financial condition if it were to realize an
extended interruption in the supply of its raw materials.
37
In addition, the Company could incur significant increases in the costs of
its raw materials. Although the Company generally attempts to pass on increases
in the costs of its raw materials to its customers, the Company's ability to do
so is, to a large extent, dependent upon the rate and magnitude of any increase,
competitive pressures and market conditions for its products. There have been in
the past, and may be in the future, periods of time during which increases in
these costs cannot be recovered. During those periods of time, there could be a
material adverse effect on the Company's business, results of operations and
financial condition.
The Company operates in a highly competitive flooring industry and some of its
competitors have greater resources and broader distribution channels than the
Company.
The market for the Company's products is highly competitive. The Company
encounters competition from three other manufacturers in North America and, to a
lesser extent, foreign manufacturers. Some of the Company's competitors have
greater financial and other resources and access to capital than the Company.
Furthermore, like the Company, one of the Company's major competitors has sought
protection under Chapter 11 of the Bankruptcy Code. When such competitor emerges
from bankruptcy as a continuing operating company it may have shed much of its
pre-filing liabilities and have a competitive cost advantage over the Company as
a result of having shed those liabilities. In addition, in order to maintain its
competitive position, the Company may need to make substantial investments in
its business, including its product development, manufacturing facilities,
distribution network and sales and marketing activities. Competitive pressures
may also result in decreased demand for the Company's products and in the loss
of the Company's market share for its products. Moreover, due to the competitive
nature of the Company's industry, the Company may be commercially restricted
from raising or even maintaining the sales prices of its products, which could
result in the Company incurring significant operating losses if its expenses
were to increase or otherwise represent an increased percentage of the Company's
sales.
The Company's business is subject to general economic conditions and conditions
specific to the remodeling and housing industries.
The Company is subject to the effects of general economic conditions. A
sustained general economic slowdown could have serious negative consequences for
the Company's business, results of operations and financial condition. Moreover,
the Company's business is cyclical and is affected by the economic factors that
affect the remodeling and housing industries in general and the manufactured
housing industry specifically, including the availability of credit, consumer
confidence, changes in interest rates, market demand and general economic
conditions.
The Company could realize shipment delays, depletion of inventory and increased
production costs resulting from unexpected disruptions of operations at any of
the Company's facilities.
The Company's business depends upon its ability to timely manufacture and
deliver products that meet the needs of its customers and the end users of the
Company's products. If the Company were to realize an unexpected, significant
and prolonged disruption of its operations at any of its facilities, including
disruptions in its manufacturing operations, it could result in shipment delays
of its products, depletion of its inventory as a result of reduced production
and increased production costs as a result of taking actions in an attempt to
cure the disruption or carry on its business while the disruption remains. Any
resulting delay, depletion or increased production cost could result in
increased costs, lower revenues and damaged customer and product end user
relations, which could have a material adverse effect on the Company's business,
results of operations and financial condition.
38
The Company offers limited warranties on its products which could result in the
Company incurring significant costs as a result of warranty claims.
The Company offers a limited warranty on all of its products against
manufacturing defects. In addition, as a part of its efforts to differentiate
mid- and high-end products through color, design and other attributes, the
Company offers enhanced warranties with respect to wear, moisture discoloration
and other performance characteristics, which generally increase with the price
of such products. If the Company were to incur a significant number of warranty
claims, the resulting warranty costs could be substantial.
The Company is heavily dependent upon its distributors to sell the Company's
products and the loss of a major distributor of the Company could have a
material adverse effect on the Company's business, results of operations and
financial condition.
The Company currently sells its products through approximately 17
distributors providing approximately 76 distribution points in the United States
and Canada, as well as directly to a limited number of mass market retailers.
The Company considers its distribution network very important to maintaining its
competitive position. Although the Company has more than one distributor in some
of its distribution territories and actively manages its credit exposure to its
distributors, the loss of a major distributor could have a materially adverse
impact on the Company's business, results of operations and financial condition.
The Company derives a significant percentage of its sales from two of its
distributors, LaSalle-Bristol Corporation and Mohawk Industries, Inc.
LaSalle-Bristol Corporation serves as the Company's distributor in the
manufactured housing market, and Mohawk Industries, Inc. serves as a retail
market distributor of the Company. These two distributors accounted for 70% of
the Company's net sales for the year ended December 31, 2004 and 65% of the
Company's net sales for the year ended December 31, 2003.
Stockholder votes are controlled by ABI; the Company's interests may not be the
same as ABI's interests.
ABI owns a majority (approximately 55% as of December 31, 2004) of the
outstanding shares of the Company's common stock, representing a 70.1% voting
interest. As a result, ABI can elect all of the Company's directors and can
control the vote on all matters, including determinations such as: approval of
mergers or other business combinations, sales of all or substantially all of the
Company's assets, any matters submitted to a vote of the Company's stockholders,
issuance of any additional common stock or other equity securities, incurrence
of debt other than in the ordinary course of business, the selection and tenure
of the Company's Chief Executive Officer, payment of dividends with respect to
common stock or other equity securities and other matters that might be
favorable to ABI. ABI's ability to prevent an unsolicited bid for us or any
other change in control could have an adverse effect on the market price for the
Company's common stock. In addition, certain officers of Congoleum are officers
of ABI and members of the family group that owns a controlling interest in ABI.
39
Possible future sales of shares by ABI could adversely affect the market for our
stock.
ABI may sell shares of the Company's common stock in compliance with the
federal securities laws. By virtue of ABI's current control of Congoleum, ABI
could sell large amounts of shares of the Company's common stock by causing the
Company to file a registration statement that would allow them to sell shares
more easily. In addition, ABI could sell shares of the Company's common stock
without registration. Although the Company can make no prediction as to the
effect, if any, that such sales would have on the market price of the Company's
common stock, sales of substantial amounts of the Company's common stock, or the
perception that such sales could occur, could adversely affect the market price
of the Company's common stock. If ABI sells or transfers shares of the Company's
common stock as a block, another person or entity could become the Company's
controlling stockholder.
The Company depends on key executives to run its business, and the loss of any
of these executives would likely harm the Company's business.
The Company depends on key executives to run its business. The Company's
future success will depend largely upon the continued service of these key
executives, all whom have no employee contract with the Company, and may
terminate their employment at any time without notice. Although certain key
executives of the Company are, directly or indirectly, large shareholders of the
Company, and thus are less likely to terminate their employment, the loss of any
key executive, or the failure by the key executive to perform in his current
position, could have a material adverse effect on the Company's business,
results of operations or financial condition.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to changes in prevailing market interest rates
affecting the return on its investments but does not consider this risk exposure
to be material to its financial condition or results of operations. The Company
invests primarily in highly liquid debt instruments with strong credit ratings
and short-term (less than one year) maturities. The carrying amount of these
investments approximates fair value due to the short-term maturities. Over 90%
of the Company's outstanding long-term debt as of December 31, 2004 consisted of
indebtedness with a fixed rate of interest which is not subject to change based
upon changes in prevailing market interest rates. Under its current policies,
the Company does not use derivative financial instruments, derivative commodity
instruments or other financial instruments to manage its exposure to changes in
interest rates, foreign currency exchange rates, commodity prices or equity
prices and does not hold any instruments for trading purposes.
40
Item 4. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures. The Company's Chief
Executive Officer and Chief Financial Officer have evaluated the
effectiveness of the Company's disclosure controls and procedures (as such
term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities
Exchange Act of 1934, as amended (the "Exchange Act")) as of the end of
the period covered by this quarterly report (the "Evaluation Date"). Based
on this evaluation, such officers have concluded that, as of the
Evaluation Date, the Company's disclosure controls and procedures are
effective in alerting them on a timely basis to material information
relating to the Company required to be included in the Company's reports
filed or submitted under the Exchange Act.
(b) Changes in Internal Control Over Financial Reporting. There have not been
any changes in the Company's internal control over financial reporting
during the last quarter covered by this Quarterly Report that have
materially affected, or are reasonably likely to materially affect, the
Company's internal control over financial reporting.
41
PART II. OTHER INFORMATION
Item 1. Legal Proceedings: The information contained in Note 1 "Basis of
Presentation", Note 5 "Environmental and Other Liabilities" and Note
6 "Asbestos Liabilities" of the Notes to Unaudited Condensed
Consolidated Financial Statements is incorporated herein by
reference.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds: None
Item 3. Defaults Upon Senior Securities: The commencement of the Chapter
11 proceedings constituted an event of default under the indenture
governing the Company's 8 5/8% Senior Notes. In addition, due to the
Chapter 11 proceedings, the Company was precluded from making the
interest payments due February 1, 2004, August 1, 2004, February 1,
2005 and August 1, 2005 on the Senior Notes. The aggregate amount of
accrued interest that was not paid on the Senior Notes on those
dates is approximately $17.3 million. As of September 30, 2005, the
principal amount of the Senior Notes is approximately $100 million.
These amounts, plus $1,363,000 of accrued interest on the interest
due but not paid in the aggregate on February 1, 2004, August 1,
2004, February 1, 2005 and August 1, 2005 are included in
"Liabilities Subject to Compromise."
Item 4. Submission of Matters to a Vote of Security Holders: None
Item 5. Other Information: None
42
Item 6. Exhibits:
(a) Exhibits
Exhibit
Number Exhibits
------ --------
3.1 Amended Certificate of Incorporation of the Company
3.2 Amended and Restated Bylaws of the Company
10.1 Form of Stock Option Agreement Under the Congoleum
Corporation 1999 Stock Option Plan for Non-Employee
Directors
10.2 Form of Nonqualified Stock Option Award Agreement Under
the Congoleum Corporation 1995 Stock Option Plan
31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive
Officer
31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial
Officer
32.1 Certification of the Chief Executive Officer pursuant to
18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002
32.2 Certification of the Chief Financial Officer pursuant to
18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002
99.1 Sixth Modified Joint Plan of Reorganization Under Chapter
11 of the Bankruptcy Code of Congoleum Corporation, et
al., dated as of July 22, 2005
99.2 Proposed Disclosure Statement with respect to the Sixth
Modified Joint Plan of Reorganization Under Chapter 11 of
the Bankruptcy Code of Congoleum Corporation, et al.,
dated as of July 22, 2005
99.3 Settlement Agreement and Release by and between Congoleum
Corporation and Liberty Mutual Insurance Company
99.4 Settlement Agreement and Release by, between and among
Congoleum Corporation and certain AIG Member Companies
99.5 Confidential Settlement Agreement and Release among
Congoleum Corporation, The Plan Trust and Certain
Underwriters at Lloyd's, London
99.6 Amendment to the Confidential Settlement Agreement and
Release among Congoleum Corporation, The Plan Trust and
Certain Underwriters at Lloyd's, London, dated June 22,
2005
99.7 Settlement Agreement and Release by, between and among
Congoleum Corporation and Federal Insurance Company
99.8 Confidential Settlement Agreement and Release among
Congoleum Corporation, the Plan Trust and Mt. McKinley
Insurance Company and Everest Reinsurance Company
43
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CONGOLEUM CORPORATION
(Registrant)
Date: November 14, 2005 By: /s/ Howard N. Feist III
---------------------------------
(Signature)
Howard N. Feist III
Chief Financial Officer
(Duly Authorized Officer and
Principal Financial & Accounting Officer)
44
Exhibit Index
Exhibit
Number Exhibits
------ --------
3.1 Amended Certificate of Incorporation of the Company (1)
3.2 Amended and Restated Bylaws of the Company (1)
10.1 Form of Stock Option Agreement Under the Congoleum
Corporation 1999 Stock Option Plan for Non-Employee
Directors
10.2 Form of Nonqualified Stock Option Award Agreement Under
the Congoleum Corporation 1995 Stock Option Plan
31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive
Officer
31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial
Officer
32.1 Certification of the Chief Executive Officer pursuant to
18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002
32.2 Certification of the Chief Financial Officer pursuant to
18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002
99.1 Sixth Modified Joint Plan of Reorganization Under Chapter
11 of the Bankruptcy Code of Congoleum Corporation, et
al., dated as of July 22, 2005 (2)
99.2 Proposed Disclosure Statement with respect to the Sixth
Modified Joint Plan of Reorganization Under Chapter 11 of
the Bankruptcy Code of Congoleum Corporation, et al.,
dated as of July 22, 2005 (2)
99.3 Settlement Agreement and Release by and between Congoleum
Corporation and Liberty Mutual Insurance Company (3)
99.4 Settlement Agreement and Release by, between and among
Congoleum Corporation and certain AIG Member Companies (3)
99.5 Confidential Settlement Agreement and Release among
Congoleum Corporation, The Plan Trust and Certain
Underwriters at Lloyd's, London (3)
99.6 Amendment to the Confidential Settlement Agreement and
Release among Congoleum Corporation, The Plan Trust and
Certain Underwriters at Lloyd's, London, dated June 22,
2005 (3)
99.7 Settlement Agreement and Release by, between and among
Congoleum Corporation and Federal Insurance Company
99.8 Confidential Settlement Agreement and Release among
Congoleum Corporation, the Plan Trust and Mt. McKinley
Insurance Company and Everest Reinsurance Company
(1) Incorporated by reference to the exhibit bearing the same description
filed with the Company's Quarterly Report on Form 10-Q for the period
ended June 30, 1996.
(2) Incorporated by reference to the exhibit bearing the same description
filed with the Company's Current Report on Form 8-K/A filed with the
Securities and Exchange Commission on July 29, 2005.
(3) Incorporated by reference to the exhibit bearing the same description
filed with the Company's Quarterly Report on Form 10-Q for the period
ended June 30, 2005.
45