Filed Pursuant to Rule 424(b)(3)
Registration No. 333-134810
PROSPECTUS
[OBJECT OMITTED]IC OMITTED]
KRONOS INTERNATIONAL, INC.
Offer to Exchange
All Outstanding
6 1/2% Senior Secured Notes due 2013
euro 400,000,000 Aggregate Principal Amount
for
New 6 1/2% Senior Secured Notes due 2013
euro 400,000,000 Aggregate Principal Amount
We are offering to exchange an aggregate principal amount of up to euro
400,000,000 of our new 6 1/2% Senior Secured Notes due 2013 (the "new notes"),
which have been registered under the Securities Act of 1933, for a like amount
of our old 6 1/2% Senior Secured Notes due 2013 (the "old notes").
o The exchange offer expires at 12:00 midnight, New York City time, on
July 24, 2006, unless we extend it.
o The terms of the new notes to be issued are substantially identical to the
terms of the old notes, except for transfer restrictions and registration
rights relating to the old notes.
o No established trading market for the new notes currently exists. We will
apply to have the new notes admitted to the Official List of the Luxembourg
Stock Exchange and for trading on the Euro MTF, the alternative market of
the Luxembourg Stock Exchange.
o You may withdraw tenders of old notes at any time prior to the expiration
of the exchange offer.
o We will not receive any proceeds from the exchange offer.
See "Risk Factors" beginning on page 9 for a discussion of risk factors
that you should consider before deciding to exchange your old notes for new
notes.
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or passed upon the
adequacy or accuracy of this prospectus. Any representation to the contrary is a
criminal offense.
The date of this prospectus is June 26, 2006.
TABLE OF CONTENTS
Page
Notice to Non-U.S. Investors................................................ii
Prospectus Summary..........................................................1
Risk Factors................................................................9
The Exchange Offer..........................................................16
Use of Proceeds.............................................................26
Capitalization..............................................................26
Selected Financial and Other Data...........................................27
Management's Discussion and Analysis of Financial
Condition and Results of Operations.......................................28
Business....................................................................46
Management..................................................................52
Certain Relationships and Related Transactions..............................56
Description of the New Notes................................................58
Registration Rights.........................................................77
Book-Entry; Delivery and Form...............................................78
Material Tax Considerations.................................................81
Plan of Distribution........................................................88
Where You Can Find More Information.........................................89
General Listing Information.................................................89
Legal Matters...............................................................89
Experts.....................................................................90
Index of Financial Statements...............................................F-1
This prospectus incorporates important business and financial information
about us that is not included in or delivered with this prospectus. We will
provide you without charge, on your request, a copy of any document that is
incorporated by reference into this prospectus, other than exhibits to those
documents that are not specifically incorporated by reference into those
documents, by writing Kronos International, Inc., 5430 LBJ Freeway, Suite 1700,
Dallas, Texas 75240-2697, Attention: Robert D. Graham, Vice President. To ensure
timely delivery, please make your request as soon a practicable and, in any
event, no later than five business days prior to the expiration of the exchange
offer.
You should rely only on the information provided in this prospectus. We
have not authorized anyone to provide you with any different information. The
information in this prospectus is current only as of the date on the cover, and
our business or financial condition and other information in this prospectus may
change after that date.
We accept responsibility for the information contained in this prospectus.
To the best of our knowledge, the information we give in this prospectus is in
accordance with the facts and contains no omissions likely to affect the import
of the Luxembourg Stock Exchange listing particulars.
i
NOTICE TO NON-U.S. INVESTORS
This prospectus does not constitute an offer to sell or an invitation to
subscribe for or purchase any of the new notes in any jurisdiction in which such
offer or invitation is not authorized or to any person to whom it is unlawful to
make such an offer or invitation. The distribution of this prospectus and this
exchange offer may be restricted by law in certain jurisdictions. Persons into
whose possession this prospectus comes are required to inform themselves about
and to observe any such restrictions. Each prospective purchaser of the new
notes must comply with all applicable laws and regulations in force in any
jurisdiction in which it purchases, offers or sells the new notes or possesses
or distributes this prospectus. In addition, each prospective purchaser must
obtain any consent, approval or permission required under the regulations in
force in any jurisdiction to which it is subject or in which it purchases,
offers or sells the new notes. We have no responsibility for obtaining such
consent, approval or permission.
Austria
The new notes may only be offered in the Republic of Austria in compliance
with the provisions of the Austrian Capital Market Act (Kapitalmarktgesetz) and
other laws applicable in the Republic of Austria governing the offer and sale of
the new notes in the Republic of Austria. The new notes are not registered or
otherwise authorized for public offer either under the Capital Market Act. The
new notes must not be, and are not being, offered or advertised publicly or by
public promotion, and no offering or marketing materials relating to the offer
under the Capital Markets Act (whether presently or in the future). Therefore,
this prospectus is only provided and personally addressed to a limited number of
qualified investors (in the meaning of sec 1 para 1 no. 5a of the Austrian
Capital Markets Act) in Austria and is strictly for their private use. The offer
is only being made to those recipients and does not constitute an offer or
advertisement to the public.
France
In France, the new notes may not be directly or indirectly offered or sold
to the public, and offers and sales of the new notes will only be made in France
to providers of investment services relating to portfolio management for the
account of third parties and/or to qualified investors acting for their own
account, in accordance with Articles L.411-1, L.411-2 and D.411-1 of the Code
Monetaire et Financier. Accordingly, this prospectus has not been submitted to
the Autorite des Marches Financiers. Neither this prospectus nor any other
offering material may be distributed to the public or used in connection with
any offer for subscription or sale of the new notes to the public in France or
offered to any investors other than those (if any) to whom offers and sales of
the new notes in France may be made as described above and no prospectus shall
be prepared and submitted for approval (visa) to the Autorite des Marches
Financiers.
Les titres ne peuvent etre offerts ni vendus directement ou indirectement
au public en France et l'offre ou la vente des titres ne pourra etre proposee
qu'a des personnes fournissant le service d'investissement de gestion de
portefeuille pour compte de tiers et/ou a des investisseurs qualifies agissant
pour compte propre conformement aux Articles L.411-1, L.411-2 et D.411-1 du Code
Monetaire et Financier. Par consequent, ce prospectus n'a pas ete soumis au visa
de l'Autorite des Marches Financiers et aucun prospectus ne sera prepare ou
soumis au visa de l'Autorite des Marches Financiers. Ni ce prospectus ni aucun
autre document promotionnel ne pourront etre communiques en France au public ou
utilise en relation avec l'offre de souscription ou la vente ou l'offre de
titres au public ou a toute personne autre que les investisseurs (le cas
echeant) decrits ci-dessus auxquels les titres peuvent etre offerts et vendus en
France.
Germany
The new notes may be offered and sold in Germany only in compliance with
the German Securities Prospectus Act (Wertpapierprospektgesetz) as amended, the
Commission Regulation (EC) No 809/2004 of April 29, 2004 as amended, or any
other laws applicable in Germany governing the issue, offering and sale of
securities. The prospectus has not been approved under the German Securities
Prospectus Act (Wertpapierprospektgesetz) or the Directive 2003/71/EC and
accordingly the new notes may not be offered publicly in Germany.
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Ireland
Insofar as the Republic of Ireland is concerned, this prospectus and the
information contained herein is confidential and has been prepared and is
intended for use on a confidential basis solely by those persons in the Republic
of Ireland to whom it is sent. It may not be reproduced, redistributed or passed
on to any other person in the Republic of Ireland or published in whole or in
part, for any purpose. The new notes will be offered only to persons in the
context of their trades, professions or occupations, within the meaning of
Article 2 of Directive 89/298/EEC, and whose ordinary business is to buy or sell
shares or debentures whether as principal or agent ("Professional Investors")
and, in particular, there will not be any offer or invitation to the public or
any section of the public to sell or any solicitation of any offer from the
public or any section of the public to purchase the new notes nor will any form
of application for the new notes be distributed in the Republic of Ireland other
than to Professional Investors. Accordingly, this prospectus and the information
contained herein does not constitute an invitation to the public in the Republic
of Ireland or any section thereof to purchase any shares or other securities in
any company and, accordingly, is not a prospectus within the meaning of the
Irish Companies Act 1963 (as amended) or the Irish European Communities
(Transferable Securities and Stock Exchange) Regulations 1992.
Italy
No action has been or will be taken which could allow an offering of the
new notes to the public in the Republic of Italy. Accordingly, the new notes may
not be offered or sold directly or indirectly in the Republic of Italy, and
neither this prospectus nor any other offering circular, prospectus, form of
application, advertisement, other offering material or other information
relating to the issuer or the new notes may be issued, distributed or published
in the Republic of Italy, except under circumstances that will result in
compliance with all applicable laws, orders, rules and regulations. The new
notes cannot be offered or sold to any natural persons nor to entities other
than professional investors either on the primary or on the secondary market.
Luxembourg
The new notes may not be offered or sold to the public in the Grand Duchy
of Luxembourg, directly or indirectly, and neither this prospectus nor any other
circular, prospectus, form of application, advertisement or other material may
be distributed, or otherwise made available in or from, or published in, the
Grand Duchy of Luxembourg except for the sole purpose of the admission to
trading and listing of the new notes on the Luxembourg Stock Exchange and except
in circumstances which do not constitute a public offer of securities to the
public.
The Netherlands
The new notes (including rights representing an interest in a Global Note)
may be not be offered or sold to individuals or legal entities in The
Netherlands other than to professional market parties within the meaning of
article 1a paragraph 3 of the Exemption Regulation to the Dutch Securities Trade
Supervision Act (Wet toezicht effectenverkeer 1995) unless one of the other
exemptions from or exceptions to the prohibition contained in article 3 of the
Dutch Securities Trade Supervision Act is applicable.
Spain
This prospectus is neither approved by nor registered in the administrative
registries of the Comision Nacional del Mercado del Valores ("CMNV"). The new
notes may not be offered or sold in Spain except in accordance with the
requirements of the Spanish Securities Market Law (Ley 24/1988, de 28 Julio, del
Mercado de Valores) as amended and restated, and further subsequent legislation.
Switzerland
The new notes may be offered in Switzerland on the basis of a private
placement and not as a public offering. The new notes will neither be listed on
the SWX Swiss Exchange nor are they subject to Swiss Law. This prospectus does
not constitute a prospectus within the meaning of Art. 1156 of the Swiss Federal
Code of Obligations or Arts. 32 et seq. of the Listing Rules of the SWX Swiss
Exchange, and does not comply with the Directive for Notes of Foreign Borrowers
of the Swiss Bankers Association. We will not apply for a listing of the new
notes on any Swiss stock exchange or other Swiss regulated market and this
prospectus may not comply with the information required under the relevant
listing rules. The new notes have not and will not be registered with the Swiss
Federal Banking Commission or any other Swiss authority for any purpose,
whatsoever.
iii
United Kingdom
The prospectus has not been approved by an authorized person in the United
Kingdom. The new notes may not be offered or sold other than to persons whose
ordinary activities involve them in acquiring, holding, managing or disposing of
investments (as principal or agent) for the purposes of their businesses or who
it is reasonable to expect will acquire, hold, manage or dispose of investments
(as principal or agent) for the purposes of their businesses where the issue of
the new notes would otherwise constitute a contravention of Section 19 of the
Financial Services and Markets Act 2000 (the "FSMA") by us. In addition, no
person may communicate or cause to be communicated any invitation or inducement
to engage in investment activity (within the meaning of Section 21 of the FSMA)
received by it in connection with the issue or sale of the new notes other than
in circumstances in which Section 21(1) of the FSMA does not apply to us.
iv
PROSPECTUS SUMMARY
In this prospectus, "KII," "we," "us" and "our" refer to Kronos
International, Inc. and its consolidated subsidiaries except where we expressly
state that we are only referring to Kronos International, Inc. As used in this
prospectus, "new notes" means our new 6 1/2% Senior Secured Notes due 2013 that
are being offered in this exchange offer and "old notes" means our outstanding 6
1/2% Senior Secured Notes due 2013 that we issued in April 2006. In this
prospectus, "notes" means the new notes and the old notes, collectively. The
following summary contains basic information about us, the new notes and this
exchange offer. It likely does not contain all the information that is important
to you. For a more complete understanding of us, the exchange offer and the new
notes, we encourage you to read this prospectus in its entirety and the other
documents we have referred you to.
The Company
We are a wholly-owned subsidiary of Kronos Worldwide, Inc. ("Kronos"). We
conduct Kronos' European value-added titanium dioxide pigments ("TiO2")
operations.
Titanium dioxide pigments are inorganic chemical products used for
imparting whiteness, brightness and opacity to a diverse range of customer
applications and end-use markets, including coatings, plastics, paper and other
industrial and consumer "quality-of-life" products. TiO2 is considered a
"quality-of-life" product with demand affected by gross domestic product in
various regions of the world. TiO2, the largest commercially used whitening
pigment by volume, derives its value from its whitening properties and
opacifying ability (commonly referred to as hiding power). As a result of TiO2's
high refractive index rating, it can provide more hiding power than any other
commercially produced white pigment. In addition, TiO2 demonstrates excellent
resistance to chemical attack, good thermal stability and resistance to
ultraviolet degradation. TiO2 is supplied to customers in either a powder or
slurry form.
Per capita consumption of TiO2 in the United States and Western Europe far
exceeds that in other areas of the world, and these regions are expected to
continue to be the largest consumers of TiO2. Significant regions for TiO2
consumption could emerge in Eastern Europe, the Far East or China as the
economies in these regions develop to the point that quality-of-life products,
including TiO2, experience greater demand.
We currently produce over 40 different TiO2 grades, sold under the Kronos
trademark, which provide a variety of performance properties to meet customers'
specific requirements. Our major customers include domestic and international
paint, plastics and paper manufacturers.
Along with our distributors and agents, we sell and provide technical
services for our products to over 3,000 customers in over 100 countries with the
majority of sales in Europe. TiO2 is distributed by rail and truck in either dry
or slurry form and by ocean carrier in dry form. Kronos, KII and our
predecessors have produced and marketed TiO2 in North America and Europe for
over 80 years. We believe that we have developed considerable expertise and
efficiency in the manufacture, sale, shipment and service of our products.
Sales of TiO2 represented about 87% of our total sales in 2005. Sales of
other products, complementary to our TiO2 business, comprise the following:
o We own an ilmenite mine in Norway and operate the mine pursuant to a
governmental concession with an unlimited term. Ilmenite is a raw
material used directly as a feedstock by some sulfate-process TiO2
plants, including all of our European sulfate-process plants. The mine
has estimated reserves that are expected to last at least 50 years.
Ilmenite sales to third parties represented approximately 6% of our
consolidated net sales in 2005.
o We manufacture and sell iron-based chemicals, which are by-products
and processed by-products of the TiO2 pigment production process.
These co-product chemicals are marketed through our Ecochem division
and are used primarily as treatment and conditioning agents for
industrial effluents and municipal wastewater as well as in the
manufacture of ore pigments, cement and agricultural products. Sales
of iron-based chemical products were about 6% of sales in 2005.
o We manufacture and sell certain titanium chemical products (titanium
oxychloride and titanyl sulfate), which are side-stream products from
the production of TiO2. Titanium oxychloride is used in specialty
applications in the formulation of pearlescent pigments, production of
electroceramic capacitors for cell phones and other electronic
devices. Titanyl sulfate products are used primarily in pearlescent
pigments. Sales of these products were about 1% of sales in 2005.
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Holding Company Structure
Our assets consist primarily of investments in our operating subsidiaries.
A majority of our cash flows are generated by our operating subsidiaries, and
our ability to service indebtedness, including our ability to pay the interest
on and principal of the notes, depends upon cash dividends and distributions or
other transfers we receive from our subsidiaries. None of our operating
subsidiaries have guaranteed the repayment of the notes. See "Risk Factors - The
notes are secured only by the pledge of 65% of the stock or other equity
interests of certain of our first-tier subsidiaries, and assets of our
subsidiaries will first be applied to repay indebtedness and liabilities of our
subsidiaries and may not be sufficient to repay the new notes" and "Risk Factors
- If our subsidiaries do not make sufficient distributions to us, then we will
not be able to make payments on our debt, including the new notes."
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The following chart illustrates our corporate structure as of March 31,
2006. Ownership is 100% unless otherwise indicated.
[OBJECT OMITTED]IC OMITTED]
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The Exchange Offer
In the exchange offer, we are offering to exchange your old notes for new
notes, which are identical in all material respects to the old notes, except
that:
o the new notes will be registered under the Securities Act of 1933, as
amended (the "Securities Act");
o the new notes will not contain transfer restrictions and registration
rights that relate to the old notes; and
o the new notes will not contain provisions relating to the payment of
additional interest to be made to the holders of the old notes under
circumstances related to the timing of the exchange offer.
The summary below describes the principal terms of the exchange offer. The
"Exchange Offer" section of this prospectus contains a more detailed description
of the exchange offer.
Old Notes.................................................... On April 11, 2006, we completed a private
offering of euro 400,000,000 aggregate principal
amount of 6 1/2% Senior Secured Notes due 2013,
which we refer to in this prospectus as the old
notes. We used the net proceeds from the
issuance of the old notes, plus approximately
$2.1 million of cash on hand, to repay
euro 375,000,000 aggregate principal amount of our
8 7/8% Senior Secured Notes due 2009 at the stated
redemption price of 104.437%, plus accrued and
unpaid interest.
Registration Rights Agreement................................ Simultaneously with the sale of the old notes,
we entered into a registration rights agreement,
which provides for the exchange offer. The
exchange offer satisfies your rights under the
registration rights agreement. After the
exchange offer is over, you will not be entitled
to any exchange or registration rights with
respect to your old notes, except under limited
circumstances.
The Exchange Offer........................................... We are offering to exchange the old notes for up
to euro 400,000,000 aggregate principal amount of
6 1/2% Senior Secured Notes due 2013 that have been
registered under the Securities Act, which we
refer to in this prospectus as the new notes.
You may exchange old notes only in integral
multiples of euro 1,000 principal amount.
Expiration of the Exchange Offer............................. The exchange offer will expire at 12:00,
midnight, New York City time, on
July 24, 2006, or a later date and
time to which we may extend it.
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Withdrawal................................................... You may withdraw your tender of old notes
pursuant to the exchange offer at any time
before the expiration of the exchange offer. We
will return any old notes not accepted for
exchange for any reason without expense to you
promptly after the expiration or termination of
the exchange offer.
Conditions to the Exchange Offer............................. The exchange offer is subject to customary
conditions, which we may waive. Please read
"The Exchange Offer-Conditions to the Exchange
Offer" for more information regarding the
conditions to the exchange offer.
Acceptance of Old Notes and Delivery of New Notes............ We will accept and exchange any and all old
notes that are validly tendered in the exchange
offer and not withdrawn before the exchange
offer expires. The new notes will be delivered
promptly following the exchange offer.
Resale of New Notes.......................................... We believe that the new notes issued pursuant to
the exchange offer in exchange for old notes may
be offered for resale, resold and otherwise
transferred by you without compliance with the
registration and prospectus delivery provisions
of the Securities Act if:
o........you are not our "affiliate" within the
meaning of Rule 405 under the
Securities Act;
o you are acquiring the new notes in the
ordinary course of your business; and
o you have not engaged in, do not intend
to engage in, and have no arrangement
or understanding with any person to
participate in, a distribution of the
new notes.
If you are an affiliate of ours, or are engaging
in or intend to engage in, or have any
arrangement or understanding with any person to
participate in, a distribution of the new notes,
then:
o you will not be permitted to tender old
notes in the exchange offer; and
o you must comply with the registration
and prospectus delivery requirements of
the Securities Act in connection with
any resale of the old notes.
Each participating broker-dealer that receives
new notes for its own account under the exchange
offer in exchange for old notes that were
acquired by the broker-dealer as a result of
market-making or other trading activity must
acknowledge that it will deliver a prospectus in
connection with any resale of the new notes.
See "Plan of Distribution."
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Consequences of Failing to Exchange........................... If you are a holder of old notes and you do not
tender your old notes in the exchange offer,
then you will continue to hold your old notes
and will be entitled to all the rights and will
be subject to all the limitations applicable to
the old notes in the indenture. All untendered
old notes will remain subject to the
restrictions on transfer provided for in the old
notes and in the indenture. Generally,
untendered old notes will remain restricted
securities and may not be offered or sold,
unless registered under the Securities Act,
except pursuant to an exemption from, or in a
transaction not subject to, the Securities Act
and applicable state securities laws. Other
than in connection with the exchange offer, we
do not currently anticipate that we will
register the old notes under the Securities
Act. The trading market for old notes could be
adversely affected if some but not all of the
old notes are tendered and accepted in the
exchange offer.
Tax Considerations........................................... The exchange of old notes for new notes in the
exchange offer will not be a taxable event for
U.S. federal income tax purposes. See "Material
Tax Considerations" for a more detailed
description of the tax consequences of the
exchange.
Use of Proceeds.............................................. We will not receive any cash proceeds from the
issuance of new notes pursuant to the exchange
offer.
Exchange Agent............................................... The Bank of New York is the exchange agent for
the exchange offer. The address and telephone
number of the exchange agent are set forth under
"The Exchange Offer-Exchange Agent; Paying Agent
in Luxembourg."
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The New Notes
The new notes will evidence the same debt as the old notes and will be
governed by the same indenture under which the old notes were issued. The
summary below describes the principal terms of the new notes. The "Description
of the New Notes" section of this prospectus contains a more detailed
description of the terms and conditions of the new notes.
Issuer..................................... Kronos International, Inc.
Securities Offered......................... euro 400,000,000 principal amount of 6 1/2% Senior Secured Notes due 2013.
Maturity................................... April 15, 2013.
Interest Rate.............................. 6 1/2% per year (calculated using a 360-day year).
Interest Payment Dates..................... April 15 and October 15.
Ranking.................................... The new notes will rank equally in right of payment with the old notes
and with all of our senior debt and senior in right of payment to all
of our subordinated debt. The new notes will be structurally
subordinated to the debt and liabilities of our subsidiaries. As of
March 31, 2006, we had outstanding approximately $67 million of debt
and other liabilities that rank equally in right of payment with the
new notes, $383 million of debt and other liabilities that rank senior
to the new notes and no debt and other liabilities that rank junior to
the new notes. Such debt and other liabilities that rank senior to the
new notes represent debt and other liabilities of our subsidiaries,
while the debt and other liabilities that rank equally in right of
payment with the new notes represent KII's debt and other liabilities,
other than the euro 375,000,000 aggregate principal amount of our 8 7/8%
Senior Secured Notes due 2009 that we redeemed in April 2006 using the
proceeds from the issuance of the old notes. Also as of March 31,
2006, our subsidiaries could borrow approximately $97 million under
credit facilities, all of which, if borrowed would rank senior to the
notes. See "Capitalization."
Security................................... The new notes will be secured by pledges in favor of the trustee for
the new notes or a collateral agent on behalf of the holders of 65% of
the stock or other equity interests of certain of our first-tier
subsidiaries as indicated on the organizational chart on page 3. This
is the same collateral that secures the old notes.
Sinking Fund............................... None.
Optional Redemption........................ We cannot redeem the new notes until October 15, 2009. On that date
and thereafter we may redeem some or all of the new notes at the
redemption prices listed in the "Description of the New Notes" section
under the heading "Optional Redemption," plus accrued interest.
Optional Redemption After Public Equity
Offerings.....................................At.any.time (which may be more than once) on or before April 15, 2009,
we can choose to redeem up to 35% of the outstanding notes with money
that we or Kronos raise in one or more public equity offerings, as
long as:
o........we pay 106.500% of the face amount of the notes, plus
interest;
o we redeem the notes within 90 days of completing the public
equity offering; and
o at least 65% of the aggregate principal amount of notes
originally issued remains outstanding afterwards.
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Change of Control Offer.................... If we undergo a change of control, we must give holders of the notes
the opportunity to sell us their notes at 101% of their face amount,
plus accrued interest. See "Description of the New Notes - Repurchase
at the Option of Holders upon Change of Control. Should any such
change of control occur, it is possible that we would not have
sufficient funds at the time of a change of control to finance the
required repurchase of notes. See "Risk Factors - We may not have the
ability to raise the funds necessary to finance the change of control
offer required by the indenture."
Asset Sale Proceeds........................ If we or our subsidiaries engage in asset sales, we generally must
either invest the net cash proceeds from such sales in our business
within a period of time, prepay senior debt or make an offer to
purchase a principal amount of the notes equal to the excess net cash
proceeds. The purchase price of the new notes will be 100% of their
principal amount, plus accrued interest. See "Description of the New
Notes - Certain Covenants - Limitation on Asset Sales."
Restrictive Covenants...................... The indenture governing the new notes contains covenants limiting our
(and most or all of our subsidiaries') ability to:
o........incur additional debt or enter into sale and leaseback
transactions;
o pay dividends or distributions on our capital stock or
repurchase our capital stock;
o issue stock of subsidiaries;
o make certain investments;
o create liens on our assets to secure debt;
o enter into transactions with affiliates;
o merge or consolidate with another company; and
o transfer and sell assets.
These covenants are subject to a number of important limitations and
exceptions.
Market for the New Notes................... We will apply to have the new notes admitted to the Official List of
the Luxembourg Stock Exchange and for trading on the Euro MTF, the
alternative market of the Luxembourg Stock Exchange, upon the
completion of the exchange offer. We cannot provide any assurance as
to the liquidity of any market for the new notes.
Risk Factors............................... Investing in the new notes involves substantial risks. See "Risk
Factors" for a description of certain of the risks you should consider
before investing in the new notes.
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RISK FACTORS
Before you decide to exchange your old notes for new notes, you should
carefully consider the following factors in addition to the other information
contained in this prospectus. Each of the risks described in this section with
respect to the new notes is equally applicable to the old notes.
Risks Related to the Exchange Offer
You may have difficulty selling the old notes that you do not exchange.
If you do not exchange your old notes for the new notes offered in this
exchange offer, then you will continue to be subject to transfer restrictions of
your old notes. Those transfer restrictions are described in the indenture
governing the new notes and in the legend contained on the old notes, and arose
because we originally issued the old notes under exemptions from, and in
transactions not subject to, the registration requirements of the Securities
Act.
In general, you may offer or sell your old notes only if they are
registered under the Securities Act and applicable state securities laws, or if
they are offered and sold under an exemption from those requirements. We do not
intend to register the old notes under the Securities Act.
If a large number of old notes are exchanged for new notes issued in the
exchange offer, then it may be more difficult for you to sell your unexchanged
old notes. In addition, if you do not exchange your old notes in the exchange
offer, then you will no longer be entitled to have those notes registered under
the Securities Act.
See "The Exchange Offer-Consequences of Failing to Exchange Old Notes" for
a discussion of the possible consequences of failing to exchange your old notes.
Risks Related to the Notes
The indenture governing the notes allows us to incur additional debt ranking
equal to the notes and make certain restricted payments.
Subject to specified limitations, the indenture permits us and our
subsidiaries to incur additional debt, including secured debt that may be
secured by the collateral on a pari passu basis. In addition, as of March 31,
2006, our subsidiaries have unused borrowing availability of approximately $97
million under our subsidiaries' credit facility, subject to certain tests, all
of which borrowings would be structurally senior to the notes and secured by
substantially all of the current assets of our subsidiaries. If new debt is
added to our and our subsidiaries' current debt levels, then the related risks
that we and they now face could intensify.
The indenture allows us to make certain restricted payments. As of March
31, 2006, approximately $101 million was available to make such payments. See
"Description of Notes-Certain Covenants-Restricted Payments."
The notes will be secured only by pledges of 65% of the stock or other
equity interests of certain of our first-tier subsidiaries, and assets of our
subsidiaries will first be applied to repay indebtedness and liabilities of our
subsidiaries and may not be sufficient to repay the notes.
The notes will be secured only by pledges of 65% of the stock or other
equity interests of certain of our first-tier subsidiaries as indicated on the
organization chart on page 3. Each of the stock pledges securing the notes has
been made in favor of the trustee or a collateral agent appointed under the
indenture governing the notes and is governed by the local law of Denmark,
France, Germany and England, as applicable, the jurisdictions where our pledged
subsidiaries are formed. As a result, the validity of those pledges and the
ability of the trustee or a collateral agent, as applicable, or noteholders to
realize any benefits associated with the pledged shares may be limited under
applicable local law as any action to enforce the stock pledges must be taken
under the laws of the applicable jurisdiction and such laws may differ in
significant respects from the laws of the United States. The rights of the
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trustee or a collateral agent, as applicable, or the noteholders to foreclose
upon and sell the pledged shares upon the occurrence of a default is subject to
limitations under applicable local insolvency laws if an insolvency proceeding
were commenced by or against us or our subsidiaries. Any delay or inability to
realize any benefit associated with the security interest in any jurisdiction or
the application of local insolvency laws that are contrary to noteholders'
interests could have a material adverse effect on the security interest we have
granted in our subsidiaries and could result in an inability to realize the full
value of the share pledges. The security interest in 65% of the shares in our
United Kingdom subsidiary is through an equitable charge. A subsequent legal
mortgage over such shares would rank in priority to this equitable charge
(unless the chargee under such subsequent legal mortgage acted in bad faith).
In addition to the foregoing, the old notes are and the new notes will be
effectively subordinated in right of payment to all of the indebtedness and
other liabilities of our subsidiaries, which, as of March 31, 2006, were
approximately $383 million. Furthermore, our debt under our subsidiaries' credit
facility is secured by liens on substantially all of the current assets of our
subsidiaries. The new notes will not, and the old notes do not, have the benefit
of this collateral, nor any other assets of our subsidiaries. Accordingly, if an
event of default occurs under our subsidiaries' credit facility, the lenders
under our subsidiaries' credit facility will have a right to such assets and may
foreclose upon the collateral. In that case, such assets would first be used to
repay in full amounts outstanding under our subsidiaries' credit facility and
may not be available to repay the notes. In the event of an insolvency event
affecting any of our subsidiaries, local insolvency law would be likely to
apply. In general, such local insolvency law affords significant protection for
senior secured creditors, and, in the event of an insolvency event, such
creditors may take actions that would materially and adversely affect the value
of our ongoing business and the equity value of such subsidiaries. The remaining
value, if any, of our assets may not be sufficient to repay the notes.
Covenant restrictions under our subsidiaries' credit facility and the
indenture may limit our ability to operate our business.
Our subsidiaries' credit facility and the indenture governing the notes
contain, among other things, covenants that may restrict our ability to finance
future operations or capital needs or to engage in other business activities.
Our subsidiaries' credit facility and the indenture restrict, among other
things, our ability and the ability of our restricted subsidiaries to:
o borrow money, pay dividends or make distributions;
o purchase or redeem stock;
o make investments and extend credit;
o engage in transactions with affiliates;
o engage in sale-leaseback transactions;
o freely distribute the proceeds from certain asset sales;
o effect a consolidation or merger or sell, transfer, lease or otherwise
dispose of all or substantially all of our assets; and
o create liens on our assets.
In addition, our subsidiaries' credit facility requires these subsidiaries
to maintain specified financial ratios and satisfy certain financial condition
tests, which may require that action be taken to reduce debt or to act in a
manner contrary to our business objectives. Events beyond our control, including
changes in general business and economic conditions, may affect our ability to
meet those financial ratios and financial condition tests. We cannot assure you
that we will meet those tests or that the lenders will waive any failure to meet
those tests. A breach of any of these covenants would result in a default under
our subsidiaries' credit facility and any resulting acceleration under the
credit facility may result in a default under the indenture. If an event of
default under our subsidiaries' credit facility occurs, the lenders could elect
to declare all amounts outstanding thereunder, together with accrued interest,
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to be immediately due and payable. Such action by the lenders could result in an
effort to restructure such indebtedness or engage in asset sales in order to
generate cash proceeds to satisfy such indebtedness. Any such debt restructuring
may not be in our best interests or the best interests of the holders of the new
notes. If we attempt an asset sale, whether on our own initiative or as a result
of pressure from holders of our indebtedness, we may not be able to complete a
sale on terms acceptable to us. Any default under our indebtedness, or the
perception that we may go into default, could also adversely affect the trading
value of the new notes.
If our subsidiaries do not make sufficient distributions to us, we will not be
able to make payments on our debt, including the notes.
Our assets consist primarily of investments in our operating subsidiaries.
A majority of our cash flows are generated by our operating subsidiaries, and
our ability to service indebtedness, including our ability to pay the interest
on and principal of the notes, depends upon cash dividends and distributions or
other transfers from our subsidiaries. In addition, any payment of dividends,
distributions, loans or advances by our subsidiaries to us could be subject to
restrictions on or taxation of dividends or repatriation of earnings under
applicable local law, monetary transfer restrictions and foreign currency
exchange regulations in the jurisdictions in which our subsidiaries operate, and
any restrictions imposed by the current and future debt instruments of our
subsidiaries. Payments our subsidiaries make to us are contingent upon our
subsidiaries' earnings.
Our subsidiaries are separate and distinct legal entities that have no
obligation, contingent or otherwise, to pay any amounts due pursuant to the
notes or to make any funds available therefor, whether by dividends, loans,
distributions or other payments, and do not guarantee the payment of interest
on, or principal of, the notes. Any right we have to receive any assets of any
of our subsidiaries upon the liquidation or reorganization of any such
subsidiary, and the consequent right of holders of notes to realize proceeds
from the sale of such assets, will be effectively subordinated to the claims of
that subsidiary's creditors, including trade creditors and holders of debt
issued by the subsidiary.
No public market exists for the new notes, and any market for the new notes may
be illiquid.
Application has been made to admit the old notes to the Official List of
the Luxembourg Stock Exchange and for trading on the Euro MTF, the alternative
market of the Luxembourg Stock Exchange. Application will be made to admit the
new notes to the Official List of the Luxembourg Stock Exchange and for trading
on the Euro MTF, the alternative market of the Luxembourg Stock Exchange. The
initial purchaser of the old notes has informed us that it intends to make a
market in the notes. However, the initial purchaser is not obligated to do so,
and may cease market-making activities at any time. Accordingly, we cannot give
any assurance as to:
o the likelihood that an active market for the new notes will develop;
o the liquidity of any such market;
o the ability of holders to sell their new notes; or
o the prices that holders may obtain for their new notes upon any sale.
In addition, the liquidity of the trading market for the new notes and the
market price quoted for the new notes will depend on many factors, including our
operating results, the market for similar securities, currency exchange rates
and interest rates. Historically, the market for non-investment grade debt has
been subject to disruptions that have caused substantial volatility in the
prices of securities similar to the new notes. We cannot guarantee that the
market for the new notes will not be subject to similar disruptions or that any
such disruptions will not have an adverse effect on the value or marketability
of the new notes.
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We may not have the ability to raise the funds necessary to finance the change
of control offer required by the indenture.
Upon a change of control, we are required to offer to repurchase all
outstanding notes at 101% of the face amount thereof, plus accrued and unpaid
interest, if any, to the date of repurchase. A failure to make such an offer
would constitute an event of default under the indenture. The source of funds
for any such purchase of notes will be our available cash or cash generated from
our subsidiaries' operations or other sources, including borrowing, sales of
assets or sales of equity. We cannot assure you that sufficient funds will be
available at the time of any change of control to make any required repurchases
of notes tendered. If the holders of the notes exercise their right to require
us to repurchase all of the notes upon a change of control, the financial effect
of this repurchase could cause a default under our other debt, even if the
change of control itself would not cause a default. Accordingly, it is possible
that we will not have sufficient funds at the time of the change of control to
finance the required repurchase of notes. See "Description of the Notes - Change
of Control" for additional information.
You may not be able to determine when a change of control has occurred.
Under the indenture, within 60 days following the date on which a change of
control occurs, we are required to send you and the trustee a notice of the
offer to repurchase your notes. In some cases, such as, for example, a sale of
substantially all of our assets, you may not be able to determine when a change
of control giving rise to your right to have us repurchase notes has occurred,
which may adversely affect your ability to enforce this provision of the
indenture.
The terms of the exchange notes may not protect you if we undergo a highly
leveraged transaction.
We may undergo a highly-leveraged transaction, such as a recapitalization,
reorganization, restructuring, merger or similar transaction. Such a transaction
may not be included in the definition of change of control in the indenture or
otherwise restricted by the terms of the indenture. In such an event, the
indenture will not afford you protection from any adverse aspects of such
transaction.
Risks Related to Our Business
Demand for, and prices of, certain of our products are cyclical, and we may
experience prolonged depressed market conditions for our products, which may
result in reduced earnings or operating losses.
Approximately 87% of our revenues is attributable to sales of TiO2. Pricing
within the global TiO2 industry over the long term is cyclical, and changes in
industry economic conditions, especially in Western industrialized nations, can
significantly impact our earnings and operating cash flows. This may result in
reduced earnings or operating losses.
Historically, the markets for the TiO2 we produce have experienced
alternating periods of increasing and decreasing demand. Relative changes in the
selling prices for our products is one of the main factors that affect the level
of our profitability. In periods of increasing demand, our selling prices and
profit margins generally will tend to increase, while in periods of decreasing
demand our selling prices and profit margins generally tend to decrease. Selling
prices (in billing currencies) for TiO2 were generally: increasing during the
first quarter of 2003, flat during the second quarter of 2003, decreasing during
the last half of 2003 and the first quarter of 2004, flat during the second
quarter of 2004, increasing during the last half of 2004 and the first half of
2005 and decreasing during the second half of 2005.
Our overall average TiO2 selling prices in billing currencies:
o were nominally higher in 2003 as compared to 2002;
o were 3% lower in 2004 as compared to 2003;
o were 5% higher in 2005 as compared to 2004; and
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o were 1% higher in the first quarter of 2006 as compared to the first
quarter of 2005.
Future growth in demand for TiO2 may not be sufficient to alleviate any
future conditions of excess industry capacity, and such conditions may not be
sustained or may be further aggravated by anticipated or unanticipated capacity
additions or other events. The demand for TiO2 during a given year is also
subject to annual seasonal fluctuations. TiO2 sales are generally higher in the
first half of the year than in the second half of the year due in part to the
increase in paint production in the spring to meet the spring and summer
painting season demand.
As a global business, we are exposed to local business risks in different
countries, which could result in operating losses.
We conduct all of our businesses in several jurisdictions outside of the
United States and are subject to risks normally associated with international
operations, which include trade barriers, tariffs, exchange controls, national
and regional labor strikes, social and political risks, general economic risks,
seizures, nationalizations, compliance with a variety of foreign laws, including
tax laws, and the difficulty in enforcing agreements and collecting receivables
through foreign legal systems. For example, we have substantial net operating
loss carryforwards in Germany, and any change in German tax law that adversely
impacts our ability to fully utilize such carryforwards could adversely affect
us.
We may incur losses from fluctuations in currency exchange rates.
We operate our businesses in several different countries and sell our
products worldwide. Therefore, we are exposed to risks related to the prices
that we receive for our products and the need to convert currencies that we may
receive for some of our products into the currencies required to pay some of our
debt, or into currencies in which we may purchase certain raw materials or pay
for certain services, all of which could result in future losses depending on
fluctuations in foreign currency exchange rates.
We sell several of our products in mature and highly-competitive industries and
face price pressures in the markets in which we operate, which may result in
reduced earnings or operating losses.
The global markets in which we operate our business are highly-competitive.
Competition is based on a number of factors, such as price, product quality and
service. Some of our competitors may be able to drive down prices for our
products because their costs are lower than our costs. In addition, some of our
competitors' financial, technological and other resources may be greater than
our resources, and such competitors may be better able to withstand changes in
market conditions. Our competitors may be able to respond more quickly than we
can to new or emerging technologies and changes in customer requirements.
Further, consolidation of our competitors or customers may result in reduced
demand for our products. In addition, new competitors could emerge by modifying
their existing production facilities so they could manufacture products that
compete with our products. The occurrence of any of these events could result in
reduced earnings or operating losses.
Higher costs or limited availability of our raw materials may decrease our
liquidity.
The number of sources for, and availability of, certain raw materials is
specific to the particular geographical region in which a facility is located.
For example, titanium-containing feedstocks suitable for use in our TiO2
facilities are available from a limited number of suppliers around the world.
Political and economic instability in the countries from which we purchase our
raw material supplies could adversely affect their availability. Should our
vendors not be able to meet their contractual obligations or should we be
otherwise unable to obtain necessary raw materials, we may incur higher costs
for raw materials or may be required to reduce production levels, either of
which may decrease our liquidity as we may be unable to offset such higher costs
with increased selling prices for our products.
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We are subject to many environmental and safety regulations with respect to our
operating facilities that may result in unanticipated costs or liabilities.
Our facilities are subject to extensive laws, regulations, rules and
ordinances relating to the protection of the environment, including those
governing the discharge of pollutants in the air and water and the generation,
management and disposal of hazardous substances and wastes or other materials.
We may incur substantial costs, including fines, damages and criminal penalties
or civil sanctions, or experience interruptions in our operations for actual or
alleged violations or compliance requirements arising under environmental laws.
Our operations could result in violations under environmental laws, including
spills or other releases of hazardous substances to the environment. Some of our
operating facilities are in densely populated urban areas or in industrial areas
adjacent to other operating facilities. In the event of an accidental release or
catastrophic incident, we could incur material costs as a result of addressing
such an event and in implementing measures to prevent such incidents. Given the
nature of our business, violations of environmental laws may result in
restrictions imposed on our operating activities or substantial fines,
penalties, damages or other costs, including as a result of private litigation.
Our production facilities have been used for a number of years to
manufacture products or conduct mining operations. We may incur additional costs
related to compliance with environmental laws applicable to our historic
operations and these facilities. In addition, we may incur significant
expenditures to comply with existing or future environmental laws. Costs
relating to environmental matters will be subject to evolving regulatory
requirements and will depend on the timing of promulgation and enforcement of
specific standards that impose requirements on our operations. Costs beyond
those currently anticipated may be required under existing and future
environmental laws.
If our patents are declared invalid or our trade secrets become known to
competitors, our ability to compete may be adversely affected.
Protection of our proprietary processes and other technology is important
to our competitive position. Consequently, we rely on judicial enforcement for
protection of our patents, and our patents may be challenged, invalidated,
circumvented or rendered unenforceable. Furthermore, if any pending patent
application filed by us does not result in an issued patent, or if patents are
issued to us but such patents do not provide meaningful protection of our
intellectual property, then the use of any such intellectual property by our
competitors could result in decreasing our cash flows. Additionally, our
competitors or other third parties may obtain patents that restrict or preclude
our ability to lawfully produce or sell our products in a competitive manner,
which could have the same effects.
We also rely on certain unpatented proprietary know-how and continuing
technological innovation and other trade secrets to develop and maintain our
competitive position. Although it is our practice to enter into confidentiality
agreements to protect our intellectual property, because these confidentiality
agreements may be breached, such agreements may not provide sufficient
protection for our trade secrets or proprietary know-how, or adequate remedies
may not be available in the event of an unauthorized use or disclosure of such
trade secrets and know-how. In addition, others could obtain knowledge of such
trade secrets through independent development or other access by legal means.
Loss of key personnel or our ability to attract and retain new qualified
personnel could hurt our businesses and inhibit our ability to operate and grow
successfully.
Our success in the highly-competitive markets in which we operate will
continue to depend to a significant extent on the leadership teams of our
businesses and other key management personnel. We generally do not have binding
employment agreements with any of these managers. This increases the risks that
we may not be able to retain our current management personnel and we may not be
able to recruit qualified individuals to join our management team, including
recruiting qualified individuals to replace any of our current personnel that
may leave in the future.
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Our relationships with our union employees could deteriorate.
At March 31, 2006, we employed approximately 1,950 persons worldwide in our
various businesses. A significant number of our employees are subject to
collective bargaining or similar arrangements. We may not be able to negotiate
labor agreements with respect to these employees on satisfactory terms or at
all. If our employees were to engage in a strike, work stoppage or other
slowdown, we could experience a significant disruption of our operations or
higher ongoing labor costs.
Our leverage may impair our financial condition or limit our ability to operate
our businesses.
We currently have a significant amount of debt. As of March 31, 2006, our
total consolidated debt was approximately $460 million, substantially all of
which related to the euro 375,000,000 aggregate principal amount of our 8 7/8%
Senior Secured Notes due 2009 that we redeemed in April 2006 using the proceeds
from the issuance of the old notes ($481 million on an as-adjusted basis, giving
effect to the issuance of the old notes and the application of the net proceeds
from such issuance to redeem the euro 375,000,000 aggregate principal amount of
our 8 7/8% Senior Secured Notes due 2009). Our level of debt could have
important consequences to our stockholders and creditors, including:
o making it more difficult for us to satisfy our obligations with respect to
our liabilities;
o increasing our vulnerability to adverse general economic and industry
conditions;
o requiring a portion of our cash flow from operations be used for the
payment of interest on our debt, therefore reducing our ability to use our
cash flow to fund working capital, capital expenditures, dividends on our
common stock, acquisitions and general corporate requirements;
o limiting our ability to obtain additional financing to fund future working
capital, capital expenditures, acquisitions and general corporate
requirements;
o limiting our flexibility in planning for, or reacting to, changes in our
business and the industry in which we operate; and
o placing us at a competitive disadvantage relative to other less leveraged
competitors.
In addition to our indebtedness, we are party to various lease and other
agreements pursuant to which, along with our indebtedness, we are committed to
pay approximately $71.3 million in 2006. Our ability to make payments on and
refinance our debt, and to fund planned capital expenditures, depends on our
future ability to generate cash flow. To some extent, this is subject to general
economic, financial, competitive, legislative, regulatory and other factors that
are beyond our control. In addition, our ability to borrow funds under our
subsidiaries' credit facilities in the future will in some instances depend in
part on these subsidiaries' ability to maintain specified financial ratios and
satisfy certain financial covenants contained in the applicable credit
agreement. Our business may not generate cash flows from operating activities
sufficient to enable us to pay our debts when they become due and to fund our
other liquidity needs. As a result, we may need to refinance all or a portion of
our debt before maturity. We may not be able to refinance any of our debt on
favorable terms, if at all. Any inability to generate sufficient cash flows or
to refinance our debt on favorable terms could have a material adverse effect on
our financial condition.
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THE EXCHANGE OFFER
Purpose and Effect of the Exchange Offer
When we issued the old notes on April 11, 2006, we entered into a
registration rights agreement with the initial purchaser of the old notes. A
copy of the registration rights agreement is filed as an exhibit to the
registration statement of which this prospectus is a part. Under the
registration rights agreement, we agreed to:
o file and cause to become effective a registration statement with respect to
an offer to exchange the old notes for new notes that have been registered
under the Securities Act; or
o file and cause to become effective a shelf registration statement with
respect to the resale of the old notes.
If we complete the exchange offer within 300 days after the issuance of the
old notes, then we will satisfy those requirements under the registration rights
agreements. If we do not complete the exchange offer within 300 days of the
issuance of the old notes and a shelf registration statement has not been
declared effective, then we will be required to pay additional interest to the
holders of the old notes.
Terms of the Exchange Offer
As of the date of this prospectus, euro 400.0 million aggregate principal
amount of the old notes are outstanding. This prospectus and the accompanying
letter of transmittal together constitute the exchange offer. This prospectus
and the letter of transmittal are being sent to all registered holders of old
notes. There will be no fixed record date for determining registered holders of
old notes entitled to participate in the exchange offer.
Upon the terms and subject to the conditions set forth in this prospectus
and in the letter of transmittal, we will accept for exchange any old notes
properly tendered and not withdrawn before expiration of the exchange offer. We
will issue euro 1,000 principal amount of new notes in exchange for each euro
1,000 principal amount of old notes surrendered under the exchange offer.
Old notes may be tendered only in integral multiples of euro 1,000. The
exchange offer is not conditioned upon any minimum aggregate principal amount of
old notes being tendered for exchange.
The form and terms of the new notes will be substantially identical to the
form and terms of the old notes, except that the new notes:
o will be registered under the Securities Act;
o will not contain transfer restrictions and registration rights that relate
to the old notes; and
o will not contain provisions relating to the payment of additional interest
to be made to the holders of the old notes under circumstances related to
the timing of the exchange offer.
The new notes will evidence the same debt as the old notes. The new notes
will be issued under and entitled to the benefits of the same indenture that
authorized the issuance of the old notes. For a description of the indenture,
see "Description of the New Notes."
In connection with the exchange offer, holders of the old notes do not have
any appraisal or dissenters' rights under applicable law or the Indenture. We
intend to conduct the exchange offer in accordance with the applicable
requirements of the Securities Act, the Securities Exchange Act of 1934, as
amended (the "Exchange Act"), and the rules and regulations of the SEC. The
exchange offer is not being made to, nor will we accept tenders for exchange
from, holders of old notes in any jurisdiction in which the exchange offer or
the acceptance of it would not be in compliance with the securities or blue sky
laws, or other applicable laws, of the jurisdiction.
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Holders who tender old notes in the exchange offer will not be required to
pay brokerage commissions or fees or, subject to the instructions in the letter
of transmittal, transfer taxes with respect to the exchange of old notes. We
will pay all charges and expenses, other than applicable taxes described below,
in connection with the exchange offer. It is important that you read "-Fees and
Expenses" for more details regarding fees and expenses incurred in the exchange
offer.
We expressly reserve the right, in our sole discretion:
o to extend the expiration date;
o to delay accepting any old notes due to an extension of the exchange offer;
o if any of the conditions set forth below under "-Conditions to the Exchange
Offer" have not been satisfied, to terminate the exchange offer and not
accept any notes for exchange; and
o to amend the exchange offer in any manner.
Any delay in acceptance of any old notes due to an extension of the
exchange offer will be consistent with Rule 14e-1(c) promulgated under the
Exchange Act.
In the event of a material change in the exchange offer, including the
waiver of a material condition, we will extend the offer period necessary so
that at least five business days remain in the exchange offer following notice
of the material change.
We will give written notice of any extension, delay, non-acceptance,
termination or amendment as promptly as practicable by public announcement, and,
in the case of an extension, no later than 9:00 a.m., New York City time, on the
next business day after the previously-scheduled expiration date.
During an extension, all old notes previously tendered will remain subject
to the exchange offer and may be accepted for exchange by us. Any old notes not
accepted for exchange for any reason will be returned without cost to the holder
that tendered them promptly after the expiration or termination of the exchange
offer.
Expiration of the Exchange Offer
The exchange offer will expire at 12:00, midnight, New York City time, on
July 24, 2006. We can extend the exchange offer in our sole discretion, in
which case the term "expiration date" shall mean the latest date and time to
which we extend the exchange offer.
Conditions to the Exchange Offer
Despite any other term of the exchange offer, we will not be required to
accept for exchange any old notes or to issue new notes in the exchange offer.
We may terminate or amend the exchange offer as provided in this prospectus
before the expiration date if in our reasonable judgment:
o the exchange offer, or the making of any exchange by a holder of old notes,
would violate applicable law or any applicable interpretation of the staff
of the SEC;
o any action or proceeding has been instituted or threatened in any court or
by any governmental agency with respect to the exchange offer that would
reasonably be expected to impair our ability to proceed with the exchange
offer, or a material adverse development has occurred in any existing
action or proceeding that relates to us; and
o the registration statement of which this prospectus is a part has not been
declared, or will not continue to be, effective.
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We will not be obligated to accept for exchange any old notes that are not
validly tendered in accordance with the exchange offer.
These conditions are solely for our benefit and we may assert them
regardless of the circumstances that may give rise to them or waive them in
whole or in part at any time or at various times in our sole discretion. We may
waive the preceding conditions in whole or in part at any time or from time to
time in our sole discretion. If we do so, the exchange offer will remain open
for at least three business days following the waiver of any of the preceding
conditions. If we fail at any time to exercise any of the foregoing rights, this
failure will not constitute a waiver of that right. Each of these rights will be
deemed an ongoing right that we may assert at any time or at various times.
We will not accept for exchange any old notes tendered, and will not issue
new notes in exchange for any old notes, if at that time a stop order is
threatened or in effect with respect to the registration statement of which this
prospectus is a part or the qualification of the indenture under the Trust
Indenture Act of 1939.
Procedures for Tendering
We have forwarded to you, along with this prospectus, a letter of
transmittal relating to this exchange offer. Because all the old notes are held
in book-entry accounts maintained by the exchange agent at Euroclear Bank
S.A./N.V., as operator of the Euroclear System ("Euroclear"), or Clearstream
Banking, Societe Anonyme, Luxembourg ("Clearstream"), a holder need not submit a
letter of transmittal if the holder tenders old notes in accordance with the
procedures mandated by Euroclear or Clearstream, as the case may be. To tender
old notes without submitting a letter of transmittal, the electronic
instructions sent to Euroclear or Clearstream and transmitted to the exchange
agent must contain your acknowledgment of receipt of, and your agreement to be
bound by and to make all of the representations contained in, the letter of
transmittal. In all other cases, a letter of transmittal must be manually
executed and delivered as described in this prospectus.
To tender in the exchange offer, a holder must comply with the procedures
of Euroclear or Clearstream, as applicable, and either:
o complete, sign and date the letter of transmittal, or a facsimile of the
letter of transmittal; have the signature on the letter of transmittal
guaranteed if the letter is transmittal so requires; and deliver the letter
of transmittal or facsimile to the exchange agent or the paying agent in
Luxembourg prior to 12:00, midnight, New York City time, on the expiration
date; or
o in lieu of delivering a letter of transmittal, instruct Euroclear or
Clearstream, as the case may be, to transmit on behalf of the holder an
agent's message to the exchange agent, which agent's message must be
received by the exchange agent prior to 12:00, midnight, New York City
time, on the expiration date.
In addition, either:
o the exchange agent or the paying agent in Luxembourg must receive the
certificates for the old notes along with the letter of transmittal; or
o the exchange agent or the paying agent in Luxembourg must receive, before
the expiration date, timely confirmation of the book-entry transfer of the
old notes being tendered into the exchange agent's account at Euroclear or
Clearstream according to the procedure for book-entry described below,
along with the letter of transmittal or an agent's message.
The term "agent's message" means a message, transmitted by Euroclear or
Clearstream and received by the exchange agent, which states that Euroclear or
Clearstream has received an express acknowledgment from a participant tendering
old notes that the participant has received and agrees to be bound by the terms
of the letter of transmittal, and that we may enforce that agreement against the
participant.
-18-
To be tendered effectively, the exchange agent or the paying agent in
Luxembourg must receive any physical delivery of the letter of transmittal and
other required documents at the address set forth below under "-Exchange Agent;
Paying Agent in Luxembourg" before the expiration of the exchange offer. To
receive confirmation of valid tender of old notes, a holder should contact the
exchange agent or the paying agent in Luxembourg at the applicable telephone
number listed under "-Exchange Agent; Paying Agent in Luxembourg."
The tender by a holder that is not withdrawn before expiration of the
exchange offer will constitute an agreement between that holder and us, in
accordance with the terms and subject to the conditions set forth in this
prospectus and in the letter of transmittal. Only a registered holder of old
notes may tender the old notes in the exchange offer. If a holder completing a
letter of transmittal tenders less than all of the old notes held by that
holder, then that tendering holder should fill in the applicable box of the
letter of transmittal. The amount of old notes delivered to the exchange agent
or the paying agent in Luxembourg will be deemed to have been tendered unless
otherwise indicated.
If old notes, the letter of transmittal or any other required documents are
physically delivered to the exchange agent or the paying agent in Luxembourg,
the method of delivery is at the holder's election and risk. Rather than mail
these items, we recommend that holders use an overnight or hand-delivery
service. In all cases, holders should allow sufficient time to assure delivery
to the exchange agent or the paying agent in Luxembourg before expiration of the
exchange offer. Holders should not send the letter of transmittal or old notes
to us. Holders may request their respective brokers, dealers, commercial banks,
trust companies or other nominees to effect the above transactions for them.
Any beneficial owner whose old notes are registered in the name of a
broker, dealer, commercial bank, trust company or other nominee and who wishes
to tender should contact the registered holder promptly and instruct it to
tender on the owner's behalf. If the beneficial owner wishes to tender on its
own behalf, then it must, prior to completing and executing the letter of
transmittal and delivering its old notes, either:
o make appropriate arrangements to register ownership of the old notes in the
owner's name; or
o obtain a properly-completed bond power from the registered holder of old
notes.
The transfer of registered ownership may take considerable time and may not
be completed prior to the expiration date.
If the applicable letter of transmittal is signed by the record holder(s)
of the old notes tendered, then the signature must correspond with the name(s)
written on the face of the old note without alteration, enlargement or any
change whatsoever. If the applicable letter of transmittal is signed by a
participant in Euroclear or Clearstream, as applicable, then the signature must
correspond with the name as it appears on the security position listing as the
holder of the old notes.
Except as set forth below, a signature on a letter of transmittal or a
notice of withdrawal must be guaranteed by an eligible guarantor institution.
Eligible guarantor institutions include banks, brokers, dealers, municipal
securities dealers, municipal securities brokers, government securities dealers,
government securities brokers, credit unions, national securities exchanges,
registered securities associations, clearing agencies and savings associations.
The signature need not be guaranteed by an eligible guarantor institution if the
old notes are tendered:
o by a registered holder of old notes who has not completed the box entitled
"Special Registration Instructions" or "Special Delivery Instructions" on
the letter of transmittal; or
o for the account of an eligible institution.
If the letter of transmittal is signed by a person other than the
registered holder of any old notes, then the old notes must be endorsed or
accompanied by a properly-completed bond power. The bond power must be signed by
-19-
the registered holder as the registered holder's name appears on the old notes
and an eligible institution must guarantee the signature on the bond power.
If the letter of transmittal or any old notes or bond powers are signed by
trustees, executors, administrators, guardians, attorneys-in-fact, officers of
corporations or others acting in a fiduciary or representative capacity, then
these persons should so indicate when signing. Unless we waive this requirement,
they should also submit evidence satisfactory to us of their authority to
deliver the letter of transmittal.
We will determine in our sole discretion all questions as to the validity,
form, eligibility, including time of receipt, acceptance and withdrawal of
tendered old notes. Our determination will be final and binding. We reserve the
absolute right to reject any old notes not properly tendered or any old notes
the acceptance of which would, in the opinion of our counsel, be unlawful. We
also reserve the right to waive any defects, irregularities or conditions of
tender as to particular old notes. Our interpretation of the terms and
conditions of the exchange offer, including the instructions in the letter of
transmittal, will be final and binding on all parties. If we waive a condition
with respect to any particular holder, we will waive it for all holders.
Unless waived, holders of old notes must cure any defects or irregularities
in connection with tenders of old notes within the time that we determine.
Although we intend to notify holders of defects or irregularities with respect
to tenders of old notes, neither we, the exchange agent, the paying agent in
Luxembourg nor any other person will incur any liability for failure to give
notification. Tenders of old notes will not be deemed made until those defects
or irregularities have been cured or waived. Any old notes received by the
exchange agent or the paying agent in Luxembourg that are not properly tendered
and as to which the defects or irregularities have not been cured or waived will
be returned by the exchange agent or the paying agent in Luxembourg without cost
to the tendering holder, unless otherwise provided in the letter of transmittal,
as soon as practicable following the expiration date.
By signing the letter of transmittal, or causing Euroclear or Clearstream,
as applicable, to transmit an agent's message to the exchange agent, each
tendering holder of old notes will represent to us that, among other things:
o any new notes that the holder receives will be acquired in the ordinary
course of its business;
o the holder has no arrangement or understanding with any person or entity to
participate in the distribution of the new notes;
o if the holder is not a broker-dealer, that it is not engaged in and does
not intend to engage in the distribution of the new notes;
o if the holder is a broker-dealer that will receive new notes for its own
account in exchange for old notes that were acquired as a result of
market-making activities or other trading activities, that it will deliver
a prospectus, as required by law, in connection with any resale of those
new notes (see "Plan of Distribution"); and
o the holder is not our "affiliate," as defined in Rule 405 of the Securities
Act.
If any holder or any such other person is our "affiliate," or is engaged in
or intends to engage in or has an arrangement or understanding with any person
to participate in a distribution of the new notes to be acquired in the exchange
offer, then that holder or any such other person:
o may not rely on the applicable interpretations of the staff of the SEC;
o is not entitled and will not be permitted to tender old notes in the
exchange offer; and must comply with the registration and prospectus
delivery requirements of the Securities Act in connection with any resale
transaction.
-20-
Each broker-dealer who acquired its old notes as a result of market-making
activities or other trading activities and thereafter receives new notes issued
for its own account in the exchange offer, must acknowledge that it will deliver
a prospectus in connection with any resale of such new notes issued in the
exchange offer. The letter of transmittal states that by so acknowledging and by
delivering a prospectus, a broker-dealer will not be deemed to admit that it is
an "underwriter" within the meaning of the Securities Act. See "Plan of
Distribution" for a discussion of the exchange and resale obligations of
broker-dealers in connection with the exchange offer.
Acceptance of Old Notes for Exchange; Delivery of New Notes
Upon satisfaction or waiver of all of the conditions to the exchange offer,
we will accept, promptly after the expiration date, all old notes properly
tendered and will issue the new notes registered under the Securities Act. For
purposes of the exchange offer, we shall be deemed to have accepted properly
tendered old notes for exchange when, as and if we have given oral or written
notice to the exchange agent, with written confirmation of any oral notice to be
given promptly thereafter. See "-Conditions to the Exchange Offer" for a
discussion of the conditions that must be satisfied before we are required to
accept any old notes for exchange.
For each old note accepted for exchange, the holder will receive a new note
registered under the Securities Act having a principal amount equal to, and in
the denomination of, that of the surrendered old note. Accordingly, registered
holders of new notes on the relevant record date for the first interest payment
date following the consummation of the exchange offer will receive interest
accruing from the most recent date to which interest has been paid or, if no
interest has been paid on the old notes, from the date of issuance of the old
notes. Old notes that we accept for exchange will cease to accrue interest from
and after the date of consummation of the exchange offer. Under the registration
rights agreement, we may be required to make additional payments of additional
interest to the holders of the old notes under circumstances relating to the
timing of exchange offer.
In all cases, we will issue new notes for old notes that we have accepted
for exchange under the exchange offer only after the exchange agent or the
paying agent in Luxembourg has timely received:
o the certificates representing the old notes, or a timely confirmation from
Euroclear or Clearstream of book-entry transfer of the old notes into the
exchange agent's account;
o a properly-completed and duly executed letter of transmittal, or in the
case of a book-entry tender, a properly transmitted agent's message; and
o all other required documents.
Book-Entry Transfer
The exchange agent has advised us that it will establish an account with
respect to the old notes at Euroclear and Clearstream as book-entry transfer
facilities, for purposes of the exchange offer within two business days after
the date of this prospectus. Any financial institution that is a participant in
the book-entry transfer facility's system may make book-entry delivery of old
notes by causing the book-entry transfer facility to transfer the old notes into
the exchange agent's account at the facility in accordance with the facility's
procedures for transfer. However, although delivery of old notes may be effected
through book-entry transfer at the facility, a properly-completed and
duly-executed letter of transmittal or an agent's message, and any other
required documents, must nonetheless be transmitted to, and received by, the
exchange agent or the paying agent in Luxembourg at the address set forth below
under "-Exchange Agent; Paying Agent in Luxembourg" prior to 12:00, midnight,
New York City time, on the expiration date.
Withdrawal of Tenders
Except as otherwise provided in this prospectus, holders of old notes may
withdraw their tenders at any time before expiration of the exchange offer.
-21-
For a withdrawal to be effective, the exchange agent must receive a notice
of withdrawal transmitted by Euroclear or Clearstream on behalf of the holder in
accordance with the standard operating procedures of Euroclear or Clearstream,
or a written notice of withdrawal, which may be by telegram, facsimile
transmission or letter, at one of the addresses set forth below under "-Exchange
Agent; Paying Agent in Luxembourg."
Any notice of withdrawal must:
o specify the name of the person who tendered the old notes to be withdrawn;
o identify the old notes to be withdrawn, including the principal amount of
the old notes to be withdrawn; and
o where certificates for old notes have been transmitted, specify the name in
which the old notes were registered, if different from that of the
withdrawing holder.
If certificates for old notes have been delivered or otherwise identified
to the exchange agent, then, prior to the release of those certificates, the
withdrawing holder must also submit:
o the serial numbers of the particular certificates to be withdrawn; and
o a signed notice of withdrawal with signatures guaranteed by an eligible
institution, unless the withdrawing holder is an eligible institution.
If old notes have been tendered pursuant to the procedures for book-entry
transfer described above, any notice of withdrawal must specify the name and
number of the account at Euroclear or Clearstream, as applicable, to be credited
with the withdrawn old notes and otherwise comply with the procedures of the
facility.
We will determine all questions as to the validity, form and eligibility,
including time of receipt, of notices of withdrawal, and our determination shall
be final and binding on all parties. We will deem any old notes so withdrawn not
to have been validly tendered for exchange for purposes of the exchange offer.
We will return any old notes that have been tendered for exchange but that are
not exchanged for any reason to their holder without cost to the holder. You may
retender properly withdrawn old notes by following one of the procedures
described under "-Procedures for Tendering" above at any time on or before
expiration of the exchange offer.
Exchange Agent; Paying Agent in Luxembourg
The Bank of New York has been appointed as exchange agent for the exchange
offer, and The Bank of New York (Luxembourg) S.A. has been appointed as paying
agent in Luxembourg for the exchange offer. All executed letters of transmittal
should be delivered to either our exchange agent or our paying agent in
Luxembourg at the applicable address set forth below. You should direct
questions and requests for assistance, requests for additional copies of this
prospectus or of the letter of transmittal to the exchange agent or the paying
agent in Luxembourg addressed as follows:
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The Exchange Agent:
By Registered Mail, Hand Delivery or Overnight Courier:
The Bank of New York
Lower Ground Floor
30 Cannon Street
London
EC4M 6XH
Attn: Julie Levy
For Information, Call:
011 44 (207) 964-6513 or
011 44 (207) 964-7235
By Facsimile Transmission:
(for Eligible Institutions Only)
011 44 (207) 964-6369 or
011 44 (207) 964-7294
Confirm by Telephone:
011 44 (207) 964-7235
The Paying Agent in Luxembourg:
By Registered Mail, Hand Delivery or Overnight Courier:
The Bank of New York (Luxembourg) S.A.
Aerogolf Center, 1A Hoehenhof
L-1736 Senningerberg
Luxembourg
Attn: Petra Ries
For Information, Call:
011 44 (0) 20 7964 7662
By Facsimile Transmission:
(for Eligible Institutions Only)
011 44 (0) 20 7964 6399
Confirm by Telephone:
011 44 (0) 20 7964 7662
Delivery of the letter of transmittal to an address other than as shown
above or transmission of the letter of transmittal via facsimile other than as
set forth above does not constitute a valid delivery of the letter of
transmittal.
The rules of the Luxembourg Stock Exchange require us to appoint a paying
agent in Luxembourg and to permit the paying agent in Luxembourg to accept
tender of executed letters of transmittal and other required documents and to
perform certain other activities in connection with the exchange offer. However,
all activities described in this prospectus and in the letter of transmittal to
be performed by either the exchange agent or the paying agent in Luxembourg in
connection with the exchange offer will be coordinated by the exchange agent.
Fees and Expenses
We have not retained any dealer-manager in connection with the exchange
offer and will not make any payments to broker-dealers or others soliciting
acceptances of the exchange offer. We will, however, pay the exchange agent
reasonable and customary fees for its services and reimburse it for its related
reasonable out-of-pocket expenses.
We will pay the cash expenses to be incurred in connection with the
exchange offer, including the following:
-23-
o SEC registration fees;
o fees and expenses of the exchange agent and trustee;
o our accounting and legal fees; and
o our printing and mailing costs.
Transfer Taxes
We will pay all transfer taxes, if any, applicable to the exchange of old
notes under the exchange offer. A tendering holder of old notes, however, will
be required to pay any transfer taxes, whether imposed on the registered holder
or any other person, if:
o certificates representing old notes for principal amounts not tendered or
accepted for exchange are to be delivered to, or are to be issued in the
name of, any person other than the registered holder of old notes tendered;
o new notes are to be delivered to, or issued in the name of, any person
other than the registered holder of the old notes;
o tendered old notes are registered in the name of any person other than the
person signing the letter of transmittal; or
o a transfer tax is imposed for any reason other than the exchange of old
notes under the exchange offer.
If satisfactory evidence of payment of transfer taxes is not submitted with
the letter of transmittal, then the amount of any transfer taxes will be billed
to the tendering holder.
Accounting Treatment
We will record the new notes in our accounting records at the same carrying
value as the old notes, which is the aggregate principal amount, as reflected in
our accounting records on the date of exchange, plus any unamortized discount
related to the issuance of the old notes. Accordingly, we will not recognize any
gain or loss for accounting purposes in connection with the exchange offer. The
expenses of the exchange offer will be amortized over the term of the new notes.
Resale of New Notes
Based on interpretations of the staff of the SEC, as set forth in no-action
letters to third parties, we believe that new notes issued under the exchange
offer in exchange for old notes may be offered for resale, resold and otherwise
transferred by any old note holder without further registration under the
Securities Act and without delivery of a prospectus that satisfies the
requirements of Section 10 of the Securities Act if:
o the holder is not our "affiliate" within the meaning of Rule 405 under the
Securities Act;
o the new notes are acquired in the ordinary course of the holder's business;
and
o the holder does not intend to participate in a distribution of the new
notes.
Any holder who exchanges old notes in the exchange offer with the intention
of participating in any manner in a distribution of the new notes must comply
with the registration and prospectus delivery requirements of the Securities Act
in connection with a secondary resale transaction.
-24-
This prospectus may be used for an offer to resell, resale or other
retransfer of new notes. With regard to broker-dealers, only broker-dealers that
acquired the old notes as a result of market-making activities or other trading
activities may participate in the exchange offer. Each broker-dealer that
receives new notes for its own account in exchange for old notes, where the old
notes were acquired by the broker-dealer as a result of market-making activities
or other trading activities, must acknowledge that it will deliver a prospectus
in connection with any resale of the new notes. Please read "Plan of
Distribution" for more details regarding the transfer of new notes.
Consequences of Failing to Exchange Old Notes
Holders who desire to tender their old notes in exchange for new notes
registered under the Securities Act should allow sufficient time to ensure
timely delivery. Neither we nor the exchange agent is under any duty to give
notification of defects or irregularities with respect to the tenders of old
notes for exchange.
Old notes that are not tendered or are tendered but not accepted will,
following the consummation of the exchange offer, continue to be subject to the
provisions in the indenture regarding the transfer and exchange of the old notes
and the existing restrictions on transfer set forth in the legend on the old
notes and in the offering memorandum dated April 5, 2006, relating to the old
notes. Except in limited circumstances with respect to specific types of holders
of old notes, we will have no further obligation to provide for the registration
under the Securities Act of such old notes. In general, old notes, unless
registered under the Securities Act, may not be offered or sold except pursuant
to an exemption from, or in a transaction not subject to, the Securities Act and
applicable state securities laws. We do not anticipate that we will take any
action to register the untendered old notes under the Securities Act or under
any state securities laws.
Upon completion of the exchange offer, holders of the old notes will not be
entitled to any further registration rights under the registration rights
agreement, except under limited circumstances.
Old notes that are not exchanged in the exchange offer will remain
outstanding and continue to accrue interest and will be entitled to the rights
and benefits their holders have under the indenture relating to the old notes
and the new notes. Holders of the new notes and any old notes that remain
outstanding after consummation of the exchange offer will vote together as a
single class for purposes of determining whether holders of the requisite
percentage of the class have taken certain actions or exercised certain rights
under the indenture.
-25-
USE OF PROCEEDS
We will not receive any cash proceeds from the issuance of the new notes
under the exchange offer. In consideration for issuing the new notes as
contemplated by this prospectus, we will receive the old notes in like principal
amount, the terms of which are identical in all material respects to the new
notes. The old notes surrendered in exchange for the new notes will be retired
and canceled and cannot be reissued. Accordingly, the issuance of the new notes
will not result in any increase or decrease in our indebtedness.
CAPITALIZATION
The following table sets forth our unaudited historical consolidated cash
and cash equivalents and capitalization as of March 31, 2006, and on an
as-adjusted basis after giving effect to the issuance of the old notes in April
2006 and the application of the net proceeds from such issuance to redeem the
euro 375,000,000 aggregate principal amount of our 8 7/8% Senior Secured Notes
due 2009. The information set forth below should be read in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and our audited Consolidated Financial Statements and the related
notes included elsewhere in this prospectus. Euro amounts have been presented in
U.S. dollars at an exchange rate of euro 1.00 to $1.20, based on the closing
spot rate on March 31, 2006 reported by Bloomberg.
March 31, 2006
(unaudited)
-------------------------------
Historical As adjusted
------------- -------------
(In millions)
Cash, cash equivalents and restricted cash equivalents................... $ 56.7 $ 54.6
========== ==========
Debt:
Senior secured notes due 2013.......................................... $ - $ 476.7
Senior secured notes due 2009.......................................... 455.6 -
Revolving credit facilities of subsidiaries............................ - -
Other.................................................................. 4.6 4.6
---------- ----------
Total debt.......................................................... 460.2 481.3
Stockholder's equity..................................................... 199.7 185.5
---------- ----------
Total capitalization................................................ $ 659.9 $ 666.8
========== ==========
The as adjusted amounts shown above include the effects of the following
adjustments:
o The issuance of the old notes (euro 400,000,000 aggregate principal amount)
at their issue price of 99.306% of their principal amount;
o The redemption of the euro 375,000,000 aggregate principal amount of our 8
7/8% Senior Secured Notes due 2009, using the net proceeds from the
issuance of the old notes and approximately $2.1 million of our cash on
hand; and
o Recognition of a net $21.3 million pre-tax charge ($14.2 million, net of
income tax benefit at the applicable German effective income tax rate of
33.2%) related to the early extinguishment of our 8 7/8% Senior Secured
Notes due 2009, consisting of the call premium on such notes and the net
write-off of the deferred financing costs and existing unamortized premium
related to such notes.
-26-
SELECTED FINANCIAL AND OTHER DATA
The statement of operations data for the years ended December 31, 2003,
2004 and 2005, and the balance sheet data as of December 31, 2004 and 2005, have
been derived from our audited Consolidated Financial Statements included
elsewhere in this prospectus. The statement of operations data for the years
ended December 31, 2001 and 2002, and the balance sheet data as of December 31,
2001, 2002 and 2003, have been derived from our audited Consolidated Financial
Statements not separately presented herein. The statement of operations data for
the three months ended March 31, 2005 and 2006, and the balance sheet data as of
March 31, 2006, have been derived from our unaudited Consolidated Financial
Statements included elsewhere in this prospectus. The balance sheet data as of
March 31, 2005 has been derived from our unaudited Consolidated Financial
Statements not separately presented herein. In our opinion, all adjustments,
consisting only of normal recurring adjustments, necessary to state fairly the
consolidated financial position, results of operations and cash flows for such
interim periods have been made. The results of operations for the interim
periods are not necessarily indicative of the operating results for a full year
or of future operations. The selected financial and other data below should be
read in conjunction with "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and our Consolidated Financial Statements
and related notes included elsewhere in this prospectus.
Three months ended
Year ended December 31, March 31,
------------------------------------------------ --------------------
2001 2002 2003 2004 2005 2005 2006
---- ---- ---- ---- ---- ---- ----
(in millions, except per share data and ratios)
(unaudited)
STATEMENT OF OPERATIONS DATA:
Net sales...................................... $ 554.6 $ 579.7 $ 715.9 $ 808.0 $ 850.9 $ 209.5 $ 208.6
Net income..................................... 113.7 52.3 81.8 326.0 59.8 18.2 13.1
BALANCE SHEET DATA (at period end):
Total assets................................... 532.5 611.3 750.5 985.2 955.3 974.6 976.4
Long-term debt including current maturities.... 482.9 325.9 356.7 533.2 453.8 506.3 460.2
Redeemable preferred stock and profit
participation certificates................... 617.4 - - - - - -
Stockholders' equity (deficit)................. (777.5) 76.8 111.6 206.5 181.8 227.1 199.7
STATEMENTS OF CASH FLOW DATA:
Net cash provided (used) by:
Operating activities......................... $ 76.0 $ 68.2 $ 104.8 $ 142.3 $ 92.7 $ 3.4 $ (5.0)
Investing activities......................... (28.5) (29.7) (31.7) (34.2) (35.8) (4.3) (3.3)
Financing activities......................... (52.8) (57.5) (54.9) (129.9) (8.5) - -
TiO2 OPERATING STATISTICS (unaudited):
Sales volume*.................................. 265 297 310 336 326 77 83
Production volume*............................. 269 293 320 328 335 81 86
Production rate as a percentage of capacity.... 87% 93% Full Full Full Full Full
OTHER FINANCIAL DATA (unaudited):
Ratio of earnings to combined fixed charges and
preferred dividends (1)...................... 1.8 1.5 3.3 2.7 3.6 3.4 2.9
Ratio of earnings to fixed charges (2)......... 4.2 2.7 3.3 2.7 3.6 3.4 2.9
_______________
* Metric tons in thousands
(1) Fixed charges represents, as applicable, the sum of (i) total interest
expense and (ii) the interest component of rent expense (calculated as
one-third of rent expense). Earnings represents, as applicable, the sum of
(i) fixed charges, (ii) income before income taxes and minority interest
and (iii) amortization of capitalized interest.
(2) Combined fixed charges and preferred dividends represents, as applicable,
the sum of (i) total interest expense, (ii) preferred stock dividends and
accretion and (iii) the interest component of rent expense (calculated as
one-third of rent expense). Earnings represents, as applicable, the sum of
(i) combined fixed charges, (ii) income before income taxes and minority
interest and (iii) amortization of capitalized interest.
-27-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Critical Accounting Policies and Estimates
The accompanying "Management's Discussion and Analysis of Financial
Condition and Results of Operations" are based upon our Consolidated Financial
Statements, which have been prepared in accordance with accounting principles
generally accepted in the United States of America ("GAAP"). The preparation of
these financial statements requires us to make estimates and judgments that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements, and
the reported amount of revenues and expenses during the reported period. On an
on-going basis, we evaluate our estimates, including those related to bad debts,
inventory reserves, impairments of investments in marketable securities and
long-lived assets (including property and equipment), pension benefit
obligations and the underlying actuarial assumptions related thereto, the
realization of deferred income tax assets and accruals for, litigation, income
tax and other contingencies. We base our estimates on historical experience and
on various other assumptions we believe to be reasonable under the
circumstances, the results of which form the basis for making judgments about
the reported amounts of assets, liabilities, revenues and expenses. Actual
results may differ from previously-estimated amounts under different assumptions
or conditions.
The following critical accounting policies affect our more significant
judgments and estimates used in the preparation of our Consolidated Financial
Statements:
o We maintain allowances for doubtful accounts for estimated losses resulting
from the inability of our customers to make required payments and other
factors. We take into consideration the current financial condition of our
customers, the age of the outstanding balance and the current economic
environment when assessing the adequacy of the allowance. If the financial
condition of our customers were to deteriorate, resulting in an impairment
of their ability to make payments, additional allowances may be required.
During 2003, 2004 and 2005, the net amount written off against the
allowance for doubtful accounts as a percentage of the balance of the
allowance for doubtful accounts as of the beginning of the year ranged from
15% to 24%.
o We provide reserves for estimated obsolescence or unmarketable inventories
equal to the difference between the cost of inventory and the estimated net
realizable value using assumptions about future demand for our products and
market conditions. If actual market conditions are less favorable than
those projected by management, additional inventory reserves may be
required. We also provide reserves for tools and supplies inventory based
generally on both historical and expected future usage requirements.
o We recognize an impairment charge associated with our long-lived assets,
including property and equipment, whenever we determine that recovery of
such long-lived asset is not probable. Such determination is made in
accordance with the applicable GAAP requirements associated with the
long-lived asset, and is based upon, among other things, estimates of the
amount of future net cash flows to be generated by the long-lived asset and
estimates of the current fair value of the asset. Adverse changes in such
estimates of future net cash flows or estimates of fair value could result
in an inability to recover the carrying value of the long-lived asset,
thereby possibly requiring an impairment charge to be recognized in the
future. We do not assess our property and equipment for impairment unless
certain impairment indicators, as defined, are present. During 2005 and the
first quarter of 2006, no such impairment indicators were present.
o We maintain various defined benefit pension plans. The amounts recognized
as defined benefit pension expenses, and the reported amounts of prepaid
and accrued pension costs, are actuarially determined based on several
assumptions, including discount rates, expected rates of returns on plan
assets and expected health care trend rates. Variances from these
actuarially assumed rates will result in increases or decreases, as
applicable, in the recognized pension obligations, pension expenses and
funding requirements. These assumptions are more fully described below
under "-Assumptions on defined benefit pension plans."
-28-
o We record a valuation allowance to reduce our deferred income tax assets to
the amount that is believed to be realized under the "more-likely-than-not"
recognition criteria. While we have considered future taxable income and
ongoing prudent and feasible tax planning strategies in assessing the need
for a valuation allowance, it is possible that in the future we may change
our estimate of the amount of the deferred income tax assets that would
"more-likely-than-not" be realized in the future, resulting in an
adjustment to the deferred income tax asset valuation allowance that would
either increase or decrease, as applicable, reported net income in the
period such change in estimate was made. For example, we have substantial
net operating loss carryforwards in Germany (the equivalent of $597 million
for German corporate purposes and $93 million for German trade tax purposes
at March 31, 2006). During 2004, we concluded that the more-likely-than-not
recognition criteria had been met with respect to the income tax benefit
associated with our net operating loss carryforwards in Germany. Prior to
the complete utilization of such carryforwards, it is possible that we
might conclude in the future that the benefit of such carryforwards would
no longer meet the "more-likely-than-not" recognition criteria, at which
point we would be required to recognize a valuation allowance against the
then-remaining tax benefit associated with the carryforwards.
In addition, we make an evaluation at the end of each reporting period as
to whether or not some or all of the undistributed earnings of our foreign
subsidiaries are permanently reinvested (as that term is defined in GAAP).
While we may have concluded in the past that some of such undistributed
earnings are permanently reinvested, facts and circumstances can change in
the future, and it is possible that a change in facts and circumstances,
such as a change in the expectation regarding the capital needs of our
foreign subsidiaries, could result in a conclusion that some or all of such
undistributed earnings are no longer permanently reinvested. In such an
event, we would be required to recognize a deferred income tax liability in
an amount equal to the estimated incremental U.S. income tax and
withholding tax liability that would be generated if all of such
previously-considered permanently reinvested undistributed earnings were
distributed to the U.S.
o We record accruals for legal, income tax and other contingencies when
estimated future expenditures associated with such contingencies and
commitments become probable, and the amounts can be reasonably estimated.
However, new information may become available, or circumstances (such as
applicable laws and regulations) may change, thereby resulting in an
increase or decrease in the amount required to be accrued for such matters
(and therefore a decrease or increase in reported net income in the period
of such change).
Income from operations is impacted by certain of these significant
judgments and estimates, such as allowance for doubtful accounts, reserves for
obsolete or unmarketable inventories, impairment of equity method investees,
goodwill and other long-lived assets, defined benefit pension plans and loss
accruals. In addition, other income (expense) is impacted by the significant
judgments and estimates for deferred income tax asset valuation allowances and
loss accruals.
Executive Summary
We reported net income of $13.1 million in the first quarter of 2006
compared to net income of $18.2 million in the first quarter of 2005 and
reported net income of $59.8 million in 2005 compared $326.0 million in 2004 and
$81.8 million in 2003. Our net income increased from 2003 to 2004 as the
unfavorable effect of lower income from operations and higher interest expense
in 2004 was more than offset by the favorable effect of a non-cash income tax
benefit in 2004. Our net income decreased from 2004 to 2005 as the favorable
effect of higher income from operations and lower interest expense in 2005 was
more than offset by the favorable effect of the non-cash income tax benefit
recognized in 2004.
Net income in 2005 includes (i) a third quarter net non-cash income tax
charge of $9.8 million for recent developments with respect to income tax
audits, primarily in Germany and Belgium and (ii) a second quarter securities
transaction gain of $3.5 million related to the sale of our passive interest in
a Norwegian smelting operation. Net income in 2004 includes a second quarter
income tax benefit related to the reversal of our deferred income tax asset
valuation allowance in Germany of $277.3 million. Net income in 2003 includes an
income tax benefit relating to the refund of prior year German income taxes of
$24.6 million. Each of these items is more fully discussed below and/or in the
notes to the Consolidated Financial Statements included elsewhere in this
prospectus.
We currently expect income from operations will be lower in 2006 compared
to 2005, as the favorable effect of anticipated modest improvements in sales
volumes and average TiO2 selling prices are expected to be more than offset by
the effect of higher production costs, particularly raw material and energy
costs.
-29-
Relative changes in our TiO2 sales and operating income during the past
three years are primarily due to (i) relative changes in TiO2 sales and
production volumes, (ii) relative changes in TiO2 average selling prices and
(iii) relative changes in foreign currency exchange rates.
Selling prices (in billing currencies) for TiO2, our principal product,
were generally: increasing during the first quarter of 2003, flat during the
second quarter of 2003, decreasing during the second half of 2003 and the first
half of 2004, increasing during the second half of 2004 and first half of 2005,
decreasing during the last half of 2005 and increasing during the first quarter
of 2006. Changes in our selling prices are largely driven by relative industry
demand and supply conditions and other economic factors.
Results of Operations
Three months ended
March 31,
--------------------- %
2005 2006 Change
---- ---- --------
(In millions, except percentages and volumes)
Net sales $ 209.5 $ 208.6 **
Cost of sales 147.1 155.6 + 6%
-------- --------
Gross margin 62.4 53.0 - 15%
Selling, general and administrative expenses (28.1) (27.7) - 1%
Currency transaction gains, net .8 (1.2)
Royalty income 1.5 2.2
Other operating expense (net) - (.4)
-------- --------
Income from operations $ 36.6 $ 25.9 - 29%
======== ========
TiO2 operating statistics:
Percent changes in average selling prices:
Using actual foreign currency exchange rates - 7%
Impact of changes in foreign currency exchange rates + 8%
----
In billing currencies + 1%
====
Sales volumes* 77 83 + 8%
Production volumes* 81 86 + 6%
Production rate as a percent of capacity Full Full
____________________________
* Thousands of metric tons
** Less than 1% decrease
-30-
Years ended December 31, % Change
--------------------------------- ------------------------
2003 2004 2005 2003-04 2004-05
---- ---- ---- ------- -------
(In millions, except selling price data)
Net sales $ 715.9 $ 808.0 $ 850.9 +13% + 5%
Cost of sales 516.9 609.6 613.2 +18% + 1%
--------- --------- ---------
Gross margin 199.0 198.4 237.7 ** +20%
Selling, general and administrative expense (87.0) (104.1) (110.2) +20% + 6%
Currency transaction gains (losses), net (3.7) (2.2) 4.1
Royalty income 6.1 6.0 6.8
Other operating income (expense), net - (.5) (.9)
--------- --------- ---------
Income from operations $ 114.4 $ 97.6 $ 137.5 -15% +41%
========= ========= =========
TiO2 operating statistics:
Percent change in average selling prices:
Using actual foreign currency exchange
rates + 4% + 7%
Impact of changes in foreign currency
exchange rates - 7% - 2%
---- ----
In billing currencies - 3% + 5%
==== ====
Sales volumes* 310 336 326 + 8% - 3%
Production volumes* 320 328 335 + 3% + 2%
Production rate as percent of capacity Full Full Full
____________________________
* Thousands of metric tons
** less than 1%
Three Months Ended March 31, 2006 Compared to Three Months Ended March 31, 2005
Our sales decreased $900,000 (less than 1%) in the first quarter of 2006
compared to the first quarter of 2005 due to the net effects of higher average
TiO2 selling prices (in billing currencies), higher TiO2 selling volumes and the
unfavorable effect of fluctuations in foreign currency exchange rates, which
decreased sales by approximately $16 million, as further discussed below.
Excluding the effect of fluctuations in the value of the U.S. dollar relative to
other currencies, our average TiO2 selling prices in billing currencies in the
first quarter of 2006 were 1% higher as compared to the first quarter of 2005.
When translated from billing currencies to U.S. dollars using actual foreign
currency exchange rates prevailing during the respective periods, our average
TiO2 selling prices in the first quarter of 2006 decreased 7% compared to the
first quarter of 2005. See " - Effects of Foreign Currency Exchange Rates" below
for a discussion of the impact of relative changes in currency exchange rates on
our operations.
Our TiO2 sales volumes in the first quarter of 2006 increased 8% compared
to the first quarter of 2005, due primarily to higher sales volumes in North
America. Demand for TiO2 has remained strong in the first quarter of 2006, and
while we believe that the strong demand is largely attributable to the end-use
demand of our customers, it is possible that some portion of the strong demand
resulted from customers increasing their inventory levels of TiO2 in advance of
implementation of announced or anticipated price increases. Our income from
operations comparisons were also favorably impacted by higher production levels,
which increased 6% in the first quarter of 2006 as compared to the same period
in 2005. Our operating rates were near full capacity in both periods, and our
production and sales volumes in the first quarter of 2006 were new records for
us for a first quarter.
-31-
Our cost of sales increased $8.5 million (6%) in the first quarter of 2006
compared to the first quarter of 2005 largely due to higher sales volumes. As a
result of lower average TiO2 selling prices using actual foreign currency
exchange rates as well as the unfavorable effect of higher raw material and
other operating costs (including energy), our cost of sales, as a percentage of
net sales, increased from 70% in the first quarter of 2005 to 75% in the first
quarter of 2006.
Our gross margins for the first quarter of 2006 decreased $9.4 million
(15%) from the first quarter of 2005 due to the net effects of the
aforementioned decrease in sales and increase in cost of sales as well as the
unfavorable effect of relative changes in foreign currency exchange rates, as
discussed below.
Selling, general and administrative expenses decreased $423,000 (1%) in the
first quarter of 2006 as compared to the corresponding period in 2005. This
decrease is largely attributable to the impact of translating foreign currencies
(primarily the euro) into U.S. dollars.
Overall, the net impact of currency exchange rate fluctuations on our
operating income comparisons resulted in a net $3 million decrease in our income
from operations in the first quarter of 2006 as compared to the first quarter of
2005. See " - Effects of Foreign Currency Exchange Rates" below for a discussion
of the impact of relative changes in currency exchange rates on our operations.
Year ended December 31, 2005 compared to year ended December 31, 2004
Our sales increased $42.9 million (5%) in 2005 as compared to 2004 due
primarily to the net effects of higher average TiO2 selling prices, lower TiO2
sales volumes and the favorable effect of fluctuations in foreign currency
exchange rates, which increased sales by approximately $13 million as further
discussed below. Excluding the effect of fluctuations in the value of the U.S.
dollar relative to other currencies, our average TiO2 selling prices in billing
currencies were 5% higher in 2005 as compared to 2004. When translated from
billing currencies into U.S. dollars using actual foreign currency exchange
rates prevailing during the respective periods, our average TiO2 selling prices
in 2005 increased 7% as compared to 2004. See " - Effects of Foreign Currency
Exchange Rates" below for a discussion of the impact of relative changes in
currency exchange rates on our operations.
Our TiO2 sales volumes in 2005 decreased 3% compared to 2004 with volumes
lower in all regions of the world. Approximately three-fourths of our 2005 TiO2
sales volumes were attributable to markets in Europe, with 10% attributable to
North America and the balance to export markets. Overall worldwide demand for
TiO2 in 2005 is estimated to have declined by approximately 5% from the
exceptionally strong demand levels in 2004. We attribute the decline in overall
sales and our own sales to slower overall economic growth in 2005 and inventory
destocking by our customers. Our operating income comparisons were favorably
impacted by higher production levels, which increased 2%. Our operating rates
were near full capacity in both periods, and our production volumes in 2005 set
a new record for us, which was the fourth consecutive year record production
volumes were achieved.
Our cost of sales increased $3.6 million (1%) in 2005 compared to 2004 as
the effect of lower sales volumes was offset by higher raw material and
maintenance costs. However, our cost of sales, as a percentage of net sales,
decreased from 75% in 2004 to 72% in 2005 due primarily to the effects of higher
average selling prices which more than offset higher costs.
Our gross margins increased $39.3 million (20%) from 2004 to 2005 due to
the net effects of the aforementioned changes in sales and cost of sales during
such periods.
As a percentage of net sales, selling, general and administrative expenses
were relatively consistent at 13% for both 2004 and 2005.
Our income from operations increased $39.9 million (41%) in 2005 as
compared to 2004, as the effect of higher average TiO2 selling prices and higher
production volumes more than offset the impact of lower sales volumes, higher
raw material and maintenance costs. See " - Effects of Foreign Currency Exchange
Rates" below for a discussion of the impact of relative changes in currency
exchange rates on our operations.
-32-
Year Ended December 31, 2004 Compared to Year Ended December 31, 2003
Our sales increased $92.1 million (13%) in 2004 as compared to 2003 as
higher sales volumes and the favorable effect of fluctuations in foreign
currency exchange rates, which increased sales by approximately $56 million as
further discussed below, more than offset the impact of lower average TiO2
selling prices. Excluding the effect of fluctuations in the value of the U.S.
dollar relative to other currencies, our average TiO2 selling prices in billing
currencies were 3% lower in 2004 as compared to 2003. When translated from
billing currencies into U.S. dollars using actual foreign currency exchange
rates prevailing during the respective periods, our average TiO2 selling prices
in 2004 increased 4% as compared to 2003. See " - Effects of foreign currency
exchange rates" below for a discussion of the impact of relative changes in
currency exchange rates on our operations.
Our TiO2 sales volumes in 2004 increased 8% compared to 2003, due to higher
sales volumes in Europe and export markets. By volume, approximately 77% of our
2004 TiO2 sales were attributable to markets in Europe, with 14% attributable to
export markets and the balance to North America. Demand for TiO2 has remained
strong throughout 2004, and while we believe that the strong demand is largely
attributable to the end-use demand of our customers, it is possible that some
portion of the strong demand resulted from customers increasing their inventory
levels of TiO2 in advance of implementation of announced or anticipated price
increases. Our operating income comparisons were also favorably impacted by
higher production levels, which increased 3%. Our operating rates were near full
capacity in both periods, and our sales and production volumes in 2004 were both
new records for us, setting new volume records for us for the third consecutive
year.
Our cost of sales increased $92.7 million (18%) in 2004 compared to 2003
due to higher raw material and maintenance costs as well as higher sales volumes
and related effects of translating foreign currencies into the U.S. dollar. Our
cost of sales, as a percentage of net sales, increased from 72% in 2003 to 75%
in 2004 due primarily to the effects of lower average selling prices and higher
costs.
Our gross margins decreased $.6 million (less than 1%) from 2003 to 2004
due to the net effects of the aforementioned changes in sales and cost of sales
during such periods.
As a percentage of net sales, selling, general and administrative expenses
were relatively consistent from 2003 to 2004, increasing marginally from 12% to
13%, and increasing proportionately with the increased sales and production
volume.
Our income from operations decreased $16.8 million (15%) in 2004 as
compared to 2003, as the effect of lower average TiO2 selling prices and higher
raw material and maintenance costs more than offset the impact of higher sales
and production volumes. See also " - Effects of Foreign Currency Exchange Rates"
below for a discussion of the impact of relative changes in currency exchange
rates on our operations.
Effects of Foreign Currency Exchange Rates
Our sales are denominated in various currencies, including the U.S. dollar,
the euro and other major European currencies. The disclosure of the percentage
change in our average TiO2 selling prices in billing currencies (which excludes
the effects of fluctuations in the value of the U.S. dollar relative to other
currencies) is considered a "non-GAAP" financial measure under SEC regulations.
The disclosure of the percentage change in our average TiO2 selling prices using
actual foreign currency exchange rates prevailing during the respective periods
is considered the most directly comparable financial measure presented in
accordance with GAAP ("GAAP measure"). We disclose percentage changes in our
average TiO2 prices in billing currencies because we believe this disclosure
provides useful information to investors to allow them to analyze such changes
without the impact of changes in foreign currency exchange rates. This
facilitates period-to-period comparisons of the relative changes in average
selling prices in the actual various billing currencies. Generally, when the
U.S. dollar either strengthens or weakens against other currencies, the
percentage change in average selling prices in billing currencies will be higher
-33-
or lower, respectively, than the percentage changes would be using actual
exchange rates prevailing during the respective periods. The difference between
the 4% and 7% increases in our average TiO2 selling prices during 2004 and 2005,
respectively, and 7% decrease in our average TiO2 selling prices during the
first quarter of 2006, each as compared to the respective prior period using
actual foreign currency exchange rates prevailing during the respective periods
(the GAAP measure), and the 3% decrease and 5% and 1% increase in our average
TiO2 selling prices in billing currencies (the non-GAAP measure) during each
period is due to the net effect of changes in foreign currency exchange rates.
The above table presents in a tabular format (i) the percentage change in our
average TiO2 selling prices using actual foreign currency exchange rates
prevailing during the respective periods (the GAAP measure), (ii) the percentage
change in our average TiO2 selling prices in billing currencies (the non-GAAP
measure) and (iii) the percentage change due to changes in foreign currency
exchange rates (or the reconciling item between the non-GAAP measure and the
GAAP measure).
Our operations and assets are located outside of the United States
(primarily in Germany, Belgium and Norway). A significant amount of our sales
generated from our operations are denominated in currencies other than the U.S.
dollar, principally the euro and other major European currencies. A portion of
our sales generated from our operations are denominated in the U.S. dollar.
Certain raw materials, primarily titanium-containing feedstocks, are purchased
in U.S. dollars, while labor and other production costs are denominated
primarily in local currencies. Consequently, the translated U.S. dollar value of
our foreign sales and operating results are subject to currency exchange rate
fluctuations which may favorably or adversely impact reported earnings and may
affect the comparability of period-to-period operating results. Overall,
fluctuations in the value of the U.S. dollar relative to other currencies,
primarily the euro, decreased TiO2 sales by a net $16 million in the first
quarter of 2006 compared to the first quarter of 2005, increased TiO2 sales by a
net $13 million in 2005 as compared to 2004 and increased TiO2 sales by a net
$56 million in 2004 as compared to 2003. Fluctuations in the value of the U.S.
dollar relative to other currencies similarly impacted our foreign
currency-denominated operating expenses. Our operating costs that are not
denominated in the U.S. dollar, when translated into U.S. dollars, were higher
in the first quarter of 2006 and in 2005 and 2004 compared to the same periods
in prior periods. Overall, currency exchange rate fluctuations resulted in
approximately a net $3 million decrease in our income from operations in the
first quarter of 2006 as compared to the first quarter of 2005 and resulted in a
net $10 million increase in our operating income in 2005 as compared to 2004 and
resulted in a net increase in our operating income in 2004 of approximately $9
million as compared to 2003.
Outlook
Our efforts to debottleneck our production facilities to meet long-term
demand continue to prove successful. Our debottlenecking efforts included, among
other things, the addition of finishing capacity in the German chloride process
facility and equipment upgrades and enhancements in several locations to allow
for reduced downtime for maintenance activities. Our production capacity has
increased by approximately 25% over the past ten years due to debottlenecking
programs, with only moderate capital expenditures. We believe our annual
attainable production capacity for 2006 is approximately 345,000 metric tons,
with some additional capacity expected to be available in 2007 through our
continued debottlenecking efforts.
We expect our income from operations in 2006 will continue to be somewhat
lower than 2005. Our expectations as to our and the TiO2 industry's future
prospects are based upon a number of factors beyond our control, including
worldwide growth of gross domestic product, competition in the marketplace,
unexpected or earlier than expected capacity additions and technological
advances. If actual developments differ from our expectations, our results of
operations could be unfavorably affected.
-34-
Other Income (Expense)
The following table sets forth certain information regarding other income
and expense items.
Years ended December 31, % Change
--------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(In millions)
Interest income from affiliates $ - $ 2.8 $ 18.9 4.9 4.4
Trade interest income .7 1.1 1.0 .1 .5
Securities transaction gain - - 5.4 - -
Interest expense to affiliates (.1) - - - -
Interest expense (32.5) (36.7) (43.9) (11.6) (10.3)
-------- -------- -------- ------- -------
$ (31.9) $ (32.8) $ (18.6) $ (6.6) $ (5.4)
======== ======== ======== ======= =======
Interest income from affiliates decreased $490,000 in the first quarter of
2006 as compared to the first quarter of 2005 due primarily to relative changes
in foreign currency exchange rates. Interest income fluctuates in part based
upon the amount of funds invested and yields thereon. Aggregate interest income
increased $16.0 million in 2005 compared to 2004 due primarily to interest on
our notes receivable from Kronos entered into during the fourth quarter of 2004.
Aggregate interest income increased $3.2 million in 2004 compared to 2003
primarily due to interest on our notes receivable from Kronos entered into
during the fourth quarter of 2004. We expect interest income will be comparable
in 2006 as compared to 2005 as the notes receivable from Kronos are expected to
be outstanding during the full year.
Securities transaction gain in 2005 relates to the sale of our passive
interest in a Norwegian smelting operation, which had a nominal carrying value
for financial reporting purposes, for aggregate consideration of approximately
$5.4 million consisting of cash of $3.5 million and inventory with a value of
$1.9 million. See Note 9 to the Consolidated Financial Statements included
elsewhere in this prospectus.
We have a significant amount of indebtedness denominated in the euro,
including our euro 375 million 8 7/8% Senior Secured Notes. Accordingly, the
reported amount of interest expense will vary depending on relative changes in
foreign currency exchange rates. Interest expense in the first quarter of 2006
was $10.3 million, a decrease of $1.3 million from the first quarter of 2005.
The decrease was due primarily to relative changes in foreign currency exchange
rates, which increased the U.S. dollar equivalent of interest expense on our
euro 375 million 8 7/8% Senior Secured Notes outstanding during both periods by
approximately $1.1 million in the first quarter of 2006 as compared to the first
quarter of 2005. Interest expense in 2005 was higher than 2004 due primarily to
higher levels of outstanding indebtedness resulting from the issuance of an
additional euro 90 million principal amount of 8 7/8% Senior Secured Notes in
November 2004. In addition, the increase in interest expense was due to relative
changes in foreign currency exchange rates, which increased the U.S. dollar
equivalent of interest expense on the euro 285 million 8 7/8% Senior Secured
Notes outstanding during all of 2003, 2004 and 2005 by approximately $3 million
in 2004 as compared to 2003 and by approximately $1 million in 2005 as compared
to 2004.
In May 2006, we redeemed all of our 8 7/8% Senior Secured Notes at 104.437%
of their aggregate principal amount of euro 375 million (an aggregate of $470.2
million at March 31, 2006 exchange rates). Funds for such redemption were
provided by our issuance of an aggregate of euro 400 million principal amount of
the 6 1/2% Senior Secured Notes due April 2013, issued on April 11, 2006 at
99.306% of their principal amount. We expect to recognize a $21 million pre-tax
charge in the second quarter related to the early extinguishment of the 8 7/8%
Senior Secured Notes, consisting of the call premium on the notes and the net
write-off of deferred financing costs and existing unamortized premium related
to such notes. Such $21 million pre-tax charge will be recognized as a component
of our interest expense. See Note 5 to the Consolidated Financial Statements
included elsewhere in this prospectus.
-35-
Assuming interest rates and foreign currency exchange rates do not increase
significantly from current levels, and ignoring the impact of the $21 million
charge related to the redemption of our 8 7/8% Senior Secured Notes, interest
expense in the remainder of 2006 is expected to be less than the same periods of
2005 due primarily to the effect of the redemption of the 8 7/8% Senior Secured
Notes and the issuance of the old notes, which carries a lower yield than the 8
7/8% Senior Secured Notes.
At March 31, 2006, approximately $460.2 million of consolidated
indebtedness, principally our Senior Secured Notes, bears interest at fixed
interest rates averaging 8.9% (December 31, 2005 - $453.8 with a weighted
average interest rate of 8.9%; December 31, 2004 - $519.4 million with a
weighted average interest rate of 8.9%; December 31, 2003 - $356 million with a
weighted average fixed interest rate of 8.9%). The weighted average interest
rate on $14 million of outstanding variable rate borrowings at December 31, 2004
was 3.9% (2003 and 2005 - none outstanding). See Note 6 to the Consolidated
Financial Statements included elsewhere in this prospectus.
As noted above, we have a certain amount of indebtedness denominated in
currencies other than the U.S. dollar. See "Quantitative and Qualitative
Disclosures About Market Risk."
Provision for Income Taxes. The principal reasons for the difference
between our effective income tax rates and the U.S. federal statutory income tax
rates are explained in Note 10 to the Consolidated Financial Statements included
elsewhere in this prospectus. Income tax rates vary by jurisdiction (country
and/or state), and relative changes in the geographic mix of our pre-tax
earnings can result in fluctuations in the effective income tax rate.
Our income tax expense in 2005 includes the net non-cash effects of (i) the
aggregate favorable effects of recent developments with respect to certain
non-U.S. income tax audits of Kronos, principally in Belgium, of $7.7 million
and (ii) the unfavorable effect with respect to the loss of certain income tax
attributes of Kronos in Germany of $17.5 million.
At March 31, 2006, we had the equivalent of $597 million and $93 million of
income tax loss carryforwards for German corporate and trade tax purposes,
respectively. At December 31, 2005, we had the equivalent of $593 million and
$104 million of income tax loss carryforwards for German corporate and trade tax
purposes, respectively, all of which have no expiration date. As more fully
described in Note 10 to the Consolidated Financial Statements included elsewhere
in this prospectus, we had previously provided a deferred income tax asset
valuation allowance against substantially all of these tax loss carryforwards
and other deductible temporary differences in Germany because we did not believe
they met the "more-likely-than-not" recognition criteria. During the first six
months of 2004, we reduced our deferred income tax asset valuation allowance by
approximately $8.7 million, primarily as a result of utilization of these German
net operating loss carryforwards, the benefit of which had not previously been
recognized. At June 30, 2004, after considering all available evidence, we
concluded that these German tax loss carryforwards and other deductible
temporary differences now met the "more-likely-than-not" recognition criteria.
Under applicable GAAP related to accounting for income taxes at interim periods,
a change in estimate at an interim period resulting in a decrease in the
valuation allowance is segregated into two components, the portion related to
the remaining interim periods of the current year and the portion related to all
future years. The portion of the valuation allowance reversal related to the
former is recognized over the remaining interim periods of the current year, and
the portion of the valuation allowance related to the latter is recognized at
the time the change in estimate is made. Accordingly, as of June 30, 2004, we
reversed $268.6 million of the valuation allowance (the portion related to
future years), and we reversed the remaining $3.4 million during the last six
months of 2004. Because the benefit of such net operating loss carryforwards and
other deductible temporary differences in Germany has now been recognized, our
effective income tax rate in 2005 is expected to be higher than what it would
have otherwise been, although our future cash income tax rate will not be
affected by the reversal of the valuation allowance. Prior to the complete
utilization of such carryforwards, it is possible that we might conclude in the
future that the benefit of such carryforwards would no longer meet the
more-likely-than-not recognition criteria, at which point we would be required
to recognize a valuation allowance against the then-remaining tax benefit
associated with the carryforwards.
-36-
In January 2004, the German federal government enacted new tax law
amendments that limit the annual utilization of income tax loss carryforwards
effective January 1, 2004 to 60% of taxable income after the first euro 1
million of taxable income. The new law will have a significant effect on our
cash tax payments in Germany going forward, the extent of which will be
dependent upon the level of taxable income earned in Germany.
During 2003, we reduced our deferred income tax asset valuation allowance
by an aggregate of approximately $6.7 million, primarily as a result of
utilization of certain income tax attributes for which the benefit had not
previously been recognized. In addition, we recognized a $38.0 million income
tax benefit related to the net refund of certain prior year German income taxes.
In October 2004, the American Jobs Creation Act of 2004 was enacted into
law. The new law contains several provisions that could impact us. These
provisions provide for, among other things, a special deduction from U.S.
taxable income equal to a stipulated percentage of qualified income from
domestic production activities (as defined) beginning in 2005, and a special 85%
dividends received deduction for certain dividends received from controlled
foreign corporations. Both of these provisions are complex and subject to
numerous limitations. In the third quarter of 2005, we determined that we would
not benefit from the special dividends received deduction. See Note 10 to the
Consolidated Financial Statements included elsewhere in this prospectus.
Accounting Principles Newly Adopted in 2003, 2004, 2005 and 2006. See Note
15 to the Consolidated Financial Statements included elsewhere in this
prospectus.
Defined Benefit Pension Plans. We maintain various defined benefit pension
plans in Europe. See Note 11 to the Consolidated Financial Statements included
elsewhere in this prospectus.
We account for our defined benefit pension plans using SFAS No. 87,
"Employer's Accounting for Pensions." Under SFAS No. 87, defined benefit pension
plan expense and prepaid and accrued pension costs are each recognized based on
certain actuarial assumptions, principally the assumed discount rate, the
assumed long-term rate of return on plan assets and the assumed increase in
future compensation levels. We recognized consolidated defined benefit pension
plan expense of $5.8 million in 2003, $10.4 million in 2004 and $11.5 million in
2005. The amount of funding requirements for these defined benefit pension plans
is generally based upon applicable regulations (such as ERISA in the U.S.), and
will generally differ from pension expense recognized under SFAS No. 87 for
financial reporting purposes. We made aggregate contributions to all of our
plans of $10.2 million in 2003, $11.7 million in 2004 and $13.3 million in 2005.
The discount rates we utilize for determining defined benefit pension
expense and the related pension obligations are based on current interest rates
earned on long-term bonds that receive one of the two highest ratings given by
recognized rating agencies in the applicable country where the defined benefit
pension benefits are being paid. In addition, we receive advice about
appropriate discount rates from our third-party actuaries, who may in some cases
utilize their own market indices. The discount rates are adjusted as of each
valuation date (September 30th) to reflect then-current interest rates on such
long-term bonds. Such discount rates are used to determine the actuarial present
value of the pension obligations as of December 31st of that year, and such
discount rates are also used to determine the interest component of defined
benefit pension expense for the following year.
At December 31, 2005, approximately 79% and 17% of the projected benefit
obligation related our plans in Germany and Norway, respectively. We use several
different discount rate assumptions in determining our consolidated defined
benefit pension plan obligations and expense because we maintain defined benefit
pension plans in several different countries in Europe and the interest rate
environment differs from country to country.
We used the following discount rates for our defined benefit pension plans:
Discount rates used for:
----------------------------------------------------------------------------------------------------
Obligations at Obligations at Obligations at
December 31, 2003 and December 31, 2004 and December 31, 2005 and
expense in 2004 expense in 2005 expense in 2006
----------------------------------- -------------------------------- -----------------------------
Germany 5.3% 5.0% 4.0%
Norway 5.5% 5.9% 4.5%
-37-
The assumed long-term rate of return on plan assets represents the
estimated average rate of earnings expected to be earned on the funds invested
or to be invested in the plans' assets. The funds are provided to fund the
benefit payments inherent in the projected benefit obligations. Unlike the
discount rate, which is adjusted each year based on changes in current long-term
interest rates, the assumed long-term rate of return on plan assets will not
necessarily change based upon the actual, short-term performance of the plan
assets in any given year. Defined benefit pension expense each year is based
upon the assumed long-term rate of return on plan assets for each plan and the
actual fair value of the plan assets as of the beginning of the year.
Differences between the expected return on plan assets for a given year and the
actual return are deferred and amortized over future periods based either upon
the expected average remaining service life of the active plan participants (for
plans for which benefits are still being earned by active employees) or the
average remaining life expectancy of the inactive participants (for plans for
which benefits are not still being earned by active employees).
At December 31, 2005, approximately 69% and 26% of the plan assets related
to our plans in Germany and Norway, respectively. We use several different
long-term rates of return on plan asset assumptions in determining our
consolidated defined benefit pension plan expense because we maintain defined
benefit pension plans in several different countries in Europe, the plan assets
in different countries are invested in a different mix of investments and the
long-term rates of return for different investments differ from country to
country.
In determining the expected long-term rate of return on plan asset
assumptions, we consider the long-term asset mix (e.g., equity vs. fixed income)
for the assets for each of our plans and the expected long-term rates of return
for such asset components. In addition, we receive advice about appropriate
long-term rates of return from our third-party actuaries. Such assumed asset
mixes are summarized below:
o In Germany, the composition of our plan assets is established to satisfy
the requirements of the German insurance commissioner. The current plan
asset allocation at December 31, 2005 was 23% to equity managers, 48% to
fixed income managers and 29% to real estate (2004 - 23%, 48% and 29%,
respectively).
o In Norway, we currently have a plan asset target allocation of 14% to
equity managers, 64% to fixed income managers and the remainder primarily
to cash and liquid investments. The expected long-term rate of return for
such investments is approximately 8%, 4.5% to 6% and 2.5%, respectively.
The plan asset allocation at December 31, 2005 was 16% to equity managers,
62% to fixed income managers and the remainder primarily to cash and liquid
investments (2004 - 16%, 64% and nil, respectively).
o We regularly review our actual asset allocation for each of our plans and
will periodically rebalance the investments in each plan to more accurately
reflect the targeted allocation when considered appropriate.
Our assumed long-term rates of return on plan assets for 2003, 2004 and
2005 were as follows:
2003 2004 2005
---- ---- ----
Germany 6.5% 6.0% 5.5%
Norway 6.0% 6.0% 5.5%
We currently expect to utilize the same long-term rate of return on plan
asset assumptions in 2006 as we used in 2005 for purposes of determining the
2006 defined benefit pension plan expense.
To the extent that a plan's particular pension benefit formula calculates
the pension benefit in whole or in part based upon future compensation levels,
the projected benefit obligations and the pension expense will be based in part
upon expected increases in future compensation levels. For all of our plans for
which the benefit formula is so calculated, we generally base the assumed
expected increase in future compensation levels upon average long-term inflation
rates for the applicable country.
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In addition to the actuarial assumptions discussed above, because we
maintain our defined benefit pension plans outside the U.S., the amount of
recognized defined benefit pension expense and the amount of prepaid and accrued
pension costs will vary based upon relative changes in foreign currency exchange
rates.
As discussed above, assumed discount rates and rate of return on plan
assets are re-evaluated annually. A reduction in the assumed discount rate
generally results in an actuarial loss, as the actuarially-determined present
value of estimated future benefit payments will increase. Conversely, an
increase in the assumed discount rate generally results in an actuarial gain. In
addition, an actual return on plan assets for a given year that is greater than
the assumed return on plan assets results in an actuarial gain, while an actual
return on plan assets that is less than the assumed return results in an
actuarial loss. Other actual outcomes that differ from previous assumptions,
such as individuals living longer or shorter than assumed in mortality tables
which are also used to determine the actuarially-determined present value of
estimated future benefit payments, changes in such mortality table themselves or
plan amendments, will also result in actuarial losses or gains. Under GAAP, all
of such actuarial gains and losses are not recognized in earnings currently, but
instead are deferred and amortized into income in the future as part of net
periodic defined benefit pension cost. However, any actuarial gains generated in
future periods would reduce the negative amortization effect of any cumulative
unrecognized actuarial losses, while any actuarial losses generated in future
periods would reduce the favorable amortization effect of any cumulative
unrecognized actuarial gains.
During 2005, all of our defined benefit pension plans generated a net
actuarial loss of $84.4 million. This actuarial loss resulted primarily from the
general overall reduction in the assumed discount rates as well as the
unfavorable effect of using updated mortality tables (which generally reflect
individuals living longer than prior mortality tables used), partially offset by
an actual return on plan assets in excess of the assumed return.
While actuarial gains and losses are deferred and amortized into income in
future periods, as discussed above, GAAP also requires that a minimum amount of
accrued pension cost be recognized in a statement of financial position for any
plans for which the accumulated benefit obligation is less than the fair value
of plan assets. To the extent GAAP accounting would otherwise result in an
accrued pension cost balance for such plans that was less than the excess of the
aggregate accumulated benefit obligation over the value of the related plan
assets, GAAP then requires that such excess be recognized as a component of the
consolidated accrued pension cost, with the offset to such additional accrued
pension cost (commonly referred to as an "additional minimum liability")
recognized (i) first as an intangible asset up to specified amounts (referred to
as unrecognized net pension obligations" in our balance sheet and then (ii)
second as part of accumulated other comprehensive income (loss). At December 31,
2005, and primarily as a result of the aggregate $84.4 million actuarial loss
generated during 2005 as discussed above, the amount of the additional minimum
liability required to be recognized by us increased by approximately $81 million
at December 31, 2005 as compared to December 31, 2004. As a result, we
recognized aggregate accrued pension cost (current and noncurrent) of $136.1
million at December 31, 2005 as compared to $57.0 million at December 31, 2004.
Based on the actuarial assumptions described above and our current
expectation for what actual average foreign currency exchange rates will be
during 2006, we expect our defined benefit pension expense will approximate $17
million in 2006. In comparison, we expect to contribute approximately $12
million to our plans during 2006.
As noted above, defined benefit pension expense and the amounts recognized
as prepaid and accrued pension costs are based upon the actuarial assumptions
discussed above. We believe all of the actuarial assumptions used are reasonable
and appropriate. If we had lowered the assumed discount rate by 25 basis points
for all of our plans as of December 31, 2005, our aggregate projected benefit
obligations would have increased by approximately $12.7 million, and our defined
benefit pension expense would be expected to increase by approximately $1.6
million during 2006. Similarly, if we lowered the assumed long-term rate of
return on plan assets by 25 basis points for all of our plans, our defined
benefit pension expense would have increased by approximately $500,000 during
2006.
Foreign Operations
Our operations are located in Europe where the functional currency is not
the U.S. dollar. As a result, the reported amount of our assets and liabilities,
and therefore our consolidated net assets, will fluctuate based upon changes in
currency exchange rates. At December 31, 2005, we had substantial net assets
denominated in the euro, Norwegian kroner and United Kingdom pound sterling.
-39-
Liquidity and Capital Resources
Consolidated Cash Flows
Our consolidated cash flows for each of the past three years and for the
three months ended March 31, 2005 and 2006 are presented below:
Three months ended
Year ended December 31, March 31,
------------------------- --------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(In millions)
Operating activities $ 104.8 $ 142.2 $ 92.7 $ 3.4 $ (5.0)
Investing activities (31.7) (34.2) (35.8) (4.3) (3.3)
Financing activities (54.9) (129.9) (8.5) - -
------- ------- ------- ------ -------
Net cash provided (used) by operating,
investing and financing activities $ 18.2 $ (21.9) $ 48.4 $ (.9) $ (8.3)
======= ======= ======= ====== =======
Summary. Our primary source of liquidity on an ongoing basis is our cash
flows from operating activities, which is generally used to (i) fund capital
expenditures, (ii) repay any short-term indebtedness incurred primarily for
working capital purposes and (iii) provide for the payment of dividends. In
addition, from time-to-time we will incur indebtedness, generally to (i) fund
short-term working capital needs, (ii) refinance existing indebtedness or (iii)
fund major capital expenditures or the acquisition of other assets outside the
ordinary course of business. Also, we will from time-to-time sell assets outside
the ordinary course of business, the proceeds of which are generally used to (i)
repay existing indebtedness (including indebtedness which may have been
collateralized by the assets sold), (ii) make investments in marketable and
other securities, (iii) fund major capital expenditures or the acquisition of
other assets outside the ordinary course of business or (iv) pay dividends.
Operating Activities. The TiO2 industry is cyclical, and changes in
economic conditions within the industry significantly impact our earnings and
operating cash flows. Cash flow from operations is considered the primary source
of our liquidity. Changes in TiO2 pricing, production volume and customer
demand, among other things, could significantly affect our liquidity. Trends in
cash flows from operating activities (excluding the impact of significant asset
dispositions and relative changes in assets and liabilities) are generally
similar to trends in our earnings. However, certain items included in the
determination of net income are non-cash, and therefore such items have no
impact on cash flows from operating activities. Non-cash items included in the
determination of net income include depreciation and amortization expense,
deferred income taxes and non-cash interest expense. Non-cash interest expense
consists of amortization of deferred financing costs.
Certain other items included in the determination of net income may have an
impact on cash flows from operating activities, but the impact of such items on
cash flows from operating activities will differ from their impact on net
income. For example, the amount of periodic defined benefit pension plan expense
depends upon a number of factors, including certain actuarial assumptions, and
changes in such actuarial assumptions will result in a change in the reported
expense. In addition, the amount of such periodic expense generally differs from
the outflows of cash required to be currently paid for such benefits.
Relative changes in assets and liabilities generally result from the timing
of production, sales, purchases and income tax payments. Such relative changes
can significantly impact the comparability of cash flow from operations from
period to period, as the income statement impact of such items may occur in a
different period from when the underlying cash transaction occurs. For example,
raw materials may be purchased in one period, but the payment for such raw
materials may occur in a subsequent period. Similarly, inventory may be sold in
one period, but the cash collection of the receivable may occur in a subsequent
period.
-40-
Our average days sales outstanding ("DSO") increased from 52 days at
December 31, 2005 to 64 days at March 31, 2006, due to the timing of collection
on the higher accounts receivable balance at the end of March. At March 31, 2006
and December 31, 2005, the average number of days in inventory ("DII") remained
consistent at 105 days. Our DSO decreased from 58 days at December 31, 2004 to
52 days at December 31, 2005, due to the timing of collections. At December 31,
2005, the DII increased to 105 days from 99 days at December 31, 2004 due to the
effects of higher production volume and lower sales volume.
Cash flows used in operating activities increased from $3.4 million
provided by operating activities in the first three months of 2005 to $5.0
million of cash used in operating activities in the first three months of 2006.
This $8.4 million increase in cash used in operating activities was due
primarily to the net effects of (i) lower net income of $5.1 million, (ii) lower
deferred income taxes of $3.4 million and (iii) a higher amount of net cash used
from relative changes in the Company's inventories, receivables, payables and
accruals of $2.8 million in the first three months of 2006 as compared to the
first three months of 2005. Relative changes in accounts receivable are affected
by, among other things, the timing of sales and the collection of the resulting
receivables. Relative changes in inventories and accounts payable and accrued
liabilities are affected by, among other things, the timing of raw material
purchases and the payment for such purchases and the relative difference between
production volumes and sales volumes.
Cash flows provided from operating activities decreased from $142.2 million
in 2004 to $92.7 million in 2005. This $49.5 million decrease was due primarily
to the net effect of (i) lower net income of $266.2 million, (ii) higher
deferred income taxes of $304.8 million, (iii) a lower amount of net cash
provided from changes in our inventories, receivables, payables, accruals and
accounts with affiliates of $60.3 million and (iv) higher cash paid for income
taxes of $43.8 million, due primarily to refunds of income taxes of $23.8
million received in 2004.
Cash flows provided from operating activities increased from $104.8 million
in 2003 to $142.2 million in 2004. This $37.4 million increase was due primarily
to the net effect of (i) higher net income of $244.2 million, (ii) a larger
deferred income tax benefit of $312.7 million, (iii) higher depreciation and
amortization expense of $4.1 million, (iv) a higher amount of net cash provided
from changes in our inventories, receivables, payables, accruals and accounts
with affiliates of $34.8 million and (v) higher cash received for income taxes
of $12.3 million, which included refunds of income taxes of $11.5 million
received in 2003 and $23.8 million of refunds of income taxes received in 2004.
Investing Cash Flows. Our capital expenditures were $4.8 million and $3.7
million in the first three months of 2005 and 2006, respectively.
Our capital expenditures were $31.5 million, $33.7 million and $39.5
million in 2003, 2004 and 2005, respectively. In addition, we purchased
additional shares of our majority-owned French subsidiary for $575,000 in 2004
and we received $3.5 million in 2005 from the sale of our passive interest in a
Norwegian smelting operation.
Our capital expenditures during the past three years include an aggregate
of approximately $14 million ($4 million in 2005) for our ongoing environmental
protection and compliance programs. Our estimated 2006 capital expenditures are
$37 million and include approximately $6 million in the area of environmental
protection and compliance.
Financing Cash Flows. During 2005, we (i) repaid euro 10 million ($12.9
million when repaid) under our three-year euro 80 million secured revolving
credit facility (the "European Credit Facility") and (ii) entered into
additional capital lease agreements for certain mining equipment for the
equivalent of approximately $4.4 million.
During 2004, (i) we issued an additional euro 90 million principal amount
of our Senior Secured Notes at 107% of par (equivalent to $130 million when
issued) and (ii) our operating subsidiaries in Germany, Belgium and Norway
borrowed an aggregate of euro 90 million ($112 million when borrowed) of
borrowings under the European Credit Facility, of which euro 80 million ($100
million) were subsequently repaid. See Note 6 to the Consolidated Financial
Statements included elsewhere in this prospectus.
-41-
In the fourth quarter of 2004, we transferred an aggregate euro 163.1
million ($209.5 million) to Kronos in return for two promissory notes. Interest
on both notes is payable to us on a quarterly basis at an annual rate of 9.25%.
Due to the long-term investment nature of these notes, settlement of the
intercompany notes receivable is not contemplated within the foreseeable future.
We currently expect that settlement of the principal amount of these notes will
occur through a capital transaction (i.e., a non-cash dividend to Kronos in the
form of a distribution of such notes to Kronos). Therefore, we have presented
these notes as a separate component of our stockholder's equity. See Note 8 to
the Consolidated Financial Statements.
In March 2003, our operating subsidiaries in Germany, Belgium and Norway
borrowed euro 15 million ($16.1 million when borrowed), in April 2003, repaid
NOK 80 million ($11.0 million when repaid) and in the third quarter of 2003,
repaid euro 30.0 million ($33.9 million when repaid) under the European Credit
Facility.
We are amortizing deferred financing costs of $2.0 million paid in 2004 for
the 8 7/8% Senior Secured Notes and the European Credit Facility over the lives
of the respective agreements. The balance is included in other noncurrent assets
as of December 31, 2005.
Cash dividends paid during 2003 and 2004 totaled $25.0 million and $60.0
million, respectively. (No dividends were paid in 2005). The declaration and
payment of future dividends is discretionary, and the amount, if any, will be
dependent upon our results of operations, financial condition, contractual
restrictions and other factors deemed relevant by our board of directors.
Provisions contained in certain of our credit agreements could result in
the acceleration of the applicable indebtedness prior to its stated maturity.
For example, certain credit agreements allow the lender to accelerate the
maturity of the indebtedness upon a change of control (as defined) of the
borrower. In addition, certain credit agreements could result in the
acceleration of all or a portion of the indebtedness following a sale of assets
outside the ordinary course of business.
Our assets consist primarily of investments in our operating subsidiaries,
and our ability to service our parent level obligations, including the notes,
depends in large part upon the distribution of earnings of our subsidiaries,
whether in the form of dividends, advances or payments on account of
intercompany obligation, or otherwise. None of our subsidiaries have guaranteed
the notes, although we have pledged 65% of the common stock or other ownership
interest of certain of our first-tier operating subsidiaries as collateral of
the notes.
Off-balance Sheet Financing. Other than operating lease commitments
disclosed in Note 13 to the Consolidated Financial Statements included elsewhere
in this prospectus, we are not party to any material off-balance sheet financing
arrangements.
Cash, Cash Equivalents, Restricted Cash and Restricted Marketable Debt
Securities and Borrowing Availability. At March 31, 2006, we and our
subsidiaries had (i) current cash and cash equivalents aggregating $55.8 million
(ii) current restricted cash equivalents of $951,000 and (iii) noncurrent
restricted marketable debt securities of $2.6 million. At March 31, 2006, our
outstanding debt was comprised of (i) $455.6 million related to the 8 7/8%
Senior Secured Notes and (ii) approximately $4.6 million of other indebtedness,
principally related to capital lease obligations at our Norwegian operations.
Based upon our expectations for the TiO2 industry and anticipated demands
on our cash resources as discussed herein, we expect to have sufficient
short-term (defined as the twelve-month period ending March 31, 2007) and
long-term (defined as the five-year period ending December 31, 2010, the time
period for which we generally do long-term budgeting) liquidity to meet our
obligations including operations, capital expenditures, debt service and
dividends. To the extent that actual developments differ from our expectations,
our liquidity could be adversely affected.
Legal Proceedings and Environmental Matters. See Note 13 to the
Consolidated Financial Statements included elsewhere in this prospectus for
certain legal proceedings and environmental matters with respect to KII.
-42-
Foreign Operations. As discussed above, our operations are located outside
the United States for which the functional currency is not the U.S. dollar. As a
result, the reported amount of our assets and liabilities related to our
operations, and therefore our consolidated net assets, will fluctuate based upon
changes in currency exchange rates. At March 31, 2006, we had substantial net
assets denominated in the euro, Norwegian kroner and United Kingdom pound
sterling.
Other. We periodically evaluate our liquidity requirements, alternative
uses of capital, capital needs and availability of resources in view of, among
other things, our dividend policy, debt service and capital expenditure
requirements and estimated future operating cash flows. As a result of this
process, we in the past have sought, and in the future may seek, to reduce,
refinance, repurchase or restructure indebtedness; raise additional capital;
issue additional securities; restructure ownership interests; modify our
dividend policy; sell interests in subsidiaries or other assets; or take a
combination of such steps or other steps to manage our liquidity and capital
resources. In the normal course of our business, we may review opportunities for
the acquisition, divestiture, joint venture or other business combinations in
the chemicals or other industries, as well as the acquisition of interests in
related companies. In the event of any such acquisition or joint venture
transaction, we may consider using available cash, issuing equity securities or
increasing our indebtedness to the extent permitted by the agreements governing
our existing debt. See Note 6 to the Consolidated Financial Statements included
elsewhere in this prospectus.
Non-GAAP Financial Measures. In an effort to provide investors with
additional information regarding our results as determined by GAAP, we have
disclosed certain non-GAAP information which we believe provides useful
information to financial statement users. As discussed above, we disclose
percentage changes in our average TiO2 prices in billing currencies, which
excludes the effects of foreign currency translation. Such disclosure of the
percentage change in our average TiO2 selling price in billing currencies is
considered a "non-GAAP" financial measure under regulations of the SEC. The
disclosure of the percentage change in our average TiO2 selling prices using
actual foreign currency exchange rates prevailing during the respective periods
is considered the most directly comparable GAAP measure. We disclose percentage
changes in our average TiO2 prices in billing currencies because we believe such
disclosure provides useful information to financial statement users to allow
them to analyze such changes without the impact of changes in foreign currency
exchange rates, thereby facilitating period-to-period comparisons of the
relative changes in average selling prices in the actual various billing
currencies. Generally, when the U.S. dollar either strengthens or weakens
against other currencies, the percentage change in average selling prices in
billing currencies will be higher or lower, respectively, than such percentage
changes using actual exchange rates prevailing during the respective periods.
Summary of Debt and Other Contractual Commitments
As more fully described in the Notes to the Consolidated Financial
Statements included elsewhere in this prospectus, we are a party to various
debt, lease and other agreements which contractually and unconditionally commit
us to pay certain amounts in the future. See Notes 6 and 12 to the Consolidated
Financial Statements included elsewhere in this prospectus. The following table
summarizes such contractual commitments of ours and our consolidated
subsidiaries as of December 31, 2005 by the type and date of payment.
-43-
Payment due date
----------------------------------------------------------------------
2011 and
Contractual commitment 2006 2007/2008 2009/2010 after Total
----------------------------------- ------- ---------- ---------- ---------- -------
(In millions)
Third-party indebtedness $ 1.0 $ 1.7 $ 451.1 $ - $ 453.8
Interest payments on third-party
indebtedness 39.1 77.8 38.8 - 155.7
Operating leases 3.3 4.6 2.7 21.0 31.6
Fixed asset acquisitions 6.1 - - - 6.1
Estimated tax obligations 21.8 - - - 21.8
-------- ------- --------- -------- ---------
$ 71.3 $ 84.1 $ 492.6 $ 21.0 $ 669.0
======== ======= ========= ======== =========
The timing and amount shown for our commitments related to indebtedness
(principal and interest), operating leases and fixed asset acquisitions are
based upon the contractual payment amount and the contractual payment date for
such commitments. With respect to revolving credit facilities, the amount shown
for indebtedness is based upon the actual amount outstanding at December 31,
2005, and the amount shown for interest for any outstanding variable-rate
indebtedness is based upon the December 31, 2005 interest rate and assumes that
such variable-rate indebtedness remains outstanding until the maturity of the
facility. The amount shown for income taxes is the consolidated amount of income
taxes payable at December 31, 2005, which is assumed to be paid during 2006. A
significant portion of the amount shown for indebtedness relates to our 8 7/8%
Senior Secured Notes ($449.3 million at December 31, 2005). Such indebtedness is
denominated in euros. The 8 7/8% Senior Secured Notes were refinanced in April
2006 with the 6 1/2% Senior Secured Notes Due in 2013. See "Quantitative and
Qualitative Disclosures About Market Risk" and Note 6 to the Consolidated
Financial Statements included elsewhere in this prospectus.
The above table does not reflect any amounts that we might pay to fund our
defined benefit pension plans, as the timing and amount of any such future
fundings are unknown and dependent on, among other things, the future
performance of defined benefit pension plan assets, interest rate assumptions
and actual future retiree medical costs. Such defined benefit pension plans are
discussed above in greater detail. The above table also does not reflect any
amounts that we might pay related to our asset retirement obligations, as the
terms and amounts of such future fundings are unknown. See Notes 11 and 15 to
the Consolidated Financial Statements included elsewhere in this prospectus.
Quantitative and Qualitative Disclosures About Market Risk
General. We are exposed to market risk from changes in foreign currency
exchange rates, interest rates and equity security prices. In the past, we have
periodically entered into currency forward contracts, interest rate swaps or
other types of contracts in order to manage a portion of our interest rate
market risk. Otherwise, we do not generally enter into forward or option
contracts to manage such market risks, nor do we enter into any such contract or
other type of derivative instrument for trading or speculative purposes. Other
than as described below, we were not a party to any material forward or
derivative option contract related to foreign exchange rates, interest rates or
equity security prices at December 31, 2004 and 2005. See Notes 1 and 14 to the
Consolidated Financial Statements included elsewhere in this prospectus.
Interest Rates. We are exposed to market risk from changes in interest
rates, primarily related to indebtedness. At December 31, 2004 and 2005,
substantially all of our aggregate indebtedness was comprised of fixed-rate
instruments. The large percentage of fixed-rate debt instruments minimizes
earnings volatility that would result from changes in interest rates. The
following table presents principal amounts and weighted average interest rates
for our aggregate outstanding indebtedness at December 31, 2005. At December 31,
2004 and 2005, all outstanding fixed-rate indebtedness was denominated in euros,
-44-
and the outstanding variable rate borrowings at December 31, 2004 were
denominated in euros. Information shown below for such foreign currency
denominated indebtedness is presented in our U.S. dollar equivalent at December
31, 2005 using exchange rates of 1.18 U.S. dollars per euro. Certain Norwegian
kroner denominated capital leases totaling $4.5 million in 2005 have been
excluded from the table below.
Amount
-----------------------
Carrying Fair Interest Maturity
Indebtedness value value rate date
--------------- -------- ------ -------- ----------
(In millions)
Fixed-rate indebtedness -
euro-denominated
Senior Secured Notes $ 449.3 $ 463.6 8.9% 2009
======= =======
At December 31, 2004, euro-denominated fixed rate indebtedness aggregated
$519.2 million (fair value - $549.1 million) with a weighted-average interest
rate of 8.9%. Variable rate indebtedness at December 31, 2004 was $13.6 million
with a weighted average interest rate of 3.9%.
Foreign Currency Exchange Rates. We are exposed to market risk arising from
changes in foreign currency exchange rates as a result of manufacturing and
selling our products worldwide. Earnings are primarily affected by fluctuations
in the value of the U.S. dollar relative to the euro, the Norwegian kroner and
the United Kingdom pound sterling.
As described above, at December 31, 2005, we had the equivalent of $449.3
million of outstanding euro-denominated indebtedness (2004 - the equivalent of
$532.8 million of euro-denominated indebtedness). The potential increase in the
U.S. dollar equivalent of the principal amount outstanding resulting from a
hypothetical 10% adverse change in exchange rates at such date would be
approximately $44.4 million at December 31, 2005 (2004 - $52.4 million).
Other. We believe that there may be a certain amount of incompleteness in
the sensitivity analysis presented above. For example, the hypothetical effect
of changes in exchange rates discussed above ignores the potential effect on
other variables which affect our results of operations and cash flows, such as
demand for our products, sales volumes and selling prices and operating
expenses. Accordingly, the amounts presented above are not necessarily an
accurate reflection of the potential losses we would incur assuming the
hypothetical changes in exchange rates were actually to occur.
The above discussion and estimated sensitivity analysis amounts include
forward-looking statements of market risk which assume hypothetical changes in
currency exchange rates. Actual future market conditions will likely differ
materially from such assumptions. Accordingly, such forward-looking statements
should not be considered to be projections by us of future events, gains or
losses.
-45-
BUSINESS
Kronos International, Inc. was incorporated in the State of Delaware,
U.S.A. on December 22, 1988, and is registered in the Commercial Register of the
Federal Republic of Germany. Our principal place of business is in Leverkusen,
Germany. We are a wholly-owned subsidiary of Kronos. We conduct Kronos' European
value-added TiO2 operations.
At March 31, 2006, (i) Valhi, Inc. and a wholly-owned subsidiary of Valhi
held approximately 59% of Kronos' common stock and NL held approximately an
additional 36% of Kronos' common stock, (ii) Valhi held approximately 83% of
NL's outstanding common stock and (iii) Contran Corporation and its subsidiaries
held approximately 92% of Valhi's outstanding common stock. Substantially all of
Contran's outstanding voting stock is held by trusts established for the benefit
of certain children and grandchildren of Harold C. Simmons of which Mr. Simmons
is sole trustee, or is held by Mr. Simmons or persons or other entities related
to Mr. Simmons. Consequently, Mr. Simmons may be deemed to control each of such
companies.
Industry
Titanium dioxide pigments are inorganic chemical products used for
imparting whiteness, brightness and opacity to a diverse range of customer
applications and end-use markets, including coatings, plastics, paper and other
industrial and consumer "quality-of-life" products. TiO2 is considered a
"quality-of-life" product with demand affected by gross domestic product in
various regions of the world. TiO2, the largest commercially-used whitening
pigment by volume, derives its value from its whitening properties and
opacifying ability (commonly referred to as hiding power). As a result of TiO2's
high refractive index rating, it can provide more hiding power than any other
commercially produced white pigment. In addition, TiO2 demonstrates excellent
resistance to chemical attack, good thermal stability and resistance to
ultraviolet degradation. TiO2 is supplied to customers in either a powder or
slurry form.
Per capita consumption of TiO2 in the United States and Western Europe far
exceeds that in other areas of the world, and these regions are expected to
continue to be the largest consumers of TiO2. Significant regions for TiO2
consumption could emerge in Eastern Europe, the Far East or China as the
economies in these regions develop to the point that quality-of-life products,
including TiO2, experience greater demand. Geographic information is contained
in Note 2 to the Consolidated Financial Statements included elsewhere in this
prospectus.
Products and Operations
TiO2 is produced in two crystalline forms: rutile and anatase. Both the
chloride and sulfate production processes (discussed below) produce rutile TiO2.
Chloride process rutile is preferred for the majority of customer applications.
From a technical standpoint, chloride process rutile has a bluer undertone and
higher durability than sulfate process rutile TiO2. Although many end-use
applications can use either form of TiO2, chloride process rutile TiO2 is the
preferred form for use in coatings and plastics, the two largest end-use
markets. Anatase TiO2, which is produced only through the sulfate production
process, represents a much smaller percentage of annual global TiO2 production
and is preferred for use in selected paper, ceramics, rubber tires, and man-made
fibers, food and cosmetics.
We believe that there are no effective substitutes for TiO2. Extenders,
such as kaolin clays, calcium carbonate and polymeric opacifiers, are used in a
number of end-used markets as white pigments, however the opacity in these
products is not able to duplicate the performance characteristics of TiO2, and
we believe these products are unlikely to replace TiO2.
We currently produce over 40 different TiO2 grades, sold under the Kronos
trademark, which provide a variety of performance properties to meet customers'
specific requirements. Our major customers include domestic and international
paint, plastics and paper manufacturers.
Along with our distributors and agents, we sell and provide technical
services for our products to over 3,000 customers in over 100 countries, with
the majority of sales in Europe. TiO2 is distributed by rail and truck in either
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dry or slurry form and by ocean carrier in dry form. Kronos, KII and our
predecessors have produced and marketed TiO2 in North America and Europe for
over 80 years. We believe we have developed considerable expertise and
efficiency in the manufacture, sale, shipment and service of our products.
Sales of TiO2 represented about 87% of our total sales in 2005. Sales of
other products, complementary to our TiO2 business, comprise the following:
o We own an ilmenite mine in Norway and operate the mine pursuant to a
governmental concession with an unlimited term. Ilmenite is a raw material
used directly as a feedstock by some sulfate-process TiO2 plants, including
all of our European sulfate-process plants. The mine has estimated reserves
that are expected to last at least 50 years. Ilmenite sales to
third-parties represented approximately 6% of our consolidated net sales in
2005.
o We manufacture and sell iron-based chemicals, which are by-products and
processed by-products of the TiO2 pigment production process. These
co-product chemicals are marketed through our Ecochem division, and are
used primarily as treatment and conditioning agents for industrial
effluents and municipal wastewater as well as in the manufacture of ore
pigments, cement and agricultural products. Sales of iron-based chemical
products were about 6% of sales in 2005.
o We manufacture and sell certain titanium chemical products (titanium
oxychloride and titanyl sulfate), which are side-stream products from the
production of TiO2. Titanium oxychloride is used in specialty applications
in the formulation of pearlescent pigments, production of electroceramic
capacitors for cell phones and other electronic devices. Titanyl sulfate
products are used primarily in pearlescent pigments. Sales of these
products were about 1% of sales in 2005.
Manufacturing Process and Raw Materials
We manufacture TiO2 using both the chloride process and the sulfate
process. Approximately 65% of our current production capacity is based on the
chloride process. The chloride process is a continuous process in which chlorine
is used to extract rutile TiO2. The chloride process typically has lower
manufacturing costs than the sulfate process due to higher yield and production
of less waste and lower energy requirements and labor costs. Because much of the
chlorine is recycled and feedstock bearing a higher titanium content is used,
the chloride process produces less waste than the sulfate process. The sulfate
process is a batch chemical process that uses sulfuric acid to extract TiO2.
Sulfate technology can produce either anatase or rutile pigment. Once an
intermediate TiO2 pigment has been produced by either the chloride or sulfate
process, it is "finished" into products with specific performance
characteristics for particular end-use applications through proprietary
processes involving various chemical surface treatments and intensive milling
and micronizing. Due to environmental factors and customer considerations, the
proportion of TiO2 industry sales represented by chloride-process pigments has
increased relative to sulfate-process pigments and in 2005, chloride-process
production facilities represented approximately 64% of industry capacity.
We produced a company record 335,000 metric tons of TiO2 in 2005, compared
to 328,000 metric tons produced in 2004 and 320,000 metric tons in 2003. Our
average production capacity utilization rate was near full capacity in each of
2003, 2004 and 2005. The amount we produced in 2004 and 2005 was higher than the
respective prior year due in part to debottlenecking activities, with only
moderate capital expenditures. We believe that our current annual attainable
production capacity for 2006 is approximately 345,000 metric tons, with some
slight additional capacity available in 2007 through Kronos' continuing
debottlenecking efforts.
The primary raw materials used in the TiO2 chloride production process are
titanium-containing feedstock, chlorine and coke. Chlorine and coke are
available from a number of suppliers. Titanium-containing feedstock suitable for
use in the chloride process is available from a limited but increasing number of
suppliers around the world, principally in Australia, South Africa, Canada,
India and the United States. We purchased approximately 260,000 metric tons of
chloride feedstock in 2005, of which the vast majority was slag.
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In 2005, we purchased chloride process grade slag through Kronos (US), Inc.
("KUS"), another wholly-owned subsidiary of Kronos, from a subsidiary of Rio
Tinto plc UK - Richards Bay Iron and Titanium Limited South Africa under a
long-term supply contract that expires at the end of 2007. Natural rutile ore is
purchased primarily from Iluka Resources, Limited (Australia) under a long-term
supply contract that expires at the end of 2009. We and KUS do not expect to
encounter difficulties obtaining long-term extensions to existing supply
contracts prior to the expiration of the contracts. Raw materials purchased
under these contracts and extensions thereof are expected to meet our chloride
feedstock requirements over the next several years.
The primary raw materials used in the TiO2 sulfate production process are
titanium-containing feedstock derived primarily from rock and sand ilmenite and
sulfuric acid. Sulfuric acid is available from a number of suppliers.
Titanium-containing feedstock suitable for use in the sulfate process is
available from a limited number of suppliers around the world. Currently, the
principal active sources are located in Norway, Canada, Australia, India and
South Africa. As one of the few vertically-integrated producers of
sulfate-process pigments, we own and operate a rock ilmenite mine in Norway,
which provided all of our feedstock for our sulfate-process pigment plants in
2005. We produced approximately 816,000 metric tons of ilmenite in 2005 of which
approximately 317,000 metric tons were used internally, with the remainder sold
to third parties.
The number of sources of, and availability of, certain raw materials is
specific to the particular geographic region in which a facility is located. As
noted above, through KUS we purchase titanium-bearing ore from two different
suppliers in different countries under multiple-year contracts. Political and
economic instability in certain countries from which we purchase our raw
material supplies could adversely affect the availability of such feedstock.
Should our vendors not be able to meet their contractual obligations or should
we be otherwise unable to obtain necessary raw materials, we may incur higher
costs for raw materials or may be required to reduce production levels, which
may have a material adverse effect on our consolidated financial position,
results of operations or liquidity.
The following table summarizes our raw materials procured or mined in 2005:
Quantities of Raw Materials Procured or Mined
Production Process/Raw Material (In thousands of metric tons)
---------------------------------------------------- ------------------------------------------------
Chloride process plants - purchased slag or natural
rutile ore 259
Sulfate process plants:
Mined raw ilmenite ore mined internally 317
Competition
The TiO2 industry is highly competitive. We compete primarily on the basis
of price, product quality and technical service, and the availability of high
performance pigment grades. Although certain TiO2 grades are considered
specialty pigments, the majority of our grades and substantially all of our
production are considered commodity pigments with price generally being the most
significant competitive factor. We believe we are the leading seller of TiO2 in
Germany and are among the leading marketers in the Benelux and Scandinavian
markets. We had an estimated 8% of worldwide TiO2 sales volume in 2005. Overall,
we are Europe's second largest producer of TiO2.
Our (along with KUS's and Kronos Canada Inc.'s, another wholly-owned
subsidiary of Kronos), principal competitors are E.I. du Pont de Nemours & Co.;
Millennium Chemicals, Inc.; Tronox Incorporated; Huntsman International Holdings
LLC; and Ishihara Sangyo Kaisha, Ltd. Our five largest competitors have
estimated individual shares of TiO2 production capacity ranging from 4% to 24%
and an estimated aggregate 70% share of worldwide TiO2 production volume.
Worldwide capacity additions in the TiO2 market resulting from construction
of greenfield plants require significant capital expenditures and substantial
lead time (typically three to five years in our experience). We are not aware of
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any greenfield plant under construction in the United States, Europe or any
other part of the world. A competitor has announced its intention to build a
greenfield facility in China, and it is not clear when construction will begin
and we do not believe that it is likely that any product would be available
until 2010, at the earliest.
During 2004, certain competitors either idled or shut down facilities.
However, we expect industry capacity will increase as we and our competitors
continue to debottleneck existing facilities. We expect the average annual
increase in industry capacity from announced debottlenecking projects will be
less than the average annual demand growth for TiO2 during the next three to
five years. However, future increases in the TiO2 industry production capacity
and future average annual demand growth rates for TiO2 may not meet our
expectations. If actual developments differ from our expectations, our
performance could be unfavorably affected.
Research and Development
Our expenditures for research and development and certain technical support
programs were approximately $7 million in 2003, $8 million in 2004 and $9
million in 2005. Research and development activities are conducted principally
at our Leverkusen, Germany facility. Research and development activities are
directed primarily toward improving both the chloride and sulfate production
processes, improving product quality and strengthening our competitive position
by developing new pigment applications.
We continually seek to improve the quality of our grades, and have been
successful at developing new grades for existing and new applications to meet
the needs of customers and increase product life cycle. Since 1999, thirteen new
grades have been added for plastics, coatings, fiber and paper laminate
applications.
Patents and Trademarks
We believe that our patents held for products and production processes are
important to our continuing business activities. We seek patent protection for
our technical developments, principally in the United States, Canada and Europe,
and from time to time enter into licensing arrangements with third parties. Our
existing patents generally have a term of 20 years from the date of filing, and
have remaining terms ranging from one to 19 years. We seek to protect our
intellectual property rights, including our patent rights, and from time to time
we are engaged in disputes relating to the protection and use of intellectual
property relating to our products.
Our major trademarks, including Kronos, are protected by registration in
the United States and elsewhere with respect to those products we manufacture
and sell. We also rely on unpatented proprietary know-how and continuing
technological innovation and other trade secrets to develop and maintain our
competitive position. Our chloride production process is an important part of
our technology, and our business could be harmed if we should fail to maintain
confidentiality of our trade secrets used in this process.
Foreign Operations
Our chemical businesses have operated in the European markets since the
1920s. Our current production capacity is located in Europe with our net
property and equipment aggregating approximately $348.8 million at March 31,
2006. Our operations include production facilities in Germany, Belgium and
Norway and sales and distribution facilities in England, France, Denmark and the
Netherlands. Approximately $690 million of our 2005 consolidated sales were to
European customers, and approximately $161 million were to customers in areas
other than Europe, including approximately $52 million of sales to customers in
the U.S. through our affiliates. Foreign operations are subject to, among other
things, currency exchange rate fluctuations, and our results of operations have
in the past been both favorably and unfavorably affected by fluctuations in
currency exchange rates. Effects of fluctuations in currency exchange rates on
our results of operations are discussed above in "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
Political and economic uncertainties in certain of the countries in which
we operate may expose us to risk of loss. We do not believe there is currently
any likelihood of material loss through political or economic instability,
seizure, nationalization or similar event. We cannot predict, however, whether
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events of this type in the future could have a material effect on our
operations. Our manufacturing and mining operations are also subject to
extensive and diverse environmental regulation in each of the foreign countries
in which they operate. See "-Regulatory and Environmental Matters."
Customer Base and Annual Seasonality
We believe that neither our aggregate sales nor those of any of our
principal product groups are concentrated in or materially dependent upon any
single customer or small group of customers. Our largest ten TiO2 pigment
customers, excluding sales to Kronos and affiliates, accounted for approximately
20% of sales in 2005. Neither our business as a whole nor that of any of our
principal product groups is seasonal to any significant extent. Due in part to
the increase in paint production in the spring to meet the spring and summer
painting season demand, TiO2 sales are generally higher in the first half of the
year than in the second half of the year.
Employees
As of March 31, 2006, we employed approximately 1,950 persons. Hourly
employees in European production facilities are represented by a variety of
labor unions, with labor agreements having various expiration dates. Our union
employees are covered by master collective bargaining agreements in the
chemicals industry that are renewed annually. We believe that our labor
relations are good.
Regulatory and Environmental Matters
Our operations are governed by various environmental laws and regulations.
Certain of our businesses are, or have been, engaged in the handling,
manufacture or use of substances or compounds that may be considered toxic or
hazardous within the meaning of applicable environmental laws. As with other
companies engaged in similar businesses, certain of our past and current
operations and products have the potential to cause environmental or other
damage. We have implemented and continue to implement various policies and
programs in an effort to minimize these risks. Our policy is to maintain
compliance with applicable environmental laws and regulations at all our
facilities and to strive to improve our environmental performance. It is
possible that future developments such as stricter requirements in environmental
laws and enforcement policies thereunder, could adversely affect our production,
handling, use, storage, transportation, sale or disposal of such substances.
This could impact our consolidated financial position, results of operations or
liquidity.
While the laws regulating operations of industrial facilities in Europe
vary from country to country, a common regulatory framework is provided by the
European Union (the "EU"). Germany and Belgium are members of the EU and follow
its initiatives. Norway, although not a member, generally patterns its
environmental regulatory actions after the EU. We believe that we have obtained
all required permits and are in substantial compliance with applicable EU
requirements.
We recycle weak sulfuric acid either through contracts with third parties
or using our own facilities at our sulfate plant facilities in Leverkusan and
Nordenham, Germany. At our Fredrikstad, Norway plant, we ship our spent acid to
a third-party location where it is treated and disposed. We have a contract with
a third party to treat certain sulfate-process effluents at our German sulfate
plants. With regard to the German plants, either party may terminate the
contract after giving three or four years advance notice, depending on the
contract.
We are also involved in various other environmental, contractual, product
liability and other claims and disputes incidental to our business.
From time to time, our facilities may be subject to environmental
regulatory enforcement under various non-U.S. statutes. Resolution of such
matters typically involves the establishment of compliance programs.
Occasionally, resolution may result in the payment of penalties, but to date
such penalties have not involved amounts having a material adverse effect on our
consolidated financial position, results of operations or liquidity. We believe
that all of our plants are in substantial compliance with applicable
environmental laws.
Our capital expenditures related to our ongoing environmental protection
and improvement programs in 2005 were approximately $4 million, and are
currently expected to be approximately $6 million in 2006.
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Properties
During 2005, we operated four TiO2 plants (one in Leverkusen, Germany; one
in Nordenham, Germany; one in Langerbrugge, Belgium; and one in Fredrikstad,
Norway). TiO2 is produced using the chloride process at the Leverkusen and
Langerbrugge facilities and is manufactured using the sulfate process in
Nordenham, Leverkusen and Fredrikstad. Our co-products are produced at our
Norwegian and Belgian facilities and our titanium chemicals are produced at our
Belgian facility.
We own all of our principal production facilities described above, except
for the land under the Leverkusen and Fredrikstad facilities. The Norwegian
plant is located on public land and is leased until 2013, with an option to
extend the lease for an additional 50 years. Our principal German operating
subsidiary leases the land under its Leverkusen TiO2 production facility
pursuant to a lease with Bayer AG that expires in 2050. The Leverkusen facility
itself, which we own and which represents about 50% of our current TiO2
production capacity, is located within Bayer's extensive manufacturing complex.
Rent for the land lease associated with our Leverkusen facility is periodically
established by agreement with Bayer for periods of at least two years at a time.
Under a separate supplies and services agreement expiring in 2011, Bayer
provides some raw materials, including chlorine, auxiliary and operating
materials and utilities and services necessary to operate the Leverkusen
facility.
We have under lease various corporate and administrative offices located in
Leverkusen, Germany and Brussels, Belgium and various sales offices located in
France, the Netherlands, Denmark and the United Kingdom.
We believe the means of transportation access to our facilities, which are
generally maintained by the applicable local governmental unit, are adequate for
our purposes.
Legal Matters
We are involved in various environmental, contractual, product liability
and other claims and disputes incidental to our business. The information
contained in Note 13 to the Consolidated Financial Statements included elsewhere
in this prospectus is incorporated herein by reference.
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MANAGEMENT
The table below sets forth information about our directors and executive
officers as of June 1, 2006.
Name Age Principal Positions and Directorship
------------------------------------ ----- ----------------------------------------------------
Harold C. Simmons................... 75 Chairman of the Board and Chief Executive Officer
Dr. Ulfert Fiand.................... 57 President, Manufacturing and Technology and Director
Dr. Henry Basson.................... 64 President, Sales and Marketing and a Director
Volker Roth......................... 61 Vice President, Controller and Director
Andrew Kasprowiak................... 59 Vice President, Treasurer and Director
Robert D. Graham.................... 50 Vice President and Assistant Secretary
Tim C. Hafer........................ 44 Vice President and Assistant Controller
John A. St. Wrba.................... 49 Vice President and Assistant Treasurer
Gregory M. Swalwell................. 49 Vice President, Finance and Chief Financial Officer
Kelly D. Luttmer.................... 42 Vice President, Tax Director
Harold C. Simmons has served as our chairman of the board since 2004 and
chief executive officer since 2003. He has served as chairman of the board and
chief executive officer of Kronos since 2003. Mr. Simmons has served as chief
executive officer of NL since 2003 and chairman of the board of NL since prior
to 2001. He also has served as chairman of the board of Titanium Metals
Corporation ("TIMET") since November 2005, chief executive officer of TIMET from
November 2005 to January 2006 and vice chairman of the board of TIMET from 2004
to November 2005. Mr. Simmons has been chairman of the board of Valhi, Inc., a
parent company of NL, and Contran since prior to 2001 and was chief executive
officer of Valhi from prior to 2001 to 2002. Mr. Simmons has been an executive
officer or director of various companies related to Valhi and Contran since
1961.
Dr. Ulfert Fiand has served as our president of manufacturing and
technology and one of our directors since 2001 and has served as president,
manufacturing and technology of Kronos since 2004. He previously served as
senior vice president, manufacturing and technology of Kronos since 2003. Dr.
Fiand joined us in 1988, and previously served as group leader and director of
chloride process technology, director of process technology and vice president
of production & process technology. Dr. Fiand also serves as company manager of
Kronos Titan GmbH.
Dr. Henry Basson has served as our president of sales and marketing and one
of our directors since 1997. From 1992 to 1997, Dr. Basson was president of
Rheox Europe, a former subsidiary of NL. Prior to 1992, Dr. Basson held
positions in sales, marketing and general management at Rohm and Haas Company.
Volker Roth has served as our vice president and controller and one of our
directors since 1992. Mr. Roth also serves as company manager of
Unterstutzungskasse Kronos Titan GmbH, Kronos Titan GmbH and Kronos Chemie,
GmbH, subsidiaries of Kronos.
Andrew Kasprowiak joined us and our affiliates in 1986 and has served as
our vice president, treasurer and director since 1998. Prior to this time, he
served in various positions with our affiliates, including general manager and
European treasurer of Kronos World Services NV/SA.
Robert D. Graham has served as our vice president and assistant secretary
since 2004. He has served as vice president, general counsel and secretary of
Kronos since 2003, vice president, general counsel and secretary of NL since
2003 and as vice president of Valhi and Contran since 2002. From 1997 to 2002,
Mr. Graham served as an executive officer, and most recently as executive vice
president and general counsel, of Software Spectrum, Inc., a global
business-to-business software services provider that is currently a wholly-owned
subsidiary of Level 3 Communications, Inc., but from 1991 to 2002 was a publicly
traded corporation. From 1985 to 1997, Mr. Graham was a partner in the law firm
of Locke Purnell Rain Harrell (A Professional Corporation), a predecessor to
Locke Liddell and Sapp LLP.
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Tim C. Hafer has served as our vice president and assistant controller
since June 2006 and vice president and controller of NL and Kronos since May
2006. He served as director - finance control of NL and Kronos from 2003 to May
2006. From prior 2001 to 2003, he served as an assistant controller of Valhi and
Contran.
John A. St. Wrba has served as our vice president and assistant treasurer
since 2004. He has served has served as vice president of Kronos since 2004 and
treasurer since 2003. He has also served as vice president and treasurer of
Valhi since 2005, Contran since 2004 and NL since 2003. He was NL's assistant
treasurer from 2002 to 2003. He served as NL's assistant treasurer from prior to
1998 until 2000. From 2000 until 2002, he was assistant treasurer of Kaiser
Aluminum & Chemical Corporation, a leading producer of fabricated aluminum
products.
Gregory M. Swalwell has served as our chief financial officer since
February 2004 and vice president, finance since 2003. He has served as chief
financial officer of Kronos and NL since 2004, vice president, finance of Kronos
and NL since 2003 and vice president and controller of Valhi and Contran since
prior to 2001. Mr. Swalwell has served in accounting positions with various
companies related to Valhi and Contran since 1988.
Kelly D. Luttmer has served as our vice president, tax director since
October 2004 and tax director since 2003. She has served as vice president of
Kronos, CompX, Contran, Valhi and NL since 2004, tax director of Kronos and NL
since 2003 and tax director of Valhi and Contran since 1998. Ms. Luttmer has
served in tax accounting positions with various companies related to Valhi and
Contran since 1989.
Compensation of Directors
During 2005, no fees were paid to any director for service as a director.
Directors are reimbursed for reasonable expenses incurred in attending board of
directors and committee meetings.
Summary of Cash and Certain Other Compensation of Executive Officers
The summary compensation table below provides information concerning annual
and long-term compensation paid or accrued by us and our subsidiaries for
services rendered to us and our subsidiaries during 2005, 2004 and 2003 by our
chief executive officer and four of our other executive officers with total
salary and bonus, or charge to us or our subsidiaries pursuant to intercorporate
services agreements, in excess of $100,000 in 2005.
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SUMMARY COMPENSATION TABLE (1)
Annual Compensation (2)
Name and ------------------------------------------
Principal Position Year Salary Bonus
------------------------------------------------- ---- ----------------- -----------------
Harold C. Simmons (3) 2005 $ -0- $ -0-
Chairman of the Board and Chief Executive Officer 2004 -0- -0-
2003 -0- -0-
Dr. Ulfert Fiand 2005 243,817 (4) 163,840 (4)(5)
President, Manufacturing and Technology 2004 209,664 (4) 153,044 (4)(5)
2003 173,786 (4) 121,650 (4)(5)
James W. Brown (3)(6) 2005 129,300 (3) -0- (3)
Vice President and Assistant Controller 2004 151,400 (3) -0-
John A. St. Wrba (3) 2005 120,100 (3) -0- (3)
Vice President and Assistant Treasurer 2004 27,700 (3) -0-
Kelly D. Luttmer 2005 102,300 (3) -0- (3)
Vice President, Tax Director 2004 82,500 (3) -0-
-------------------
(1) For the periods presented for each named executive officer, no stock
options or shares of restricted stock were granted to them nor payouts made
to them pursuant to long-term incentive plans. In addition for the periods
presented, none of the named executive officers received any compensation
from us that would be reportable under the all other compensation column.
Therefore, the columns for such compensation have been omitted.
(2) Other than Dr. Fiand, no named executive officer received other annual
compensation from us or our subsidiaries. For each of the three years
presented, Dr. Fiand received an annual car allowance that is less than the
amount required to be reported pursuant to SEC rules. Therefore, the column
for other annual compensation has been omitted.
(3) Ms. Luttmer and Messrs. Simmons, Brown and St. Wrba are employees of
Contran. The amount shown in the summary compensation table as salary for
Ms. Luttmer and Messrs. Brown and St. Wrba represents the portion of the
fees we paid pursuant to an intercorporate services agreement between
Kronos and Contran with respect to the services such officer rendered to
us. Each of Ms. Luttmer and Messrs. Brown and St. Wrba became one of our
executive officers in 2004.
(4) Dr. Fiand receives his cash compensation in euros. We report these amounts
in the summary compensation table above in U.S. dollars based on an average
exchange rate for each of 2005, 2004 and 2003 of $1.25356, $1.2347 and
$1.1212 per euro 1.00, respectively.
(5) Represents amounts we paid pursuant to our share-in-performance plan.
(6) Mr. Brown served as our vice president and assistant controller from
February 2004 to May 2006. Mr. Brown also served as vice president and
controller of NL and Kronos from 2003 to May 2006. In May 2006, Mr. Brown
was appointed vice president, corporate finance for TIMET and concurrently
ceased to serve as an effective officer of us, Kronos or NL.
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No Grants of Stock Options or Stock Appreciation Rights
We did not grant any stock options or stock appreciation rights ("SARs") to
the named executive officers during 2005, nor did any of our parent or
subsidiary companies.
Stock Option Exercises and Holdings
The following table provides information with respect to each of the named
executive officers concerning the aggregate amount the named executive officer
realized in 2005 upon the exercise of stock options for NL common stock and the
value of unexercised stock options for common stock of our parent companies held
as of December 31, 2005. Other than stock options exercisable for NL and Valhi
common stock indicated below, no named executive officer exercised or held any
stock options exercisable for common stock of any of our parent or subsidiary
companies. Neither we nor any or our parent or subsidiary companies have granted
any SARs. Neither Messrs. Brown nor St. Wrba hold any stock options exercisable
for the common stock of any of our parent or subsidiary companies.
AGGREGATE STOCK OPTION EXERCISES IN 2005 AND
DECEMBER 31, 2005 OPTION VALUES
Number of Shares
Shares Underlying Value of Unexercised
Acquired Unexercised Options at In-the-Money Options
on Value December 31, 2005 (#) at December 31, 2005 (1)
Exercise Value --------------------------- ---------------------------
Name (#) Realized Exercisable Unexercisable Exercisable Unexercisable
-------------------------- ---------- -------- ----------- ------------- ----------- -------------
Harold C. Simmons
NL Stock Options....... 2,000 $ 30,795 (2) 4,000 -0- $ 22,214 $ -0-
Dr. Ulfert Fiand
NL Stock Options....... 5,800 63,243 (2) -0- 1,200 -0- 3,126
Kelly D. Luttmer
Valhi Stock Options.... -0- -0- 66,600 -0- 511,892 -0-
----------------------
(1) The aggregate amount is based on the difference between the exercise price
of the individual stock options and the closing sales price of $18.50 per
share for Valhi common stock and $14.09 per share for NL common stock on
December 31, 2005.
(2) The amount realized is based on the difference between average of the high
and low sales price per share of the underlying NL common stock issued on
the day of exercise and the exercise price per share.
Pension Plan
Dr. Fiand is eligible to receive his pension through the Bayer
Pensionskasse and the Supplemental Pension Promise. All of our employees in
Germany (including wage earners) who have contributed for five years and are
less than 55 years of age are covered by the Bayer Pensionskasse. Each employee
contributes 2% of eligible earnings excluding bonus, up to the social security
contribution ceiling (currently euro 62,400) and the Bayer Pensionskasse
provides a benefit of 44% of such employee's accumulated contributions (with a
minimum benefit of approximately euro 13 per month). The Supplemental Pension
Promise also covers all of our employees in Germany who have completed ten years
of service. In Germany, Kronos accrues 11.25% of participants' eligible annual
earnings excluding bonus in excess of the social security contribution ceiling,
up to a maximum of euro 109,200. The Supplemental Pension Promise provides an
annual retirement benefit of 20% of all accruals made by us. Benefits for both
plans are payable upon retirement and the attainment of ages specified in the
plans. No amounts were paid or distributed under these plans to Dr. Fiand in
2005. As of December 31, 2005, the estimated accrued annual benefit payable upon
normal retirement at normal retirement age for Dr. Fiand is euro 29,190.
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Compensation Committee Interlocks and Insider Participation
Compensation for the named executive officers is set by the management
development and compensation committee of the board of directors of Kronos. None
of the named executive officers or any other of our current or former officers
or employees served on this committee during 2005.
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CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
We may be deemed to be controlled by Harold C. Simmons. Corporations that
may be deemed to be controlled by or affiliated with Mr. Simmons sometimes
engage in (a) intercorporate transactions such as guarantees, management and
expense sharing arrangements, shared fee arrangements, joint ventures,
partnerships, loans, options, advances of funds on open account, and sales,
leases and exchanges of assets, including securities issued by both related and
unrelated parties and (b) common investment and acquisition strategies, business
combinations, reorganizations, recapitalizations, securities repurchases, and
purchases and sales (and other acquisitions and dispositions) of subsidiaries,
divisions or other business units, which transactions have involved both related
and unrelated parties and have included transactions which resulted in the
acquisition by one related party of a publicly held minority equity interest in
another related party. While no transactions of the type described above are
planned or proposed with respect to us other than as set forth in the
Consolidated Financial Statements included elsewhere in this prospectus, we
continuously consider, review and evaluate, and understands that Contran and
related entities consider, review and evaluate such transactions. Depending upon
the business, tax and other objectives then relevant, it is possible that we
might be a party to one or more such transactions in the future.
It is our policy to engage in transactions with related parties on terms,
in our opinion, no less favorable to us than could be obtained from unrelated
parties.
Under the terms of various intercorporate services agreements ("ISAs")
entered into between us and various related parties, employees of one company
will provide certain management, tax planning, financial and administrative
services to the other company on a fee basis. Such charges are based upon
estimates of the time devoted by the employees of the provider of the services
to the affairs of the recipient and the compensation and associated expenses of
such persons. Because of the large number of companies affiliated with Contran,
Kronos and NL, we believe that we benefit from cost savings and economies of
scale gained by not having certain management, financial and administrative
staffs duplicated at each entity, thus allowing certain individuals to provide
services to multiple companies but only be compensated by one entity. These ISA
agreements are reviewed and approved by the applicable independent directors of
the companies that are parties to the agreements. The net ISA fee charged to us
was $1.5 million in 2003, $2.8 million in 2004 and $2.9 million in 2005.
Sales of TiO2 to Kronos (US), Inc. ("KUS") and Kronos Canada, Inc. ("KC"),
each of which is an affiliate, aggregated $68.7 million in 2003, $50.8 million
in 2004, $63.6 million in 2005 and $23.4 million in the first quarter of 2006.
KUS purchases the rutile and slag feedstock used as a raw material in all
of our chloride process TiO2 facilities. We purchase such feedstock from KUS for
use in our facilities for an amount equal to the amount paid by KUS to the
third-party supplier plus a 2.5% administrative fee. Such feedstock purchases
were $93.3 million in 2003, $106.2 million in 2004, $120.1 million in 2005 and
$18.9 million in the first quarter of 2006.
Purchases of TiO2 from KUS and KC aggregated approximately $600,000 in
2003, $4.2 million in 2004, $600,000 in 2005 and $295,000 in the first quarter
of 2006.
Royalty income received from KC for use of certain of our intellectual
property was $6.1 million in 2003, $6.0 million in 2004, $6.8 million in 2005
and $2.1 million in the first quarter of 2006.
Tall Pines Insurance Company and EWI Re, Inc. provide for or broker certain
insurance policies for Contran and certain of its subsidiaries and affiliates,
including us. Tall Pines is a wholly-owned subsidiary of Valhi, and EWI is a
wholly-owned subsidiary of NL. Consistent with insurance industry practice, Tall
Pines and EWI receive commissions from insurance and reinsurance underwriters
and/or assess fees for the policies that they provide or broker. The aggregate
premiums we paid to Tall Pines (including amounts paid to Valmont Insurance
Company, another subsidiary of Valhi that was merged into Tall Pines in 2004)
and EWI were $5.2 million in 2003, $5.3 million in 2004, $5.5 million in 2005
and $400,000 in the first quarter of 2006. These amounts principally included
payments for insurance and reinsurance paid to third parties, but also include
commissions paid to Tall Pines and EWI. Tall Pines purchases reinsurance for
substantially all of the risk it underwriters.
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Contran and certain of its subsidiaries and affiliates, including us,
purchase certain of their insurance policies as a group, with the costs of the
jointly-owned policies being apportioned among the participating companies. With
respect to certain of such policies, it is possible that unusually large losses
incurred by one or more insureds during a given policy period could leave the
other participating companies without adequate coverage under that policy for
the balance of the policy period. As a result, Contran and certain of its
subsidiaries and its affiliates, including us, have entered into a loss sharing
agreement under which any uninsured loss is shared by those entities who have
submitted claims under the relevant policy. We believe the benefits in the form
of reduced premiums and broader coverage associated with the group coverage for
such policies justifies the risk associated with the potential for uninsured
loss.
Net amounts between us and KUS were generally related to product sales and
raw material purchases. Net amounts between us and KC were generally related to
product sales and royalties. See Note 8 to the Consolidated Financial Statements
included elsewhere in this prospectus for discussion of notes receivable from
affiliates.
Current receivables from and payables to affiliates are summarized in the
table below.
December 31,
----------------------
2004 2005 March 31, 2006
-------- -------- --------------
(In thousands)
Current receivables from affiliates:
KC $ 2,516 $ 1,948 $ 2,679
KUS - - 1,538
Other 1 4 -
--------- ---------- ----------
$ 2,517 $ 1,952 $ 4,217
========= ========== ==========
Current payables to affiliates:
KUS $ 11,033 $ 14,882 $ -
Kronos - - 84
NL 9 - -
--------- ---------- ----------
$ 11,042 $ 14,882 $ 84
========= ========== ==========
Interest income on all loans to related parties was less than $50,000 in
2003, $2.8 million in 2004, $18.9 million in 2005 and $4.5 million in the first
quarter of 2006. Interest expense on all loans from related parties was less
than $100,000 in 2003 and nil in 2004, 2005 and the first quarter of 2006.
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DESCRIPTION OF THE NEW NOTES
We issued the old notes, and will issue the new notes, under an indenture
with The Bank of New York, as trustee. The following is a summary of the
material provisions of the indenture. It does not include all of the provisions
of the indenture. We urge you to read the indenture because it defines your
rights. The terms of the new notes include those stated in the indenture and
those made part of the indenture by reference to the Trust Indenture Act of
1939, as amended. We have filed the indenture as an exhibit to the registration
statement of which this prospectus is a part, and incorporate by reference that
exhibit into this prospectus. You can find definitions of certain capitalized
terms used in this description under "- Certain Definitions."
The new notes will be our senior obligations, ranking equally in right of
payment with the old notes and all our other senior indebtedness. The new notes
will be secured by a senior lien on 65% of the capital stock of each of Kronos
Limited (United Kingdom), Societe Industrielle Du Titane, S.A., Kronos Titan
GmbH and Kronos Denmark ApS, each of which is one of our first-tier operating
subsidiaries, which is the same collateral that secures the old notes.
We will issue the new notes in fully-registered form in denominations of
euro 50,000 and integral euro 1,000 increments in excess thereof. The trustee
will initially act as paying agent and registrar for the new notes. The new
notes may be presented for registration or transfer and exchange at the offices
of the registrar. We may change any paying agent and registrar without notice to
holders of the notes. We will pay principal and any premium on the new notes at
the trustee's corporate office in New York. At our option, interest may be paid
at the trustee's corporate trust office or by check mailed to the registered
address of holders. So long as the new notes are admitted to the Official List
of the Luxembourg Stock Exchange, we will maintain a special agent or, as the
case may be, a paying and transfer agent in Luxembourg. Any old notes that
remain outstanding after the completion of the exchange offer, together with the
new notes issued in connection with the exchange offer, will be treated as a
single class of securities under the indenture.
Principal, Maturity and Interest
An aggregate principal amount of up to euro 400 million of new notes will
be issued in the exchange offer. The new notes will mature on April 13, 2013.
Additional notes may be issued from time to time, subject to the limitations set
forth under "- Certain Covenants - Limitation on Incurrence of Additional
Indebtedness." Interest on the new notes will accrue at the rate of 6 1/2% per
annum and will be payable semiannually in cash on each April 15 and October 15
to the persons who are registered holders at the close of business on the April
1 and October 1 immediately preceding the applicable interest payment date.
Interest on the new notes will accrue from the most recent date to which
interest has been paid or, if no interest has been paid, from and including the
date of issuance.
The new notes will not be entitled to the benefit of any mandatory sinking
fund.
Redemption
Optional Redemption. Except as described below, the new notes are not
redeemable before October 15, 2009. Thereafter, we may redeem all or some of the
notes at our option upon not less than 30 nor more than 60 days notice, at the
following redemption prices (expressed as percentages of the principal amount
thereof) if redeemed during the twelve-month period (or, in the case of the
period commencing on October 15, 2012, six-month period) commencing on October
15 of the year set forth below:
Year Percentage
---- ------------
2009.................................................. 103.250%
2010.................................................. 102.167%
2011.................................................. 101.083%
2012 and thereafter................................... 100.000%
In addition, we must pay accrued and unpaid interest on the notes redeemed.
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Optional Redemption upon Public Equity Offerings. At any time on or prior
to April 15, 2009, we have the option to use the net cash proceeds of certain
public equity offerings to redeem up to 35% of the principal amount of the notes
at a redemption price of 106.500% of the principal amount thereof plus accrued
and unpaid interest thereon, if any, to the date of redemption; provided that:
o at least 65% of the principal amount of the notes remains outstanding
immediately after any such redemption; and
o we make such redemption not more than 90 days after the consummation of any
such public equity offering.
This right applies to underwritten public offering of Qualified Capital
Stock of KII or Kronos; provided that, in the event of an offering by Kronos,
Kronos contributes to our equity capital the portion of the net cash proceeds of
such offering necessary to pay the aggregate redemption price (plus accrued
interest to the date of redemption) of the notes to be redeemed.
Optional Redemption upon a Change of Control. At any time on or prior to
October 15, 2009, we have the option to redeem all, but not less than all, of
the notes upon the occurrence of any of the following events, which we refer to
in this prospectus as a "Change of Control":
o any sale, lease, exchange or other transfer of all or substantially all of
our assets to any person other than the persons specified as permitted
holders in the indenture;
o the approval by our stockholders of any plan or proposal for our
liquidation or dissolution;
o any person, other than the persons specified as permitted holders in the
indenture, becoming the owner of shares representing more than 50% of the
aggregate ordinary voting power represented by our issued and outstanding
capital stock; or
o the replacement of a majority of our board of directors over a two-year
period from the directors who constituted our board of directors at the
beginning of such period, unless such replacement has been approved by a
vote of at least a majority of the board of directors then still in office
who either were members of the board at the beginning of such period or
whose election as a member of the board was previously so approved or
approved by the persons specified as permitted holders in the indenture so
long as these permitted holders then beneficially own a majority of our
capital stock.
The redemption price will be equal to the principal amount of the notes
plus a premium as specified in the indenture plus any accrued but unpaid
interest to the date of redemption. Another person may pay the purchase price
and perform our obligations with respect to a redemption. We will send a notice
of a redemption to each holder not less than 30 nor more than 60 days prior to
the date of redemption and in no event will this notice be sent more than 180
days after the occurrence of a Change of Control. We may give this notice prior
to the occurrence of the related Change of Control, and any redemption, purchase
or notice may, at our discretion, be subject to the satisfaction of one or more
conditions precedent, including but not limited to the occurrence of the related
Change of Control.
Selection and Notice of Redemption
If we choose to redeem less than all of the notes, the trustee will select
the notes for redemption either:
o in compliance with the requirements of the principal national securities
exchange, if any, on which the notes are listed; or
o on a pro rata basis, by lot or by such method as the trustee deems fair and
appropriate.
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No notes of a principal amount of euro 1,000 or less will be redeemed in
part; provided that no notes will be redeemed in part if the resulting note
would have a denomination that is less than euro 50,000. If a partial redemption
is made with the proceeds of a public equity offering, the trustee will select
the notes only on a pro rata basis or on as nearly a pro rata basis as is
practicable (subject to the procedures of Euroclear and Clearstream). Notice of
redemption will be mailed at least 30 but not more than 60 days before the
redemption date to each holder of notes to be redeemed at its registered
address. In the event notes are to be redeemed, we will also publish a notice of
redemption in accordance with the procedures described under "- Notices." On and
after the redemption date, interest will cease to accrue on notes or portions
thereof called for redemption as long as we have deposited with the paying agent
funds in satisfaction of the applicable redemption price.
Holding Company Structure
Our assets consist primarily of investments in our operating subsidiaries.
A majority of our cash flows are generated by our operating subsidiaries, and
our ability to service indebtedness, including our ability to pay the interest
on and principal of the notes, depends upon the distribution of the earnings we
receive from our subsidiaries, whether in the form of dividends, partnership
distributions, advances or payments on account of intercompany obligations, to
service its debt obligations. In addition, the claims of noteholders are subject
to the prior payment of all liabilities and to any preferred stock interest of
our subsidiaries. There can be no assurance that, after providing for all prior
claims, there would be sufficient assets available from us and our subsidiaries
to satisfy the claims of the holders of notes. See "Risk Factors - If our
subsidiaries do not make sufficient distributions to us, then we will not be
able to make payments on our debt, including the new notes" and "Risk Factors -
The notes are secured only by the pledge of 65% of the stock or other equity
interests of certain of our first-tier subsidiaries, and assets of our
subsidiaries will first be applied to repay indebtedness and liabilities of our
subsidiaries and may not be sufficient to repay the new notes."
In addition, the new notes will be structurally subordinated in right of
payment to all of the indebtedness and other liabilities of our subsidiaries,
which, as of March 31, 2006, were approximately $383 million. Furthermore, the
indebtedness of certain of our subsidiaries under their credit agreement is
secured by liens on substantially all current assets of such subsidiaries. The
new notes will not have the benefit of this collateral, nor any other assets of
our subsidiaries. Accordingly, if an event of default occurs under our
subsidiaries' credit agreement, the lenders under the credit agreement will have
a right to such assets and may foreclose upon their collateral. In that case,
such assets would first be used to repay in full amounts outstanding under the
credit agreement and may not be available to repay the new notes. In the event
of a bankruptcy event affecting any of our subsidiaries, local bankruptcy law
would be likely to apply. In general, such local bankruptcy law affords
significant protection for senior secured creditors and there can be no
assurances that, in the event of bankruptcy events affecting our subsidiaries,
senior secured creditors could take actions that would materially and adversely
affect the value of our ongoing business and the equity value of our
subsidiaries. The remaining value, if any, of our assets may not be sufficient
to repay the new notes.
Security
The new notes will be secured only by the pledge of 65% of the capital
stock of certain of our first-tier operating subsidiaries identified on the
organizational chart on page 3, which is the same collateral that secures the
old notes. Each of the pledges securing the new notes will be in favor of either
the trustee or a collateral agent appointed under the indenture and will be
governed by the local law of the jurisdiction where each of our pledged
subsidiaries are formed; those jurisdictions are Denmark, France, Germany and
the United Kingdom. As a result, the validity of those pledges, and the ability
of the trustee or a collateral agent, as applicable, or the noteholders to
realize any benefit associated with the pledged shares, may be limited under
applicable local law as any action to enforce the stock pledges must be taken
under the laws of the applicable jurisdiction and such laws may differ in
significant respects from the laws of the United States. Furthermore, the rights
of the trustee or a collateral agent, as applicable, or the noteholders to
foreclose upon and sell the pledged shares upon the occurrence of a default will
be subject to limitations under applicable local bankruptcy laws if a bankruptcy
proceeding were commenced against us or our subsidiaries. Any delay or inability
to realize any benefit associated with the lien in any jurisdiction or the
application of local bankruptcy laws that are contrary to the noteholders'
interests could have a material adverse effect on the lien we have granted on
certain of our first-tier subsidiaries and could result in an inability to
realize the full value of the share pledges entered into in connection with the
issuance of the notes.
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Change of Control
Upon the occurrence of a Change of Control, each noteholder will have the
right to require that we purchase all or any part (equal to euro 50,000 or an
integral multiple of euro 1,000 in excess thereof) such holder's notes pursuant
to the offer described below, at a purchase price in cash equal to 101% of the
principal amount thereof plus accrued interest to the date of purchase.
Within 60 days following the date upon which the Change of Control
occurred, we must send a notice to each noteholder, with a copy to the trustee,
which notice will govern the terms of the offer. Such notice shall state, among
other things, the purchase date, which must be no earlier than 30 days nor later
than 45 days from the date such notice is mailed, other than as may be required
by law. In the event of a Change of Control, we will also publish a notice of
the offer to purchase in accordance with the procedures described under "-
Notices." Holders electing to have a note purchased will be required to
surrender the note, with the form entitled "Option of Holder to Elect Purchase"
on the reverse of the note completed, to the paying agent at the address
specified in the notice prior to the close of business on the third business day
prior to the purchase date specified in the notice.
We will not be required to make an offer upon a Change of Control if a
third party makes an offer in the manner, at the times and otherwise in
compliance with the requirements set forth in the indenture applicable to an
offer we make and purchases all notes validly tendered and not withdrawn under
such offer.
If an offer is made, there can be no assurance that we will have available
funds sufficient to pay the purchase price for all the notes that might be
delivered by holders seeking to accept the offer. In the event we are required
to purchase outstanding notes pursuant to an offer, we expect that we would seek
third-party financing to the extent we do not have available funds to meet our
purchase obligations. However, there can be no assurance that we would be able
to obtain such financing.
Neither our board of directors nor the trustee may waive the covenant
relating to a holder's right to redemption upon a Change of Control.
Restrictions in the indenture described in this prospectus on our and our
restricted subsidiaries' ability to incur additional indebtedness, to grant
liens on our or its property, to make restricted payments and to make asset
sales may also make more difficult or discourage a takeover of us, whether
favored or opposed by our management. Consummation of any such transaction in
certain circumstances may require redemption or repurchase of the notes, and
there can be no assurance that we or the acquiring party will have sufficient
financial resources to effect such redemption or repurchase. Such restrictions
and the restrictions on transactions with affiliates may, in certain
circumstances, make more difficult or discourage any leveraged buyout of us or
any of our subsidiaries by management. While such restrictions cover a wide
variety of arrangements which have traditionally been used to effect
highly-leveraged transactions, the indenture may not afford noteholders
protection in all circumstances from the adverse aspects of a highly-leveraged
transaction, reorganization, restructuring, merger or similar transaction.
We will comply with the requirements of Rule 14e-1 under the Exchange Act
and any other securities laws and regulations thereunder to the extent such laws
and regulations are applicable in connection with the repurchase of notes. To
the extent that the provisions of any securities laws or regulations conflict
with the "Change of Control" provisions of the indenture, we will comply with
the applicable securities laws and regulations and will not be deemed to have
breached our obligations under the "Change of Control" provisions of the
indenture by virtue thereof.
Certain Covenants
The following summarizes the material financial and other restrictive
covenants contained in the indenture:
Limitation on Incurrence of Additional Indebtedness. We agreed to not, and
to not permit any of our subsidiaries that are restricted subsidiaries for
purposes of the indenture (which we refer to in this prospectus as "restricted
subsidiaries") to, incur any indebtedness other than the permitted indebtedness
described below. However, if no default or event of default is continuing at the
time of or as a consequence of our incurring any such indebtedness, we or any of
our restricted subsidiaries that is, or becomes bound by the indenture as a
guarantor (which we refer to in this prospectus as a "guarantor"), may incur
indebtedness, and any restricted subsidiary that is not or will not, upon such
incurrence, become a guarantor may incur Acquired Indebtedness, in each case if
on the date of the incurrence of such indebtedness, after giving effect to the
incurrence thereof, our Consolidated Fixed Charge Coverage Ratio is greater than
2.5 to 1.0.
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Neither we nor any guarantor may incur any indebtedness that is expressly
subordinated to any senior indebtedness of us or any such guarantor unless such
indebtedness is also expressly subordinated on the same basis to the notes or
any guarantees.
Under the indenture, in addition to the indebtedness we may incur as
described above, we may incur the following permitted indebtedness (which we
refer to in this prospectus as "permitted indebtedness"):
o indebtedness under the notes in an aggregate principal amount not to exceed
euro 400 million and guarantees in respect thereof;
o indebtedness incurred pursuant to our subsidiaries' credit agreement in an
aggregate principal amount at any time outstanding not to exceed euro 80
million less the amount of any principal payments made under such credit
agreement with certain net cash proceeds of any Asset Sale;
o other of our and our restricted subsidiaries' indebtedness outstanding on
April 11, 2006, the date of issuance of the notes;
o certain obligations under interest swap agreements;
o certain indebtedness under any commodity futures contract, commodity option
or other similar agreement designed to protect us against fluctuations in
the price of commodities actually at that time used in the ordinary course
of our business or any foreign exchange contract, currency swap agreement
or other similar agreement designed to protect us against fluctuations in
currency values;
o subject to the proviso set forth in the indenture, indebtedness of a
restricted subsidiary to us or a restricted subsidiary for so long as such
indebtedness is held by us or restricted subsidiary, in each case subject
to no lien held by a person other than us or a restricted subsidiary or
lenders in respect of our subsidiaries' credit agreement or other permitted
indebtedness;
o subject to a proviso set forth in the indenture, indebtedness of us to a
restricted subsidiary for so long as such indebtedness is held by a
restricted subsidiary, in each case subject to no lien other than a lien of
the lenders in respect of our subsidiaries' credit agreement or other
permitted indebtedness of such restricted subsidiary;
o indebtedness arising from the honoring by a bank or other financial
institution of a check, draft or similar instrument inadvertently (except
in the case of daylight overdrafts) drawn against insufficient funds in the
ordinary course of business if such indebtedness is extinguished within two
business days of incurrence;
o indebtedness in respect of bid, payment or performance bonds, bankers'
acceptances, workers' compensation claims, surety or appeal bonds, payment
obligations in connection with self-insurance or similar obligations, and
bank overdrafts (and letters of credit in respect thereof) and commercial
letters of credit, in all such cases in the ordinary course of business;
o subject to the limitations contained in the indenture, indebtedness
incurred to refinance, extend, renew, refund, repay, prepay, redeem,
defease or retire any indebtedness existing on April 11, 2006 or
subsequently incurred in accordance with the terms of the indenture;
o additional indebtedness of us in an aggregate principal amount not to
exceed $20 million at any one time outstanding;
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o additional indebtedness of one or more restricted subsidiaries in an
aggregate principal amount not to exceed $20 million at any one time
outstanding, which amount may, but need not, be incurred in whole or in
part under the credit agreement;
o indebtedness consisting of guarantees, indemnities or obligations in
respect of customary purchase price adjustments in connection with the
acquisition or disposition of assets; and
o indebtedness represented by capitalized lease obligations and indebtedness
incurred to finance the purchase price or cost of installation,
construction or improvement of property or equipment, in each case incurred
in the ordinary course of business not to exceed $15 million at any one
time outstanding.
If we incur indebtedness in compliance with the terms of the indenture that
we could incur under more than one category described above, we will, in our
sole discretion, classify (or later reclassify) such item of indebtedness in any
manner that complies with the indenture. Accrual of interest, accretion or
amortization of original issue discount, the payment of interest on any
indebtedness in the form of additional indebtedness with the same terms, the
payment of dividends on Disqualified Capital Stock in the form of additional
shares of the same class of Disqualified Capital Stock, and changes in the
amount outstanding due solely to fluctuations in currency exchange rates, will
not be deemed to be an incurrence of indebtedness or an issuance of Disqualified
Capital Stock for purposes of the terms of the indenture governing incurrence of
indebtedness.
Limitation on Restricted Payments. Subject to the exceptions set forth in
the indenture, we agreed to not, and to not cause or permit any of our
restricted subsidiaries to, make the following restricted payments:
o declare or pay any dividend or make any distribution, other than dividends
or distributions payable in Qualified Capital Stock, on our capital stock;
o acquire or retire for value any capital stock or any warrants, rights or
options to purchase or acquire shares of capital stock;
o make any principal payment on, or acquire or retire for value, prior to any
scheduled final maturity, scheduled repayment or scheduled sinking fund
payment, any indebtedness that is subordinate or junior in right of payment
to the notes; or
o make any investment other than specified investments permitted pursuant to
the indenture;
if at the time of such restricted payment or immediately after giving
effect to such restricted payment,
o a default or an event of default will occur and be continuing; or
o we are not able to incur at least $1.00 of additional indebtedness (other
than permitted indebtedness) in compliance with the "Limitation on
Incurrence of Additional Indebtedness" covenant described above, so long as
the Consolidated Fixed Charge Coverage Ratio, after giving effect to such
restricted payment, is greater than 3.0 to 1.0; or
o the aggregate amount of restricted payments (including the proposed
restricted payment) made subsequent to June 28, 2002 exceeds, without
duplication, the sum of the following:
(a) 75% of our cumulative Consolidated Net Income (or if cumulative
Consolidated Net Income is a loss, minus 100% of such loss) earned
subsequent to June 28, 2002 and on or prior to the date the restricted
payment occurs, treating such period as a single accounting period;
provided that for purposes of the provision described in this
paragraph (a), the aggregate provision or benefit for income taxes
used to calculate Consolidated Net Income for any period after April
11, 2006 in accordance with GAAP will be replaced with income taxes
paid (or received) in cash; plus
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(b) 100% of the aggregate net cash proceeds we receive from any person
other than a restricted subsidiary from the issuance and sale
subsequent to June 28, 2002 and on or prior to the date the restricted
payment occurs of Qualified Capital Stock or warrants, options or
other rights to acquire Qualified Capital Stock (but excluding any
debt security that is convertible into, or exchangeable for, Qualified
Capital Stock); plus
(c) 100% of the aggregate net cash proceeds of any equity contribution we
receive from a holder of our capital stock (excluding, in the case of
the paragraph immediately above and this paragraph, any net cash
proceeds from a public offering of equity of KII or Kronos to the
extent used to redeem the notes in compliance with the provisions set
forth under "Redemption - Optional Redemption upon Public Equity
Offerings"); plus
(d) without duplication, the sum of:
(i) the aggregate amount returned in cash on or with respect to
Investments (other than Permitted Investments) made subsequent to
June 28, 2002 whether through interest payments, principal
payments, dividends or other distributions or payments;
(ii) the net cash proceeds we or any of our restricted subsidiaries
receive from the disposition of all or any portion of Investments
(other than Permitted Investments) made subsequent to June 28,
2002 other than to a restricted subsidiary; and
(iii) subject to a proviso set forth in the indenture, upon
redesignation of an unrestricted subsidiary as a restricted
subsidiary, the fair market value of such subsidiary; plus
(iv) $25 million.
The provisions summarized above do not prohibit a number of events,
including the following:
o the payment of any dividend within 60 days after the date of declaration of
such dividend if the dividend would have been permitted on the date of
declaration;
o the acquisition or redemption of any shares of our capital stock, either
(i) solely in exchange for shares of our Qualified Capital Stock or (ii)
through the application of net proceeds of a substantially concurrent sale
for cash (other than to a restricted subsidiary) of shares of our Qualified
Capital Stock;
o the acquisition or redemption of any indebtedness that is subordinate or
junior in right of payment to the notes either (i) solely in exchange for
shares of our Qualified Capital Stock or (ii) through the application of
net proceeds of (a) a substantially concurrent sale for cash (other than to
a restricted subsidiary) of shares of our Qualified Capital or (b) if no
default or event of default shall have occurred and be continuing,
specified indebtedness incurred in connection with a refinancing of
existing indebtedness or incurred in accordance with certain provisions of
the "Limitation on Incurrence of Additional Indebtedness" covenant; and
o so long as no default or event of default has occurred and is continuing,
repurchases by us of our common stock (or options or warrants to purchase
our common stock) from our or our subsidiaries' directors, officers and
employees or their authorized representatives upon the death, disability,
retirement or termination of employment of such directors, officers and
employees, in an aggregate amount not to exceed $3 million in any calendar
year.
Limitation on Asset Sales. The indenture also provides that we will not,
and will not permit any of our restricted subsidiaries to, consummate any Asset
Sales unless:
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o we receive consideration at least equal to the fair market value of the
assets sold, as determined in good faith by our board of directors;
o at least 75% of the consideration we received from the Asset Sale is in the
form of cash or cash equivalents and is received at the time of such Asset
Sale; and
o upon the consummation of the Asset Sale, we apply the net cash proceeds
within 365 days of receipt thereof either:
o to prepay any secured senior indebtedness and, in the case of any such
senior indebtedness under any revolving credit facility, effect a
permanent reduction in the availability under such revolving credit
facility; and/or
o to acquire or make an investment in properties and assets that replace
the properties and assets that were the subject of such sale or in
properties and assets that we will use in our business (which assets
we refer to in this prospectus as "replacement assets").
On the 366th day after an Asset Sale or any earlier date as our board of
directors determines not to apply the net cash proceeds of such Asset Sale as
set forth above, the net cash proceeds that have not been applied as set forth
above will be applied to make an offer to purchase from all noteholders on a pro
rata basis, that amount of notes equal to such unapplied amount at a price equal
to 100% of the principal amount of the notes to be purchased, plus accrued and
any unpaid interest thereon to the date of purchase. We may, however, consummate
an Asset Sale without complying with this requirement if at least 80% of the
consideration for such Asset Sale consists of replacement assets and such Asset
Sale is for fair market value. Any consideration that does not constitute
replacement assets will be subject to the provisions set forth in the first
sentence of this paragraph. We may defer such an offer until the total of the
unapplied net cash proceeds is equal to or in excess of $20 million resulting
from one or more Asset Sales.
In the event of the transfer of substantially all (but not all) of our and
our restricted subsidiaries' property and assets as an entirety to a person in a
transaction permitted under "- Merger, Consolidation and Sale of Assets," which
transaction does not constitute a Change of Control, the successor corporation
will be deemed to have sold our properties and assets not so transferred for
purposes of this covenant, and must comply with the provisions of this covenant
with respect to such deemed sale as if it were an Asset Sale. In addition, the
fair market value of such properties and assets deemed to be sold will be deemed
to be net cash proceeds for purposes of this covenant.
Each offer will be mailed to the record holders, with a copy to the
trustee, and will comply with the procedures set forth in the indenture. Upon
receiving this notice, noteholders may elect to tender their notes in whole or
in part in integral multiples of euro 1,000 (provided that no note of less than
euro 50,000 may remain outstanding thereunder) in exchange for cash. To the
extent noteholders properly tender notes in an amount exceeding the offer
amount, notes of tendering holders will be purchased on a pro rata basis (based
on amounts tendered). The offer will remain open for a period of 20 business
days or such longer period as may be required by law.
We will comply with the requirements of Rule 14e-1 under the Exchange Act
and any other securities laws and regulations thereunder to the extent such laws
and regulations are applicable in connection with the repurchase of notes
pursuant to an offer. To the extent that the provisions of any securities laws
or regulations conflict with the "Asset Sale" provisions of the indenture, we
will comply with the applicable securities laws and regulations and will not be
deemed to have breached our obligations under the "Asset Sale" provisions of the
indenture by virtue thereof.
After the consummation of any offer, we may use any amount not applied to
any such purchase for any purpose permitted by the other provisions of the
indenture.
To the extent that any or all of the net cash proceeds related to an Asset
Sale of a restricted subsidiary are prohibited or delayed by applicable law from
being repatriated (in the form of dividends, loans or otherwise) to us, the
portion of such net cash proceeds so affected will not be required to be applied
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at the time provided above, but may be retained by the applicable restricted
subsidiary so long, but only so long, as such applicable law will not permit
repatriation to us, and we have agreed to cause the applicable restricted
subsidiary promptly to take all actions required by the applicable law to permit
such repatriation. After such repatriation of any such affected net cash
proceeds is permitted under such applicable law, such repatriation shall be
immediately effected and such repatriated net cash proceeds will be applied in a
manner as described in this covenant.
Limitation on Dividend and Other Payment Restrictions Affecting Restricted
Subsidiaries. Except as permitted under the indenture, we may not, and may not
cause or permit any of our restricted subsidiaries to create or otherwise cause
or permit to exist or become effective any encumbrance or restriction on the
ability of any restricted subsidiary to:
o pay dividends or make any other distributions on or in respect of our or
our restricted subsidiaries' capital stock;
o make loans or advances or to pay any indebtedness or other obligation owed
to us or any other restricted subsidiary; or
o transfer any of its property or assets to us or any other restricted
subsidiary,
Limitation on Preferred Stock of Restricted Subsidiaries. We may not permit
any of our restricted subsidiaries to issue any preferred stock other than to us
or to one of our wholly-owned restricted subsidiaries, or permit any person
other than us or one of our wholly-owned subsidiaries to own any preferred stock
of any of our restricted subsidiaries.
Limitation on Liens. Except as permitted under the indenture, we may not,
and may not cause or permit any of our restricted subsidiaries to create, incur,
assume or permit or suffer to exist any liens of any kind against or upon any of
our or our restricted subsidiaries' property or assets, or any proceeds
therefrom, or assign or otherwise convey any right to receive income or profits
therefrom, unless:
o in the case of liens securing indebtedness that is expressly subordinate or
junior in right of payment to the notes, the notes are secured by a lien of
such property, assets or proceeds that is senior in priority to such liens;
and
o in all other cases, the notes are equally and ratably secured.
Merger, Consolidation and Sale of Assets. The indenture provides that we
may not consolidate or merge with or into any person, or sell, assign, transfer,
lease, convey or otherwise dispose of (or cause or permit any our restricted
subsidiaries to sell, assign, transfer, lease, convey or otherwise dispose of)
all or substantially all of our assets, determined on a consolidated basis for
us and our restricted subsidiaries, unless:
o either:
o we are the surviving corporation; or
o the person formed by such consolidation or into which we are merged or
the acquiror is a corporation organized and validly existing under the
laws of the United States, any state thereof or the District of
Columbia and expressly assumes, by supplemental indenture in form and
substance satisfactory to the trustee the due and punctual payment of
the principal of, and premium, if any, and interest on all of the
notes and our performance of every covenant of the notes, the
indenture and the registration rights agreement to be performed or
observed;
o immediately after giving effect to such transaction and the assumption
contemplated above, we or such surviving entity, as the case may be, has a
consolidated net worth equal to or greater than our consolidated net worth
immediately prior to such transaction and will in general be able to incur
at least $1.00 of additional indebtedness pursuant to the "- Limitation on
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Incurrence of Additional Indebtedness" covenant described above so long as
the Consolidated Fixed Charge Coverage Ratio is greater than 2.5 to 1.0;
o immediately before and immediately after giving effect to such transaction
and the assumption contemplated above, no default or event of default has
occurred or is continuing; and
o we or the surviving entity has delivered to the trustee an officers'
certificate and an opinion of counsel, each stating that such transaction
and, if a supplemental indenture is required in connection with such
transaction, such supplemental indenture, comply with the applicable
provisions of the indenture and that all conditions precedent in the
indenture relating to such transaction have been satisfied.
For purposes of the foregoing, the transfer of all or substantially all of
the properties or assets of one or more restricted subsidiaries the capital
stock of which constitutes all or substantially all of our properties and
assets, will be deemed to be the transfer of all or substantially all of our
properties and assets.
The indenture provides that upon any consolidation, combination or merger
or any transfer of all or substantially all of our assets in accordance with the
foregoing, in which we are not the continuing corporation, the successor person
formed by such consolidation or into which we are merged or to which such
conveyance, lease or transfer is made shall succeed to, and be substituted for,
and may exercise all of our rights and powers, under the indenture and the notes
with the same effect as if such surviving entity had been named as such.
The indenture also provides that each restricted subsidiary that in the
future executes a supplemental indenture in which such guarantor, other than any
guarantor whose guarantee is to be released in accordance with the terms of the
guarantee and the indenture in connection with any transaction complying with
the provisions of "- Limitation on Asset Sales," may not, and we may not cause
or permit any guarantor to, consolidate with or merge with or into any person
other than us or any other guarantor unless, in general, conditions similar to
those described above with respect to a merger or other transaction that
involves us are satisfied.
Limitations on Transactions with Affiliates. Except as permitted under the
indenture, we may not, and may not permit any of our restricted subsidiaries to,
enter into or permit to exist any transaction with, or for the benefit of, any
of our affiliates, other than transactions on terms that are no less favorable
than those that might reasonably have been obtained in a comparable transaction
at such time on an arm's-length basis from a person that is not our affiliate.
All transactions with an affiliate involving aggregate payments or other
property with a fair market value in excess of $2 million must be approved by
our or such restricted subsidiary's board of directors. If we or any restricted
subsidiary enters into a transaction with an affiliate that involves an
aggregate fair market value of more than $12.5 million, we or such restricted
subsidiary, as the case may be, must, prior to the consummation thereof, obtain
a favorable opinion as to the fairness of such transaction or series of related
transactions to us or the relevant restricted subsidiary, as the case may be,
from a financial point of view, from an independent financial advisor and file
the same with the trustee.
Limitation of Guarantees by Restricted Subsidiaries. Except as set forth in
the indenture, our restricted subsidiaries may not, by way of the pledge of any
intercompany note or otherwise, assume, guarantee or in any other manner become
liable with respect to any of our or another restricted subsidiary's
indebtedness, unless, in any such case:
o such restricted subsidiary executes and delivers a supplemental indenture
to the indenture, providing a guarantee of payment of the notes by such
restricted subsidiary; and
o if such assumption, guarantee or other liability of such restricted
subsidiary is provided in respect of indebtedness that is expressly
subordinated to the notes (or a guarantee of the notes), the guarantee or
other instrument provided by such restricted subsidiary in respect of such
subordinated indebtedness is subordinated to the guarantee pursuant to
subordination provisions no less favorable to the noteholders than those
contained in such other indebtedness.
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Any such guarantee by a restricted subsidiary of the notes will be
automatically and unconditionally released and discharged, without any further
action required on the part of the trustee or any noteholder, upon:
o the unconditional release of such restricted subsidiary from its
assumption, guarantee or other liability in respect of the indebtedness in
connection with which such guarantee was executed and delivered pursuant to
the preceding paragraph; or
o subject to the provisions of the indenture, any sale or other disposition
to any person which is not a restricted subsidiary of all of the capital
stock in, or all or substantially all of the assets of, such restricted
subsidiary.
Provision of Security. Except as set forth in the indenture, we may not
form, acquire or maintain any direct restricted subsidiary, unless, concurrently
with the formation, acquisition or maintenance of such subsidiary, we execute
and deliver, or cause to be executed and delivered, to the trustee for the
benefit of the noteholders, a pledge agreement, in form and substance reasonably
satisfactory to the trustee, pursuant to which not less than 65% of the capital
stock of such subsidiary is pledged to the trustee for the benefit of the
noteholders and we, concurrently therewith, execute and deliver all documents,
instruments and agreements in form and substance reasonably satisfactory to the
trustee reasonably necessary in the opinion of the trustee to grant and maintain
at all times a fully-perfected senior lien on the collateral pledged pursuant to
such pledge agreement.
Conduct of Business. Pursuant to the indenture, we and our restricted
subsidiaries may not engage in any businesses which are not the same, similar or
reasonably related to, or ancillary or complementary to, the businesses in which
we and our restricted subsidiaries were engaged on April 11, 2006, the date of
issuance of the notes.
Reports to Holders. The indenture provides that, whether or not required by
the rules and regulations of the SEC, so long as any notes are outstanding, we
will furnish the noteholders (or make publicly available through the SEC's EDGAR
database), all quarterly and annual financial information that would be required
to be contained in a filing with the SEC on Forms 10-Q and 10-K if we were
required to file such forms and all current reports that would be required to be
filed with the SEC on Form 8-K if we were required to file such reports, in each
case within the time periods specified in the SEC's rules and regulations.
In addition, whether or not required by the rules and regulations of the
SEC, we will file a copy of all such information and reports with the SEC for
public availability within the time periods specified in the SEC's rules and
regulations (unless the SEC will not accept such a filing) and make such
information available to securities analysts and prospective investors upon
request. So long as the new notes are listed on the Luxembourg Stock Exchange,
copies of such reports shall be available at the specified office of the paying
agent and transfer agent in Luxembourg. In addition, we have agreed that, for so
long as any notes remain outstanding, we will furnish to the noteholders and to
securities analysts and prospective investors, upon their request, the
information required to be delivered pursuant to Rule 144A(d)(4) under the
Securities Act.
Release of Security Upon Satisfaction of Conditions. We have the right to
obtain a release of the liens on items of collateral subject to a sale or
disposition in accordance with the indenture, and the trustee will release such
collateral from these liens and reconvey this collateral to us immediately prior
to such sale or disposition upon delivery to the trustee of an officers'
certificate in the form specified in the indenture and any documentation by the
Trust Indenture Act.
Events of Default
The following events are "events of default" under the indenture, and a
"default" will occur under the indenture upon an event or condition the
occurrence of which is, or with the lapse of time or the giving of notice or
both would be, an event of default:
o the failure to pay interest on any notes when the same becomes due and
payable and the default continues for a period of 30 days;
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o the failure to pay the principal on any notes when such principal becomes
due and payable, at maturity, upon redemption or otherwise (including the
failure to make a payment to purchase notes tendered pursuant to the offers
described above under "Change of Control" and "Certain Covenants -
Limitation on Asset Sales");
o a default in the observance or performance of any other covenant or
agreement contained in the indenture which default continues for a period
of 45 days after we receive written notice specifying the default (and
demanding that such default be remedied) from the trustee or the holders of
at least 25% of the outstanding principal amount of the notes, except in
the case of a default with respect to the "Merger, Consolidation and Sale
of Assets" covenant, which will constitute an Event of Default with such
notice requirement but without such passage of time requirement;
o the failure to pay at final maturity (giving effect to any applicable grace
periods and any extensions thereof) the principal amount of any of our or
our restricted subsidiaries' indebtedness, or the acceleration of the final
stated maturity of any such indebtedness, which acceleration is not
rescinded, annulled or otherwise cured within 20 days of our receipt of
notice of any such acceleration, if the aggregate principal amount of such
indebtedness, together with the principal amount of any other such
indebtedness in default for failure to pay principal at final maturity or
which has been accelerated (in each case with respect to which the 20-day
period described above has elapsed), aggregates $20 million or more at any
time;
o a repudiation by us of any of our obligations under any document (which we
refer to in this prospectus as a "collateral document") creating or
evidencing a security interest in favor of the trustee for the benefit of
the noteholders in any of the property described above under "Security," or
the unenforceability of any such collateral document against us if such
unenforceability reasonably would be expected to result in a material
adverse effect on the liens we granted pursuant to such collateral
documents;
o certain events of bankruptcy affecting us or any of our significant
subsidiaries; or
o any judgment in an aggregate amount in excess of $20 million has been
rendered against us or any of our restricted subsidiaries and such
judgments remain undischarged, unpaid or unstayed for a period of 60 days
after such judgment or judgments become final and non-appealable.
If an event of default (other than an event of default specified in the
last paragraph of the definition of event of default with respect to us) occurs
and is continuing, the trustee or the holders of at least 25% in principal
amount of outstanding notes may declare the principal of and accrued interest on
all the notes to be due and payable by notice in writing to us and the trustee
specifying the respective event of default and that it is a "notice of
acceleration," and the same shall become immediately due and payable.
If an event of default specified in the last paragraph of the definition of
event of default with respect to us occurs and is continuing, then all unpaid
principal of, and premium, if any, and accrued and unpaid interest on all of the
outstanding notes will become and be immediately due and payable without any
declaration or other act on the part of the trustee or any noteholder. The
indenture provides that, at any time after a declaration of acceleration with
respect to the notes as described in the preceding paragraph, the holders of a
majority in principal amount of the notes may rescind and cancel such
declaration and its consequences if the conditions specified in the indenture
are satisfied.
The holders of a majority in principal amount of the notes may waive any
existing default or event of default under the indenture, and its consequences,
except a default in the payment of the principal of or interest on any notes.
Holders of the notes may not enforce the indenture or the notes except as
provided in the indenture and under the Trust Indenture Act. Subject to the
provisions of the indenture relating to the duties of the trustee, the trustee
is under no obligation to exercise any of its rights or powers under the
indenture at the request, order or direction of any of the noteholders, unless
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such noteholders have offered to the trustee reasonable indemnity. Subject to
all provisions of the indenture and applicable law, the holders of a majority in
aggregate principal amount of the then outstanding notes have the right to
direct the time, method and place of conducting any proceeding for any remedy
available to the trustee or exercising any trust or power conferred on the
trustee.
Under the indenture, we are required to provide an officers' certificate to
the trustee promptly upon any such officer obtaining knowledge of any default or
event of default that has occurred and, if applicable, describe such default or
event of default and the status thereof. Such officers must also provide this
certification at least annually whether or not they know of any default or event
of default.
Legal Defeasance and Covenant Defeasance
We may, at our option and at any time, elect to have our obligations and
the obligations of the guarantors discharged with respect to the outstanding
notes, which we refer to in this prospectus as a "legal defeasance." Such legal
defeasance means that we will be deemed to have paid and discharged the entire
indebtedness represented by the outstanding notes, except for:
o the rights of noteholders to receive payments in respect of the principal
of, premium, if any, and interest on the notes when such payments are due;
o our obligations with respect to the notes concerning issuing temporary
notes, registration of notes, mutilated, destroyed, lost or stolen notes
and the maintenance of an office or agency for payments;
o the rights, powers, trust, duties and immunities of the trustee and our
obligations in connection therewith; and
o the legal defeasance provisions of the indenture.
In addition, we may, at our option and at any time, elect to have our
obligations released with respect to certain covenants that are described in the
indenture and thereafter any omission to comply with such obligations will not
constitute an event of default with respect to the notes, which we refer to in
this prospectus as a "covenant defeasance." If a covenant defeasance occurs,
certain events (not including non-payment, bankruptcy, receivership,
reorganization and insolvency events) described under "Events of Default" will
no longer constitute an event of default with respect to the notes.
In order to exercise either a legal defeasance or a covenant defeasance, we
must satisfy all of the conditions relating thereto in the indenture.
Satisfaction and Discharge
The indenture will be discharged and will cease to be of further effect
(except as to surviving rights or registration of transfer or exchange of the
notes, as expressly provided for in the indenture) as to all outstanding notes
when:
o either:
o in general, all the notes previously authenticated and delivered have
been delivered to the trustee for cancellation; or
o all notes not previously delivered to the trustee for cancellation
have become due and payable and we have irrevocably deposited or
caused to be deposited with the trustee funds in an amount sufficient
to pay and discharge the entire indebtedness on the notes not
previously delivered to the trustee for cancellation, for principal
of, premium, if any, and interest on the notes to the date of deposit
together with irrevocable
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instructions from us directing the trustee to apply such funds to the
payment thereof at maturity or redemption, as the case may be;
o we have paid all other sums payable under the indenture by us; and
o we have delivered to the trustee an officers' certificate and an
opinion of counsel stating that all conditions precedent under the
indenture relating to the satisfaction and discharge of the indenture
have been complied with. Modification of the Indenture
From time to time, we and the trustee, without the consent of the
noteholders, may amend the indenture or the collateral documents for certain
specified purposes, including curing ambiguities, defects or inconsistencies, so
long as such change does not, in the opinion of the trustee, adversely affect
the rights of any of the noteholders in any material respect. In formulating its
opinion on such matters, the trustee will be entitled to rely on such evidence
as it deems appropriate, including, without limitation, solely on an opinion of
counsel. Other modifications and amendments of the indenture or collateral
documents may be made with the consent of the holders of a majority in principal
amount of the then outstanding notes issued under the indenture, except that,
without the consent of each holder affected thereby, no amendment may:
o reduce the amount of notes whose holders must consent to an amendment;
o reduce the rate of or change or have the effect of changing the time for
payment of interest, including defaulted interest, on any notes;
o reduce the principal of or change or have the effect of changing the fixed
maturity of any notes, or change the date on which any notes may be subject
to redemption or reduce the redemption price therefor;
o make any notes payable in money other than that stated in the notes;
o make any change in provisions of the indenture protecting the right of each
holder to receive payment of principal of and interest on such note on or
after the due date thereof or to bring suit to enforce such payment, or
permitting holders of a majority in principal amount of notes to waive
defaults or events of default;
o after our obligation to purchase notes arises thereunder, amend, change or
modify in any material respect our obligation to make and consummate the
offers described above under "Change of Control" and "Certain Covenants -
Limitation on Asset Sales" or, after such Change of Control has occurred or
such Asset Sale has been consummated, modify any of the provisions or
definitions with respect thereto; or
o modify or change any provision of the indenture or the related definitions
affecting the ranking of the indebtedness evidenced by the notes.
Governing Law
The indenture provides that it and the notes will be governed by, and
construed in accordance with, the laws of the State of New York.
The Trustee
The indenture provides that, except during the continuance of an event of
default, the trustee will perform only such duties as are specifically set forth
in the indenture. During the existence of an event of default, the trustee will
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exercise such rights and powers vested in it by the indenture, and use the same
degree of care and skill in its exercise as a prudent person would exercise or
use under the circumstances in the conduct of his own affairs.
The indenture and the provisions of the Trust Indenture Act contain certain
limitations on the rights of the trustee, should it become a creditor of us, to
obtain payments of claims in certain cases or to realize on certain property
received in respect of any such claim as security or otherwise. Subject to the
Trust Indenture Act, the trustee will be permitted to engage in other
transactions. However, if the trustee acquires any conflicting interest as
described in the Trust Indenture Act, it must eliminate such conflict or resign.
Notices
All notices required under the indenture will be deemed to have been given
by:
o the mailing by first-class mail, postage prepaid, of such notices to
holders of the notes at their registered addresses as recorded in the
register; and
o so long as the new notes are admitted to the Official List of the
Luxembourg Stock Exchange and it is required by the rules of the Luxembourg
Stock Exchange, publication of such notice to the holders of the new notes
in English in a leading newspaper having general circulation in Luxembourg
(which is expected to be the Luxemburger Wort) or, if such publication is
not practicable, in one other leading English language daily newspaper with
general circulation in Europe, such newspaper being published on each
business day in morning editions, whether or not it shall be published on
Saturday, Sunday or holiday editions.
Certain Definitions
Set forth below is a summary of certain of the defined terms used in the
indenture. Please refer to the indenture for the full definition of all such
terms, as well as any other terms used in this prospectus for which no
definition is provided.
"Acquired Indebtedness" means indebtedness of a person or any of its
subsidiaries existing at the time such person becomes a restricted subsidiary or
at the time it merges or consolidates with or into us or any of our restricted
subsidiaries or assumed in connection with the acquisition of assets from such
person and in each case not incurred by such person in connection with, or in
anticipation or contemplation of, such person becoming a restricted subsidiary
or such acquisition, merger or consolidation, except for indebtedness of a
person or any of its subsidiaries that is repaid at the time such person becomes
a restricted subsidiary or at the time it merges with or into us or any of our
restricted subsidiaries other than from our and our other restricted
subsidiaries' assets.
"Asset Acquisition" means (1) an Investment by us or any restricted
subsidiary in any other person pursuant to which such person shall become a
restricted subsidiary or of any restricted subsidiary, or shall be merged with
or into us or any restricted subsidiary, or (2) the acquisition by us or any
restricted subsidiary of the assets of any person other than a restricted
subsidiary that constitute all or substantially all of the assets of such person
or comprise any division or line of business of such person or any other
properties or assets of such person other than in the ordinary course of
business.
"Asset Sale" means any direct or indirect sale, issuance, conveyance,
transfer, lease (other than operating leases entered into in the ordinary course
of business), assignment or other transfer for value by us or any of our
restricted subsidiaries (including any sale and leaseback transaction) to any
person other than us or restricted subsidiary wholly-owned by us of: (1) any
capital stock of any restricted subsidiary; or (2) any other property or assets
of us or any restricted subsidiary other than in the ordinary course of
business; provided, however, that asset sales or other dispositions shall not
include the following:
o a transaction or series of related transactions for which we or our
restricted subsidiaries receive aggregate consideration of less than $2
million;
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o the sale, lease, conveyance, disposition or other transfer of all or
substantially all of our assets of as permitted under "Merger,
Consolidation and Sale of Assets";
o sales or grants of licenses to use the patents, trade secrets, know-how and
other intellectual property of us or any of our restricted subsidiaries to
the extent that any such license does not prohibit us or any of our
restricted subsidiaries from using any material technologies licensed or
require us or any of our restricted subsidiaries to pay fees (other than de
minimis fees) for use of any material technologies;
o the sale or discount, in each case without recourse, of accounts receivable
arising in the ordinary course of business, but only in connection with the
compromise or collection thereof;
o disposals or replacements of obsolete, surplus or unused equipment in the
ordinary course of business;
o any restricted payment not prohibited by the "Limitation on Restricted
Payments" covenant or that constitutes a Permitted Investment; and
o affiliate transactions permitted under the indenture.
"Consolidated EBITDA" means for any period, the sum (without duplication)
of the following, all as determined on a consolidated basis for us and our
restricted subsidiaries in accordance with GAAP:
o Consolidated Net Income; and
o to the extent Consolidated Net Income has been reduced thereby:
o all of our and our restricted subsidiaries' income taxes paid or
accrued in accordance with GAAP for such period;
o Consolidated Interest Expense; and
o Consolidated Non-cash Charges;
"Consolidated Fixed Charge Coverage Ratio" means the ratio of our
Consolidated EBITDA during the four full fiscal quarters ending prior to the
date of the transaction giving rise to the need to calculate the Consolidated
Fixed Charge Coverage Ratio for which financial statements are available (the
"Transaction Date") to our Consolidated Fixed Charges for such four-quarter
period. In addition to and without limitation of the foregoing, for purposes of
this definition, "Consolidated EBITDA" and "Consolidated Fixed Charges" shall be
calculated after giving effect on a pro forma basis for the period of such
calculation to:
o the incurrence or repayment of any indebtedness of us or any of our
restricted subsidiaries (and the application of the proceeds thereof)
giving rise to the need to make such calculation and any incurrence or
repayment of other indebtedness (and the application of the proceeds
thereof), other than the incurrence or repayment of indebtedness in the
ordinary course of business for working capital purposes pursuant to
working capital facilities, occurring during such four-quarter period or at
any time subsequent to the last day of such four-quarter period and on or
prior to the Transaction Date, as if such incurrence or repayment, as the
case may be (and the application of the proceeds thereof), occurred on the
first day of such four-quarter period; and
o any asset sales (other than disposals or replacements of obsolete or unused
equipment in the ordinary course of business) or other dispositions or
Asset Acquisitions, including, without limitation, any Asset Acquisition
giving rise to the need to make such calculation as a result of our or one
of our restricted subsidiaries (including any person who becomes a
restricted subsidiary as a result of the Asset Acquisition) incurring,
assuming or otherwise being liable for Acquired Indebtedness and also
including any Consolidated EBITDA (including any pro forma expense and cost
reductions calculated on a basis consistent with Regulation S-X under the
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Exchange Act) attributable to the assets which are the subject of the Asset
Acquisition or asset sale or other disposition during such four-quarter
period) occurring during such four-quarter period or at any time subsequent
to the last day of such four-quarter period and on or prior to the
Transaction Date, as if such asset sale or other disposition or Asset
Acquisition (including the incurrence, assumption or liability for any such
Acquired Indebtedness) occurred on the first day of such four-quarter
period. If we or any of our restricted subsidiaries directly or indirectly
guarantees indebtedness of a third person, the preceding sentence shall
give effect to the incurrence of such guaranteed indebtedness as if we or
any restricted subsidiary had directly incurred or otherwise assumed such
guaranteed indebtedness.
Furthermore, in calculating "Consolidated Fixed Charges" for purposes of
determining the denominator (but not the numerator) of the "Consolidated Fixed
Charge Coverage Ratio":
o interest on outstanding indebtedness determined on a fluctuating basis as
of the Transaction Date and which will continue to be so determined
thereafter shall be deemed to have accrued at a fixed rate per annum equal
to the rate of interest on such indebtedness in effect on the Transaction
Date; and
o notwithstanding the above paragraph, interest on indebtedness determined on
a fluctuating basis, to the extent such interest is covered by agreements
relating to interest swap arrangements, shall be deemed to accrue at the
rate per annum resulting after giving effect to the operation of such
agreements.
"Consolidated Fixed Charges" means, with respect to any period, the sum, without
duplication, of:
o Consolidated Interest Expense; plus
o the product of (x) the amount of all dividend payments on any series of our
preferred stock of (other than dividends paid in Qualified Capital Stock)
paid, accrued or scheduled to be paid or accrued during such period times
(y) a fraction, the numerator of which is one and the denominator of which
is one minus our then current effective consolidated federal, state and
local income tax rate, expressed as a decimal.
"Consolidated Interest Expense" means, for any period, the sum of, without
duplication:
o our and our restricted subsidiaries' aggregate of the interest expense for
such period determined on a consolidated basis in accordance with GAAP,
including without limitation:
o any amortization of debt discount and amortization or write-off of
deferred financing costs;
o the net cash costs under agreements relating to interest swap
arrangements; all capitalized interest; and
o the interest portion of any deferred payment obligation; and
o the interest component of capitalized lease obligations paid, accrued
and/or scheduled to be paid or accrued during such period as determined on
a consolidated basis in accordance with GAAP.
"Consolidated Net Income" means, for any period, our and our restricted
subsidiaries' aggregate net income (or loss) for such period on a consolidated
basis, determined in accordance with GAAP, excluding the following:
o after-tax gains from Asset Sales (without regard to the $2 million
limitation set forth in the definition thereof) or abandonments or reserves
relating thereto;
o after-tax items classified as extraordinary gains in accordance with GAAP;
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o net after-tax expenses we incur to redeem our 8 7/8% Senior Secured Notes
due 2009, including but not limited to the full redemption premium and
write-off of any deferred financing costs or unamortized premium related
thereto, in each case to the extent included in the calculation of net
income;
o net income acquired in a "pooling of interests" transaction accrued prior
to becoming a restricted subsidiary or prior to the date of a merger or
consolidation;
o the net income (but not loss) of any restricted subsidiary to the extent
that the declaration of dividends or similar distributions by that
restricted subsidiary of that income is restricted by a contract, operation
of law or otherwise; provided, however, that if the restricted subsidiary
is able despite any such restriction to distribute income or otherwise
transfer cash to us by way of an intercompany loan or otherwise, then such
income or cash, to the extent of such ability, will not be excluded
pursuant to this provision;
o our net income, other than a restricted subsidiary, except to the extent of
cash dividends or distributions paid to us or to one of our wholly-owned
restricted subsidiaries by us;
o income or loss attributable to discontinued operations (including, without
limitation, operations disposed of during such period whether or not such
operations were classified as discontinued); provided, however, that such
income or loss shall be included in Consolidated Net Income for the purpose
of calculating our Consolidated Net Income for certain purposes of the
"Limitation on Restricted Payments" covenant;
o in the case of a successor by consolidation or merger or as a transferee of
our assets, any earnings of the successor corporation prior to such
consolidation, merger or transfer of assets;
o non-cash charges relating to compensation expense in connection with
benefits provided under employee stock option plans, restricted stock
option plans and other employee stock purchase or stock incentive plans;
and
o income or loss attributable solely to fluctuations in currency values and
related tax effects, in either case related to notes and accounts payable
existing prior to or as of April 11, 2006 and payable to our affiliates.
"Consolidated Net Worth" means the consolidated stockholders' equity,
determined on a consolidated basis in accordance with GAAP, less (without
duplication) amounts attributable to Disqualified Capital Stock.
"Consolidated Non-cash Charges" means, for any period, our and our
restricted subsidiaries' aggregate depreciation, amortization and other non-cash
expenses reducing our and our restricted subsidiaries' Consolidated Net Income
for such period, determined on a consolidated basis in accordance with GAAP,
excluding any such charges constituting an extraordinary item or loss or any
such charge which requires an accrual of or a reserve for cash charges for any
future period.
"Disqualified Capital Stock" means that portion of any capital stock which,
by its terms (or by the terms of any security into which it is convertible or
for which it is exchangeable, in either case at the option of the holder
thereof), or upon the happening of any event (other than an event which would
constitute a Change of Control), matures or is mandatorily redeemable, pursuant
to a sinking fund obligation or otherwise, or is redeemable at the sole option
of the holder thereof (except, in each case, upon the occurrence of a Change of
Control) on or prior to the final maturity date of the notes.
"fair market value" means, with respect to any asset or property, the price
which could be negotiated in an arm's-length, free market transaction, for cash,
between a willing seller and a willing and able buyer, neither of whom is under
undue pressure or compulsion to complete the transaction. Fair market value
shall be determined by our board of directors acting reasonably and in good
faith.
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"Investment" means any direct or indirect loan or other extension of credit
(including, without limitation, a guarantee) or capital contribution to (by
means of any transfer of cash or other property to others or any payment for
property or services for the account or use of others), or any purchase or
acquisition of any capital stock, bonds, notes, debentures or other securities
or evidences of Indebtedness. "Investment" shall exclude (i) extensions of trade
credit by us and our restricted subsidiaries on commercially reasonable terms in
accordance with our normal trade practices, provided that nothing in this clause
shall prevent us or any restricted subsidiary from providing such concessionary
trade terms as management deems reasonable in the circumstances; and (ii) loans
or extensions of credit to an affiliate that are otherwise permitted under the
indenture. If we or any restricted subsidiary sells or otherwise disposes of any
common stock of any direct or indirect restricted subsidiary such that, after
giving effect to any such sale or disposition, we no longer own, directly or
indirectly, at least 50% of the outstanding common stock of such restricted
subsidiary, we will be deemed to have made an Investment on the date of any such
sale or disposition equal to the fair market value of the common stock of such
restricted subsidiary not sold or disposed of.
"Permitted Investments" means, without duplication:
o Investments by us or any of restricted subsidiaries in any person that
is or will become immediately after such Investment a restricted
subsidiary or that will merge or consolidate into us or a restricted
subsidiary;
o Investments in us by any restricted subsidiary;
o Investments in cash and cash equivalents;
o loans and advances to our and our restricted subsidiaries' employees
and officers in the ordinary course of business for bona fide business
purposes;
o agreements designed to protect us against fluctuations in the price of
commodities, agreements designed to protect us against fluctuations in
currency values and interest swap agreements entered into in the
ordinary course of our business and otherwise in compliance with the
indenture;
o additional Investments not to exceed $20 million at any one time
outstanding;
o Investments existing April 11, 2006, the date of issuance of the
notes;
o Investments resulting from settlements or compromises of accounts
receivable or trade payables in the ordinary course of business,
Investments in securities of trade creditors or customers received
pursuant to any plan of reorganization or similar arrangement upon the
bankruptcy or insolvency of such trade creditors or customers or in
good faith settlements of delinquent obligations of such trade
creditors or customers;
o Investments made as a result of consideration received or investments
deemed made in connection with an Asset Sale made in compliance with
the "Limitation on Asset Sales" covenant;
o Investments represented by guarantees that are otherwise permitted
under the indenture;
o Investments the payment for which is our Qualified Capital Stock; and
o Investments consisting of loans to one or more of our or our
subsidiaries' officers, directors or other employees in connection
with such officers', directors' or employees' acquisition of shares of
our or our affiliates' capital stock, pursuant to the exercise of
stock options or in connection with other equity-based compensation.
"Qualified Capital Stock" means any capital stock that is not Disqualified
Capital Stock.
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REGISTRATION RIGHTS
We and the initial purchaser entered into a registration rights agreement
on April 11, 2006 pursuant to which we agreed that we will, at our expense, for
the benefit of the holders of the old notes, (i) within 120 days after April 11,
2006 (the "Filing Date"), file an exchange offer registration statement on an
appropriate registration form with respect to a registered offer to exchange the
old notes for new notes, which new notes will have terms substantially identical
in all material respects to the old notes (except that the new notes will not
contain terms with respect to transfer restrictions) and (ii) cause the exchange
offer registration statement to be declared effective under the Securities Act
within 270 days after April 11, 2006. Upon the exchange offer registration
statement being declared effective, we will offer the new notes in exchange for
surrender of the old notes. We will keep the exchange offer open for not less
than 30 days (or longer if required by applicable law) after the date notice of
the exchange offer is mailed to the holders of the old notes. For each of the
old notes surrendered to us pursuant to the exchange offer, the holder who
surrendered such old note will receive a new note having a principal amount
equal to that of the surrendered old note. Interest on each new note will accrue
(A) from the later of (i) the last interest payment date on which interest was
paid on the old note surrendered in exchange therefor, or (ii) if the old note
is surrendered for exchange on a date in a period which includes the record date
for an interest payment date to occur on or after the date of such exchange and
as to which interest will be paid, the date of such interest payment date, or
(B) if no interest has been paid on such old note, from April 11, 2006.
If (i) because of any change in law or in currently prevailing
interpretations of the Staff of the SEC, we are not permitted to effect an
exchange offer, (ii) the exchange offer is not consummated within 300 days of
April 11, 2006 or (iii) in certain circumstances, certain holders of
unregistered new notes so request, or (iv) in the case of any holder that
participates in the exchange offer, such holder does not receive new notes on
the date of the exchange that may be sold without restriction under state and
federal securities laws (other than due solely to the status of such holder as
our affiliate within the meaning of the Securities Act), then in each case, we
will (x) promptly deliver to the holders and the Trustee written notice thereof
and (y) at our sole expense, (a) as promptly as practicable, file a shelf
registration statement covering resales of the notes, and (b) use our best
efforts to keep effective the shelf registration statement until the earliest of
two years after April 11, 2006, such time as all of the applicable notes have
been sold thereunder. We will, in the event that a shelf registration statement
is filed, provide to each holder copies of the prospectus that is a part of the
shelf registration statement, notify each such holder when the shelf
registration statement for the notes has become effective and take certain other
actions as are required to permit unrestricted resales of the old notes. A
holder that sells notes pursuant to the shelf registration statement will be
required to be named as a selling security holder in the related prospectus and
to deliver a prospectus to purchasers, will be subject to certain of the civil
liability provisions under the Securities Act in connection with such sales and
will be bound by the provisions of the registration rights agreement that are
applicable to such a holder (including certain indemnification rights and
obligations).
If we fail to meet the targets listed above, then additional interest will
become payable in respect of the old notes as follows:
(i) if (A) neither the exchange offer registration statement nor the shelf
registration statement is filed with the SEC on or prior to 120 days after
April 11, 2006 or (B) notwithstanding that we have consummated or will
consummate an exchange offer, we are required to file a shelf registration
statement and such shelf registration statement is not filed on or prior to
the date required by the registration rights agreement, then commencing on
the day after either such required filing date, additional interest will
accrue on the principal amount of the notes at a rate of 0.25% per annum
for the first 90 days immediately following each such filing date, such
additional interest rate increasing by an additional 0.25% per annum at the
beginning of each subsequent 90-day period; or
(ii) if (A) neither the exchange offer registration statement nor a shelf
registration statement is declared effective by the SEC on or prior to 270
days after April 11, 2006 or (B) notwithstanding that we have consummated
or will consummate an exchange offer, we are required to file a shelf
registration statement and such shelf registration statement is not
declared effective by the SEC on or prior to the date required by the
registration rights agreement, then, commencing on the day after either
such required effective date, additional interest will accrue on the
principal amount of the notes at a rate of 0.25% per annum for the first 90
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days immediately following such date, such additional interest rate
increasing by an additional 0.25% per annum at the beginning of each
subsequent 90-day period; or
(iii) if (A) we have not exchanged new notes for all old notes validly tendered
in accordance with the terms of the exchange offer on or prior to the 300th
day after April 11, 2006 or (B) if applicable, the shelf registration
statement has been declared effective and such shelf registration statement
ceases to be effective at any time prior to the second anniversary of April
11, 2006 (other than after such time as all notes have been disposed of
thereunder), then additional interest will accrue on the principal amount
of the notes at a rate of 0.25% per annum for the first 90 days commencing
on (x) the 300th day after April 11, 2006, in the case of (A) above, or (y)
the day such shelf registration statement ceases to be effective, in the
case of (B) above, such additional interest rate increasing by an
additional 0.25% per annum at the beginning of each subsequent 90-day
period;
provided, however, that the additional interest rate on the old notes may
not accrue under more than one of the foregoing clauses (i) - (iii) at any one
time and at no time shall the aggregate amount of additional interest accruing
exceed in the aggregate 0.75% per annum; provided, further, that (1) upon the
filing of the exchange offer registration statement or a shelf registration
statement (in the case of clause (i) above), (2) upon the effectiveness of the
exchange offer registration statement or a shelf registration statement (in the
case of clause (ii) above), or (3) upon the exchange of new notes for all old
notes tendered (in the case of clause (iii) (A) above), or upon the
effectiveness of the shelf registration statement that had ceased to remain
effective (in the case of clause (iii) (B) above), additional interest on the
old notes as a result of such clause (or the relevant subclause thereof), as the
case may be, will cease to accrue.
Any amounts of additional interest due pursuant to clause (i), (ii) or
(iii) above will be payable in cash on the same original interest payment dates
as the notes.
BOOK-ENTRY; DELIVERY AND FORM
The new notes to be issued in this exchange offer will be issued in
registered, global form in minimum denominations of euro 50,000 and integral
euro 1,000 increments in excess thereof. The new notes will be represented by
one or more global notes in fully registered form without interest coupons and
will be deposited with The Bank of New York, London Branch, as common depositary
for Euroclear and Clearstream (the "Common Depositary"), and registered in the
name of a nominee of the Common Depositary. The notes will not be eligible for
clearance through The Depository Trust Company.
All holders of new notes who exchanged their old notes in this exchange
offer will hold their interests through the global note regardless of whether
they purchased their interests pursuant to Rule 144A or Regulation S. Except in
the limited circumstances described below, owners of beneficial interests in the
global note will not be entitled to receive physical delivery of certificated
notes. Transfers of beneficial interests in the global note will be subject to
the applicable rules and procedures of Euroclear and Clearstream and their
respective direct or indirect participants, which rules and procedures may
change from time to time.
Global Note
The operations and procedures of Euroclear and Clearstream are solely
within the control of the respective settlement systems and are subject to
changes by them from time to time. We urge investors to contact the system or
their participants directly to discuss these matters.
Upon the issuance of the global note, the Common Depositary will credit, on
its internal system, the respective principal amount of the beneficial interests
represented by such global notes to the accounts of Euroclear or Clearstream, as
the case may be. Euroclear or Clearstream, as the case may be, will credit, on
its internal systems, the respective principal amounts of the individual
beneficial interests in such global notes to the accounts of persons who have
accounts with Euroclear or Clearstream, as the case may be. Ownership of
beneficial interests in the global note will be limited to participants or
persons who hold interests through participants in Euroclear or Clearstream, as
the case may be. Ownership of beneficial interests in the global note will be
shown on, and the transfer of that ownership will be effected only through,
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records maintained by Euroclear or Clearstream, as the case may be, or their
nominees (with respect to interests of participants) and the records of
participants (with respect to interests of persons other than participants).
As long as the Common Depositary, or its nominee, is the registered holder
of a global note, the Common Depositary or such nominee, as the case may be,
will be considered the sole owner and holder of the new notes represented by
such global note for all purposes under the indenture and the notes. Unless (1)
Euroclear or Clearstream notifies us that it is unwilling or unable to continue
as a clearing agency, (2) the Common Depositary notifies us that it is unwilling
or unable to continue as Common Depositary and a successor Common Depositary is
not appointed within 120 days of such notice or (3) in the case of any new note,
an event of default has occurred and is continuing with respect to such note,
owners of beneficial interests in a global note will not be entitled to have any
portions of such global note registered in their names, will not receive or be
entitled to receive physical delivery of notes in certificated form and will not
be considered the owners or holders of the global note (or any notes represented
thereby) under the indenture or the new notes. In addition, no beneficial owner
of an interest in a global note will be able to transfer that interest except in
accordance with Euroclear's and Clearstream's applicable procedures (in addition
to those under the indenture referred to herein).
Investors may hold their interests in the global note through Euroclear or
Clearstream, if they are participants in such systems, or indirectly through
organizations that are participants in such systems. Clearstream and Euroclear
will hold interests in the global note on behalf of their participants through
customers' securities accounts in their respective names on the books of the
Common Depositary. All interests in the global note may be subject to the
procedures and requirements of Euroclear and Clearstream.
Payments of the principal of and interest on the global note will be made
to the order of the Common Depositary or its nominee as the registered owner
thereof. Neither KII, the Trustee, the Common Depositary nor any of their
respective agents will have any responsibility or liability for any aspect of
the records relating to or payments made on account of beneficial ownership
interests in the global note or for maintaining, supervising or reviewing any
records relating to such beneficial ownership interests.
We expect that the Common Depositary, in its capacity as paying agent, upon
receipt of any payment or principal or interest in respect of a global note
representing any new notes held by it or its nominee, will immediately credit
the accounts of Euroclear or Clearstream, as the case may be, which in turn will
immediately credit accounts of participants in Euroclear or Clearstream, as the
case may be, with payments in amounts proportionate to their respective
beneficial interests in the principal amount of such global note for such new
notes as shown on the records of Euroclear or Clearstream, as the case may be.
We also expect that payments by participants to owners of beneficial interests
in such global note held through such participants will be governed by standing
instructions and customary practices, as is now the case with securities held
for the accounts of customers registered in "street name." Such payments will be
the responsibility of such participants.
Because Euroclear and Clearstream can act only on behalf of their
respective participants, who in turn act on behalf of indirect participants and
certain banks, the ability of a holder of a beneficial interest in a global note
to pledge such interest to persons or entities that do not participate in the
Euroclear or Clearstream systems, or otherwise take actions in respect of such
interest, may be limited by the lack of a definitive certificate for such
interest. The laws of some countries and some U.S. states require that certain
persons take physical delivery of securities in certificated form. Consequently,
the ability to transfer beneficial interests in a global note to such persons
may be limited.
Transfers of interests in a global note between participants in Euroclear
and Clearstream will be effected in the ordinary way in accordance with their
respective rules and operating procedures.
Euroclear and Clearstream have advised us that they will take any action
permitted to be taken by a holder of notes (including the presentation of notes
for exchange as described below) only at the direction of one or more
participants to whose account with Euroclear or Clearstream, as the case may be,
interests in a global note are credited and only in respect of such portion of
the aggregate principal amount of the notes as to which such participant or
participants has or have given such direction. However, if there is an event of
default under the notes, Euroclear and Clearstream reserve the right to exchange
the global note for legended notes in certificated form, and to distribute such
notes to their respective participants.
Euroclear and Clearstream have advised us as follows: Euroclear and
Clearstream each hold securities for their account holders and facilitate the
clearance and settlement of securities transactions by electronic book-entry
transfer between their respective account holders, thereby eliminating the need
for physical movements of certificates and any risk from lack of simultaneous
transfers of securities.
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Euroclear and Clearstream each provide various services including
safekeeping, administration, clearance and settlement of internationally traded
securities and securities lending and borrowing. Euroclear and Clearstream each
also deal with domestic securities markets in several countries through
established depository and custodial relationships. The respective systems of
Euroclear and Clearstream have established an electronic bridge between their
two systems across which their respective account holders may settle trades with
each other.
Account holders in both Euroclear and Clearstream are world-wide financial
institutions including underwriters, securities brokers and dealers, trust
companies and clearing corporations. Indirect access of both Euroclear and
Clearstream is available to other institutions that clear through or maintain a
custodial relationship with an account holder of either system.
An account holder's overall contractual relations with either Euroclear or
Clearstream are governed by the respective rules and operation procedures of
Euroclear or Clearstream and any applicable laws. Both Euroclear and Clearstream
act under such rules and operating procedures only on behalf of their respective
account holders, and have no record of or relationship with persons holding
through their respective account holders.
Although Euroclear and Clearstream currently follow the foregoing
procedures to facilitate transfers of interests in global notes among
participants of Euroclear and Clearstream, they are under no obligation to do
so, and such procedures may be discontinued or modified at any time. Neither we
nor the Trustee will have any responsibility for the performance by Euroclear or
Clearstream or their respective participants or indirect participants of their
respective obligations under the rules and procedures governing their
operations.
Redemption of Global Notes
In the event any global note, or any portion thereof, is redeemed,
Euroclear and/or Clearstream, as applicable will distribute the amount received
by it in respect of the global note so redeemed to the holders of book-entry
interests in such global note from the amount received by it in respect of the
redemption of such global note. The redemption price payable in connection with
the redemption of such book-entry interests will be equal to the amount received
by Euroclear or Clearstream, as applicable, in connection with the redemption of
such global note (or any portion thereof). We understand that under existing
practices of Euroclear and Clearstream, if fewer than all of the notes are to be
redeemed at any time, Euroclear and Clearstream will credit their respective
participants' accounts on a proportionate basis (with adjustments to prevent
fractions) or by lot or on such other basis as they deem fair and appropriate;
provided, however, that no book-entry interest of less than euro 50,000
principal amount at maturity, or less, may be redeemed in part.
Certificated Notes
If any depositary is at any time unwilling or unable to continue as a
depositary for the notes for the reasons set forth above, we will issue
certificates for such notes in definitive, fully registered, non-global form
without interest coupons in exchange for the global note. Certificates for notes
delivered in exchange for any global note or beneficial interests therein will
be registered in the names, and issued in any approved denominations, requested
by Euroclear, Clearstream or the Common Depositary (in accordance with their
customary procedures). Upon transfer or partial redemption of any note, new
certificates may be obtained from the Transfer Agent in Luxembourg.
Notwithstanding any statement herein, we and the trustee reserve the right
to impose such transfer, certification, exchange or other requirements, and to
require such restrictive legends on certificates evidencing notes, as they may
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determine are necessary to ensure compliance with the securities laws of the
United States and the states therein and any other applicable laws or as
Euroclear or Clearstream may require.
Same-Day Settlement and Payment
The indenture requires that payments in respect of the notes represented by
a global note, including principal, premium, if any, interest and liquidated
damages, if any, be made by wire transfer of immediately available funds to the
accounts specified by the global note holder. With respect to notes in
certificated form, we will make all payments of principal, premium, if any,
interest and liquidated damages, if any, by wire transfer of immediately
available funds to the accounts specified by the holders thereof or, if no such
account is specified, by mailing a check to each such holder's registered
address. Certificated notes may be surrendered for payment at the offices of the
Trustee or, so long as the notes are admitted to the Official List of the
Luxembourg Stock Exchange, the Paying Agent in Luxembourg on the maturity date
of the notes. We expect that secondary trading in any certificated notes will
also be settled in immediately available funds.
MATERIAL TAX CONSIDERATIONS
United States Tax Considerations
The following discussion in this section entitled "United States Tax
Considerations" is the opinion of our counsel, Locke Liddell & Sapp LLP, with
respect to the material United States federal income tax considerations
generally applicable to a U.S. Person who exchanges old notes for new notes in
the exchange offer. This opinion is based upon the Internal Revenue Code of
1986, as amended (the "Code"), Treasury regulations, rulings of the Internal
Revenue Service (the "IRS") and judicial decisions in existence on the date
hereof, all of which are subject to change. Any such change could apply
retroactively and could affect adversely the tax consequences described below.
No advance tax ruling has been sought or obtained from the IRS regarding the tax
consequences of the transactions described herein and there can be no assurance
that the IRS will not challenge one or more of the tax consequences described in
this prospectus. This discussion does not purport to be a complete analysis of
all potential tax considerations related to the notes.
For purposes of this discussion, a U.S. Person is:
o an individual who is a citizen of the United States or who is resident
in the United States for United States federal income tax purposes;
o a corporation (including any entity treated as a corporation for
United States federal income tax purposes), that is organized under
the laws of the United States or any state thereof (including the
District of Columbia);
o an estate the income of which is subject to United States federal
income taxation regardless of its source; or
o a trust that is subject to the supervision of a court within the
United States and is subject to the control of one or more United
States persons as described in Section 7701(a)(30) of the Code, or
that has a valid election in effect under applicable Treasury
regulations to be treated as a United States person.
For purposes of this discussion, a U.S. Holder is a beneficial owner of the
notes who or which is a U.S. Person and a Non-U.S. Holder is a beneficial owner
of the notes other than a U.S. Holder or a partnership.
This discussion does not address all United States federal tax
considerations, such as estate and gift tax consequences to U.S. Holders, that
may be relevant to a Holder in light of its particular circumstances. This
discussion does not address the federal income tax consequences that may be
relevant to certain Holders that may be subject to special treatment (including,
without limitation, Holders subject to the alternative minimum tax, banks,
insurance companies, tax-exempt organizations, financial institutions, small
business investment companies, partnerships or other pass-through entities,
dealers in securities or currencies, broker-dealers, persons who hold notes as
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part of a straddle, hedging, constructive sale, or conversion transaction, and
U.S. Holders whose functional currency is not the U.S. dollar). Furthermore,
this discussion does not address any aspects of state, local or other taxation.
This discussion is limited to those Holders who purchased notes in the initial
offering at the initial offering price and who hold notes as "capital assets"
within the meaning of Section 1221 of the Code. In the case of any Non-U.S.
Holder who is an individual, the following discussion assumes that this
individual was not a former United States citizen, and was not formerly a
resident of the United States for United States federal income tax purposes.
If a partnership (including for this purpose any entity treated as a
partnership for United States federal income tax purposes) is a beneficial owner
of the notes, the treatment of a partner in the partnership will generally
depend upon the status of the partner and upon the activities of the
partnership. A Holder of notes that is a partnership and partners in such
partnership should consult their tax advisors about the United States federal
income tax consequences of holding and disposing of the notes.
This discussion is not intended to be, and should not be construed to be,
legal, business or tax advice to any particular Holder. Holders are urged to
consult their tax advisors regarding the United States federal income tax
consequences of exchanging, holding and disposing of the notes as well as any
tax consequences that may arise under the laws of any foreign, state, local or
other taxing jurisdictions.
Exchange of Notes
The exchange of old notes for new notes in the exchange offer will not
constitute a taxable event. As a result:
o no Holder will recognize taxable gain or loss as a result of exchanging old
notes for new notes pursuant to the exchange offer;
o each Holder's holding period of the new notes will include the holding
period of the old notes exchanged;
o each Holder's adjusted tax basis of the new notes will be the same as the
adjusted tax basis of the old notes exchanged immediately before such
exchange; and
o each Holder who elected to accrue de minimis original issue discount and
all stated interest into income on a constant yield basis will continue to
do so.
Consequences to U.S. Holders
Stated Interest. Stated interest on the notes will be taxable to a U.S.
Holder as ordinary income at the time the interest accrues or is received in
accordance with the U.S. Holder's method of accounting for United States federal
income tax purposes.
We intend to take the position for United States federal income tax
purposes that any redemption premium paid upon a change in control should be
taxable to a U.S. Holder as ordinary income when received or accrued in
accordance with the U.S. Holder's method of accounting for federal income tax
purposes. This position is based in part on our determination that, as of the
date of issuance of the new notes, the possibility that any such additional
payment will actually be made is a "remote" or "incidental" contingency within
the meaning of applicable Treasury regulations. Accordingly, we will not treat
the new notes as "contingent payment debt instruments." Our determination that
the possibility is a remote or incidental contingency is binding on each U.S.
Holder, unless the U.S. Holder explicitly discloses to the IRS, on its federal
income tax return for the year during which the note is acquired, that the U.S.
Holder is taking a different position. Regardless of our position, however, this
matter is not free from doubt, and the IRS may assert that the possibility that
such an additional payment will actually be made is not a remote or incidental
contingency. If such an assertion by the IRS is successful, you could be subject
to tax consequences that differ materially and adversely from those described
below. The remainder of this discussion assumes that the contingent payment debt
rules will not apply to the new notes.
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The interest on the new notes will be paid in euros rather than in United
States dollars. In general, a U.S. Holder that uses the cash method of
accounting will be required to include in income the United States dollar value
of the amount of interest income received, whether or not the payment is
received in United States dollars or converted into United States dollars. The
United States dollar value of the amount of interest received is the amount of
foreign currency interest paid, translated at the spot rate on the date of
receipt. The U.S. Holder will not have exchange gain or loss on the interest
payment, but may have exchange gain or loss when the U.S. Holder disposes of any
foreign currency received.
A U.S. Holder that uses the accrual method of accounting is generally
required to include in income the United States dollar value of interest accrued
during the accrual period. Accrual basis U.S. Holders may determine the amount
of income recognized with respect to such interest in accordance with either of
two methods. Under the first method, the U.S. dollar value of accrued interest
is translated at the average rate for the interest accrual period (or, with
respect to an accrual period that spans two taxable years, the average rate for
the partial period within the taxable year). For this purpose, the average rate
is the simple average of spot rates of exchange for each business day of such
period or other average exchange rate for the period reasonably derived and
consistently applied by the U.S. Holder. Under the second method, a U.S. Holder
can elect to accrue interest at the spot rate on the last day of an interest
accrual period (in the case of a partial accrual period, the last day of the
taxable year) or, if the last day of an interest accrual period is within five
business days of the receipt or payment, the spot rate on the date of receipt or
payment. Any such election will apply to all debt instruments held by the U.S.
Holder at the beginning of the first taxable year to which the election applies
and thereafter acquired, and may not be revoked without the consent of the IRS.
An accrual basis U.S. Holder will recognize exchange gain or loss on the receipt
of a foreign currency interest payment if the exchange rate on the date payment
is received differs from the rate applicable to the previous accrual of that
interest income. The foreign currency gain or loss of a U.S. Holder will
generally be treated as United States sourced ordinary income or loss.
Original Issue Discount. If the stated redemption price at maturity of a
note exceeds its "issue price," the excess is treated as original issue discount
("OID") that is taxable to the holder as ordinary income on a current basis.
However, if the amount of this excess is less than a specified de minimis amount
(generally 0.25% of the product of the stated redemption price at maturity and
the number of complete years to maturity from the date of issue) the OID will be
treated as zero. The issue price of the notes is the price paid by the first
buyer of such notes.
The stated redemption price of the notes is not expected to exceed the
issue price by more than the specified de minimis amount. Accordingly, any de
minimis OID on the notes will not be taxable to a U.S. Holder as ordinary income
on a current basis (unless the U.S. Holder makes an affirmative election to
accrue such de minimis OID and all stated interest into income on a constant
yield basis). The remainder of this discussion assumes that there will not be
OID on the notes.
Disposition of Notes. In the case of a sale or other disposition (including
a retirement, but excluding the exchange) of a note, a U.S. Holder will
recognize gain or loss equal to the difference, if any, between the amount
received (other than any amount representing accrued but unpaid stated interest,
which is taxable as ordinary income) and the U.S. Holder's adjusted tax basis in
the note at the time of sale. A U.S. Holder's adjusted tax basis in a note
generally will equal the U.S. Holder's cost of the note in United States
dollars. Except as described below with respect to currency exchange gain or
loss, gain or loss recognized by a U.S. Holder on a sale or other disposition of
a note generally will constitute capital gain or loss. Capital gains of
non-corporate taxpayers from the sale or other disposition of a note held for
more than one year are eligible for reduced rates of United States federal
income taxation. The deductibility of a capital loss realized on the sale or
other disposition of a note may be subject to limitations.
With respect to the sale or other disposition (including a retirement, but
excluding the exchange) of a note denominated in euros, the amount realized in
euros will be considered to be (1) first, the payment of accrued but unpaid
interest (on which exchange gain or loss will be recognized as described in the
section entitled "Stated Interest" above), and (2) second, a payment of
principal. For purposes of determining gain or loss (as discussed above), the
amount realized in euros will be translated on the date of sale or other
disposition. Additionally, exchange gain or loss will be separately computed in
euros on the amount of principal to the extent that the rate of exchange on the
date of sale or other disposition differs from the rate of exchange on the date
the note was acquired. Exchange gain or loss computed on accrued interest and
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principal will be recognized, however, only to the extent of total gain or loss
realized on the transaction.
In the case of a note denominated in euros, the cost of the note to the
U.S. Holder will be the United States dollar value of the purchase price in
euros translated at the spot rate for the date of purchase. The conversion of
United States dollars into euros and the immediate use of that currency to
purchase a note generally will not result in a taxable gain or loss for a U.S.
Holder.
Disposition of Euros. A U.S. Holder will have a tax basis in any euros
received as interest on a note, or received on the sale or other disposition of
a note, equal to the United States dollar value of such euros on the date of
receipt. Any gain or loss realized by a U.S. Holder on a sale or other
disposition of such euros will be ordinary income or loss.
Backup Withholding and Information Reporting. We, our paying agent or a
broker may be required to provide the IRS with certain information, including
the name, address and taxpayer identification number of U.S. Holders, the
aggregate amount of principal and interest (and premium, if any) and sales
proceeds paid to that Holder during the calendar year, and the amount of tax
withheld, if any. This obligation, however, does not apply with respect to
certain U.S. Holders including corporations, tax-exempt organizations, qualified
pension and profit sharing trusts and individual retirement accounts. In the
event that a U.S. Holder subject to the reporting requirements described above
fails to supply its correct taxpayer identification number in the manner
required by applicable law or is notified by the IRS that it has failed to
properly report payments of interest and dividends, we, our paying agent or a
broker may be required to "backup" withhold tax (currently at a rate equal to
28%) on each payment of interest and principal (and premium, if any) and sales
proceeds on or with respect to the notes.
Backup withholding is not an additional tax; any amounts so withheld may be
credited against the United States federal income tax liability of the Holder or
refunded if the amounts withheld exceed such liability, provided that the
required information is timely furnished to the IRS.
Consequences to Non-U.S. Holders
Interest Income. Interest earned on a note by a Non-U.S. Holder will be
considered "portfolio interest," and will not be subject to United States
federal income tax or withholding, if:
o the certification requirements described generally below are satisfied and
the Non-U.S. Holder is not (i) a "controlled foreign corporation" that is
related to us as described in Section 881(c)(3)(C) of the Code, (ii) a bank
receiving the interest on a loan made in the ordinary course of its
business, or (iii) a person who owns, directly or under the attribution
rules of Section 871(h)(3)(C) of the Code, 10% or more of the total
combined voting power of all our stock;
o the interest is not effectively connected with the conduct of a trade or
business within the United States by the Non-U.S. Holder; and
o we do not have actual knowledge or reason to know that the beneficial
Holder is a U.S. Person and we can reliably associate the interest payment
with the certification documents provided to us.
The certification requirements will be satisfied if either (i) the
beneficial owner of the note timely certifies to us or our paying agent, under
penalties of perjury, that such owner is a Non-U.S. Holder and provides its name
and address, or (ii) a custodian, broker, nominee, or other intermediary acting
as an agent for the beneficial owner (such as a securities clearing
organization, bank or other financial institution that holds customers'
securities in the ordinary course of its trade or business) that holds the notes
in such capacity timely certifies to us or our paying agent, under penalties of
perjury, that such statement has been received from the beneficial owner of the
notes by such intermediary, or by any other financial institution between such
intermediary and the beneficial owner, and furnishes to us or our paying agent a
copy thereof. The foregoing certification may be provided on a properly
completed IRS Form W-8BEN or W-8IMY, as applicable, or any successor forms, duly
executed under penalties of perjury. With respect to the certification
requirement for notes that are held by an entity that is classified for United
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States federal income tax purposes as a foreign partnership, the applicable
Treasury Regulations provide that, unless the foreign partnership has entered
into a withholding agreement with the IRS, the foreign partnership will be
required, in addition to providing an intermediary Form W-8IMY, to attach an
appropriate certification by each partner.
Any payments to a Non-U.S. Holder of interest that do not qualify for the
"portfolio interest" exemption, and that are not effectively connected with the
conduct of a trade or business within the United States by the Non-U.S. Holder,
will be subject to United States federal income tax and withholding at a rate of
30% (or at a lower rate under an applicable tax treaty).
Disposition of Notes. Any gain recognized by a Non-U.S. Holder on a sale or
other disposition (including a retirement, but excluding the exchange) of a note
will not be subject to United States federal income tax or withholding if (i)
the gain is not effectively connected with the conduct of a trade or business
within the United States by the Non-U.S. Holder, and (ii) in the case of a
Non-U.S. Holder who is an individual, such individual is not present in the
United States for 183 days or more in the taxable year of the sale or other
disposition, or the individual does not have a "tax home" in the United States
and the gain is not attributable to an office or other fixed place of business
maintained in the United States by the individual.
Effectively Connected Income. Any interest earned on a note, and any gain
realized on a sale or other disposition (including a retirement, but excluding
the exchange) of a note, that is effectively connected with the conduct of a
trade or business within the United States by a Non-U.S. Holder will be subject
to United States federal income tax at regular graduated rates as if the
Non-U.S. Holder were a U.S. Holder. In addition, if the Non-U.S. Holder is a
corporation, the Non-U.S. Holder may also be subject to a 30% branch profits tax
(unless reduced or eliminated by an applicable treaty) imposed on any such
effectively connected earnings and profits. However, such income will not be
subject to United States federal income tax withholding if the Non-U.S. Holder
furnishes a properly completed IRS Form W-8ECI to us or our paying agent.
Estate Tax Consequences. Any note that is owned by an individual who is not
a citizen or resident (as specially defined for United States federal estate tax
purposes) of the United States at the date of death will not be included in such
individual's estate for United States federal estate tax purposes, unless the
individual owns, directly or indirectly, 10% or more of the voting power of all
our stock, or, at the time of such individual's death, payments in respect of
the notes would have been effectively connected with the conduct by such
individual of a trade or business in the United States.
Backup Withholding and Information Reporting. We must report annually to
the IRS and to each Non-U.S. Holder any interest on the notes that is subject to
withholding or that is exempt from U.S. withholding tax pursuant to a tax treaty
or the "portfolio interest" exemption. Copies of these information returns may
also be made available under the provisions of a specific treaty or agreement to
the tax authorities of the country in which the Non-U.S. Holder resides.
In the case of payments of interest on the notes, backup withholding and
information reporting will not apply if the Non-U.S. Holder has made the
requisite certification, described in the section entitled "Interest Income"
above or otherwise establishes an exemption, provided that neither we nor our
paying agent has actual knowledge that (i) the holder is a U.S. Holder, or (ii)
the conditions of any other exemption are not, in fact, satisfied.
The payment of the proceeds on the disposition (including a redemption) of
a note to or through the U.S. office of a broker generally will be subject to
information reporting and potential backup withholding unless a holder either
certifies its status as a Non-U.S. Holder under penalties of perjury on IRS Form
W-8BEN (or a suitable substitute form) and meets certain other conditions or
otherwise establishes an exemption. If the foreign office of a foreign broker
(as defined in applicable Treasury regulations) pays the proceeds of the
disposition of a note to the seller thereof, backup withholding and information
reporting generally will not apply. Information reporting requirements (but not
backup withholding) will apply, however, to a payment of the proceeds of the
disposition of a note by (1) a foreign office of a custodian, nominee, other
agent or broker that is a U.S. Person, (2) a foreign custodian, nominee, other
agent or broker that derives 50% or more of its gross income for certain periods
from the conduct of a trade or business in the United States, (3) a foreign
custodian, nominee, other agent or broker that is a controlled foreign
corporation for United States federal income tax purposes or (4) a foreign
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partnership if at any time during its tax year one or more of its partners are
U.S. Persons who, in the aggregate, hold more than 50% of the income or capital
interest of the partnership or if, at any time during its taxable year, the
partnership is engaged in the conduct of a trade or business within the United
States, unless the custodian, nominee, other agent, broker or foreign
partnership has documentary evidence in its records that the holder is not a
U.S. Person and certain other conditions are met or the holder otherwise
establishes an exemption.
Backup withholding is not an additional tax; any amounts so withheld may be
credited against the United States federal income tax liability of the holder or
refunded if the amounts withheld exceed such liability, provided that the
required information is timely furnished to the IRS.
Luxembourg Tax Considerations
The following discussion is a summary of some of the material Luxembourg
income tax consequences relevant to the acquisition, ownership and disposition
of the notes offered by this prospectus for a non-resident Holder of a note.
This summary is based on Luxembourg laws, regulations, rulings and decisions now
in effect, all of which are subject to change.
This summary is of a general nature only and is not intended to be, and
should not be construed to be, legal, business or tax advice to any particular
Holder. Prospective investors are urged to consult their tax advisors regarding
the Luxembourg income tax consequences of exchanging, holding and disposing of
the notes as well as any tax consequences that may arise under the laws of any
foreign, state, local or other taxing jurisdictions.
Withholding Tax
Under the existing laws of Luxembourg and except as provided for by the
Luxembourg laws of June 21, 2005 implementing the EU Savings Tax Directive (as
defined below) and the law of December 23, 2005 which implemented a withholding
tax that applies to Luxembourg resident individuals only, there is no
withholding tax on the payment of interest on, or reimbursement of principal of,
the notes or on payments made to non-residents of Luxembourg.
Under the Luxembourg laws of June 21, 2005 implementing the EU Savings Tax
Directive (Directive of the Council of the European Union of June 3, 2003 and
certain related agreements with the Netherlands Antilles, Aruba, Jersey,
Guernsey, Isle of Man, Montserrat and the British Virgin Islands), payments of
interest or similar income made or ascribed by a paying agent established in
Luxembourg to or for the immediate benefit of an individual or certain residual
entities as defined by the law, who, as a result of an identification procedure
implemented by the paying agent, are identified as residents or are deemed to be
residents of an EU Member State (other than Luxembourg) or of the abovementioned
territories with which related agreements have been concluded, generally will be
subject to a withholding tax. However, the relevant beneficiary will not be
subject to withholding if it has adequately instructed the relevant paying agent
to provide details of the payments of interest or similar income to the fiscal
authorities of his or her country of residence or deemed residence or has
provided a tax certificate from his or her fiscal authority in the format
required by law to that paying agent. Where withholding tax is applied, it will
be levied at a rate of 15% during the first three-year period starting July 1,
2005, at a rate of 20% for the subsequent three-year period and at a rate of 35%
thereafter.
When used in the preceding paragraph "interest" and "paying agent" have the
meaning given thereto in the Luxembourg laws of June 21, 2005. "Interest" will
include accrued or capitalized interest at the sale, repayment or redemption of
the notes. "Paying Agent" is defined broadly for this purpose and in the context
of the notes means any economic operator established in Luxembourg who pays
interest on the notes to or ascribes the payment of such interest to or for the
immediate benefit of the beneficial owner, whether the operator is, or acts on
behalf of, the relevant issuer or is instructed by the beneficial owner to
collect such payment of interest.
Pursuant to the law of December 23, 2005, interest on notes paid by a
Luxembourg paying agent to an individual holder who is a resident of Luxembourg
will be subject to a withholding tax of 10% which will operate a full discharge
of income tax due on such interest.
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German Tax Considerations
The following is a summary of some of the material German income tax
consequences relevant to the acquisition, ownership and disposition of notes for
a resident and non-resident Holder of a note. This summary is based on German
laws, regulations, rulings and decisions now in effect, all of which are subject
to change.
Under German tax law, the new notes should be treated as identical with the
old notes so that the exchange should not be a taxable transaction under German
tax law, and the cost basis of the old notes should carry over to the new notes.
However, prospective investors are urged to consult their tax advisors regarding
the German income tax consequences of exchanging, holding and disposing of the
notes as well as any tax consequences that may arise under the laws of any
foreign, state, local or other taxing jurisdictions.
Tax Residents
Payments of interest on the notes, including interest having accrued up to
the sale of a note and credited separately ("Accrued Interest") to persons who
are tax residents of Germany (i.e., persons whose residence, habitual abode,
statutory seat or place of effective management and control is located in
Germany) are subject to German income tax (plus a solidarity surcharge of 5.5%
thereon (Solidaritaetszurschlag)). Such interest is also subject to trade tax if
the notes form part of the property of a German trade or business.
Any OID in excess of certain threshold amounts is taxed as interest income
in the year the note is sold or redeemed, provided the note can be classified as
a financial innovation (Finanzinnovation), including, among other things, zero
coupon notes or discounted notes. However, if the note is part of property of a
trade or business in Germany, the OID amount must be taken into account pro rata
as interest income over the term of the note and may also be subject to trade
tax. Because the stated redemption price of the notes is not expected to exceed
the issue price by more than a de minimis amount, no portion of the OID, if any,
on the notes will be taxable to a German Holder as interest income on a current
or amortized basis. The remainder of this discussion assumes that there will not
be OID on the notes.
Capital gains from the disposal of notes by German-resident corporate
Holders of notes will be subject to corporate income tax (plus a solidarity
surcharge at a rate of 5.5% thereon) and trade tax.
If the notes are held in a custodial account that the holder maintains with
a German branch of a German or non-German financial or financial services
institution (the "Disbursing Agent"), a 30% withholding tax on interest payments
(Zinsabschlagsteuer), plus a 5.5% solidarity surcharge on such tax, will be
levied, resulting in a total tax charge of 31.65% of the gross interest payment.
Withholding tax is also imposed on Accrued Interest.
In computing the tax to be withheld, the Disbursing Agent may deduct from
the basis of the withholding tax any Accrued Interest paid by the holder of a
note to the Disbursing Agent during the same calendar year. No withholding tax
will be deducted if the holder of the note has submitted to the Disbursing Agent
a certificate of non-assessment (Nichtveranlagungsbescheinigung) issued by the
relevant local tax office.
Withholding tax and the solidarity surcharge thereon are credited as
prepayments against the German income tax and the solidarity surcharge liability
of the German resident. Amounts overwithheld will entitle the holder to a
refund, based on an assessment to tax.
Nonresidents
Interest, including Accrued Interest, and capital gains with respect to a
note held by a German nonresident are not subject to German taxation, unless:
(1) the note forms part of the business property of a permanent establishment,
including a permanent representative, or a fixed base maintained in Germany
by the Holder; or
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(2) the interest income otherwise constitutes German-source income (such as
income from the letting and leasing of certain property located in
Germany).
In situations (1) and (2), a tax regime similar to that explained above
under "Tax Residents" applies. Capital gains from the disposition of the Notes
are, however, only taxable in situation (1).
Nonresidents of Germany are, in general, exempt from German withholding tax
on interest and the solidarity surcharge thereon. However, where the interest is
subject to German taxation as set forth in the preceding paragraph and the notes
are held in a custodial account with a disbursing agent, withholding tax is
levied as explained above under "Tax Residents."
Other Taxes
No stamp, issue, registration or similar taxes or duties will be payable in
Germany in connection with the issuance, delivery or execution of the notes.
Currently, a net assets tax is not levied in Germany.
PLAN OF DISTRIBUTION
If you are a broker-dealer and hold old notes for your own account as a
result of market-making activities or other trading activities and you receive
new notes in exchange for old notes in the exchange offer, then you may be a
statutory underwriter and must acknowledge that you will deliver a prospectus in
connection with any resale of these new notes. This prospectus, as it may be
amended or supplemented from time to time, may be used by a broker-dealer in
connection with resales of new notes received in exchange for old notes where
such old notes were acquired as a result of market-making activities or other
trading activities. We acknowledge and, unless you are a broker-dealer, you must
acknowledge that you are not engaged in, do not intend to engage in, and have no
arrangement or understanding with any person to participate in a distribution of
new notes. For a period of 120 days after the consummation of the exchange
offer, we will make this prospectus, as amended and supplements, available to
any broker-dealer for use in connection with any such resale.
We will not receive any proceeds from any sale of new notes by
broker-dealers. New notes received by broker-dealers for their own account
pursuant to the exchange offer may be sold from time to time in one or more
transactions in the over-the-counter market, in negotiated transactions, through
the writing of options on the new notes or a combination of those methods of
resale, at market prices prevailing at the time of resale, at prices related to
such prevailing market prices or negotiated prices. Any such resale may be made
directly to purchasers or to or through brokers or dealers who may receive
compensation in the form of commissions or concessions from any such
broker-dealer or the purchasers of any such new notes. Any broker-dealer that
resells new notes that were received by it for its own account pursuant to the
exchange offer and any broker or dealer that participates in a distribution of
these new notes may be deemed to be an "underwriter" within the meaning of the
Securities Act, and any profit on any such resale of new notes and any
commissions or concessions received by any such persons may be deemed to be
underwriting compensation under the Securities Act. The letter of transmittal
states that, by acknowledging that it will deliver and by delivering a
prospectus, a broker-dealer will not be deemed to admit that it is an
"underwriter" within the meaning of the Securities Act.
For a period of 120 days after the consummation of the exchange offer, we
will promptly send additional copies of this prospectus and any amendment or
supplement to this prospectus to any broker-dealer that requests such documents
in the letter of transmittal. We will promptly send additional copies of this
prospectus and any amendment or supplement to this prospectus to any
broker-dealer that requests those documents in the letter of transmittal.
We have agreed to pay all expenses incident to the exchange offer,
including the expenses of one counsel for the holders of the notes other than
commissions or concessions of any broker-dealers and will indemnify the holders
of the new notes, including any broker-dealers, against various liabilities,
including liabilities under the Securities Act. We note, however, that, in the
opinion of the SEC, indemnification against liabilities arising under federal
securities laws is against public policy and may be unenforceable.
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WHERE YOU CAN FIND MORE INFORMATION
We are subject to the informational requirements of the Exchange Act. In
accordance with the Exchange Act, we file periodic reports, registration
statements and other information with the SEC. You may read and copy our
reports, registration statements and other information we file with the SEC at
the public reference facilities maintained by the SEC at 100 F Street, N.E.,
Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for more
information on the public reference rooms. In addition, reports and other
filings are available to the public on the SEC's web site at www.sec.gov.
If for any reason we are not subject to the reporting requirements of the
Exchange Act in the future, we will still be required under the indenture
governing the notes to furnish the holders of the notes with certain financial
and reporting information. See "Description of the New Notes-Certain
Covenants-Reports to Holders" for a description of the information that we are
required to provide.
We do not maintain a website on the Internet. However, Kronos maintains a
website on the Internet with the address of www.kronostio2.com. Copies of our
Annual Report on Form 10-K for the year ended December 31, 2005 and copies of
our Quarterly Reports on Form 10-Q for 2004, 2005 and 2006 and any Current
Reports on Form 8-K for 2004, 2005 and 2006, and any amendments thereto, are or
will be available free of charge at such website as soon as reasonably practical
after they are filed with the SEC. Information contained on Kronos' website is
not part of this prospectus.
GENERAL LISTING INFORMATION
We will apply to have the new notes admitted to the Official List of the
Luxembourg Stock Exchange and for trading on the Euro MTF, the alternative
market of the Luxembourg Stock Exchange, in accordance with its rules once the
exchange offer has been completed. Prior to the listing, a legal notice relating
to the issuance of the new notes and our certificate of incorporation will be
deposited with the Chief Registrar of the District Court of Luxembourg (Greffier
en Chef du Tribunal d'Arrondissement de et a Luxembourg), where these documents
are available for inspection and where copies of these documents may be obtained
free of charge on request.
As long as the notes are admitted to the Official List of the Luxembourg
Stock Exchange and the rules of the Luxembourg Stock Exchange so require, copies
of our certificate of incorporation and the indenture and the registration
rights agreement relating to the new notes may be inspected, and our most recent
audited annual Consolidated Financial Statements and unaudited quarterly
Consolidated Financial Statements may be obtained, on any business day free of
charge, at the office of the paying agent in Luxembourg.
Our board of directors approved the issuance of the new notes on March 31,
2006.
Except as disclosed in this prospectus, we are not involved in, or have any
knowledge of a threat of, any litigation, administrative proceeding or
arbitration which, in our judgment, is or may be material in the context of the
issuance of the notes.
Except as disclosed in this prospectus, there has been no material adverse
change in our consolidated financial position and no significant change in our
financial and trading position since March 31, 2006.
We are a Delaware corporation. The date of our incorporation is December
22, 1988. Our principal office is located at 5430 LBJ Freeway, Suite 1700,
Dallas, Texas 75240.
LEGAL MATTERS
Certain legal matters with regard to the validity of the new notes,
including the enforceability of our obligations under the new notes, will be
passed upon for us by Locke Liddell & Sapp LLP, Dallas, Texas.
-90-
EXPERTS
The Consolidated Financial Statements of Kronos International, Inc. and its
subsidiaries as of December 31, 2004 and 2005 and for each of the three years in
the period ended December 31, 2005 included in this prospectus have been so
included in reliance on the reports of PricewaterhouseCoopers LLP, an
independent registered public accounting firm, given on the authority of said
firm as experts in auditing and accounting.
The Consolidated Financial Statements of Kronos Titan GmbH and its
subsidiary as of December 31, 2004 and 2005 and for each of the three years in
the period ended December 31, 2005 included in this prospectus have been so
included in reliance on the report of PricewaterhouseCoopers LLP, an independent
registered public accounting firm, given on the authority of said firm as
experts in auditing and accounting.
The Consolidated Financial Statements of Kronos Denmark ApS and its
subsidiaries as of December 31, 2004 and 2005 and for each of the three years in
the period ended December 31, 2005 included in this prospectus have been so
included in reliance on the report of PricewaterhouseCoopers LLP, an independent
registered public accounting firm, given on the authority of said firm as
experts in auditing and accounting.
-91-
KRONOS INTERNATIONAL, INC.
Index of Financial Statements
Financial Statements Page
Report of Independent Registered Public Accounting Firm F-2
Consolidated Balance Sheets - December 31, 2004 and 2005;
March 31, 2006 (unaudited) F-3
Consolidated Statements of Income -
Years ended December 31, 2003, 2004 and 2005;
Three months ended March 31, 2005 and 2006 (unaudited) F-5
Consolidated Statements of Comprehensive Income (Loss) -
Years ended December 31, 2003, 2004 and 2005;
Three months ended March 31, 2005 and 2006 (unaudited) F-6
Consolidated Statements of Stockholder's Equity -
Years ended December 31, 2003, 2004 and 2005;
Three months ended March 31, 2006 (unaudited) F-7
Consolidated Statements of Cash Flows -
Years ended December 31, 2003, 2004 and 2005;
Three months ended March 31, 2005 and 2006 (unaudited) F-8
Notes to Consolidated Financial Statements F-10
Other Financial Statements filed pursuant to Rule 3-16
of Regulation S-X
Financial Statements of Kronos Titan GmbH FA-1
Financial Statements of Kronos Denmark ApS FB-1
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholder and Board of Directors of Kronos International, Inc.:
In our opinion, the consolidated financial statements listed in the
accompanying index present fairly, in all material respects, the financial
position of Kronos International, Inc. and Subsidiaries at December 31, 2004 and
2005, and the results of their operations and their cash flows for each of the
three years in the period ended December 31, 2005 in conformity with accounting
principles generally accepted in the United States of America. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with the
standards of the Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
PricewaterhouseCoopers LLP
Dallas, Texas
March 28, 2006
F-2
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
December 31, March 31,
------------------------- -----------
ASSETS 2004 2005 2006
---- ---- ----
(unaudited)
Current assets:
Cash and cash equivalents $ 17,505 $ 63,284 $ 55,751
Restricted cash 1,529 1,355 951
Accounts and other receivables, net 130,729 120,182 148,642
Receivables from affiliates 2,517 1,952 4,217
Refundable income taxes 2,586 1,053 864
Inventories 170,261 185,348 182,782
Prepaid expenses 3,141 2,680 4,594
Deferred income taxes - - 52
-------- -------- --------
Total current assets 328,268 375,854 397,853
-------- -------- --------
Other assets:
Deferred financing costs, net 10,404 7,722 7,261
Restricted marketable debt securities 2,877 2,572 2,635
Unrecognized net pension obligation 7,524 6,108 6,229
Deferred income taxes 238,284 213,275 212,513
Other 1,591 960 1,123
-------- -------- --------
Total other assets 260,680 230,637 229,761
-------- -------- --------
Property and equipment:
Land 34,164 30,288 30,760
Buildings 153,442 138,925 142,797
Equipment 724,904 644,271 660,184
Mining properties 71,980 68,163 68,950
Construction in progress 13,560 12,112 5,988
-------- -------- --------
998,050 893,759 908,679
Less accumulated depreciation and amortization 601,815 544,984 559,854
-------- -------- --------
Net property and equipment 396,235 348,775 348,825
-------- -------- --------
$985,183 $955,266 $976,439
======== ======== ========
See accompanying notes to consolidated financial statements.
F-3
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONTINUED)
(In thousands, except share data)
December 31, March 31,
------------------------- -----------
LIABILITIES AND STOCKHOLDER'S EQUITY 2004 2005 2006
---- ---- ----
(unaudited)
Current liabilities:
Current maturities of long-term debt $ 13,792 $ 958 $ 959
Accounts payable and accrued liabilities 126,949 118,285 127,797
Payable to affiliates 11,042 14,882 84
Income taxes 17,080 21,799 24,137
Deferred income taxes 2,722 4,136 679
---------- ---------- ----------
Total current liabilities 171,585 160,060 153,656
---------- ---------- ----------
Noncurrent liabilities:
Long-term debt 519,403 452,865 459,245
Deferred income taxes 22,358 19,265 22,048
Accrued pension cost 48,441 125,766 124,639
Other 16,840 15,434 17,027
---------- ---------- ----------
Total noncurrent liabilities 607,042 613,330 622,959
---------- ---------- ----------
Minority interest 76 75 78
---------- ---------- ----------
Stockholder's equity:
Common stock, $100 par value; 100,000 shares
authorized; 2,968 shares issued 297 297 297
Additional paid-in capital 1,944,185 1,944,185 1,944,185
Retained deficit (1,399,118) (1,339,332) (1,326,184)
Notes receivable from affiliate (209,526) (209,526) (209,526)
Accumulated other comprehensive loss:
Currency translation (99,764) (130,178) (125,381)
Pension liabilities (29,594) (83,645) (83,645)
---------- ---------- ----------
Total stockholder's equity 206,480 181,801 199,746
---------- ---------- ----------
$ 985,183 $ 955,266 $ 976,439
========== ========== ==========
Commitments and contingencies (Notes 10 and 13)
See accompanying notes to consolidated financial statements.
F-4
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In thousands)
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
Net sales $715,906 $807,970 $850,873 $209,536 $208,636
Cost of sales 516,864 609,559 613,178 147,166 155,589
Gross margin 199,042 198,411 237,695 62,370 53,047
Selling, general and administrative expense 86,965 104,110 110,185 28,084 27,661
Other operating income (expense):
Currency transaction gains (losses), net (3,721) (2,243) 4,090 770 (1,207)
Disposition of property and equipment (394) (895) (1,395) (34) (433)
Royalty income 6,122 6,034 6,827 1,502 2,153
Other income 489 426 576 36 9
Other expense (130) (72) (86) - -
-------- -------- -------- -------- --------
Income from operations 114,443 97,551 137,522 36,560 25,908
Other income (expense):
Interest income from affiliates 30 2,767 18,943 4,941 4,451
Trade interest income 700 1,147 951 74 460
Securities transaction gain - - 5,439 - -
Interest expense to affiliates (81) (4) - - -
Other interest expense (32,529) (36,688) (43,950) (11,611) (10,303)
-------- -------- -------- -------- --------
Income before income taxes and minority
interest 82,563 64,773 118,905 29,964 20,516
Provision (benefit) for income taxes 730 (261,260) 59,107 11,722 7,366
Minority interest 72 53 12 4 2
-------- -------- -------- -------- --------
Net income $ 81,761 $325,980 $ 59,786 $ 18,238 $ 13,148
======== ======== ======== ======== ========
See accompanying notes to consolidated financial statements.
F-5
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(In thousands)
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
Net income $ 81,761 $ 325,980 $ 59,786 $ 18,238 $ 13,148
--------- --------- --------- --------- ---------
Other comprehensive (loss) income, net of tax:
Minimum pension liabilities adjustment (27,647) 4,803 (54,051) - -
Currency translation adjustment 5,600 33,661 (30,414) 2,378 4,797
--------- --------- --------- --------- ---------
Total other comprehensive income (loss) (22,047) 38,464 (84,465) 2,378 4,797
--------- --------- --------- --------- ---------
Comprehensive income (loss) $ 59,714 $ 364,444 $ (24,679) $ 20,616 $ 17,945
========= ========= ========= ========= =========
See accompanying notes to consolidated financial statements.
F-6
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY
Years ended December 31, 2003, 2004 and 2005
and three months ended March 31, 2006 (unaudited)
(In thousands)
Accumulated other
comprehensive
Notes income (loss) Total
Additional Retained receivable ------------------------- common
Common paid-in earnings from Currency Pension stockholder's
stock capital (deficit) affiliates translation liabilities equity
--------- ------------ ------------ ------------ ----------- ----------- -------------
Balance at December 31, 2002 $ 297 $1,944,185 $(1,721,859) $ - $ (139,025) $ (6,750) $ 76,848
Net income - - 81,761 - - - 81,761
Other comprehensive income (loss),
net of tax - - - - 5,600 (27,647) (22,047)
Cash dividends - - (25,000) - - - (25,000)
----- ---------- ----------- --------- --------- -------- ----------
Balance at December 31, 2003 297 1,944,185 (1,665,098) - (133,425) (34,397) 111,562
Net income - - 325,980 - - - 325,980
Other comprehensive income (loss),
net of tax - - - - 33,661 4,803 38,464
Change in notes receivable
from affiliates - - - (209,526) - - (209,526)
Cash dividends - - (60,000) - - - (60,000)
----- ---------- ----------- --------- --------- -------- ----------
Balance at December 31, 2004 297 1,944,185 (1,399,118) (209,526) (99,764) (29,594) 206,480
Net income - - 59,786 - - - 59,786
Other comprehensive loss,
net of tax - - - - (30,414) (54,051) (84,465)
----- ---------- ----------- --------- --------- -------- ----------
Balance at December 31, 2005 297 1,944,185 (1,339,332) (209,526) (130,178) (83,645) 181,801
Unaudited: - - 13,148 - - - 13,148
Net income
Other comprehensive loss,
net of tax - - - - 4,797 - 4,797
----- ---------- ----------- --------- --------- -------- ----------
Balance at March 31, 2006 $ 297 $1,944,185 $(1,326,184) $(209,526) $(125,381) $(83,645) $ 199,746
===== ========== =========== ========= ========= ======== ==========
See accompanying notes to consolidated financial statements.
F-7
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
Cash flows from operating activities:
Net income $ 81,761 $ 325,980 $ 59,786 $ 18,238 $ 13,148
Depreciation and amortization 33,634 37,726 36,504 9,488 8,788
Noncash interest expense 1,944 2,044 2,566 696 576
Deferred income taxes 38,690 (273,985) 30,815 5,435 1,993
Minority interest 72 53 12 4 2
Net loss from disposition of property
and equipment 394 895 1,395 34 433
Securities transaction gain - - (5,439) - -
Defined benefit pension plan expense
greater (less) than cash funding (3,805) (800) (2,335) (997) (672)
Other, net 250 987 (1,839) (52) (259)
Change in assets and liabilities:
Accounts and other receivables 1,104 (6,227) (9,641) (29,733) (27,931)
Inventories 232 11,582 (38,938) (13,624) 5,148
Prepaid expenses 1,345 (233) (228) (1,650) (1,885)
Accounts payable and accrued liabilities 5,495 27,922 10,781 14,953 10,328
Income taxes (37,231) 25,557 7,917 3,034 2,085
Accounts with affiliates (14,424) (6,103) 4,674 2,031 (16,690)
Other noncurrent assets (3,779) 1,981 (690) 81 (149)
Other noncurrent liabilities (894) (5,124) (2,636) (4,575) 33
--------- --------- --------- --------- ---------
Net cash provided (used) by operating
activities 104,788 142,255 92,704 3,363 (5,052)
--------- --------- --------- --------- ---------
Cash flows from investing activities:
Capital expenditures (31,518) (33,679) (39,522) (4,800) (3,696)
Purchase of interest in subsidiary - (575) -
Proceeds from disposal of interest
in Norwegian smelting operation - - 3,542 - -
Change in restricted cash equivalents
and restricted marketable debt
securities, net (554) (70) 129 529 411
Proceeds from disposition of property
and equipment 383 99 37 - -
Other, net - - - 21 29
--------- --------- --------- --------- ---------
Net cash used by investing activities (31,689) (34,225) (35,814) (4,250) (3,256)
--------- --------- --------- --------- ---------
F-8
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(In thousands)
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
Cash flows from financing activities:
Indebtedness:
Borrowings $ 16,106 $ 241,648 $ 4,620 $ - $ -
Principal payments (46,006) (100,073) (13,159) (41) (39)
Deferred financing fees - (1,989) - - -
Loans to affiliates - (209,524) - - -
Dividends paid (25,000) (60,000) - - -
Distributions to minority interests (14) - - - -
--------- --------- --------- --------- ---------
Net cash used by financing activities (54,914) (129,938) (8,539) (41) (39)
--------- --------- --------- --------- ---------
Cash and cash equivalents - net change from:
Operating, investing and financing activities 18,185 (21,908) 48,351 (928) (8,347)
Currency translation 3,913 2,292 (2,572) (477) 814
Balance at beginning of year 15,023 37,121 17,505 17,505 63,284
--------- --------- --------- --------- ---------
Balance at end of year $ 37,121 $ 17,505 $ 63,284 $ 16,100 $ 55,751
========= ========= ========= ========= =========
Supplemental disclosures - cash paid
(received) for:
Interest $ 28,147 $ 33,425 $ 40,912 $ 171 $ 66
Income taxes (11,480) (23,776) 20,033 3,242 3,181
Inventories received as partial
consideration for disposal of interest in
Norwegian smelting
operations $ - $ - $ 1,897 $ - $ -
See accompanying notes to consolidated financial statements.
F-9
KRONOS INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Summary of significant accounting policies:
Organization and basis of presentation. Kronos International, Inc. ("KII")
is incorporated in the state of Delaware, U.S.A., with its seat of management in
Leverkusen, Germany. KII or the Company is a wholly-owned subsidiary of Kronos
Worldwide, Inc. ("Kronos") (NYSE:KRO). At December 31, 2005, (i) Valhi, Inc.
(NYSE:VHI) held approximately 57% of Kronos' outstanding common stock and NL
Industries, Inc. (NYSE:NL) held an additional 36% of Kronos' common stock, (ii)
Valhi owned approximately 83% of NL's outstanding common stock and (iii) Contran
Corporation and its subsidiaries held approximately 92% of Valhi's outstanding
common stock. At March 31, 2006 (i) Valhi held approximately 59% of Kronos'
outstanding common stock and NL Industries, Inc. held an additional 35% of
Kronos' common stock, (ii) Valhi owned approximately 83% of NL's outstanding
common stock and (iii) Contran Corporation and its subsidiaries held
approximately 92% of Valhi's outstanding common stock. Substantially all of
Contran's outstanding voting stock is held by trusts established for the benefit
of certain children and grandchildren of Harold C. Simmons, of which Mr. Simmons
is sole trustee, or is held by Mr. Simmons or persons or other entities related
to Mr. Simmons. Consequently, Mr. Simmons may be deemed to control each of such
companies.
Management's estimates. The preparation of financial statements in
conformity with accounting principles generally accepted in the United States of
America ("GAAP") requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements, and
the reported amount of revenues and expenses during the reporting period. Actual
results may differ significantly from previously-estimated amounts under
different assumptions or conditions.
Principles of consolidation. The consolidated financial statements include
the accounts of KII and its wholly-owned and majority-owned subsidiaries. All
material intercompany accounts and balances have been eliminated. Minority
interest relates to the Company's majority-owned subsidiary in France, which
conducts the Company's marketing and sales activities in that country. During
2004, the Company increased its ownership interest by approximately 5% to 99% in
such subsidiary by acquiring shares previously held by certain of its other
stockholders for an aggregate of $575,000.
Unaudited interim information. Information included in the consolidated
financial statements and related notes to the consolidated financial statements
as of March 31, 2006 and for the three month interim periods ended March 31,
2005 and 2006 is unaudited. In the opinion of management, all adjustments,
consisting only of normal recurring adjustments, necessary to state fairly the
consolidated financial position, results of operations and cash flows for such
interim periods have been made. The results of operations for the interim
periods are not necessarily indicative of the operating results for a full year
or of future operations. Certain information normally included in financial
statements prepared in accordance with GAAP has been condensed or omitted for
such interim periods.
Translation of foreign currencies. Assets and liabilities of subsidiaries
whose functional currency is other than the U.S. dollar are translated at
year-end rates of exchange and revenues and expenses are translated at average
exchange rates prevailing during the year. Resulting translation adjustments are
accumulated in stockholder's equity as part of accumulated other comprehensive
income (loss), net of related deferred income taxes and minority interest.
Currency transaction gains and losses are recognized in income currently.
Derivatives and hedging activities. Derivatives are recognized as either
assets or liabilities and measured at fair value in accordance with SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities," as amended.
The accounting for changes in fair value of derivatives depends upon the
intended use of the derivative, and such changes are recognized either in net
income or other comprehensive income. As permitted by the transition
requirements of SFAS No. 133, the Company has exempted from the scope of SFAS
No. 133 all host contracts containing embedded derivatives that were issued or
acquired prior to January 1, 1999.
F-10
Cash and cash equivalents. Cash equivalents include bank deposits with
original maturities of three months or less.
Restricted marketable debt securities. Restricted marketable debt
securities are primarily invested in corporate debt securities and include
amounts restricted in accordance with applicable Norwegian law regarding certain
requirements of the Company's Norwegian defined benefit pension plans ($2.9
million and $2.6 million at December 31, 2004 and 2005, respectively). The
restricted marketable debt securities are generally classified as either a
current or noncurrent asset depending upon the maturity date of each such debt
security and are carried at market which approximates cost.
Accounts receivable. The Company provides an allowance for doubtful
accounts for known and estimated potential losses arising from sales to
customers based on a periodic review of these accounts.
Property and equipment and depreciation. Property and equipment are stated
at cost. The Company has a governmental concession with an unlimited term to
operate an ilmenite mine in Norway. Mining properties consist of buildings and
equipment used in the Company's Norwegian ilmenite mining operations. While the
Company owns the land and ilmenite reserves associated with the mine, such land
and reserves were acquired for nominal value and the Company has no material
asset recognized for the land and reserves related to such mining operations.
Depreciation of property and equipment for financial reporting purposes
(including mining properties) is computed principally by the straight-line
method over the estimated useful lives of ten to 40 years for buildings and
three to 20 years for equipment. Accelerated depreciation methods are used for
income tax purposes, as permitted. Upon sale or retirement of an asset, the
related cost and accumulated depreciation are removed from the accounts and any
gain or loss is recognized in income currently.
Expenditures for maintenance, repairs and minor renewals are expensed;
expenditures for major improvements are capitalized. The Company performs
planned major maintenance activities during the year. Repair and maintenance
costs estimated to be incurred in connection with planned major maintenance
activities are accrued in advance and are included in cost of sales. Accrued
repair and maintenance costs, included in other current liabilities and
consisting primarily of materials and supplies, was $3.9 million and $3.4
million at December 31, 2004 and 2005, respectively.
Interest costs related to major long-term capital projects and renewals are
capitalized as a component of construction costs. Interest costs capitalized
were not significant in 2003, 2004 or 2005.
When events or changes in circumstances indicate that assets may be
impaired, an evaluation is performed to determine if an impairment exists. Such
events or changes in circumstances include, among other things, (i) significant
current and prior periods or current and projected periods with operating
F-11
losses, (ii) a significant decrease in the market value of an asset or (iii) a
significant change in the extent or manner in which an asset is used. All
relevant factors are considered. The test for impairment is performed by
comparing the estimated future undiscounted cash flows (exclusive of interest
expense) associated with the asset to the asset's net carrying value to
determine if a write-down to market value or discounted cash flow value is
required. The Company assesses impairment of property and equipment in
accordance with SFAS No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets."
Long-term debt. Long-term debt is stated net of any unamortized original
issue premium or discount. Amortization of deferred financing costs and any
premium or discount associated with the issuance of indebtedness, all included
in interest expense, is computed by the interest method over the term of the
applicable issue.
Employee benefit plans. Accounting and funding policies for retirement
plans are described in Note 11.
Income taxes. Prior to December 2003, KII, Kronos and its qualifying
subsidiaries were members of NL's consolidated U.S. federal income tax group
(the "NL Tax Group"). As a member of the NL Tax Group, the Company was a party
to a tax sharing agreement (the "NL Tax Agreement"). The NL Tax Group, including
KII, is included in the consolidated U.S. federal tax return of Contran (the
"Contran Tax Group"). As a member of the Contran Tax Group, NL is a party to a
separate tax sharing agreement (the "Contran Tax Agreement"). The Contran Tax
Agreement provides that NL and its qualifying subsidiaries, including KII,
compute provisions for U.S. income taxes on a separate-company basis using the
tax elections made by Contran. Pursuant to the Kronos Tax Sharing Agreement and
using the tax elections made by Contran, KII made payments to or received
payments from Kronos in amounts it would have paid to or received from the U.S.
Internal Revenue Service had it not been a member of NL's consolidated tax group
but instead was a separate taxpayer. Refunds are limited to amounts previously
paid under the NL Tax Sharing Agreement.
Effective December 2003, following NL's distribution of 48.8% of the
outstanding shares of Kronos common stock to NL stockholders, Kronos and its
qualifying subsidiaries, including KII, ceased being members of the NL Tax
Group, but remained as members of the Contran Tax Group. Kronos entered into a
new tax sharing agreement with Valhi and Contran, which contains similar terms
to the NL Tax Agreement. As a member of the Contran Tax Group, KII is jointly
and severally liable for the federal income tax liability of Contran and the
other companies included in the Contran Tax Group for all periods in which the
Company is included in the Contran Tax Group. See Note 10. Kronos and its
consolidating subsidiaries, including KII, are also included in Contran's
consolidated unitary state income tax returns in certain qualifying U.S.
jurisdictions. The terms of the Contran Tax Agreement also apply to state
provisions in these jurisdictions. The Company made no payments to Kronos for
income taxes in 2003, 2004 or 2005.
Deferred income tax assets and liabilities are recognized for the expected
future tax consequences of temporary differences between the income tax and
financial reporting carrying amounts of assets and liabilities, including
investments in the Company's subsidiaries and affiliates who are not members of
the Contran Tax Group and undistributed earnings of foreign subsidiaries which
are not deemed to be permanently reinvested. Earnings of foreign subsidiaries
deemed to be permanently reinvested aggregated $527 million at December 31, 2004
and $707 million at December 31, 2005. Determination of the amount of the
unrecognized deferred income tax liability related to such earnings is not
F-12
practicable due to the complexities associated with the U.S. taxation on
earnings of foreign subsidiaries repatriated to the U.S. The Company
periodically evaluates its deferred tax assets in the various taxing
jurisdictions in which it operates and adjusts any related valuation allowance
based on the estimate of the amount of such deferred tax assets that the Company
believes does not meet the "more-likely-than-not" recognition criteria.
Net sales. Sales are recorded when products are shipped and title and other
risks and rewards of ownership have passed to the customer, or when services are
performed. Shipping terms of products shipped are generally FOB shipping point,
although in some instances shipping terms are FOB destination point (for which
sales are not recognized until the product is received by the customer). Amounts
charged to customers for shipping and handling are included in net sales. Sales
are stated net of price, early payment and distributor discounts and volume
rebates.
Inventories and cost of sales. Inventories are stated at the lower of cost
(principally average cost) or market, net of allowance for slow-moving
inventories ($7.3 million and $6.5 million at December 31, 2004 and 2005,
respectively). Amounts are removed from inventories at average cost. Cost of
sales includes costs for materials, packing and finishing, utilities, salary and
benefits, maintenance and depreciation.
Selling, general and administrative expenses; shipping and handling costs.
Selling, general and administrative expenses include costs related to marketing,
sales, distribution, shipping and handling, research and development, legal and
administrative functions such as accounting, treasury and finance, and includes
costs for salaries and benefits, travel and entertainment, promotional materials
and professional fees. Shipping and handling costs are included in selling,
general and administrative expense and were $43 million in 2003, $49 million in
2004 and $52 million in 2005. Advertising costs are expensed as incurred and
were $1 million in each of 2003, 2004 and 2005. Research, development and
certain sales technical support costs are expensed as incurred and approximated
$7 million in 2003, $8 million in 2004 and $9 million in 2005.
Stock options. The Company has not issued any stock options. However,
certain employees of the Company have been granted options by NL to purchase NL
common stock. The Company has elected the disclosure alternative prescribed by
SFAS No. 123, "Accounting for Stock-Based Compensation," as amended, and to
account for its stock-based employee compensation related to stock options in
accordance with Accounting Principles Board Opinion ("APBO") No. 25, "Accounting
for Stock Issued to Employees," and its various interpretations. The Company
adopted SFAS No. 123R "Share-Based Payment," as of January 1, 2006, see Note 15.
Note 2 - Geographic information:
The Company's operations are associated with the production and sale of
TiO2. Titanium dioxide pigments are used to impart whiteness, brightness and
opacity to a wide variety of products, including paints, plastics, paper, fibers
and ceramics. All of the Company's net assets are located in Europe.
For geographic information, net sales are attributed to the place of
manufacture (point of origin) and the location of the customer (point of
destination); property and equipment are attributed to their physical location.
F-13
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
(In thousands)
Geographic areas
Net sales - point of origin:
Germany $ 510,105 $ 576,138 $ 613,081 $ 149,920 $ 153,266
Belgium 150,728 186,445 186,951 46,189 43,825
Norway 131,457 144,492 160,529 40,911 36,801
Eliminations (76,384) (99,105) (109,688) (27,484) (25,256)
---------- ---------- ---------- ---------- ----------
$ 715,906 $ 807,970 $ 850,873 $ 209,536 $ 208,636
========== ========== ========== ========== ==========
Net sales - point of
destination:
Europe $ 567,630 $ 666,271 $ 689,516 $ 177,580 $ 163,276
North America 58,293 42,015 51,922 8,061 18,998
Other 89,983 99,684 109,435 23,895 26,362
---------- ---------- ---------- ---------- ----------
$ 715,906 $ 807,970 $ 850,873 $ 209,536 $ 208,636
========== ========== ========== ========== ==========
December 31, March 31,
------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Identifiable assets -
net property and equipment:
Germany $269,922 $235,932 $236,631
Belgium 68,314 57,943 57,472
Norway 57,808 54,759 54,495
Other 191 141 227
-------- -------- --------
$396,235 $348,775 $348,825
======== ======== ========
Note 3 - Accounts and other receivables, net:
December 31, March 31,
------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Trade receivables $120,969 $110,268 $135,459
Insurance claims 32 26 29
Recoverable VAT and other receivables 11,388 11,317 14,535
Allowance for doubtful accounts (1,660) (1,429) (1,381)
-------- -------- --------
$130,729 $120,182 $148,642
======== ======== ========
F-14
Note 4 - Inventories
December 31, March 31,
------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Raw materials $ 34,303 $ 42,807 $ 30,006
Work in process 13,044 13,654 15,873
Finished products 90,083 98,004 102,976
Supplies 32,831 30,883 33,927
-------- -------- --------
$170,261 $185,348 $182,782
======== ======== ========
Note 5 - Accounts payable and accrued liabilities:
December 31, March 31,
------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Accounts payable $ 67,463 $ 63,382 $ 61,301
Employee benefits 27,863 27,147 26,221
Interest 152 117 10,123
Other 31,471 27,639 30,152
-------- -------- --------
$126,949 $118,285 $127,797
======== ======== ========
Note 6 - Long-term debt:
December 31, March 31,
------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Long-term debt:
8.875% Senior Secured Notes $519,225 $449,298 $455,609
Bank credit facility 13,622 - -
Other 348 4,525 4,595
-------- -------- --------
533,195 453,823 460,204
Less current maturities 13,792 958 959
-------- -------- --------
$519,403 $452,865 $459,245
======== ======== ========
In June 2002, KII issued at par value euro 285 million principal amount
($280 million when issued) of its 8.875% Senior Secured Notes due 2009, and in
November 2004 KII issued at 107% of par an additional euro 90 million principal
amount ($130 million when issued) of the KII Senior Secured Notes (collectively,
the "Notes"). The Notes are collateralized by a pledge of 65% of the common
stock or other ownership interests of certain of KII's first-tier operating
subsidiaries. Such operating subsidiaries are Kronos Titan GmbH, Kronos Denmark
ApS, Kronos Limited and Societe Industrielle Du Titane, S.A. The Notes are
issued pursuant to an indenture which contains a number of covenants and
restrictions which, among other things, restricts the ability of KII and its
subsidiaries to incur debt, incur liens, pay dividends or merge or consolidate
with, or sell or transfer all or substantially all of their assets to, another
entity. The Notes are redeemable, at KII's option, at redemption prices ranging
F-15
from 104.437% of the principal amount, declining to 100% on or after December
30, 2008. In the event of a change of control of KII, as defined, KII would be
required to make an offer to purchase its Notes at 101% of the principal amount.
KII would also be required to make an offer to purchase a specified portion of
its Notes at par value in the event KII generates a certain amount of net
proceeds from the sale of assets outside the ordinary course of business, and
such net proceeds are not otherwise used for specified purposes within a
specified time period. At December 31, 2005, KII was in compliance with all the
covenants, and the quoted market price of the Notes was approximately euro 1,045
per euro 1,000 principal amount (2004 - euro 1,075 per euro 1,000 principal
amount). At December 31, 2005, the carrying amount of the Notes includes euro
4.8 million ($5.7 million) of unamortized premium associated with the November
2004 issuance (2004 - euro 6.2 million, or $8.4 million).
KII's operating subsidiaries in Germany, Belgium and Norway (collectively,
the "Borrowers") have a euro 80 million secured revolving bank credit facility
that matures in June 2008 ("European Credit Facility"). Borrowings may be
denominated in euros, Norwegian kroners or U.S. dollars, and bear interest at
the applicable interbank market rate plus 1.125%. The facility also provides for
the issuance of letters of credit up to euro 5 million. The European Credit
Facility is collateralized by the accounts receivable and inventories of the
borrowers, plus a limited pledge of all of the other assets of the Belgian
borrower. The European Credit Facility contains certain restrictive covenants
which, among other things, restricts the ability of the borrowers to incur debt,
incur liens, pay dividends or merge or consolidate with, or sell or transfer all
or substantially all of their assets to, another entity. In addition, the
European Credit Facility contains customary cross-default provisions with
respect to other debt and obligations of Borrowers, KII and its other
subsidiaries. At December 31, 2005, no amounts were outstanding under the
European Credit Facility and the equivalent of $92.3 million was available for
additional borrowing by the subsidiaries.
Under the cross-default provisions of the Notes, the Notes may be
accelerated prior to their stated maturity if KII or any of KII's subsidiaries
default under any other indebtedness in excess of $20 million due to a failure
to pay such other indebtedness at its due date (including any due date that
arises prior to the stated maturity as a result of a default under such other
indebtedness). Under the cross-default provisions of the European Credit
Facility, any outstanding borrowings under the European Credit Facility may be
accelerated prior to their stated maturity if the Borrowers or KII default under
any other indebtedness in excess of euro 5 million due to a failure to pay such
other indebtedness at its due date (including any due date that arises prior to
the stated maturity as a result of a default under such other indebtedness). The
European Credit Facility contains provisions that allow the lender to accelerate
the maturity of the applicable facility in the event of a change of control, as
defined, of the applicable borrower. In the event the cross-default provisions
of either the Notes or the European Credit Facility become applicable, and such
indebtedness is accelerated, the Company would be required to repay such
indebtedness prior to their stated maturity.
In April 2006, the Company called all of its 8.875% Senior Secured Notes
for redemption on May 11, 2006 at 104.437% of their aggregate principal amount
of euro 375 million (an aggregate of $470.2 million at March 31, 2006 exchange
rates). Funds for such redemption were provided by the Company's issuance of an
aggregate of euro 400 million principal amount of new 6.5% Senior Secured Notes
due April 2013, issued on April 11, 2006 at 99.306% of their principal amount.
The new Senior Secured Notes were issued pursuant to an indenture that contains
covenants, restrictions and collateral substantially identical to the covenants,
restrictions and collateral of the 8.875% Senior Secured Notes. The Company
expects to recognize a $21 million pre-tax charge in the second quarter related
to the early extinguishment of the 8.875% Senior Secured Notes, consisting of
the call premium on such Notes and the net write-off of deferred financing costs
and existing unamortized premium related to such Notes.
F-16
Aggregate maturities of long-term debt at December 31, 2005 are shown in
the table below.
Years ending December 31, Amount
--------------------------- --------------
(In thousands)
2006 $ 958
2007 861
2008 872
2009 450,200
2010 932
2011 and thereafter -
--------
$453,823
========
Restrictions. Certain of the credit facilities described above require the
respective borrower to maintain minimum levels of equity, require the
maintenance of certain financial ratios, limit dividends and additional
indebtedness and contain other provisions and restrictive covenants customary in
lending transactions of this type. At December 31, 2005, the restricted net
assets of consolidated subsidiaries approximated $90 million.
Note 7 - Other noncurrent liabilities:
December 31, March 31,
------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Insurance claims and expenses $ 1,505 $ 1,255 $ 5,960
Employee benefits 5,107 4,735 1,585
Asset retirement obligations 958 934 968
Other 9,270 8,510 8,514
-------- -------- --------
$ 16,840 $ 15,434 $ 17,027
======== ======== ========
The asset retirement obligations are discussed in Note 15.
Note 8 - Common stock and notes receivable from affiliates:
NL common stock options held by employees of the Company. At December 31,
2005, employees of the company held options to purchase approximately 68,000
shares of NL common stock, which are exercisable at various dates through 2010
(approximately 33,000) at exercise prices ranging from $2.66 to $9.34 per share,
and exercisable at various dates through 2011 (approximately 35,000) at an
exercise price of $11.49 per share. Such options generally vest over five years,
and vesting ceases at the date the employee separates from service from the
Company (including retirement). No options were granted in 2003, 2004, 2005 or
first quarter 2006. See Notes 1 and 15.
Common stock dividends. KII paid $25.0 million in cash dividends to Kronos
during 2003, $60.0 million during 2004 and nil in 2005.
Notes receivable from affiliates - contra equity. In the fourth quarter of
2004, KII loaned an aggregate euro 163.1 million ($209.5 million) to Kronos in
return for two promissory notes. Interest on both notes is payable to KII on a
quarterly basis at an annual rate of 9.25%, such interest was and is expected to
be paid quarterly to the Company by Kronos. The notes mature on December 31,
F-17
2010, with all principal due at that date. The notes are unsecured, contain no
financial covenants and provide for default only upon Kronos' failure to pay any
amount when due (subject to a short grace period). Due to the long-term
investment nature of these notes, settlement of the principal balance of the
notes is not contemplated within the foreseeable future. The Company currently
expects that settlement of the principal amount of the notes will occur through
a capital transaction (i.e. a non-cash dividend to Kronos in the form of
distributing such notes receivable to Kronos). Accordingly, these notes
receivable have been classified as a separate component of the Company's
stockholder's equity in accordance with GAAP. Interest income on such notes,
which is expected to be paid quarterly, is recognized in income when earned.
Rather than make a distribution to Kronos in the form of a cash dividend, the
Company loaned the euro 163.1 million to Kronos pursuant to the two promissory
notes. Until such time as the notes are settled (which, as noted above, is
expected to be through a capital transaction in the form of a non-cash
dividend), the Company benefits from the interest income earned on the
promissory notes.
Cash flows related to principal amounts on such loans made to affiliates
included in contra equity are reflected in financing activities in the
accompanying Consolidated Statements of Cash Flows.
Note 9 - Securities transaction gain:
A securities transaction gain in 2005, classified as nonoperating income,
relates to the sale of the Company's passive interest in a Norwegian smelting
operation, which had a nominal carrying value for financial reporting purposes,
for aggregate consideration of approximately $5.4 million consisting of cash of
$3.5 million and inventory with a value of $1.9 million.
F-18
Note 10 - Income taxes:
Three months ended
Years ended December 31, March 31,
-------------------------------- --------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
(In millions)
Pre-tax income (loss):
Germany $ 45.8 $ 30.2 $ 64.3 $ 16.9 $ 9.9
Other non-U.S. 36.8 34.6 54.6 13.1 10.6
------ ------- ------- ------- -------
$ 82.6 $ 64.8 $ 118.9 $ 30.0 $ 20.5
====== ======= ======= ======= =======
Expected tax expense (benefit), at U.S.
federal statutory income tax rate of 35% $ 28.9 $ 22.7 $ 41.6 $ 10.5 $ 7.2
Non-U.S. tax rates (.9) .3 .5 .2 (.3)
Loss of German tax attribute - - 17.5
Nondeductible expenses 2.7 4.2 4.6 1.0 1.2
Change in deferred income tax valuation allowance, - -
net (6.7) (280.7) -
Tax contingency reserve adjustment, net 13.4 (4.6) (7.7) - -
Adjustment of prior year income taxes, net (38.0) (2.6) 2.1 - (.9)
Other, net 1.3 (.6) .5 - .2
------ ------- ------- ------- -------
$ .7 $(261.3) $ 59.1 $ 11.7 $ 7.4
====== ======= ======= ======= =======
Components of income tax expense (benefit):
Currently payable (refundable):
Germany $(56.9) $ (.2) $ 10.8 $ 2.1 $ 1.2
Other non - U.S. 18.9 12.9 17.5 4.2 4.2
------ ------- ------- ------- -------
(38.0) 12.7 28.3 6.3 5.4
------ ------- ------- ------- -------
Deferred income taxes (benefit):
Germany 44.4 (270.5) 31.2 5.6 3.0
Other non - U.S. (5.7) (3.5) (.4) (.2) (1.0)
------ ------- ------- ------- -------
38.7 (274.0) 30.8 5.4 2.0
------ ------- ------- ------- -------
$ .7 $(261.3) $ 59.1 $ 11.7 $ 7.4
====== ======= ======= ======= =======
Comprehensive provision for
income taxes (benefit) allocable to:
Net income $ .7 $(261.3) $ 59.1 $ 11.7 $ 7.4
Other comprehensive income -
pension liabilities (9.5) (8.1) (32.4) - -
------ ------- ------- ------- -------
$ (8.8) $(269.4) $ 26.7 $ 11.7 $ 7.4
====== ======= ======= ======= =======
The components of the net deferred tax liability at December 31, 2004 and
2005, and changes in the deferred income tax valuation allowance during the past
three years, are summarized in the following tables.
F-19
December 31,
---------------------------------------------------
2004 2005
----------------------- -----------------------
Assets Liabilities Assets Liabilities
------ ----------- ------ -----------
(In millions)
Tax effect of temporary differences
related to:
Inventories $ 1.5 $ (4.4) $ 1.6 $ (4.5)
Property and equipment 37.8 (22.9) 25.5 (20.5)
Accrued (prepaid) pension cost 19.4 (40.4) 51.9 (35.6)
Other accrued liabilities and
deductible differences 46.1 - 25.6 -
Other taxable differences - (43.5) - (28.6)
Investment in subsidiaries/affiliates
not in tax group 1.9 - - -
Tax loss and tax credit carryforwards 217.8 - 174.5 -
------ ------- ------ ------
Adjusted gross deferred tax assets
(liabilities) 324.5 (111.2) 279.1 (89.2)
Netting of items by tax jurisdiction (86.2) 86.2 (65.8) 65.8
------ ------- ------ ------
238.3 (25.0) 213.3 (23.4)
Less net current deferred tax -
asset (liability) - (2.7) (4.1)
------ ------- ------ ------
Net noncurrent deferred tax asset
(liability) $238.3 $ (22.3) $213.3 $(19.3)
====== ======= ====== ======
Years ended December 31,
--------------------------------
2003 2004 2005
---- ---- ----
(In millions)
Increase (decrease) in valuation allowance:
Recognition of certain deductible tax
attributes for which the benefit had not
previously been recognized under the
"more-likely-than-not" recognition criteria $ (6.7) $(280.7) $ -
Foreign currency translation 28.2 (3.0) -
Offset to the change in gross deferred
income tax assets due principally to
redeterminations of certain tax attributes
and implementation of certain tax
planning strategies (12.5) 121.0 -
------ ------- -------
$ 9.0 $(162.7) $ -
====== ======= =======
Certain of the Company's non-U.S. tax returns are being examined and tax
authorities have or may propose tax deficiencies, including non-income related
items and interest. For example:
o The Company received a preliminary tax assessment related to 1993 from the
Belgian tax authorities proposing tax deficiencies, including related
interest, of approximately euro 6 million ($7 million at December 31,
2005). The Company filed a protest to this assessment, and believes that a
significant portion of the assessment was without merit. The Belgian tax
authorities have filed a lien on the fixed assets of the Company's Belgian
TiO2 operations in connection with this assessment. In April 2003, Kronos
received a notification from the Belgian tax authorities of their intent to
assess a tax deficiency related to 1999 that, including interest, would
have aggregated approximately euro 9 million ($11 million). Kronos filed a
written response to the assessment, and in September 2005 the Belgian tax
authorities withdrew the assessment.
F-20
o The Norwegian tax authorities have notified the Company of their intent to
assess tax deficiencies of approximately kroner 12 million ($2 million)
relating to the years 1998 through 2000. The Company has objected to this
proposed assessment.
During the third quarter of 2005, the Company reached an agreement in
principle with the German tax authorities regarding such tax authorities'
objection to the value assigned to certain intellectual property rights held by
the Company's operating subsidiary in Germany. Under the agreement in principle,
the value assigned to such intellectual property for German income tax purposes
will be reduced retroactively, resulting in a reduction in the amount of the
Company's net operating loss carryforward in Germany as well as a future
reduction in the amount of amortization expense attributable to such
intellectual property. As a result, the Company recognized a $17.5 million
non-cash deferred income tax expense in the third quarter of 2005 related to
such agreement. The $7.7 million tax contingency adjustment income tax benefit
in the year ended December 31, 2005 relates primarily to the withdrawal of the
Belgium tax authorities' assessment related to 1999, as discussed above.
No assurance can be given that these tax matters will be resolved in the
Company's favor in view of the inherent uncertainties involved in settlement
initiatives and court and tax proceedings. The Company believes that it has
provided adequate accruals for additional taxes and related interest expense
which may ultimately result from all such examinations and believes that the
ultimate disposition of such examinations should not have a material adverse
effect on its consolidated financial position, results of operations or
liquidity.
At December 31, 2003, the Company had a significant amount of net operating
loss carryforwards for German corporate and trade tax purposes, all of which
have no expiration date. These net operating loss carryforwards were generated
by KII principally during the 1990's when KII had a significantly higher level
of outstanding indebtedness than is currently outstanding. For financial
reporting purposes, however, the benefit of such net operating loss
carryforwards had not previously been recognized because Kronos did not believe
they met the "more-likely-than-not" recognition criteria, and accordingly the
Company had a deferred income tax asset valuation allowance offsetting the
benefit of such net operating loss carryforwards and the Company's other tax
attributes in Germany. At the end of the second quarter of 2004, and based on
all available evidence, the Company concluded that the benefit of the net
operating loss carryforwards and other German tax attributes now met the
"more-likely-than-not" recognition criteria, and that reversal of the deferred
income tax asset valuation allowance related to Germany was appropriate. Given
the magnitude of the German net operating loss carryforwards and the fact that
current provisions of German law limit the annual utilization of net operating
loss carryforwards to 60% of taxable income after the first euro 1 million of
taxable income, KII believes it will take several years to fully utilize the
benefit of such loss carryforwards. However, given that the Company had
generated positive taxable income in Germany in recent years, combined with the
fact that the net operating loss carryforwards have no expiration date, the
Company concluded, among other reasons, that it was now appropriate to reverse
all of the valuation allowance related to the net operating loss carryforwards
because the benefit of such operating loss carryforwards now meet the
"more-likely-than-not" recognition criteria. Of the $280.7 million valuation
allowance related to Germany which was reversed during 2004, and in accordance
with the applicable GAAP related to accounting for income taxes at interim
periods, (i) $8.7 million was reversed during the first six months of 2004 that
related primarily to the utilization of the German net operating loss
carryforwards during such period, (ii) $268.6 million was reversed as of June
30, 2004 and (iii) $3.4 million was reversed during the last six months of 2004.
F-21
In the first quarter of 2003, KII was notified by the German Federal Fiscal
Court that the Court had ruled in KII's favor concerning a claim for refund suit
in which KII sought refunds of prior taxes paid during the periods 1990 through
1997. KII and KII's German operating subsidiary were required to file amended
tax returns with the German tax authorities to receive refunds for such years,
and all of such amended returns were filed during 2003. Such amended returns
reflected an aggregate net refund of taxes and related interest to KII and its
German operating subsidiary of euro 26.9 million ($32.1 million), and the
Company recognized the benefit of these net refunds in its 2003 results of
operations. For the year ended December 31, 2004, the Company recognized a net
refund of euro 2.5 million ($3.1 million) related to additional net interest
which has accrued on the outstanding refund amount. In 2004, KII and its German
operating subsidiary had received net refunds of euro 35.6 million ($44.7
million when received). All refunds relating to the periods 1990 to 1997 were
received by December 31, 2004. In addition to the refunds for the 1990 to 1997
periods, the court ruling also resulted in a refund of 1999 income taxes and
interest, and the Company recognized euro 21.5 million ($24.6 million) in 2003.
At December 31, 2005, the net operating loss carryforwards for German
corporate and trade tax purposes aggregated the equivalent of $593 million and
$104 million, respectively, all of which have no expiration date.
In October 2004, the American Jobs Creation Act of 2004 was enacted into
law. The new law provided for a special 85% deduction for certain dividends
received from a controlled foreign corporation in 2005. In the third quarter of
2005, the Company completed its evaluation of this new provision and determined
that it would not benefit from such special dividends received deduction.
Note 11 - Employee benefit plans:
The Company maintains various defined benefit pension plans. Employees are
covered by plans in their respective countries. Variances from actuarially
assumed rates will result in increases or decreases in accumulated pension
obligations, pension expense and funding requirements in future periods. In 2002
the Company amended its defined benefit pension plans for KEU, TAS and TIA to
exclude the admission of new employees to the plans. New employees at these
locations are eligible to participate in Company-sponsored defined contribution
plans. The Company's expense related to the Company-sponsored defined
contribution plans was not material in 2004 or 2005. At December 31, 2005, the
Company currently expects to contribute the equivalent of approximately $12
million to all of its defined benefit pension plans during 2006.
The funded status of the Company's defined benefit pension plans, the
components of net periodic defined benefit pension cost related to the Company's
consolidated business segments and charged to continuing operations and the
rates used in determining the actuarial present value of benefit obligations are
presented in the tables below. The Company uses a September 30th measurement
date for their defined benefit pension plans.
F-22
Years ended December 31,
---------------------------
2004 2005
---- ----
(In thousands)
Change in projected benefit obligations ("PBO"):
Benefit obligations at beginning of the year $ 272,204 $ 307,582
Service cost 5,398 5,885
Interest cost 14,132 14,038
Participant contributions 1,362 1,469
Actuarial losses 3,134 84,365
Change in foreign currency exchange rates 26,588 (43,954)
Benefits paid (15,236) (16,808)
--------- ---------
Benefit obligations at end of the year $ 307,582 $ 352,577
========= =========
Change in plan assets:
Fair value of plan assets at beginning of the year $ 167,302 $ 196,573
Actual return on plan assets 14,175 7,132
Employer contributions 11,726 13,323
Participant contributions 1,362 1,469
Change in foreign currency exchange rates 17,244 (24,793)
Benefits paid (15,236) (16,808)
--------- ---------
Fair value of plan assets at end of year $ 196,573 $ 176,896
========= =========
Funded status at end of the year:
Plan assets less than PBO $(111,009) $(175,681)
Unrecognized actuarial losses 107,581 175,482
Unrecognized prior service cost 6,829 5,550
Unrecognized net transition obligations 952 749
--------- ---------
$ 4,353 $ 6,100
========= =========
Amounts recognized in the balance sheet:
Unrecognized net pension obligations $ 7,524 $ 6,108
Accrued pension costs:
Current (8,587) (10,314)
Noncurrent (48,441) (125,766)
Accumulated other comprehensive loss 53,857 136,072
--------- ---------
$ 4,353 $ 6,100
========= =========
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
(In thousands)
Net periodic pension cost:
Service cost benefits $ 4,060 $ 5,398 $ 5,885 $ 1,616 $ 1,317
Interest cost on PBO 12,378 14,132 14,038 3,692 3,592
Expected return on plan assets (12,264) (12,318) (12,051) (3,204) (2,661)
Amortization of prior service cost 255 463 482 126 81
Amortization of net transition
obligations 527 368 107 81 58
Recognized actuarial losses 827 2,335 3,035 794 1,838
-------- -------- -------- -------- --------
$ 5,783 $ 10,378 $ 11,496 $ 3,105 $ 4,225
======== ======== ======== ======== ========
In determining the expected long-term rate of return on plan asset
assumptions, the Company considers the long-term asset mix (e.g. equity vs.
fixed income) for the assets for each of its plans and the expected long-term
rates of return for such asset components. In addition, the Company receives
advice about appropriate long-term rates of return from the Company's
third-party actuaries. Such assumed asset mixes are summarized below:
F-23
o In Germany, the composition of the Company's plan assets is established to
satisfy the requirements of the German insurance commissioner. The plan
asset allocation at December 31, 2005 was 23% to equity managers, 48% to
fixed income managers and 29% to real estate (2004 - 23%, 48% and 29%,
respectively).
o In Norway, the Company currently has a plan asset target allocation of 14%
to equity managers, 64% to fixed income managers and the remainder
primarily to liquid investments and cash. The expected long-term rate of
return for such investments is approximately 8% and 4.5% to 6% and 2.5%,
respectively. The plan asset allocation at December 31, 2005 was 16% to
equity managers, 62% to fixed income managers and the remainder invested
primarily to cash and liquid investments (2004 - 16%, 64% and 20%,
respectively).
The Company regularly reviews its actual asset allocation for each of its
plans, and will periodically rebalance the investments in each plan to more
accurately reflect the targeted allocation when considered appropriate.
The weighted-average rate assumptions used in determining the actuarial
present value of benefit obligations as of December 31, 2004 and 2005 are
presented in the table below. Such weighted-average rates were determined using
the projected benefit obligations at each date.
December 31,
------------------------
Rate 2004 2005
---- ---- ----
Discount rate 5.0% 4.1%
Increase in future compensation levels 2.8% 2.8%
The weighted-average rate assumptions used in determining the net periodic
pension cost for 2003, 2004 and 2005 are presented in the table below. The
weighted-average discount rate and the weighted-average increase in future
compensation levels were determined using the projected benefit obligations as
of the beginning of each year, and the weighted-average long-term return on plan
assets was determined using the fair value of plan assets as of the beginning of
each year.
December 31,
----------------------------------------
Rate 2003 2004 2005
---- ---- ---- ----
Discount rate 5.8% 5.3% 5.0%
Increase in future compensation levels 2.6% 2.8% 2.8%
Long-term return on plan assets 6.9% 6.4% 6.0%
At December 31, 2005, the accumulated benefit obligation related to the
Company's defined benefit pension plans aggregated $316 million (2004 - $257
million). At December 31, 2004 and 2005, all of the Company's defined benefit
pension plans have accumulated benefit obligations in excess of fair value of
plan assets.
The Company expects future benefits paid from all defined benefit pension
plans to be as follows:
Amount
Years ending December 31, (In thousands)
--------------
2006 $ 17,287
2007 16,277
2008 18,033
2009 16,764
2010 16,937
2011 to 2012 90,812
F-24
Note 12 - Related party transactions:
The Company may be deemed to be controlled by Harold C. Simmons. See Note
1. Corporations that may be deemed to be controlled by or affiliated with Mr.
Simmons sometimes engage in (a) intercorporate transactions such as guarantees,
management and expense sharing arrangements, shared fee arrangements, joint
ventures, partnerships, loans, options, advances of funds on open account, and
sales, leases and exchanges of assets, including securities issued by both
related and unrelated parties and (b) common investment and acquisition
strategies, business combinations, reorganizations, recapitalizations,
securities repurchases, and purchases and sales (and other acquisitions and
dispositions) of subsidiaries, divisions or other business units, which
transactions have involved both related and unrelated parties and have included
transactions which resulted in the acquisition by one related party of a
publicly-held minority equity interest in another related party. While no
transactions of the type described above are planned or proposed with respect to
the Company other than as set forth in these financial statements, the Company
continuously considers, reviews and evaluates, and understands that Contran and
related entities consider, review and evaluate such transactions. Depending upon
the business, tax and other objectives then relevant, it is possible that the
Company might be a party to one or more such transactions in the future.
Under the terms of various intercorporate services agreements ("ISAs")
entered into between the Company and various related parties, including Contran,
employees of one company will provide certain management, tax planning,
financial and administrative services to the other company on a fee basis. Such
charges are based upon estimates of the time devoted by the employees of the
provider of the services to the affairs of the recipient, and the compensation
and associated expenses of such persons. Because of the large number of
companies affiliated with Contran, Kronos and NL, the Company believes it
benefits from cost savings and economies of scale gained by not having certain
management, financial and administrative staffs duplicated at each entity, thus
allowing certain individuals to provide services to multiple companies but only
be compensated by one entity. These ISA agreements are reviewed and approved by
the applicable independent directors of the companies that are parties to the
agreements. The net ISA fee charged to the Company and included in selling,
general and administrative expense was $1.5 million in 2003, $2.8 million in
2004 and $2.9 million in 2005.
Sales of TiO2 to Kronos (US), Inc. ("KUS") and Kronos Canada, Inc. ("KC"),
affiliates of the Company, aggregated $68.7 million in 2003, $50.8 million in
2004 and $63.6 million in 2005.
KUS purchases the rutile and slag feedstock used as a raw material in all
of the Company's chloride process TiO2 facilities. The Company purchases such
feedstock from KUS for use in its facilities for an amount equal to the amount
paid by KUS to the third-party supplier plus a 2.5% administrative fee. Such
feedstock purchases were $93.3 million in 2003, $106.2 million in 2004 and
$120.1 million in 2005.
Purchases of TiO2 from KUS were $100,000 in 2003, $3.5 million in 2004 and
nil in 2005. Purchases of TiO2 from KC were $500,000 in 2003, $700,000 in 2004
and $600,000 in 2005.
Royalty income received from KC for use of certain of the Company's
intellectual property was $6.1 million in 2003, $6.0 million in 2004 and $6.8
million in 2005.
Tall Pines Insurance Company, and EWI RE, Inc. provide for or broker
certain insurance policies for Contran and certain of its subsidiaries and
affiliates, including the Company. Tall Pines is wholly-owned by a subsidiary of
Valhi, and EWI is a wholly-owned subsidiary of NL. Consistent with insurance
industry practices, Tall Pines and EWI receive commissions from insurance and
F-25
reinsurance underwriters and/or assess fees for the policies that they provide
or broker. The aggregate premiums paid to Tall Pines (including amounts paid to
Valmont Insurance Company, another subsidiary of Valhi that was merged into Tall
Pines in 2004) and EWI by the Company and its joint venture were $5.2 million in
2003, $5.3 million in 2004 and $5.5 million in 2005. These amounts principally
included payments for insurance and reinsurance premiums paid to third parties,
but also included commissions paid to Tall Pines and EWI. Tall Pines purchases
reinsurance for substantially all of the risks it underwrites. The Company
expects that these relationships with Tall Pines and EWI will continue in 2006.
Contran and certain of its subsidiaries and affiliates, including the
Company, purchase certain of their insurance policies as a group, with the costs
of the jointly-owned policies being apportioned among the participating
companies. With respect to certain of such policies, it is possible that
unusually large losses incurred by one or more insureds during a given policy
period could leave the other participating companies without adequate coverage
under that policy for the balance of the policy period. As a result, Contran and
certain of its subsidiaries and its affiliates, including the Company, have
entered into a loss sharing agreement under which any uninsured loss is shared
by those entities who have submitted claims under the relevant policy. The
Company believes the benefits in the form of reduced premiums and broader
coverage associated with the group coverage for such policies justifies the risk
associated with the potential for uninsured loss.
Net amounts between the Company and KUS were generally related to product
sales and raw material purchases. Net amounts between the Company and KC were
generally related to product sales and royalties. See Note 8 for discussion of
notes receivable from affiliates.
Current receivables from and payables to affiliates are summarized in the
table below.
December 31, March 31,
------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Current receivables from affiliates:
KC $ 2,516 $ 1,948 $ 2,679
KUS - - 1,538
Other 1 4 -
-------- -------- --------
$ 2,517 $ 1,952 $ 4,217
======== ======== ========
Current payables to affiliates:
KUS $ 11,033 $ 14,882 $ -
Kronos - - 84
NL 9 - -
-------- -------- --------
$ 11,042 $ 14,882 $ 84
======== ======== ========
Interest income on all loans to related parties was less than $50,000 in
2003, $2.8 million in 2004 and $18.9 million in 2005. Interest expense on all
loans from related parties was less than $100,000 in 2003 and nil in each of
2004 and 2005.
Note 13 - Commitments and contingencies:
Environmental matters. The Company's operations are governed by various
environmental laws and regulations. Certain of the Company's businesses are, or
have been engaged in the handling, manufacture or use of substances or compounds
that may be considered toxic or hazardous within the meaning of applicable
environmental laws. As with other companies engaged in similar businesses,
F-26
certain past and current operations and products of the Company have the
potential to cause environmental or other damage. The Company has implemented
and continues to implement various policies and programs in an effort to
minimize these risks. The Company's policy is to maintain compliance with
applicable environmental laws and regulations at all its facilities and to
strive to improve its environmental performance. From time to time, the Company
may be subject to environmental regulatory enforcement under various statutes,
resolution of which typically involves the establishment of compliance programs.
It is possible that future developments, such as stricter requirements of
environmental laws and enforcement policies thereunder, could adversely affect
the Company's production, handling, use, storage, transportation, sale or
disposal of such substances. The Company believes all its plants are in
substantial compliance with applicable environmental laws.
Litigation matters. The Company's Belgian subsidiary and certain of its
employees are the subject of civil and criminal proceedings relating to an
accident that resulted in two fatalities at the Company's Belgian facility in
2000. In May 2004, the court ruled and, among other things, imposed a fine of
euro 200,000 against the Company and fines aggregating less than euro 40,000
against various Company employees. The Company and the individual employees have
appealed the ruling.
In addition to the litigation described above, the Company and its
affiliates are also involved in various other environmental, contractual,
product liability, patent (or intellectual property), employment and other
claims and disputes incidental to its present and former businesses.
The Company currently believes the disposition of all claims and disputes,
individually or in the aggregate, should not have a material adverse effect on
its consolidated financial condition, results of operations or liquidity.
Concentrations of credit risk. Sales of TiO2 accounted for about 90% of net
sales during each of the past three years. The remaining sales result from the
mining and sale of ilmenite ore (a raw material used in the sulfate pigment
production process), and the manufacture and sale of iron-based water treatment
chemicals (derived from co-products of the TiO2 production processes). TiO2 is
generally sold to the paint, plastics and paper industries. Such markets are
generally considered "quality-of-life" markets whose demand for TiO2 is
influenced by the relative economic well-being of the various geographic
regions. TiO2 is sold to over 3,000 customers, with the top ten customers
approximating 20%, 21%, and 20% respectively of net sales in 2003, 2004 and
2005. Approximately 73% of the Company's TiO2 sales by volume were to Europe in
2003, approximately 77% were to Europe in 2004 and approximately 76% were to
Europe in 2005. Approximately 13% of sales by volume were attributable to North
America in 2003, 9% attributable to North America in 2004 and 10% attributable
to North America in 2005.
Long-term contracts. KUS has long-term supply contracts that provide for
certain of its affiliates', including the Company's, TiO2 feedstock requirements
through 2010. The agreements require KUS to purchase certain minimum quantities
of feedstock with minimum annual purchase commitments aggregating approximately
$681 million at December 31, 2005. The agreements require that the Company and
certain of its affiliates purchase chloride feedstock underlying these long-term
supply contracts from KUS.
Operating leases. The Company's principal German operating subsidiary
leases the land under its Leverkusen TiO2 production facility pursuant to a
lease with Bayer AG that expires in 2050. The Leverkusen facility itself, which
is owned by the Company and which represents approximately one-half of the
F-27
Company's current TiO2 production capacity, is located within Bayer's extensive
manufacturing complex. Rent for the land lease associated with the Leverkusen
facility is periodically established by agreement with Bayer for periods of at
least two years at a time. The lease agreement provides for no formula, index or
other mechanism to determine changes in the rent for such land lease; rather,
any change in the rent is subject solely to periodic negotiation between Bayer
and the Company. Any change in the rent based on such negotiations is recognized
as part of lease expense starting from the time such change is agreed upon by
both parties, as any such change in the rent is deemed "contingent rentals"
under GAAP. Under a separate supplies and services agreement expiring in 2011,
the lessor provides some raw materials, including chlorine, auxiliary and
operating materials, utilities and services necessary to operate the Leverkusen
facility.
The Company also leases various other manufacturing facilities and
equipment. Some of the leases contain purchase and/or various term renewal
options at fair market and fair rental values, respectively. In most cases the
Company expects that, in the normal course of business, such leases will be
renewed or replaced by other leases. Net rent expense approximated $9 million in
2003 and $8 million in each of 2004 and 2005. At December 31, 2005, future
minimum payments under noncancellable operating leases having an initial or
remaining term of more than one year were as follows:
Amount
Years ending December 31, (In thousands)
--------------
2006 $ 3,328
2007 2,411
2008 2,150
2009 1,562
2010 1,126
2011 and thereafter 21,029
-------
$31,606
=======
Approximately $20.1 million of the $31.6 million aggregate future minimum
rental commitments at December 31, 2005 relates to the Company's Leverkusen
facility lease discussed above. The minimum commitment amounts for such lease
included in the table above for each year through the 2050 expiration of the
lease are based upon the current annual rental rate as of December 31, 2005. As
discussed above, any change in the rent is based solely on negotiations between
Bayer and the Company, and any such change in the rent is deemed "contingent
rentals" under GAAP which is excluded from the future minimum lease payments
disclosed above.
Income taxes. Contran and Valhi have agreed to a policy providing for the
allocation of tax liabilities and tax payments as described in Note 1. Under
applicable law, the Company, as well as every other member of the Contran Tax
Group, are each jointly and severally liable for the aggregate federal income
tax liability of Contran and the other companies included in the Contran Tax
Group for all periods in which the Company is included in the Contran Tax Group.
Contran has agreed, however, to indemnify the Company for any liability for
income taxes of the Contran Tax Group in excess of the Company's tax liability
previously computed and paid by Valhi in accordance with the tax allocation
policy.
Note 14 - Financial instruments:
Summarized below is the estimated fair value and related net carrying value
of the Company's financial instruments.
F-28
December 31, December 31,
2004 2005
---------------------- ----------------------
Carrying Fair Carrying Fair
amount value amount value
--------- -------- ---------- -------
(In millions)
Cash, cash equivalents, restricted cash and current and
noncurrent restricted marketable debt securities $ 21.9 $ 21.9 $ 67.2 $ 67.2
Long-term debt:
Fixed rate with market quotes -
8.875% Senior Secured Notes $519.2 $ 549.1 $449.3 $ 463.6
Variable rate debt 13.6 13.6 - -
Fair value of the Company's noncurrent restricted marketable debt
securities and 8.875% Senior Secured Notes are based upon quoted market prices
at each balance sheet date.
Note 15 - Accounting principles newly adopted in 2003, 2004 and 2006:
Asset retirement obligations. The Company adopted SFAS No. 143, "Accounting
for Asset Retirement Obligations," on January 1, 2003. Under SFAS No. 143, the
fair value of a liability for an asset retirement obligation covered under the
scope of SFAS No. 143 is recognized in the period in which the liability is
incurred, with an offsetting increase in the carrying amount of the related
long-lived asset. Over time, the liability would be accreted to its present
value, and the capitalized cost is depreciated over the useful life of the
related asset. Upon settlement of the liability, an entity either settles the
obligation for its recorded amount or incurs a gain or loss upon settlement.
Under the transition provisions of SFAS No. 143, at the date of adoption on
January 1, 2003 the Company recognized (i) an asset retirement cost capitalized
as an increase to the carrying value of its property, plant and equipment, (ii)
accumulated depreciation on such capitalized cost and (iii) a liability for the
asset retirement obligation. Amounts resulting from the initial application of
SFAS No. 143 are measured using information, assumptions and interest rates all
as of January 1, 2003. The amount recognized as the asset retirement cost is
measured as of the date the asset retirement obligation was incurred. Cumulative
accretion on the asset retirement obligation, and accumulated depreciation on
the asset retirement cost, is recognized for the time period from the date the
asset retirement cost and liability would have been recognized had the
provisions of SFAS No. 143 been in effect at the date the liability was
incurred, through January 1, 2003. The difference, if any, between the amounts
to be recognized as described above and any associated amounts recognized in the
Company's balance sheet as of December 31, 2002 is recognized as a cumulative
effect of a change in accounting principles as of the date of adoption. The
effect of adopting SFAS No. 143 as of January 1, 2003 was not material, as
summarized in the table below, and is not separately recognized in the
accompanying Statement of Income.
Amount
(in millions)
-------------
Increase in carrying value of net property, plant and equipment:
Cost $ .4
Accumulated depreciation (.1)
Decrease in carrying value of previously-accrued closure and
post-closure activities .3
Asset retirement obligation recognized (.6)
----
Net impact $ -
====
F-29
The change in the asset retirement obligations from January 1, 2003
($600,000) to December 31, 2003 ($800,000), to December 31, 2004 ($1 million)
and to December 31, 2005 ($900,000) is primarily due to accretion expense and
the effects of currency translation. Accretion expense, which is reported as a
component of cost of goods sold in the accompanying Consolidated Statement of
Operations, approximated $100,000 for each of the years ended December 31, 2003,
2004 and 2005.
Estimates of the ultimate cost to be incurred to settle the Company's asset
retirement obligations require a number of assumptions, are inherently difficult
to develop and the ultimate outcome may differ from current estimates. As
additional information becomes available, cost estimates will be adjusted as
necessary. It is possible that technological, regulatory or enforcement
developments, the results of studies or other factors could necessitate the
recording of additional liabilities.
Costs associated with exit or disposal activities. The Company adopted SFAS
No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," on
January 1, 2003 for exit or disposal activities initiated on or after that date.
Under SFAS No. 146, costs associated with exit activities, as defined, that are
covered by the scope of SFAS No. 146 will be recognized and measured initially
at fair value, generally in the period in which the liability is incurred. Costs
covered by the scope of SFAS No. 146 include termination benefits provided to
employees, costs to consolidate facilities or relocate employees, and costs to
terminate contracts (other than a capital lease). Under prior GAAP, a liability
for such an exit cost is recognized at the date an exit plan is adopted, which
may or may not be the date at which the liability has been incurred. The effect
of adopting SFAS No. 146 as of January 1, 2003 was not material as the Company
was not involved in any exit or disposal activities covered by the scope of the
new standard as of such date.
Variable interest entities. The Company complied with the consolidation
requirements of FASB Interpretation ("FIN") No. 46R, "Consolidation of Variable
Interest Entities, an interpretation of ARB No. 51," as amended, as of March 31,
2004. The Company does not have any involvement with any variable interest
entity (as that term is defined in FIN No. 46R) covered by the scope of FIN No.
46R that would require the Company to consolidate such entity under FIN No. 46R
which had not already been consolidated under prior applicable GAAP, and
therefore the impact to the Company of adopting the consolidation requirements
of FIN No. 46R was not material.
Inventory costs. The Company adopted SFAS No. 151, "Inventory Costs, an
amendment of ARB No. 43, Chapter 4," as of January 1, 2006 for inventory costs
incurred on or after such date. SFAS No. 151 requires that the allocation of
fixed production overhead costs to inventory shall be based on normal capacity.
Normal capacity is not defined as a fixed amount; rather, normal capacity refers
to a range of production levels expected to be achieved over a number of periods
under normal circumstances, taking into account the loss of capacity resulting
from planned maintenance shutdowns. The amount of fixed overhead allocated to
each unit of production is not increased as a consequence of idle plant or
production levels below the low end of normal capacity, but instead a portion of
fixed overhead costs is charged to expense as incurred. Alternatively, in
periods of production above the high end of normal capacity, the amount of fixed
overhead costs allocated to each unit of production is decreased so that
inventories are not measured above cost. SFAS No. 151 also clarifies existing
GAAP to require that abnormal freight and wasted materials (spoilage) are to be
expensed as incurred. The Company's production cost accounting had already
complied with the requirements of SFAS No. 151, and therefore adoption of SFAS
No. 151 did not have a material effect on its consolidated financial statements.
F-30
Stock options. As permitted by regulations of the Securities and Exchange
Commission ("SEC") the Company adopted SFAS No. 123R, as of January 1, 2006.
SFAS No. 123R, among other things, eliminates the alternative in existing GAAP
to use the intrinsic value method of accounting for stock-based employee
compensation under APBO No. 25. The Company is now generally required to
recognize the cost of employee services received in exchange for an award of
equity instruments based on the grant-date fair value of the award, with the
cost recognized over the period during which an employee is required to provide
services in exchange for the award (generally, the vesting period of the award).
No compensation cost will be recognized in the aggregate for equity instruments
for which the employee does not render the requisite service (generally, if the
instrument is forfeited before it has vested). The grant-date fair value will be
estimated using option-pricing models (e.g. Black-Scholes or a lattice model).
Under the transition alternatives permitted under SFAS No. 123R, the Company
will apply the new standard to all new awards granted on or after January 1,
2006, and to all awards existing as of December 31, 2005 which are subsequently
modified, repurchased or cancelled (referred to as the modified prospective
method in SFAS No. 123R). Additionally, as of January 1, 2006, the Company
recognizes compensation cost for the portion of any non-vested award existing as
of December 31, 2005 over the remaining vesting period. Because the number of
non-vested awards as of December 31, 2005 with respect to options granted by NL
to employees of the Company was not material, the effect of adopting SFAS No.
123R in so far as it relates to existing stock options, did not have a material
effect on the Company's consolidated financial statements. Should the Company or
its subsidiaries and affiliates, however, either grant a significant number of
options to employees of the Company or modify, repurchase or cancel existing
options in the future, the effect on the Company's consolidated financial
statements could be material.
Under the requirements of SFAS 123R, the cash income tax benefit resulting
from the exercise of stock options in excess of the cumulative income tax
benefit related to such options previously recognized for GAAP financial
reporting purposes in the Company's consolidated statements of income, if any,
is reflected as a cash inflow from financing activities in the Company's
consolidated statements of cash flows, and the Company's cash flows from
operating activities reflects the effect of cash paid for income taxes exclusive
of such cash income tax benefit. The aggregate amount of such income tax
benefits recognized as a component of cash flows from financing activities was
nil in the first quarter of 2006.
SFAS No. 123R also requires certain expanded disclosures regarding the
Company's stock options, and such expanded disclosures have been provided in
Note 8.
Certain employees of the Company have been granted options by NL to
purchase NL common stock. Prior to January 1, 2006, the Company accounted for
stock-based employee compensation in accordance with APBO No. 25, and its
various interpretations. Under APBO No. 25, no compensation cost is generally
recognized for fixed stock options in which the exercise price is greater than
or equal to the market price on the grant date. Prior to 2005, and following the
cash settlement of certain stock options held by employees of NL and the
Company, the Company commenced accounting for its stock options using the
variable accounting method of APBO No. 25 because the Company could not overcome
the presumption that it would not similarly cash settle the remaining stock
options. Under the variable accounting method, the intrinsic value of all
unexercised stock options (including stock options with an exercise price at
least equal to the market price on the date of grant) is accrued as an expense,
with subsequent increases (decreases) in the Company's market price resulting in
the recognition of additional compensation expense (income). Following adoption
of SFAS No. 123R effective January 1, 2006, the Company will continue to account
for NL's remaining stock options in a manner similar to the variable accounting
method of APBO No. 25, as required by the guidance of SFAS No. 123R.
F-31
Aggregate compensation expense related to NL stock options held by
employees of the Company was $300,000 in 2003 and $1.0 million in 2004, and
compensation income was $600,000 in 2005. Aggregate compensation expense was
approximately $100,000 in the first quarter of 2005 and aggregate compensation
income was approximately $200,000 in the first quarter of 2006. The total income
tax benefit related to such compensation cost recognized by the Company was
approximately $100,000 in 2003 and $400,000 in 2004, and the total income tax
provision related to the compensation income was $200,000 in 2005. No
compensation cost was capitalized as part of assets (inventory or fixed assets)
during 2003, 2004, 2005 and 2006. If the Company and its subsidiaries had each
elected to account for their respective stock-based employee compensation
related to stock options in accordance with the fair value-based recognition
provisions of SFAS No. 123, for all awards granted subsequent to January 1,
1995, the effect on the Company's results of operations in 2003, 2004, 2005 and
2006 would not have been material.
Note 16 - Quarterly results of operations (unaudited):
Quarter ended
--------------------------------------------------------
March 31 June 30 Sept. 30 Dec. 31
-------- ------- -------- -------
(In millions)
Year ended December 31, 2004
Net sales $ 192.2 $ 208.1 $ 203.4 $ 204.3
Gross margin $ 49.6 $ 51.8 $ 47.3 $ 49.7
Net income $ 13.2 $ 290.5 $ 9.1 $ 13.2
Year ended December 31, 2005
Net sales $ 209.5 $ 227.6 $ 206.0 $ 207.8
Gross margin $ 62.4 $ 70.5 $ 55.2 $ 49.6
Net income $ 18.2 $ 28.5 $ 6.4 $ 6.7
Year ending December 31, 2006
Net sales $ 208.6
Gross margin $ 53.0
Net income $ 13.1
F-32
KRONOS TITAN GMBH AND SUBSIDIARY
Index of Consolidated Financial Statements
Financial Statements Pages
Report of Independent Registered Public Accounting Firm FA-2
Consolidated Balance Sheets - December 31, 2004 and 2005;
March 31, 2006 (unaudited) FA-3
Consolidated Statements of Income - Years ended
December 31, 2003, 2004 and 2005;
Three months ended March 31, 2005 and 2006 (unaudited) FA-5
Consolidated Statements of Comprehensive Income (Loss) -
Years ended December 31, 2003, 2004 and 2005;
Three months ended March 31, 2005 and 2006 (unaudited) FA-6
Consolidated Statements of Partners' Capital/Owners'
Equity - Years ended December 31, 2003, 2004 and 2005;
Three months ended March 31, 2006 (unaudited) FA-7
Consolidated Statements of Cash Flows - Years ended
December 31, 2003, 2004 and 2005;
Three months ended March 31, 2005 and 2006 (unaudited) FA-8
Notes to Consolidated Financial Statements FA-10
FA-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Owner of Kronos Titan GmbH:
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of income, comprehensive income (loss),
partners' capital/owners' equity and cash flows present fairly, in all material
respects, the financial position of Kronos Titan GmbH and Subsidiary at December
31, 2004 and 2005, and the results of their operations and their cash flows for
each of the three years in the period ended December 31, 2005 in conformity with
accounting principles generally accepted in the United States of America. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with the
standards of the Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
PricewaterhouseCoopers LLP
Dallas, Texas
March 28, 2006
FA-2
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(In thousands)
December 31, March 31,
------------------------ -----------
ASSETS 2004 2005 2006
---- ---- ----
(unaudited)
Current assets:
Cash and cash equivalents $ 6,444 $ 50,765 $ 45,458
Accounts and notes receivable, net 76,732 73,059 101,097
Receivable from affiliates 32,355 43,021 33,074
Refundable income taxes 59 14,695 14,035
Inventories 101,850 113,677 113,353
Prepaid expenses 2,078 1,629 3,035
-------- -------- --------
Total current assets 219,518 296,846 310,052
-------- -------- --------
Other assets:
Note receivable from Kronos Titan A/S 5,449 - -
Unrecognized net pension obligations 3,672 3,000 3,045
Deferred income taxes 18,077 47,044 43,020
Other 1,201 808 853
-------- -------- --------
Total other assets 28,399 50,852 46,918
-------- -------- --------
Property and equipment:
Land 14,929 13,460 13,661
Buildings 111,349 101,151 104,304
Machinery and equipment 496,428 434,895 446,896
Construction in progress 10,022 9,853 3,444
-------- -------- --------
632,728 559,359 568,305
-------- -------- --------
Less accumulated depreciation and depletion 373,938 332,840 340,892
-------- -------- --------
Net property and equipment 258,790 226,519 227,413
-------- -------- --------
$506,707 $574,217 $584,383
======== ======== ========
FA-3
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS (CONTINUED)
(In thousands)
December 31, March 31,
------------------------ -----------
LIABILITIES AND OWNERS' EQUITY 2004 2005 2006
---- ---- ----
(unaudited)
Current liabilities:
Accounts payable and accrued liabilities $ 76,952 $ 71,987 $ 73,878
Payables to affiliates 35,260 75,447 72,543
Deferred income taxes 1,912 3,508 1,010
--------- --------- ---------
Total current liabilities 114,124 150,942 147,431
--------- --------- ---------
Noncurrent liabilities:
Note payable to affiliate 12,941 11,239 11,407
Accrued pension cost 45,015 120,872 120,679
Other 12,193 13,047 13,380
--------- --------- ---------
Total noncurrent liabilities 70,149 145,158 145,466
--------- --------- ---------
Owners' equity:
Subscribed capital 12,496 12,496 12,496
Paid in capital 227,037 227,037 227,037
Retained earnings (deficit) (9,685) 42,548 50,712
Accumulated other comprehensive income (loss):
Currency translation 111,996 68,897 74,102
Pension liabilities (19,410) (72,861) (72,861)
--------- --------- ---------
Total owners' equity 322,434 278,117 291,486
--------- --------- ---------
$ 506,707 $ 574,217 $ 584,383
========= ========= =========
Commitments and contingencies (Notes 6, 9 and 12)
See accompanying notes to consolidated financial statements.
FA-4
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(In thousands)
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
Net sales $487,337 $552,216 $584,219 $142,774 $145,819
Cost of sales 379,187 451,888 462,558 110,460 119,744
-------- -------- -------- -------- --------
Gross margin 108,150 100,328 121,661 32,314 26,075
Selling, general and administrative expense 42,925 47,824 50,140 12,751 12,962
Other operating income (expense):
Currency transaction gains (losses), net (3,519) (2,533) 3,906 854 (908)
Disposition of property and equipment (390) (293) (1,080) (40) (452)
-------- -------- -------- -------- --------
Income from operations 61,316 49,678 74,347 20,377 11,753
Other income (expense):
Trade interest income 447 949 733 49 410
Interest and other income from affiliates 3,918 8,813 13,224 3,380 1,495
Interest and other expense to affiliates (442) (304) (791) (150) (80)
Interest expense (368) (651) (595) (60) (61)
-------- -------- -------- -------- --------
Income before income taxes 64,871 58,485 86,918 23,596 13,517
Income tax provision (benefit) (205,670) 17,507 34,685 9,283 5,353
-------- -------- -------- -------- --------
Net income $270,541 $ 40,978 $ 52,233 $ 14,313 $ 8,164
======== ======== ======== ======== ========
See accompanying notes to consolidated financial statements.
FA-5
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(In thousands)
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
Net income $270,541 $ 40,978 $ 52,233 $ 14,313 $ 8,164
-------- -------- -------- -------- --------
Other comprehensive income (loss), net of tax:
Minimum pension liabilities adjustment (17,946) 4,400 (53,451) - -
Currency translation adjustment 37,674 36,472 (43,099) (13,747) 5,205
-------- -------- -------- -------- --------
Total other comprehensive income 19,728 40,872 (96,550) (13,747) 5,205
-------- -------- -------- -------- --------
Comprehensive income (loss) $290,269 $ 81,850 $(44,317) $ 566 $ 13,369
======== ======== ======== ======== ========
See accompanying notes to consolidated financial statements.
FA-6
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF PARTNERS' CAPITAL / OWNERS' EQUITY
Years ended December 31, 2003, 2004 and 2005
and three months ended March 31, 2006 (unaudited)
(In thousands)
Accumulated other
comprehensive
Owners' Equity income (loss)
Partners' --------------------- Retained ---------------------------
capital Subscribed Paid-in earnings Currency Pension
(deficit) capital capital (deficit) translation liabilities Total
---------- ---------- -------- ---------- ----------- ----------- -------
Balance at December 31, 2002 $ 118,589 $ - $ - $ - $ 37,850 $ (5,864) $150,575
Net income 270,541 - - - - - 270,541
Other comprehensive income (loss), net of tax - - - - 37,674 (17,946) 19,728
Partnership conversion (389,130) 12,496 376,634 - - - -
--------- -------- -------- -------- -------- --------- --------
Balance at December 31, 2003 - 12,496 376,634 - 75,524 (23,810) 440,844
Net income - - - 40,978 - - 40,978
Dividends declared - - - (50,663) - - (50,663)
Other comprehensive income, net of tax - - - - 36,472 4,400 40,872
Noncash capital transaction - - (149,597) - - - (149,597)
--------- -------- -------- -------- -------- --------- --------
Balance at December 31, 2004 - 12,496 227,037 (9,685) 111,996 (19,410) 322,434
Net income - - - 52,233 - - 52,233
Other comprehensive income, net of tax - - - - (43,099) (53,451) (96,550)
--------- -------- -------- -------- -------- --------- --------
Balance at December 31, 2005 - 12,496 227,037 42,548 68,897 (72,861) 278,117
Unaudited:
Net income - - - 8,164 - - 8,164
Other comprehensive income, net of tax - - - - 5,205 - 5,205
--------- -------- -------- -------- -------- --------- --------
Balance at March 31, 2006 $ - $ 12,496 $227,037 $ 50,712 $ 74,102 $ (72,861) $291,486
========= ======== ======== ======== ======== ========= ========
See accompanying notes to consolidated financial statements.
FA-7
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
Cash flows from operating activities:
Net income $ 270,541 $ 40,978 $ 52,233 $ 14,313 $ 8,164
Depreciation, depletion and amortization 20,452 23,583 20,980 5,535 4,916
Noncash interest expense 140 200 141 46 22
Deferred income taxes (39,770) 6,178 9,427 631 1,455
Net loss from disposition of property
and equipment 390 293 1,080 40 451
Pension, net (5,021) (4,540) (3,328) (833) (475)
Other, net 12 167 155 44 (120)
Change in assets and liabilities:
Accounts and notes receivable 1,827 (3,205) (9,294) (27,793) (26,908)
Inventories 1,830 5,837 (26,334) (11,163) 2,039
Prepaid expenses 1,107 559 (144) (1,727) (1,386)
Accounts payable and accrued liabilities 2,637 13,683 5,412 5,057 1,379
Income taxes (130,136) 126,599 (13,859) (16) 880
Accounts with affiliates (85,431) (82,855) 29,420 21,895 6,617
Other noncurrent assets 481 (146) 109 112 (55)
Other noncurrent liabilities (555) (5,334) (713) (2,724) 8
--------- --------- --------- -------- ---------
Net cash provided (used) by operating
activities 38,504 121,997 65,285 3,417 (3,013)
--------- --------- --------- -------- ---------
Cash flows from investing activities:
Capital expenditures (18,715) (20,396) (22,896) (3,260) (2,937)
Proceeds from disposition of property
and equipment 4 - - - -
--------- --------- --------- -------- ---------
Net cash used by investing activities (18,711) (20,396) (22,896) (3,260) (2,937)
--------- --------- --------- -------- ---------
FA-8
KRONOS TITAN GMBH AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(In thousands)
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
Cash flows from financing activities:
Indebtedness:
Borrowings $ - $ 49,984 $ - $ - $ -
Principal payments - (49,984) - - -
Loans from affiliates:
Loans - 11,597 4,860 - -
Repayments - (88,656) - - -
Cash distributions - (50,663) - - -
--------- --------- --------- --------- ---------
Net cash provided (used) by
financing activities - (127,722) 4,860 - -
Cash and cash equivalents - net change from:
Operating, investing and financing
activities 19,793 (26,121) 47,249 157 (5,950)
Currency translation 3,241 1,706 (2,928) (156) 643
Balance at beginning of year 7,825 30,859 6,444 6,444 50,765
--------- --------- --------- --------- ---------
Balance at end of year $ 30,859 $ 6,444 $ 50,765 $ 6,445 $ 45,458
========= ========= ========= ========= =========
Supplemental disclosures:
Cash paid (received) for:
Interest $ 674 $ 626 $ 516 $ 14 $ -
Income taxes (166) (132,629) 6,517 - 1,192
See accompanying notes to consolidated financial statements.
FA-9
KRONOS TITAN GMBH AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Organization and basis of presentation:
Kronos Titan GmbH ("TG") is a wholly-owned subsidiary of Kronos
International, Inc. ("KII"). KII is a wholly-owned subsidiary of Kronos
Worldwide, Inc. (NYSE:KRO) ("Kronos"). At December 31, 2005, (i) Valhi, Inc.
(NYSE: VHI) held approximately 57% of Kronos' common stock and NL Industries,
Inc. (NYSE: NL) held an additional 36% of the outstanding common stock of
Kronos, (ii) Valhi owned 83% of NL's outstanding common stock and (iii) Contran
Corporation and its subsidiaries held approximately 92% of Valhi's outstanding
common stock. At March 31, 2006 (i) Valhi held approximately 59% of Kronos'
outstanding common stock and NL Industries, Inc. held an additional 35% of
Kronos' common stock, (ii) Valhi owned approximately 83% of NL's outstanding
common stock and (iii) Contran Corporation and its subsidiaries held
approximately 92% of Valhi's outstanding common stock. Substantially all of
Contran's outstanding voting stock is held by trusts established for the benefit
of certain children and grandchildren of Harold C. Simmons, of which Mr. Simmons
is sole trustee, or is held by Mr. Simmons or persons or other entities related
to Mr. Simmons. Consequently, Mr. Simmons may be deemed to control each of such
companies.
The accompanying consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States of
America ("GAAP"), with the U.S. dollar as the reporting currency. TG also
prepares financial statements on other bases, as required in Germany.
Effective December 31, 2003, Kronos Titan GmbH & Co. OHG was converted from
a partnership into a limited liability company under German law, and was renamed
TG. The conversion resulted in a reclassification of partner's capital
aggregating $389 million at the date of conversion into other capital accounts
(subscribed capital and paid-in capital) and had no material effect on TG's
consolidated financial statements, other than with respect to deferred income
taxes. In 2004, the Company forgave a $150 million receivable from KII which is
reflected as a noncash capital transaction in the accompanying Consolidated
Statement of Partners' Capital/Owners' Equity.
TG is not a registrant with the U.S. Securities and Exchange Commission
("SEC") and therefore is not subject to the SEC's periodic reporting
requirements, except as may be required by Rule 3-16 of Regulation S-X.
Note 2 - Summary of significant accounting policies:
Management's estimates. The preparation of financial statements in
conformity with GAAP requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements, and
the reported amount of revenues and expenses during the reporting period. Actual
results may differ from previously-estimated amounts under different assumptions
or conditions.
Principles of consolidation. The consolidated financial statements include
the accounts of TG and its wholly-owned subsidiary (collectively, the
"Company"). All material intercompany accounts and balances have been
eliminated. The Company has no involvement with any variable interest entity
covered by the scope of FASB Interpretation ("FIN") No. 46R, "Consolidation of
Variable Interest Entities, an interpretation of ARB No. 51," as amended as of
March 31, 2004.
Unaudited interim information. Information included in the consolidated
financial statements and related notes to the consolidated financial statements
FA-10
as of March 31, 2006 and for the three month interim periods ended March 31,
2005 and 2006 is unaudited. In the opinion of management, all adjustments,
consisting only of normal recurring adjustments, necessary to state fairly the
consolidated financial position, results of operations and cash flows for such
interim periods have been made. The results of operations for the interim
periods are not necessarily indicative of the operating results for a full year
or of future operations. Certain information normally included in financial
statements prepared in accordance with GAAP has been condensed or omitted for
such interim periods.
Translation of foreign currencies. The functional currency of the Company
is the euro. Assets and liabilities of the Company are translated to U.S.
dollars at year-end rates of exchange and revenues and expenses are translated
at weighted average exchange rates prevailing during the year. Resulting
translation adjustments are included in other comprehensive income (loss), net
of related income taxes, if applicable. Currency transaction gains and losses
are recognized in income currently.
Derivatives and hedging activities. Derivative instruments are recognized
as either assets or liabilities and measured at fair value in accordance with
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," as
amended. The accounting for changes in fair value of derivatives is dependent
upon the intended use of the derivative, and such changes are recognized either
in net income or other comprehensive income. As permitted by the transition
requirements of SFAS No. 133, as amended, the Company exempted from the scope of
SFAS No. 133 all host contracts containing embedded derivatives which were
issued or acquired prior to January 1, 1999.
Cash equivalents. Cash equivalents include bank deposits with original
maturities of three months or less.
Accounts receivable. The Company provides an allowance for doubtful
accounts for known and estimated potential losses arising from sales to
customers based on a periodic review of the accounts.
Property and equipment and depreciation. Property and equipment are stated
at cost. Depreciation of property and equipment for financial reporting purposes
is computed principally by the straight-line method over the estimated useful
lives of ten to 40 years for buildings and three to 20 years for equipment.
Accelerated depreciation methods are used for income tax purposes, as permitted.
Upon sale or retirement of an asset, the related cost and accumulated
depreciation are removed from the accounts and any gain or loss is recognized in
income currently.
Expenditures for maintenance, repairs and minor renewals are expensed;
expenditures for major improvements are capitalized. The Company performs
planned major maintenance activities during the year. Repair and maintenance
costs estimated to be incurred in connection with planned major maintenance
activities are accrued in advance and are included in cost of sales. Accrued
repair and maintenance costs, included in other current liabilities and
consisting primarily of materials and supplies, was $3.2 million and $2.2
million at December 31, 2004 and 2005, respectively.
Interest costs related to major long-term capital projects and renewals are
capitalized as a component of construction costs. Interest costs capitalized
were not significant in 2003, 2004 or 2005.
When events or changes in circumstances indicate that assets may be
impaired, an evaluation is performed to determine if an impairment exists. Such
events or changes in circumstances include, among other things, (i) significant
current and prior periods or current and projected periods with operating
losses, (ii) a significant decrease in the market value of an asset or (iii) a
significant change in the extent or manner in which an asset is used. All
relevant factors are considered. The test for impairment is performed by
FA-11
comparing the estimated future undiscounted cash flows (exclusive of interest
expense) associated with the asset to the asset's net carrying value to
determine if a write-down to market value or discounted cash flow value is
required. The Company assesses impairment of other long-lived assets (such as
property and equipment and mining properties) in accordance with SFAS No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets."
Long-term debt. Long-term debt is stated net of any unamortized original
issue premium or discount. Amortization of deferred financing costs, included in
interest expense, is computed by the interest method over the term of the
applicable issue.
Employee benefit plans. Accounting and funding policies for retirement
plans are described in Note 8.
Income taxes. As a partnership under German law during 2003, TG was not
subject to corporate income taxes, but was subject to trade income taxes.
Deferred trade income tax assets and liabilities were recognized for the
expected future tax consequences of temporary differences between the trade
income tax and financial reporting carrying amounts of assets and liabilities.
Effective December 31, 2003, the Company was converted from a partnership to a
limited liability company. Subsequent to that date, the Company is subject to
the German corporation tax, with a statutory rate of 25%, in addition to
solidarity-surcharge of 5.5% of corporate income tax and trade income taxes. The
Company periodically evaluates its deferred tax assets in the various taxing
jurisdictions in which it operates and adjusts any related valuation allowance
based on the estimate of the amount of such deferred tax assets that the Company
believes does not meet the "more-likely-than-not" recognition criteria. See Note
9.
Net sales. Sales are recorded when products are shipped and title and other
risks and rewards of ownership have passed to the customer, or when services are
performed. Shipping terms of products shipped are generally FOB shipping point.
Amounts charged to customers for shipping and handling are included in net
sales. Sales are stated net of price, early payment and distributor discounts
and volume rebates.
Inventories and cost of sales. Inventories are stated at the lower of cost
(principally average cost) or market, net of allowance for obsolete or
slow-moving inventories. Amounts are removed from inventories at average cost.
Cost of sales includes costs for materials, packaging and finishing, utilities,
salary and benefits, maintenance and depreciation.
Selling, general and administrative expenses; shipping and handling costs.
Selling, general and administrative expenses include costs related to marketing,
sales, distribution, shipping and handling, research and development, legal and
administrative functions, such as accounting, treasury and finance, and includes
costs for salary and benefits, travel and entertainment, promotional materials
and professional fees. Shipping and handling costs are included in selling,
general and administrative expense and were $19.8 million in 2003, $22.3 million
in 2004 and $23.1 million in 2005. Advertising costs are expensed as incurred
and were approximately $300,000 in each of 2003, 2004 and 2005.
Stock options. The Company has not issued any stock options. However,
certain employees of the Company have been granted options by NL to purchase NL
common stock. The Company has elected the disclosure alternative prescribed by
SFAS No. 123, "Accounting for Stock-Based Compensation," as amended, and to
account for its stock-based employee compensation related to stock options in
accordance with Accounting Principles Board Opinion ("APBO") No. 25, "Accounting
for Stock Issued to Employees," and its various interpretations. The Company
adopted SFAS No. 123R "Share-Based Payment," as of January 1, 2006, see Note 14.
FA-12
Note 3 - Accounts and notes receivable, net:
December 31, March 31,
------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Trade receivables $ 71,914 $ 69,019 $ 89,080
Recoverable VAT and other receivables 6,058 5,189 13,106
Allowance for doubtful accounts (1,240) (1,149) (1,089)
-------- -------- --------
$ 76,732 $ 73,059 $101,097
======== ======== ========
Note 4 - Inventories:
December 31, March 31,
------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Raw materials $ 20,379 $ 21,386 $ 15,918
Work in process 10,173 11,884 13,727
Finished products 55,349 65,242 66,752
Supplies 15,949 15,165 16,956
-------- -------- --------
$101,850 $113,677 $113,353
======== ======== ========
Note 5 - Accounts payable and accrued liabilities:
December 31, March 31,
------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Accounts payable $ 39,732 $ 39,206 $ 37,529
Accrued liabilities:
Employee benefits 15,957 16,632 17,475
Waste acid recovery 9,598 9,149 8,418
Other 11,665 7,000 10,456
-------- -------- --------
$ 76,952 $ 71,987 $ 73,878
======== ======== ========
Note 6 - Long-term debt:
The Company and certain of KII's subsidiaries in Belgium and Norway (Kronos
Europe S.A./N.V.-"KEU", Kronos Titan A/S - "TAS" and Titania A/S - "TIA," Kronos
Norge A/S, the parent company of TAS and TIA, and Kronos Denmark ApS, the parent
company of Kronos Norge and KEU), referred to as the "Borrowers", have a euro 80
million secured revolving credit facility that matures in June 2008. Borrowings
may be denominated in euros, Norwegian kroner or U.S. dollars, and bear interest
at the applicable interbank market rate plus 1.125%. The facility also provides
for the issuance of letters of credit up to euro 5 million. The credit facility
is collateralized by the accounts receivable and inventories of the borrowers,
plus a limited pledge of all of the other assets of the Belgian borrower. The
credit facility contains certain restrictive covenants which, among other
things, restrict the ability of the borrowers to incur debt, incur liens, pay
dividends or merge or consolidate with, or sell or transfer all or substantially
all of their assets to, another entity. In addition, the credit facility
contains customary cross-default provisions with respect to other debt and
obligations of Borrowers, KII and its other subsidiaries. At December 31, 2005,
no amounts were outstanding under the European Credit Facility and the
equivalent of $92.3 million was available for additional borrowing by the
Borrowers. The Company, KEU and Kronos Denmark are unconditionally jointly and
severally liable for any and all outstanding borrowings under the credit
facility. TAS, TIA and Kronos Norge A/S are jointly and severally liable for any
and all outstanding borrowings under the credit facility to the extent permitted
by Norwegian law.
FA-13
In June 2002, KII issued at par value euro 285 million principal amount
($280 million when issued) of its 8.875% Senior Secured Notes due 2009 and in
November 2004 KII issued at 107% of par an additional euro 90 million principal
amount ($130 million when issued) of the KII senior secured notes (collectively
the "Notes"). The Notes are collateralized by a pledge of 65% of the common
stock or other ownership interests of certain of KII's first-tier operating
subsidiaries. Such operating subsidiaries are the Company, Kronos Denmark ApS,
Kronos Limited and Societe Industrielle Du Titane, S.A. The Notes are issued
pursuant to an indenture which contains a number of covenants and restrictions
which, among other things, restricts the ability of KII and its subsidiaries, to
incur debt, incur liens, or merge or consolidate with, or sell or transfer all
or substantially all of their assets to, another entity. The Notes are
redeemable, at KII's option, at redemption prices ranging from 104.437% of the
principal amount, declining to 100% on or after December 30, 2008. In the event
of a change of control of KII, as defined, KII would be required to make an
offer to purchase its Notes at 101% of the principal amount. KII would also be
required to make an offer to purchase a specified portion of its Notes at par
value in the event KII generates a certain amount of net proceeds from the sale
of assets outside the ordinary course of business, and such net proceeds are not
otherwise used for specified purposes within a specified time period.
Under the cross-default provisions of the Notes, the Notes may be
accelerated prior to their stated maturity if KII or any of KII's subsidiaries
default under any other indebtedness in excess of $20 million due to a failure
to pay such other indebtedness at its due date (including any due date that
arises prior to the stated maturity as a result of a default under such other
indebtedness). Under the cross-default provisions of the Credit Facility, any
outstanding borrowings under the Credit Facility may be accelerated prior to
their stated maturity if the Borrowers or KII default under any other
indebtedness in excess of euro 5 million due to a failure to pay such other
indebtedness at its due date (including any due date that arises prior to the
stated maturity as a result of a default under such other indebtedness). The
Credit Facility contains provisions that allow the lender to accelerate the
maturity of the Credit Facility in the event of a change of control, as defined,
of the applicable borrower. In the event any of these cross-default or
change-of-control provisions become applicable, and such indebtedness is
accelerated, KII would be required to repay such indebtedness prior to their
stated maturity.
In April 2006, KII called all of its 8.875% Senior Secured Notes for
redemption on May 11, 2006 at 104.437% of their aggregate principal amount of
euro 375 million (an aggregate of $470.2 million at March 31, 2006 exchange
rates). Funds for such redemption were provided by KII's issuance of an
aggregate of euro 400 million principal amount of new 6.5% Senior Secured Notes
due April 2013, issued on April 11, 2006 at 99.306% of their principal amount.
The new Senior Secured Notes were issued pursuant to an indenture that contains
covenants, restrictions and collateral substantially identical to the covenants,
restrictions and collateral of the 8.875% Senior Secured Notes.
FA-14
Note 7 - Other noncurrent liabilities:
December 31, March 31,
------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Employee benefits $ 4,111 $ 3,842 $ 3,850
Insurance claims expense 1,362 1,124 1,421
Other 6,720 8,081 8,109
-------- -------- --------
$ 12,193 $ 13,047 $ 13,380
======== ======== ========
Note 8 - Employee benefit plans:
The Company maintains a defined benefit pension plan and certain other
benefits covering substantially all employees. Variances from actuarially
assumed rates will result in increases or decreases in accumulated pension
obligations, pension expense and funding requirements in future periods. At
December 31, 2005, the Company expects to contribute the equivalent of
approximately $11 million to its defined benefit pension plans during 2006.
Certain actuarial assumptions used in measuring the defined benefit pension
assets, liabilities and expenses are presented below. The Company uses a
September 30th measurement date for their defined benefit pension plans.
The weighted-average rate assumptions used in determining the actuarial
present value of benefit obligations as of December 31, 2004 and 2005 are
presented in the table below. Such weighted-average rates were determined using
the projected benefit obligations at each date.
December 31,
------------------------
Rate 2004 2005
---- ---- ----
Discount rate 5.0% 4.0%
Increase in future compensation levels 2.8% 2.8%
The weighted-average rate assumptions used in determining the net periodic
pension cost for 2003, 2004 and 2005 are presented in the table below. The
weighted-average discount rate and the weighted-average increase in future
compensation levels were determined using the projected benefit obligations at
the beginning of each year, and the weighted-average long-term return on plan
assets was determined using the fair value of plan assets at the beginning of
each year.
December 31,
----------------------------------------
Rate 2003 2004 2005
---- ---- ---- ----
Discount rate 5.3% 5.3% 5.0%
Increase in future compensation levels 2.8% 2.8% 2.8%
Long-term return on plan assets 6.5% 6.5% 6.0%
Plan assets are comprised primarily of investments in corporate equity and
debt securities, short-term investments, mutual funds and group annuity
contracts.
The components of the net periodic defined benefit pension cost are set
forth below.
FA-15
Three months ended
Years ended December 31, March 31,
---------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
(In thousands)
Net periodic pension cost:
Service cost benefits $ 2,621 $ 3,289 $3,742 $ 998 $ 754
Interest cost on projected benefit
obligation ("PBO") 9,354 10,558 10,540 2,787 2,800
Expected return on plan assets (8,831) (9,448) (8,841) (2,338) (1,916)
Amortization of prior service cost - 196 200 53 48
Amortization of net transition obligation 251 69 - - -
Recognized actuarial losses 20 782 1,644 435 1,479
------- ------- ------- ------- -------
$ 3,415 $ 5,446 $ 7,285 $ 1,935 $ 3,165
======= ======= ======= ======= =======
The funded status of the Company's defined benefit pension plan is set
forth below.
FA-16
December 31,
----------------------
2004 2005
---- ----
(In thousands)
Change in projected benefit obligations ("PBO"):
Benefit obligations at beginning of year $ 205,440 $ 232,308
Service cost 3,289 3,742
Interest cost 10,558 10,540
Participant contributions 1,206 1,316
Actuarial losses 4,968 81,199
Benefits paid (12,442) (35,385)
Change in currency exchange rates 19,289 (13,780)
---------- ----------
Benefit obligations at end of year $ 232,308 $ 279,940
---------- ----------
Change in fair value of plan assets:
Fair value of plan assets at beginning of year $ 116,275 $ 136,919
Actual return on plan assets 10,026 4,596
Employer contributions 10,432 11,182
Participant contributions 1,206 1,316
Change in currency exchange rates 11,422 (18,204)
Benefits paid (12,442) (13,780)
---------- ----------
Fair value of plan assets at end of year $ 136,919 $ 122,029
---------- ----------
Funded status at year end:
Plan assets less than PBO $ (95,389) $ (157,911)
Unrecognized actuarial loss 79,381 147,873
Unrecognized prior service cost 3,672 3,000
---------- ----------
$ (12,336) $ (7,038)
========== ==========
Amounts recognized in the balance sheet:
Unrecognized net pension obligations $ 3,672 $ 3,000
Accrued pension cost:
Current (8,587) (120,872)
Noncurrent (45,015) (9,858)
Accumulated other comprehensive loss 37,594 120,692
---------- ----------
$ (12,336) $ (7,038)
========== ==========
SFAS No. 87, "Employers' Accounting for Pensions" requires that an
additional pension liability be recognized when the unfunded accumulated pension
benefit obligation exceeds the unfunded accrued pension liability. The
accumulated benefit obligation of the Company's defined benefit pension plan was
$255.4 million at December 31, 2005 (2004 - $193.6 million). Variances from
actuarially assumed rates will change the actuarial valuation of accrued pension
liabilities, pension expense and funding requirements in future periods.
In determining the expected long-term rate of return on plan asset
assumptions, the Company considers the long-term asset mix (e.g. equity vs.
fixed income) for the assets for each of its plans and the expected long-term
rates of return for such asset components. In addition, the Company receives
advice about appropriate long-term rates of return from the Company's
third-party actuaries. The composition of the Company's plan assets is
established to satisfy the requirements of the German insurance commissioner.
The plan asset allocation at December 31, 2005 was 23% to equity managers, 48%
to fixed income managers and 29% to real estate (2004 - 23%, 48% and 29%,
respectively). The Company regularly reviews its actual asset allocation for
each of its plans, and will periodically rebalance the investments in each plan
to more accurately reflect the targeted allocation when considered appropriate.
FA-17
The Company expects total defined benefit pension plan expense to be
approximately $12 million in 2006. The Company expects future benefits paid from
all defined benefit pension plans to be as follows:
Amount
Years ending December 31, (In thousands)
--------------
2006 $13,274
2007 13,392
2008 13,510
2009 13,628
2010 13,746
2011 to 2015 69,319
Note 9 - Income taxes:
The components of (i) the difference between the provision for income taxes
attributable to pretax income and the amounts that would be expected using the
German statutory corporation tax rate of 25% in 2003 and 26.4% in 2004 and 2005,
(ii) the provision for income taxes and (iii) the comprehensive tax provision
are presented below.
Three months ended
Years ended December 31, March 31,
---------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
(In thousands)
Pretax income $ 64,871 $ 58,485 $ 86,918 $ 23,596 $ 13,517
========= ========= ========= ========= =========
Expected tax expense $ 16,218 $ 15,440 $ 22,946 $ 6,229 $ 3,568
Trade income tax 11,365 7,773 11,212 3,044 1,742
German tax refund (123,033) (2,508) - - -
Change in deferred income tax valuation
allowance, net - (3,146) - - -
Tax contingency reserve adjustment - - 1,387 - 20
Organschaft adjustment (94,079) - - - -
No corporation tax provision due to partnership
structure (16,218) - - - -
Other, net 77 (52) (860) 10 23
--------- --------- --------- --------- ---------
Income tax expense (benefit) $(205,670) $ 17,507 $ 34,685 $ 9,283 $ 5,353
========= ========= ========= ========= =========
Provision for income taxes:
Current income tax expense (benefit) $(165,900) $ 11,329 $ 25,258 $ 8,652 $ 3,898
Deferred income tax expense (benefit) (39,770) 6,178 9,427 631 1,455
--------- --------- --------- --------- ---------
$(205,670) $ 17,507 $ 34,685 $ 9,283 $ 5,353
========= ========= ========= ========= =========
Comprehensive provision (benefit) for income
taxes allocable to:
Pretax income $(205,670) $ 17,507 $ 34,685 $ 9,283 $ 5,353
Other comprehensive loss - pension
liabilities (5,331) (8,081) (32,649) - -
--------- --------- --------- --------- ---------
$(211,001) $ 9,426 $ 2,036 $ 9,283 $ 5,353
========= ========= ========= ========= =========
FA-18
The components of the net deferred tax liability are summarized below.
December 31,
---------------------------------------------------
2004 2005
----------------------- -----------------------
Assets Liabilities Assets Liabilities
------ ----------- ------ -----------
(In thousands)
Tax effect of temporary differences
relating to:
Inventories $ - $ (1,816) $ - $ (2,375)
Property and equipment 38,327 - 26,362 -
Accrued (prepaid) pension cost 14,770 (27,598) 47,420 (24,398)
Other taxable differences - (7,518) - (3,473)
Tax loss and tax credit carryforwards - - - -
------- -------- ------- --------
Gross deferred tax assets (liabilities) 53,097 (36,932) 73,782 (30,246)
Reclassification, principally netting
by tax jurisdiction (35,020) 35,020 (26,738) 26,738
------- -------- ------- --------
Net total deferred tax liabilities 18,077 (1,912) 47,044 (3,508)
Net current deferred tax liabilities - (1,912) - (3,508)
------- -------- ------- --------
Net noncurrent deferred tax liabilities $18,077 $ - $47,044 $ -
======= ======== ======= ========
The Company's has no deferred income tax valuation allowance as of December
31, 2004 and 2005.
During 2003, the Company's legal form was as a partnership. As a
partnership, the Company was not subject to corporation tax, although the
Company was subject to trade income tax. Effective December 31, 2003, the
Company was converted to a limited liability company and was also subject to the
German corporation tax in years following 2003. As a result of the conversion of
the Company from a partnership, the Company recognized net deferred income tax
assets of approximately $52 million related to the expected future tax
consequences of temporary differences between the corporate income tax and
financial reporting carrying amounts of its assets and liabilities.
In the first quarter of 2003, the Company was notified by the German
Federal Fiscal Court (the "Court") that the Court had ruled in the Company's
favor concerning a claim for refund suit in which the Company sought refunds of
prior taxes paid during the periods 1990 through 1997. The Company was required
to file amended tax returns with the German tax authorities in order to receive
its refunds for such years, and all of such amended returns were filed during
2003. Such amended returns reflected an aggregate refund of taxes and related
interest to the Company of euro 103.2 million ($123.0 million) and the Company
recognized the benefit for these net funds in its 2003 results of operations.
For the year ended December 31, 2004, the Company recognized a refund of euro
4.0 million ($5.3 million) related to additional net interest which has accrued
on the outstanding refund amount. In 2004, TG had received net refunds of euro
107.2 million ($135.4 million when received). All refunds relating from the
periods 1990 to 1997 were received by December 31, 2004. In addition to the
refunds for the 1990 to 1997 periods, the court ruling also resulted in a refund
of 1999 income taxes and interest, and the Company received euro 21.5 million
($24.6 million) in 2003.
Pursuant to the Company's conversion to a limited liability company
effective December 31, 2003, the Company is included in KII's Organschaft
effective January 1, 2004.
No assurance can be given that these tax matters will be resolved in the
Company's favor in view of the inherent uncertainties involved in settlement
initiatives and court and tax proceedings. The Company believes that it has
provided adequate accruals for additional taxes and related interest expense
which may ultimately result from all such examinations and believes that the
ultimate disposition of such examinations should not have a material adverse
effect on its consolidated financial position, results of operations or
liquidity.
FA-19
Note 10 - Related party transactions:
The Company may be deemed to be controlled by Harold C. Simmons. See Note
1. Corporations that may be deemed to be controlled by or affiliated with Mr.
Simmons sometimes engage in (a) intercorporate transactions such as guarantees,
management and expense sharing arrangements, shared fee arrangements, tax
sharing agreements, joint ventures, partnerships, loans, options, advances of
funds on open account, and sales, leases and exchanges of assets, including
securities issued by both related and unrelated parties and (b) common
investment and acquisition strategies, business combinations, reorganizations,
recapitalizations, securities repurchases, and purchases and sales (and other
acquisitions and dispositions) of subsidiaries, divisions or other business
units, which transactions have involved both related and unrelated parties and
have included transactions which resulted in the acquisition by one related
party of a publicly held minority equity interest in another related party.
While no transactions of the type described above are planned or proposed with
respect to the Company other than as set forth in these financial statements,
the Company from time to time considers, reviews and evaluates such transactions
and understands that Contran, Valhi, NL, Kronos, KII and related entities
consider, review and evaluate, such transactions. Depending upon the business,
tax and other objectives then relevant, and restrictions under the KII
indenture, the Credit Facility and other agreements, it is possible that the
Company might be a party to one or more such transactions in the future.
The Company is a party to services and cost sharing agreements among
several affiliates of the Company whereby Kronos, KII, KEU and other affiliates
provide certain management, financial, insurance and administrative services to
the Company on a fee basis. The Company's expense was approximately $7.1 million
in 2003, $7.8 million in 2004 and $7.9 million in 2005 related to these services
and costs.
The Company charges affiliates for certain management, financial and
administrative services costs, which totaled approximately $4.3 million, $4.4
million and $4.8 million in 2003, 2004 and 2005, respectively. These charges to
affiliates were reflected primarily as a reduction of selling, general and
administrative expense.
Tall Pines Insurance Company and EWI RE, Inc. ("EWI") provide for or broker
certain insurance policies for Contran and certain of its subsidiaries and
affiliates, including KII, Kronos and the Company. Tall Pines is wholly owned by
a subsidiary of Valhi, and EWI is a wholly-owned subsidiary of NL. Consistent
with insurance industry practices, Tall Pines and EWI receive commissions from
insurance and reinsurance underwriters and/or assess fees for the policies that
they provide or broker. The aggregated premiums paid to Tall Pines (including
amounts paid to Valmont Insurance Company, another subsidiary of Valhi that was
merged into Tall Pines in 2004) and EWI by the Company were $4.1 million, $4.0
million and $3.5 million in 2003, 2004 and 2005, respectively. These amounts
principally included payments for insurance, but also included commissions paid
to Tall Pines and EWI. Tall Pines purchases reinsurance for substantially all of
the risks it underwrites. The Company expects that these relationships with Tall
Pines and EWI will continue in 2006.
Contran and certain of its subsidiaries and affiliates, including the
Company, purchase certain of their insurance policies as a group, with the costs
of the jointly-owned policies being apportioned among the participating
companies. With respect to certain of such policies, it is possible that
unusually large losses incurred by one or more insureds during a given policy
FA-20
period could leave the other participating companies without adequate coverage
under that policy for the balance of the policy period. As a result, Contran and
certain of its subsidiaries and its affiliates, including Kronos, have entered
into a loss sharing agreement under which any uninsured loss is shared by those
entities who have submitted claims under the relevant policy. The Company
believes the benefits in the form of reduced premiums and broader coverage
associated with the group coverage for such policies justifies the risk
associated with the potential for uninsured loss.
The Company purchases from and sells to its affiliates a significant amount
of titanium dioxide pigments ("TiO2"). Intercompany sales to (purchases from)
affiliates of TiO2 are summarized in the following table.
Years ended December 31,
------------------------------------------
2003 2004 2005
---- ---- ----
(In thousands)
Sales to:
Kronos (US), Inc. ("KUS") $ 37,550 $ 21,448 $ 25,977
Societe Industrielle du Titane, S.A. ("SIT") 32,969 39,091 40,116
KEU 22,417 23,872 26,943
Kronos Limited ("KUK") 22,151 18,677 21,162
Kronos Canada, Inc. ("KC") 5,026 5,414 8,623
Other affiliates 16,368 24,936 31,178
-------- -------- --------
$136,481 $133,438 $153,999
======== ======== ========
Purchases from:
KEU $ 33,061 $ 42,836 $ 43,914
TAS 5,722 10,796 11,296
KC - 271 41
-------- -------- --------
$ 38,783 $ 53,903 $ 55,251
======== ======== ========
KUS purchases the rutile and slag feedstock used as a raw material in the
Company's chloride process TiO2 facility. The Company purchases such feedstock
from KUS for use in its facility for an amount equal to the amount paid by KUS
to the third-party supplier plus a 2.5% administrative fee. Such feedstock
purchases were $56.2 million in 2003, $66.7 million in 2004 and $72.3 million in
2005.
The Company sells water treatment chemicals (derived from co-products of
the TiO2 production processes) to KII. Such water treatment chemical sales were
$12.8 million in 2003, $16.1 million in 2004 and $18.8 million in 2005.
The Company purchases ilmenite (sulfate feedstock) from TIA on a
year-to-year basis. Such feedstock purchases were $15.5 million in 2003, $17.4
million in 2004 and $21.4 million in 2005.
At January 1, 2002, the Company is party to an accounts receivable
factoring agreement with certain European affiliates of the Company pursuant to
which these affiliates factored their export accounts receivable without
recourse to the Company for a fee of 0.85%. Upon non-recourse transfer from
these affiliates, the Company assumes all risk pertaining to the factored
receivables, including, but not limited to, exchange control risks, risks
pertaining to the bankruptcy of a customer and risks related to late payments.
Export receivables purchased by the Company during 2003, 2004 and 2005
aggregated $101 million, $120 million and $124 million, respectively.
Net amounts currently receivable from (payable to) affiliates are
summarized in the following table.
FA-21
December 31, March 31,
------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Receivable from:
KUK $ 862 $ - $ -
SIT 1,632 - 678
KEU - 9,068 2,367
Kronos B.V. 2,055 - -
KII 25,032 32,833 22,670
KC 1,496 227 515
Other affiliates 1,278 893 6,844
-------- -------- --------
$ 32,355 $ 43,021 $ 33,074
======== ======== ========
Current payable to:
KII - income taxes $ 14,386 $ 30,173 $ 32,444
KUS 5,390 9,553 -
TIA 8,817 25,090 31,057
Kronos B.V. - 8,596 5,991
KEU 4,456 - -
TAS 2,139 521 -
Other affiliates 72 1,514 3,051
-------- -------- --------
$ 35,260 $ 75,447 $ 72,543
======== ======== ========
Noncurrent receivable from TAS $ 5,449 $ - $ -
======== ======== ========
Noncurrent payables to KDK $ 12,941 $ 11,239 $ 11,407
======== ======== ========
Such amounts receivable from affiliates were generally related to product
sales (including water treatment chemical sales to KII) and services rendered.
Amounts payable to affiliates, net were related primarily to raw material
purchases, accounts receivable factoring and services received.
The Company borrowed euro 9.5 million from KDK in October 2004 ($11.2
million at December 31, 2005). This note bears an interest rate of 2.675% and is
due on March 31, 2006, with an option to renew.
The Company loaned TAS euro 4 million ($5.4 million) during 2004. This note
receivable bore interest at 3.1% and was repaid in 2005.
Included in other affiliate income and other affiliate expense was other
affiliate interest income/expense, factoring fees and service fees.
Note 11 - NL common stock options held by employees of the Company:
At December 31, 2005, employees of the Company held options to purchase
approximately 9,000 shares of NL common stock, which are exercisable at various
dates through 2010 (approximately 4,000) at an exercise of $5.63 per share, and
exercisable at various dates through 2011 (approximately 5,000) at an exercise
price of $11.49 per share. No options were granted during 2003, 2004, 2005 or
first quarter 2006. See Notes 2 and 14.
Note 12 - Commitments and contingencies:
Operating leases. The Company leases, pursuant to operating leases, various
manufacturing facilities and equipment. Most of the leases contain purchase
and/or various term renewal options at fair market and fair rental values,
respectively. In most cases management expects that, in the normal course of
business, leases will be renewed or replaced by other leases.
FA-22
The Company leases the land under its Leverkusen TiO2 production facility
pursuant to a lease with Bayer AG that expires in 2050. The Leverkusen facility
itself, which is owned by the Company and which represents approximately
two-thirds of the Company's current TiO2 production capacity, is located within
the lessor's extensive manufacturing complex. Rent for the land lease associated
with the Leverkusen facility is periodically established by agreement with Bayer
for periods of at least two years at a time. The lease agreement provides for no
formula, index or other mechanism to determine changes in the rent for such land
lease; rather, any change in the rent is subject solely to periodic negotiation
between Bayer and the Company. Any change in the rent based on such negotiations
is recognized as part of lease expense starting from the time such change is
agreed upon by both parties, as any such change in the rent is deemed
"contingent rentals" under GAAP. Under a separate supplies and services
agreement expiring in 2011, the lessor provides some raw materials, including
chlorine, auxiliary and operating materials, utilities and services necessary to
operate the Leverkusen facility.
Net rent expense aggregated $5 million in 2003 and $4 million in each of
2004 and 2005. At December 31, 2005, minimum rental commitments under the terms
of noncancellable operating leases were as follows:
Amount
Years ending December 31, (In thousands)
------------------------- --------------
2006 $ 2,248
2007 1,522
2008 1,370
2009 1,294
2010 1,034
2011 and thereafter 20,931
$28,399
Approximately $20.1 million of the $28.4 million aggregate future minimum
rental commitments at December 31, 2005 relates to the Company's Leverkusen
facility lease discussed above. The minimum commitment amounts for such lease
included in the table above for each year through the 2050 expiration of the
lease are based upon the current annual rental rate as of December 31, 2005. As
discussed above, any change in the rent is based solely on negotiations between
Bayer and the Company, and any such change in the rent is deemed "contingent
rentals" under GAAP which is excluded from the future minimum lease payments
disclosed above.
Purchase commitments. KUS has long-term supply contracts that provide for
certain affiliates' chloride feedstock requirements through 2010. The Company
purchases chloride feedstock underlying these long-term supply contracts from
KUS. The agreements require KUS to purchase certain minimum quantities of
feedstock with minimum purchase commitments aggregating approximately $618
million at December 31, 2005.
Environmental, product liability and litigation matters. The Company's
operations are governed by various environmental laws and regulations. Certain
of the Company's operations are and have been engaged in the handling,
manufacture or use of substances or compounds that may be considered toxic or
hazardous within the meaning of applicable environmental laws. As with other
companies engaged in similar businesses, certain past and current operations and
products of the Company have the potential to cause environmental or other
damage. The Company has implemented and continues to implement various policies
and programs in an effort to minimize these risks. The Company's policy is to
maintain compliance with applicable environmental laws and regulations at all of
its facilities and to strive to improve its environmental performance. It is
possible that future developments, such as stricter requirements of
environmental laws and enforcement policies thereunder, could adversely affect
the Company's production, handling, use, storage, transportation, sale or
disposal of such substances. The Company believes all of its plants are in
substantial compliance with applicable environmental laws.
FA-23
Concentrations of credit risk. Sales of TiO2 accounted for more than 97% of
net sales during each of 2003, 2004 and 2005. The remaining sales result from
the manufacture and sale of iron-based water treatment chemicals (derived from
co-products of the TiO2 production processes). TiO2 is generally sold to the
paint, plastics and paper, as well as fibers, rubber, ceramics, inks and
cosmetics markets. Such markets are generally considered "quality-of-life"
markets whose demand for TiO2 is influenced by the relative economic well-being
of the various geographic regions. TiO2 is sold to over 1,000 customers, with
the top ten external customers approximating 20% of net sales in 2003, 22% of
net sales in 2004 and 21% of net sales in 2005. Approximately 74% of the
Company's TiO2 sales by volume were to Europe in 2003 and 78% in each of 2004
and 2005. Approximately 11% in 2003 and 7% in each of 2004 and 2005 of sales by
volume were to North America.
Note 13 - Financial instruments:
Summarized below is the estimated fair value and related net carrying value
of the Company's financial instruments.
December 31, December 31,
2004 2005
---------------------- ----------------------
Carrying Fair Carrying Fair
amount value amount value
--------- -------- ---------- -------
(In millions)
Cash and cash equivalents $ 6.4 $ 6.4 $ 50.8 $ 50.8
Note payable to affiliate 12.9 12.9 11.2 11.2
The Company periodically uses interest rate swaps, currency swaps and other
types of contracts to manage interest rate and foreign exchange risk with
respect to financial assets or liabilities. The Company has not entered into
these contracts for trading or speculative purposes in the past, nor does it
currently anticipate doing so in the future. The Company was not a party to any
such contracts during 2003, 2004 and 2005.
Other than as described above, the Company was not a party to any material
derivative financial instruments during 2003, 2004 or 2005. There was no impact
on the Company's financial statements from adopting SFAS No. 133.
Note 14- Accounting principles newly adopted in 2003, 2004 and 2006:
Costs associated with exit or disposal activities. The Company adopted SFAS
No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," on
January 1, 2003 for exit or disposal activities initiated on or after that date.
Under SFAS No. 146, costs associated with exit activities, as defined, that are
covered by the scope of SFAS No. 146 will be recognized and measured initially
at fair value, generally in the period in which the liability is incurred. Costs
covered by the scope of SFAS No. 146 include termination benefits provided to
employees, costs to consolidate facilities or relocate employees, and costs to
terminate contracts (other than a capital lease). Under prior GAAP, a liability
for such an exit cost is recognized at the date an exit plan is adopted, which
may or may not be the date at which the liability has been incurred. The effect
of adopting SFAS No. 146 as of January 1, 2003 was not material as the Company
was not involved in any exit or disposal activities covered by the scope of the
new standard as of such date.
Variable interest entities. The Company complied with the consolidation
requirements of FASB Interpretation ("FIN") No. 46R, "Consolidation of Variable
FA-24
Interest Entities, an interpretation of ARB No. 51," as amended as of March 31,
2004. The Company does not have any involvement with any variable interest
entity (as that term is defined in FIN No. 46R) covered by the scope of FIN No.
46R that would require the Company to consolidate such entity under FIN No. 46R,
which had not already been consolidated under prior applicable GAAP, and
therefore the impact to the Company of adopting the consolidation requirements
of FIN No. 46R was not material.
Inventory costs. The Company adopted SFAS No. 151, "Inventory Costs, an
amendment of ARB No. 43, Chapter 4," as of January 1, 2006 for inventory costs
incurred on or after such date. SFAS No. 151 requires that the allocation of
fixed production overhead costs to inventory shall be based on normal capacity.
Normal capacity is not defined as a fixed amount; rather, normal capacity refers
to a range of production levels expected to be achieved over a number of periods
under normal circumstances, taking into account the loss of capacity resulting
from planned maintenance shutdowns. The amount of fixed overhead allocated to
each unit of production is not increased as a consequence of idle plant or
production levels below the low end of normal capacity, but instead a portion of
fixed overhead costs are charged to expense as incurred. Alternatively, in
periods of production above the high end of normal capacity, the amount of fixed
overhead costs allocated to each unit of production is decreased so that
inventories are not measured above cost. SFAS No. 151 also clarifies existing
GAAP to require that abnormal freight and wasted materials (spoilage) are to be
expensed as incurred. The Company's production cost accounting had already
complies with the requirements of SFAS No. 151, and therefore adoption of SFAS
No. 151 did not have a material effect on its consolidated financial statements.
Stock options. As permitted by regulations of the Securities and Exchange
Commission ("SEC") the Company adopted SFAS No. 123R, as of January 1, 2006.
SFAS No. 123R, among other things, eliminates the alternative in existing GAAP
to use the intrinsic value method of accounting for stock-based employee
compensation under APBO No. 25. The Company is now generally required to
recognize the cost of employee services received in exchange for an award of
equity instruments based on the grant-date fair value of the award, with the
cost recognized over the period during which an employee is required to provide
services in exchange for the award (generally, the vesting period of the award).
No compensation cost will be recognized in the aggregate for equity instruments
for which the employee does not render the requisite service (generally, if the
instrument is forfeited before it has vested). The grant-date fair value will be
estimated using option-pricing models (e.g. Black-Scholes or a lattice model).
Under the transition alternatives permitted under SFAS No. 123R, the Company
will apply the new standard to all new awards granted on or after January 1,
2006, and to all awards existing as of December 31, 2005 which are subsequently
modified, repurchased or cancelled (referred to as the modified prospective
method in SFAS No. 123R). Additionally, as of January 1, 2006, the Company
recognizes compensation cost for the portion of any non-vested award existing as
of December 31, 2005 over the remaining vesting period. Because the number of
non-vested awards as of December 31, 2005 with respect to options granted by NL
to employees of the Company was not material, the effect of adopting SFAS No.
123R in so far as it relates to existing stock options, did not have a material
effect on the Company's consolidated financial statements. Should the Company or
its subsidiaries and affiliates, however, either grant a significant number of
options to employees of the Company or modify, repurchase or cancel existing
options in the future, the effect on the Company's consolidated financial
statements could be material.
Under the requirements of SFAS 123R, the cash income tax benefit resulting
from the exercise of stock options in excess of the cumulative income tax
benefit related to such options previously recognized for GAAP financial
reporting purposes in the Company's consolidated statements of income, if any,
is reflected as a cash inflow from financing activities in the Company's
consolidated statements of cash flows, and the Company's cash flows from
FA-25
operating activities reflects the effect of cash paid for income taxes exclusive
of such cash income tax benefit. The aggregate amount of such income tax
benefits recognized as a component of cash flows from financing activities was
nil in the first quarter of 2006.
SFAS No. 123R also requires certain expanded disclosures regarding the
Company's stock options, and such expanded disclosures have been provided in
Note 11.
Certain employees of the Company have been granted options by NL to
purchase NL common stock. Prior to January 1, 2006, the Company accounted for
stock-based employee compensation in accordance with APBO No. 25, and its
various interpretations. Under APBO No. 25, no compensation cost is generally
recognized for fixed stock options in which the exercise price is greater than
or equal to the market price on the grant date. Prior to 2005, and following the
cash settlement of certain stock options held by employees of NL and the
Company, the Company commenced accounting for its stock options using the
variable accounting method of APBO No. 25 because the Company could not overcome
the presumption that it would not similarly cash settle the remaining stock
options. Under the variable accounting method, the intrinsic value of all
unexercised stock options (including stock options with an exercise price at
least equal to the market price on the date of grant) is accrued as an expense,
with subsequent increases (decreases) in the Company's market price resulting in
the recognition of additional compensation expense (income). Following adoption
of SFAS No. 123R effective January 1, 2006, the Company will continue to account
for NL's remaining stock options in a manner similar to the variable accounting
method of APBO No. 25, as required by the guidance of SFAS No. 123R.
Aggregate compensation expense related to NL stock options held by
employees of the Company was $12,000 in 2003 and $167,000 in 2004 and
compensation income was $74,000 in 2005. Aggregate compensation expense was
approximately $6,000 in the first quarter of 2005 and aggregate compensation
income was approximately $26,000 in the first quarter of 2006. The total income
tax benefit related to such compensation cost recognized by the Company was
approximately $4,000 in 2003 and $66,000 in 2004 and the total income tax
provision related to the compensation income was $29,000 in 2005. No
compensation cost was capitalized as part of assets (inventory or fixed assets)
during 2003, 2004, 2005 and 2006. If the Company and its subsidiaries had each
elected to account for their respective stock-based employee compensation
related to stock options in accordance with the fair value-based recognition
provisions of SFAS No. 123, for all awards granted subsequent to January 1,
1995, the effect on the Company's results of operations in 2003, 2004, 2005 and
2006 would not have been material.
FA-26
KRONOS DENMARK APS AND SUBSIDIARIES
Index of Consolidated Financial Statements
Financial Statements
Pages
Report of Independent Registered Public Accounting Firm FB-2
Consolidated Balance Sheets - December 31, 2004 and 2005;
March 31, 2006 (unaudited) FB-3
Consolidated Statements of Income - Years ended
December 31, 2003, 2004 and 2005;
Three months ended March 31, 2005 and 2006 (unaudited) FB-5
Consolidated Statements of Comprehensive Income -
Years ended December 31, 2003, 2004 and 2005;
Three months ended March 31, 2005 and 2006 (unaudited) FB-6
Consolidated Statements of Stockholder's Equity - Years ended
December 31, 2003, 2004 and 2005;
Three months ended March 31, 2006 (unaudited) FB-7
Consolidated Statements of Cash Flows - Years ended
December 31, 2003, 2004 and 2005;
Three months ended March 31, 2005 and 2006 (unaudited) FB-8
Notes to Consolidated Financial Statements FB-10
FB-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholder of Kronos Denmark ApS:
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of income, comprehensive income, stockholder's
equity and cash flows present fairly, in all material respects, the financial
position of Kronos Denmark ApS and Subsidiaries at December 31, 2004 and 2005,
and the results of their operations and their cash flows for each of the three
years in the period ended December 31, 2005 in conformity with accounting
principles generally accepted in the United States of America. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with the
standards of the Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
PricewaterhouseCoopers LLP
Dallas, Texas
March 28, 2006
FB-2
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
December 31, March 31,
-------------------------- -----------
ASSETS 2004 2005 2006
---- ---- ----
(unaudited)
Current assets:
Cash and cash equivalents $ 3,566 $ 1,042 $ 1,423
Restricted cash 1,529 1,355 951
Accounts and notes receivable, net 18,422 17,319 20,819
Receivable from affiliates 16,029 27,493 32,960
Refundable income taxes 1,542 205 -
Inventories 65,282 69,506 67,727
Prepaid expenses 908 900 1,070
Deferred income taxes - - 50
-------- -------- --------
Total current assets 107,278 117,820 125,000
-------- -------- --------
Other assets:
Note receivable from affiliate 12,941 11,239 11,406
Other 7,013 6,153 6,258
-------- -------- --------
Total other assets 19,954 17,392 17,664
-------- -------- --------
Property and equipment:
Land 19,236 16,829 17,099
Buildings 41,196 36,995 37,703
Machinery and equipment 190,748 176,849 180,535
Mining properties 72,384 68,163 68,545
Construction in progress 3,443 1,964 2,428
-------- -------- --------
327,007 300,800 306,310
Less accumulated depreciation and amortization 200,873 188,090 194,335
-------- -------- --------
Net property and equipment 126,134 112,710 111,975
-------- -------- --------
$253,366 $247,922 $254,639
======== ======== ========
FB-3
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONTINUED)
(In thousands, except share data)
December 31, March 31,
------------------------- -----------
LIABILITIES AND STOCKHOLDER'S EQUITY 2004 2005 2006
---- ---- ----
Current liabilities:
Current maturities of long-term debt $ 13,792 $ 958 $ 959
Accounts payable and accrued liabilities 38,776 38,406 36,551
Payable to affiliates 10,142 9,058 3,309
Income taxes 6,427 6,564 9,190
Deferred income taxes 2,363 2,194 -
-------- -------- --------
Total current liabilities 71,500 57,180 50,009
-------- -------- --------
Noncurrent liabilities:
Long-term debt 178 3,567 3,636
Note payable to affiliate 5,449 - -
Deferred income taxes 22,358 19,266 22,046
Accrued pension costs 2,493 4,129 3,271
Other 3,484 1,362 2,580
-------- -------- --------
Total noncurrent liabilities 33,962 28,324 31,533
-------- -------- --------
Stockholder's equity:
Common stock - 100 Danish kroner par value;
10,000 shares authorized; 10,000
shares issued and outstanding 136 136 136
Additional paid-in capital 216,996 216,996 216,996
Accumulated deficit (69,643) (34,216) (27,067)
Accumulated other comprehensive loss:
Currency translation adjustment 9,686 (10,584) (7,054)
Minimum pension liability (9,271) (9,914) (9,914)
-------- -------- --------
Total stockholder's equity 147,904 162,418 173,097
-------- -------- --------
$253,366 $247,922 $254,639
======== ======== ========
Commitments and contingencies (Notes 7, 10 and 13)
See accompanying notes to consolidated financial statements.
FB-4
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In thousands)
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
Net sales $ 292,611 $ 345,962 $ 364,865 $ 91,440 $ 84,970
Cost of sales 234,881 284,902 291,075 71,263 67,849
--------- --------- --------- --------- ---------
Gross margin 57,730 61,060 73,790 20,177 17,121
Selling, general and administrative expense 19,596 23,874 24,868 6,383 5,854
Other operating income (expense):
Currency transaction gains (losses), net 355 980 173 (123) (229)
Disposition of property and equipment 37 (596) (220) 1 8
Other, net 350 286 489 37 9
--------- --------- --------- --------- ---------
Income from operations 38,876 37,856 49,364 13,709 11,055
Other income (expense):
Trade interest income 163 73 88 16 12
Securities transaction gain - - 5,439 - -
Other income from affiliates 198 202 387 80 80
Interest and other expense to affiliates (2,608) (2,943) (2,572) (646) (581)
Interest expense (2,309) (1,529) (1,142) (397) (179)
--------- --------- --------- --------- ---------
Income before income taxes 34,320 33,659 51,564 12,762 10,387
Provision for income taxes 7,428 9,843 16,137 4,084 3,238
--------- --------- --------- --------- ---------
Net income $ 26,892 $ 23,816 $ 35,427 $ 8,678 $ 7,149
========= ========= ========= ========= =========
See accompanying notes to consolidated financial statements.
FB-5
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
Net income $ 26,892 $ 23,816 $ 35,427 $ 8,678 $ 7,149
--------- --------- --------- --------- ---------
Other comprehensive income (loss), net of tax:
Currency translation adjustment 10,998 13,890 (20,270) (8,013) 3,530
Minimum pension liability (10,459) 1,188 (643) - -
--------- --------- --------- --------- ---------
Total other comprehensive income 539 15,078 (20,913) (8,013) 3,530
--------- --------- --------- --------- ---------
Comprehensive income $ 27,431 $ 38,894 $ 14,514 $ 665 $ 10,679
========= ========= ========= ========= =========
See accompanying notes to consolidated financial statements.
FB-6
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY
Years ended December 31, 2003, 2004 and 2005;
and three months ended March 31, 2006 (unaudited)
(In thousands)
Accumulated other
comprehensive income (loss)
---------------------------
Additional Currency Minimum
Common paid-in Accumulated translation pension
stock capital deficit adjustment liability Total
-------- ----------- ------------- ------------- ----------- --------
Balance at December 31, 2002 $ 136 $ 216,996 $(120,351) $ (15,202) $ - $ 81,579
Net income - - 26,892 - - 26,892
Other comprehensive income (loss),
net of tax - - - 10,998 (10,459) 539
-------- --------- --------- --------- --------- ---------
Balance at December 31, 2003 136 216,996 (93,459) (4,204) (10,459) 109,010
Net income - - 23,816 - - 23,816
Other comprehensive income, net of tax - - - 13,890 1,188 15,078
-------- --------- --------- --------- --------- ---------
Balance at December 31, 2004 136 216,996 (69,643) 9,686 (9,271) 147,904
Net income - - 35,427 - - 35,427
Other comprehensive income, net of tax - - - (20,270) (643) (20,913)
-------- --------- --------- --------- --------- ---------
Balance at December 31, 2005 136 216,996 (34,216) (10,584) (9,914) 162,418
Unaudited:
Net income - - 7,149 - - 7,149
Other comprehensive income, net of
tax - - - 3,530 3,530
-------- --------- --------- --------- --------- ---------
Balance at March 31, 2006 $ 136 $ 216,996 $ (27,067) $ (7,054) $ (9,914) $ 173,097
======== ========= ========= ========= ========= =========
See accompanying notes to consolidated financial statements.
FB-7
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
Cash flows from operating activities:
Net income $ 26,892 $ 23,816 $ 35,427 $ 8,678 $ 7,149
Depreciation and amortization 11,446 12,041 13,379 3,394 3,381
Noncash interest expense 332 358 302 97 40
Deferred income taxes (5,405) (2,983) (265) (235) 56
Securities transaction gain - - (5,439) - -
Net loss (gain) from disposition of property and 220 (8)
equipment (37) 596 (1)
Pension, net 2,278 4,372 1,469 (52) (591)
Other, net - - - - 386
Change in assets and liabilities:
Accounts and notes receivable 437 (967) (1,727) (2,844) (3,127)
Inventories (2,250) 6,500 (12,685) (2,188) 2,545
Prepaid expenses 143 17 (104) 186 (148)
Accounts payable and accrued liabilities 4,107 3,130 5,324 (193) (1,284)
Income taxes (2,902) (453) 2,379 2,654 2,636
Accounts with affiliates 10,403 (37,220) (13,683) (8,756) (10,549)
Other noncurrent assets (4,181) 2,257 (552) 5 3
Other noncurrent liabilities 547 (1,420) (1,936) (1,888) (5)
--------- --------- --------- --------- ---------
Net cash provided (used) by
operating activities 41,810 10,044 22,109 (1,143) 484
--------- --------- --------- --------- ---------
Cash flows from investing activities:
Capital expenditures (10,274) (11,725) (15,044) (1,224) (479)
Loans to affiliates - (11,597) - (23) -
Proceeds from disposal of interest in
Norwegian smelting operation - - 3,542 - -
Change in restricted cash equivalents
and restricted marketable debt
securities, net (554) (70) 129 529 411
Proceeds from disposition of property
and equipment 350 100 29 14 8
--------- --------- --------- --------- ---------
Net cash used by investing activities (10,478) (23,292) (11,344) (704) (60)
--------- --------- --------- --------- ---------
FB-8
KRONOS DENMARK APS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(In thousands)
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
Cash flows from financing activities:
Indebtedness:
Borrowings $ 16,106 $ 62,140 $ 4,620 $ - $ -
Principal payments (46,006) (50,089) (13,159) (41) (39)
Loans from affiliates - repayments - - (4,648) (14) -
--------- --------- --------- --------- ---------
Net cash provided (used) by financing activities (29,900) 12,051 (13,187) (55) (39)
--------- --------- --------- --------- ---------
Cash and cash equivalents:
Net change during the year from:
Operating, investing and financing
activities 1,432 (1,197) (2,422) (1,902) 385
Currency translation 336 82 (102) (20) (4)
Balance at beginning of period 2,913 4,681 3,566 3,566 1,042
--------- --------- --------- --------- ---------
Balance at end of period $ 4,681 $ 3,566 $ 1,042 $ 1,644 $ 1,423
========= ========= ========= ========= =========
Supplemental disclosures:
Cash paid for:
Interest $ 4,638 $ 4,198 $ 446 $ 157 $ 66
Income taxes 11,525 13,331 13,885 1,640 531
Inventories received as partial consideration for
disposal of interest in Norwegian
smelting operation $ - $ - $ 1,897 $ - $ -
See accompanying notes to consolidated financial statements.
FB-9
KRONOS DENMARK APS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Organization and basis of presentation:
Kronos Denmark ApS ("KDK") was incorporated in Denmark in October 1999 and
is a wholly-owned subsidiary of Kronos International, Inc. ("KII"). KII is a
wholly-owned subsidiary of Kronos Worldwide, Inc. (NYSE:KRO). At December 31,
2005, (i) Valhi, Inc (NYSE: VHI) owned approximately 57% of Kronos' common stock
and NL Industries, Inc. (NYSE: NL) held an additional 36% of the outstanding
common stock of Kronos, (ii) Valhi owned 83% of NL's outstanding common stock
and (iii) Contran Corporation and its subsidiaries held approximately 92% of
Valhi's outstanding common stock. At March 31, 2006 (i) Valhi held approximately
59% of Kronos' outstanding common stock and NL Industries, Inc. held an
additional 35% of Kronos' common stock, (ii) Valhi owned approximately 83% of
NL's outstanding common stock and (iii) Contran Corporation and its subsidiaries
held approximately 92% of Valhi's outstanding common stock. Substantially all of
Contran's outstanding voting stock is held by trusts established for the benefit
of certain children and grandchildren of Harold C. Simmons of which Mr. Simmons
is sole trustee, or is held by Mr. Simmons or persons or other entities related
to Mr. Simmons. Consequently, Mr. Simmons may be deemed to control each of such
companies.
The accompanying consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States of
America ("GAAP") with the U.S. dollar as the reporting currency. KDK and its
subsidiaries also prepare financial statements on other bases, as required in
countries in which such entities are resident.
KDK's current operations are conducted primarily through its Belgian and
Norwegian subsidiaries with a titanium dioxide pigments ("TiO2") plant in
Belgium and a TiO2 plant and ilmenite ore mining operation in Norway. KDK also
operates TiO2 sales and distribution facilities in Denmark and the Netherlands.
KDK is not a registrant with the U.S. Securities and Exchange Commission
("SEC") and is not subject to the SEC's periodic reporting requirements, except
as may be required by Rule 3-16 of Regulation S-X.
Note 2 - Summary of significant accounting policies:
Management's estimates. The preparation of financial statements in
conformity with accounting principles generally accepted in the United States of
America ("GAAP") requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements, and
the reported amount of revenues and expenses during the reporting period. Actual
results may differ from previously-estimated amounts under different assumptions
or conditions.
Principles of consolidation. The consolidated financial statements include
the accounts of KDK and its wholly-owned subsidiaries (collectively, the
"Company"). All material intercompany accounts and balances have been
eliminated.
Unaudited interim information. Information included in the consolidated
financial statements and related notes to the consolidated financial statements
as of March 31, 2006 and for the three month interim periods ended March 31,
2005 and 2006 is unaudited. In the opinion of management, all adjustments,
consisting only of normal recurring adjustments, necessary to state fairly the
consolidated financial position, results of operations and cash flows for such
interim periods have been made. The results of operations for the interim
FB-10
periods are not necessarily indicative of the operating results for a full year
or of future operations. Certain information normally included in financial
statements prepared in accordance with GAAP has been condensed or omitted for
such interim periods.
Translation of foreign currencies. The functional currencies of the Company
include the Danish kroner, the euro and the Norwegian kroner. Assets and
liabilities of subsidiaries whose functional currency is other than the U.S.
dollar are translated at year-end rates of exchange and revenues and expenses
are translated at average exchange rates prevailing during the year. Resulting
translation adjustments are accumulated in stockholder's equity as part of
accumulated other comprehensive income, net of related deferred income taxes.
Currency transaction gains and losses are recognized in income currently.
Derivatives and hedging activities. Derivatives are recognized as either
assets or liabilities and measured at fair value in accordance with SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities," as amended.
The accounting for changes in fair value of derivatives depends upon the
intended use of the derivative, and such changes are recognized either in net
income or other comprehensive income. As permitted by the transition
requirements of SFAS No. 133, as amended, the Company has exempted from the
scope of SFAS No. 133 all host contracts containing embedded derivatives that
were issued or acquired prior to January 1, 1999.
Cash and cash equivalents. Cash equivalents include bank deposits with
original maturities of three months or less.
Restricted marketable debt securities. Restricted marketable debt
securities are primarily invested in corporate debt securities and include
amounts restricted in accordance with applicable Norwegian law regarding certain
requirements of the Company's Norwegian defined benefit pension plans ($2.9
million and $2.6 million at December 31, 2004 and 2005, respectively). The
restricted marketable debt securities are generally classified as either a
current or noncurrent asset depending upon the maturity date of each such debt
security and are carried at market, which approximates cost.
Accounts receivable. The Company provides an allowance for doubtful
accounts for known and estimated potential losses arising from sales to
customers based on a periodic review of these accounts.
Property and equipment and depreciation. Property and equipment are stated
at cost. The Company has a governmental concession with an unlimited term to
operate an ilmenite mine in Norway. Mining properties consist of buildings and
equipment used in the Company's Norwegian ilmenite mining operations. While the
Company owns the land and ilmenite reserves associated with the mine, such land
and reserves were acquired for nominal value and the Company has no material
asset recognized for the land and reserves related to such mining operations.
Depreciation of property and equipment for financial reporting purposes
(including mining properties) is computed principally by the straight-line
method over the estimated useful lives of ten to 40 years for buildings and
three to 20 years for equipment. Accelerated depreciation methods are used for
income tax purposes, as permitted. Upon sale or retirement of an asset, the
related cost and accumulated depreciation are removed from the accounts and any
gain or loss is recognized in income currently.
Expenditures for maintenance, repairs and minor renewals are expensed;
expenditures for major improvements are capitalized. The Company performs
planned major maintenance activities during the year. Repair and maintenance
costs estimated to be incurred in connection with planned major maintenance
activities are accrued in advance and are included in cost of sales. Accrued
repair and maintenance costs, included in other current liabilities and
consisting primarily of materials and supplies, was $600,000 and $1.2 million at
December 31, 2004 and 2005, respectively.
FB-11
Interest costs related to major long-term capital projects and renewals are
capitalized as a component of construction costs. Interest costs capitalized
were not significant in 2003, 2004 or 2005.
When events or changes in circumstances indicate that assets may be
impaired, an evaluation is performed to determine if an impairment exists. Such
events or changes in circumstances include, among other things, (i) significant
current and prior periods or current and projected periods with operating
losses, (ii) a significant decrease in the market value of an asset or (iii) a
significant change in the extent or manner in which an asset is used. All
relevant factors are considered. The test for impairment is performed by
comparing the estimated future undiscounted cash flows (exclusive of interest
expense) associated with the asset to the asset's net carrying value to
determine if a write-down to market value or discounted cash flow value is
required. The Company assesses impairment of other long-lived assets (such as
property and equipment and mining properties) in accordance with SFAS No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets."
Long-term debt. Long-term debt is stated net of any unamortized original
issue premium or discount. Amortization of deferred financing costs, included in
interest expense, is computed by the interest method over the term of the
applicable issue.
Employee benefit plans. Accounting and funding policies for retirement
plans are described in Note 9.
Income taxes. Deferred income tax assets and liabilities are recognized for
the expected future tax consequences of temporary differences between the income
tax and financial reporting carrying amounts of assets and liabilities,
including investments in the Company's subsidiaries and affiliates who are not
members of the Contran Tax Group and undistributed earnings of foreign
subsidiaries which are not deemed to be permanently reinvested. The Company
periodically evaluates its deferred tax assets in the various taxing
jurisdictions in which it operates and adjusts any related valuation allowance
based on the estimate of the amount of such deferred tax assets that the Company
believes does not meet the "more-likely-than-not" recognition criteria.
Net sales. Sales are recorded when products are shipped and title and other
risks and rewards of ownership have passed to the customer, or when services are
performed. Shipping terms of products shipped are generally FOB shipping point;
although in some instances shipping terms are FOB destination point (for which
sales are not recognized until the product is received by the customer). Amounts
charged to customers for shipping and handling are included in net sales. Sales
are stated net of price, early payment and distributor discounts and volume
rebates.
Inventories and cost of sales. Inventories are stated at the lower of cost
(principally average cost) or market, net of allowance for slow-moving
inventories. Amounts are removed from inventories at average cost. Cost of sales
includes costs for materials, packaging and finishing, utilities, salary and
benefits, maintenance and depreciation.
Selling, general and administrative expenses; shipping and handling costs.
Selling, general and administrative expenses include costs related to marketing,
sales, distribution, shipping and handling, research and development, legal and
administrative functions, such as accounting, treasury and finance, and includes
costs for salaries and benefits, travel and entertainment, promotional materials
and professional fees. Shipping and handling costs are included in selling,
general and administrative expense and were $11.2 million in 2003, $13.1 million
in 2004 and $13.2 million in 2005. Advertising costs are expensed as incurred
and were approximately $100,000 in each of 2003, 2004 and 2005. Research,
development and certain sales technical support costs are expensed as incurred
and approximated $300,000 in 2003, $200,000 in 2004 and $300,000 in 2005.
FB-12
Stock options. The Company has not issued any stock options. However,
certain employees of the Company have been granted options by NL to purchase NL
common stock. The Company has elected the disclosure alternative prescribed by
SFAS No. 123, "Accounting for Stock-Based Compensation," as amended, and to
account for its stock-based employee compensation related to stock options in
accordance with Accounting Principles Board Opinion ("APBO") No. 25, "Accounting
for Stock Issued to Employees," and its various interpretations. The Company
adopted SFAS No. 123R "Share-Based Payment," as of January 1, 2006, see Note 15.
Note 3 - Accounts and notes receivable, net:
December 31, March 31,
--------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Trade receivables $ 15,487 $ 13,992 $ 17,686
Recoverable VAT and other receivables 2,960 3,349 3,156
Allowance for doubtful accounts (25) (22) (23)
-------- -------- --------
$ 18,422 $ 17,319 $ 20,819
======== ======== ========
Note 4 - Inventories:
December 31, March 31,
--------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Raw materials $ 13,804 $ 21,359 $ 14,033
Work in process 2,871 1,771 2,146
Finished products 31,725 30,659 34,577
Supplies 16,882 15,717 16,971
-------- -------- --------
$ 65,282 $ 69,506 $ 67,727
======== ======== ========
Note 5 - Other noncurrent assets:
December 31, March 31,
--------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Unrecognized net pension obligations $ 3,852 $ 3,108 $ 3,184
Restricted marketable debt securities 2,877 2,572 2,635
Deferred financing costs, net 198 400 367
Other 86 73 72
-------- -------- --------
$ 7,013 $ 6,153 $ 6,258
======== ======== ========
FB-13
Note 6 - Accounts payable and accrued liabilities:
December 31, March 31,
--------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Accounts payable $ 21,695 $ 20,048 $ 18,766
-------- -------- --------
Accrued liabilities:
Employee benefits 10,462 9,664 7,702
Other 6,619 8,694 10,083
-------- -------- --------
17,081 18,358 17,785
-------- -------- --------
$ 38,776 $ 38,406 $ 36,551
======== ======== ========
Note 7 - Notes payable and long-term debt:
December 31, March 31,
--------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Long-term debt: $ 13,622 $ - $ -
Bank credit facility 348 4,525 4,595
-------- -------- --------
Other
13,970 4,525 4,595
Less current maturities 13,792 958 959
-------- -------- --------
$ 178 $ 3,567 $ 3,636
======== ======== ========
The Company and certain of KII's subsidiaries in Belgium and Norway (Kronos
Europe S.A./N.V.-"KEU", Kronos Titan A/S - "TAS" and Titania A/S - "TIA," Kronos
Norge A/S, the parent company of TAS and TIA, and Kronos Titan GmbH "TG"),
referred to as the "Borrowers", have a euro 80 million secured revolving credit
facility that matures in June 2008. Borrowings may be denominated in euros,
Norwegian kroner or U.S. dollars, and bear interest at the applicable interbank
market rate plus 1.125%. The facility also provides for the issuance of letters
of credit up to euro 5 million. The Credit Facility is collateralized by the
accounts receivable and inventories of the borrowers, plus a limited pledge of
all of the other assets of the Belgian borrower. The credit facility contains
certain restrictive covenants which, among other things, restrict the ability of
the borrowers to incur debt, incur liens, pay dividends or merge or consolidate
with, or sell or transfer all or substantially all of their assets to, another
entity. In addition, the Credit Facility contains customary cross-default
provisions with respect to other debt and obligations of Borrowers, KII and its
other subsidiaries. At December 31, 2005, no amounts were outstanding under the
European Credit Facility and the equivalent of $92.3 million was available for
additional borrowing by the Borrowers. The Company, KEU and TG are
unconditionally jointly and severally liable for any and all outstanding
borrowings under the credit facility. TAS, TIA and Kronos Norge A/S are jointly
and severally liable for any and all outstanding borrowings under the credit
facility to the extent permitted by Norwegian law.
Deferred financing costs of $1.4 million for the Credit Facility ($1.0
million paid by the Company, with the remaining $.4 million paid by the German
operating subsidiary) are being amortized over the life of the Credit Facility
and are included in other noncurrent assets as of December 31, 2005.
In June 2002, KII issued at par value euro 285 million principal amount
($280 million when issued) of its 8.875% Senior Secured Notes due 2009, and in
November 2004 KII issued at 107% of par an additional euro 90 million principal
amount ($130 million when issued) of the KII Senior Secured Notes (collectively
FB-14
the "Notes"). The Notes are collateralized by a pledge of 65% of the common
stock or other ownership interests of certain of KII's first-tier operating
subsidiaries. Such operating subsidiaries are the Company, Kronos Titan GmbH,
Kronos Limited and Societe Industrielle Du Titane, S.A. The Notes are issued
pursuant to an indenture which contains a number of covenants and restrictions
which, among other things, restricts the ability of KII and its subsidiaries to
incur debt, incur liens, pay dividends or merge or consolidate with, or sell or
transfer all or substantially all of their assets to, another entity. The Notes
are redeemable, at KII's option, at redemption prices ranging from 104.437% of
the principal amount, declining to 100% on or after December 30, 2008. In the
event of a change of control of KII, as defined, KII would be required to make
an offer to purchase its Notes at 101% of the principal amount. KII would also
be required to make an offer to purchase a specified portion of its Notes at par
value in the event KII generates a certain amount of net proceeds from the sale
of assets outside the ordinary course of business, and such net proceeds are not
otherwise used for specified purposes within a specified time period.
Under the cross-default provisions of the Notes, the Notes may be
accelerated prior to their stated maturity if KII or any of KII's subsidiaries
default under any other indebtedness in excess of $20 million due to a failure
to pay such other indebtedness at its due date (including any due date that
arises prior to the stated maturity as a result of a default under such other
indebtedness). Under the cross-default provisions of the Credit Facility, any
outstanding borrowings under the Credit Facility may be accelerated prior to
their stated maturity if the Borrowers or KII default under any other
indebtedness in excess of euro 5 million due to a failure to pay such other
indebtedness at its due date (including any due date that arises prior to the
stated maturity as a result of a default under such other indebtedness). The
Credit Facility contains provisions that allow the lender to accelerate the
maturity of the Credit Facility in the event of a change of control, as defined,
of the applicable borrower. In the event any of these cross-default or
change-of-control provisions become applicable, and such indebtedness is
accelerated, KII would be required to repay such indebtedness prior to their
stated maturity.
In April 2006, KII called all of its 8.875% Senior Secured Notes for
redemption on May 11, 2006 at 104.437% of their aggregate principal amount of
euro 375 million (an aggregate of $470.2 million at March 31, 2006 exchange
rates). Funds for such redemption were provided by KII's issuance of an
aggregate of euro 400 million principal amount of new 6.5% Senior Secured Notes
due April 2013, issued on April 11, 2006 at 99.306% of their principal amount.
The new Senior Secured Notes were issued pursuant to an indenture that contains
covenants, restrictions and collateral substantially identical to the covenants,
restrictions and collateral of the 8.875% Senior Secured Notes.
Other long-term debt relates primarily to certain capital lease agreements
which expire at various dates through 2011.
The aggregate maturities of long-term debt at December 31, 2005 are shown
in the table below.
Amount
Years ending December 31, (In thousands)
------------------------- --------------
2006 $ 958
2007 861
2008 872
2009 902
2010 932
------
$4,525
======
FB-15
Note 8 - Securities transaction gain:
A securities transaction gain in 2005, classified as nonoperating income,
relates to the sale of the Company's passive interest in a Norwegian smelting
operation, which had a nominal carrying value for financial reporting purposes,
for aggregate consideration of approximately $5.4 million consisting of cash of
$3.5 million and inventory with a value of $1.9 million.
Note 9 - Employee benefit plans:
The Company maintains various defined benefit pension plans. Personnel are
covered by plans in their respective countries. Variances from actuarially
assumed rates will result in increases or decreases in accumulated pension
obligations, pension expense and funding requirements in future periods. In 2002
the Company amended its defined benefit pension plans for KEU, TAS and TIA to
exclude the admission of new employees to the plans. New employees at these
locations are eligible to participate in Company-sponsored defined contribution
plans. The Company's expense related to the Company-sponsored defined
contribution plans was not material in 2004 or 2005. At December 31, 2005, the
Company expects to contribute the equivalent of approximately $1.6 million to
its defined benefit pension plans during 2006.
Certain actuarial assumptions used in measuring the defined benefit pension
assets, liabilities and expenses are presented below. The Company uses a
September 30th measurement date for their defined benefit pension plans.
The weighted-average rate assumptions used in determining the actuarial
present value of benefit obligations as of December 31, 2004 and 2005 are
presented in the table below. Such weighted-average rates were determined using
the projected benefit obligations at each date.
December 31,
------------------------
Rate 2004 2005
---- ---- ----
Discount rate 5.0% 4.4%
Increase in future compensation levels 3.0% 3.0%
The weighted-average rate assumptions used in determining the net periodic
pension cost for 2003, 2004 and 2005 are presented in the table below. The
weighted-average discount rate and the weighted-average increase in future
compensation levels were determined using the projected benefit obligations as
of the beginning of each year, and the weighted-average long-term return on plan
assets was determined using the fair value of plan assets as of the beginning of
each year.
December 31,
----------------------------------------
Rate 2003 2004 2005
---- ---- ---- ----
Discount rate 5.9% 5.5% 5.0%
Increase in future compensation levels 3.0% 3.0% 3.0%
Long-term return on plan assets 7.0% 6.0% 6.0%
FB-16
Plan assets are comprised primarily of investments in corporate equity and
debt securities, short-term investments, mutual funds and group annuity
contracts.
The components of the net periodic defined benefit pension cost are set
forth below.
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
(In thousands)
Net periodic pension cost:
Service cost benefits $ 1,430 $ 2,096 $ 2,133 $ 615 $ 560
Interest cost on projected benefit 3,345 757
obligation ("PBO") 2,907 3,436 865
Expected return on plan assets (3,335) (2,815) (3,142) (835) (718)
Amortization of prior service cost 255 267 282 73 33
Amortization of net transition obligation 296 321 129 87 63
Recognized actuarial losses 732 1,428 1,276 329 326
--------- --------- --------- --------- ---------
$ 2,285 $ 4,733 $ 4,023 $ 1,134 $ 1,021
========= ========= ========= ========= =========
The funded status of the Company's defined benefit pension plans is set
forth below.
FB-17
December 31,
----------------------
2004 2005
---- ----
(In thousands)
Change in projected benefit obligations ("PBO"):
Benefit obligations at beginning of year $ 64,161 $ 72,361
Service cost 2,096 2,133
Interest cost 3,436 3,345
Participant contributions 152 149
Actuarial gains (losses) (1,891) 2,933
Change in currency exchange rates 7,081 (8,259)
Benefits paid (2,674) (2,886)
---------- ----------
Benefit obligations at end of year $ 72,361 $ 69,776
---------- ----------
Change in fair value of plan assets:
Fair value of plan assets at beginning of year $ 49,540 $ 57,754
Actual return on plan assets 3,881 2,203
Employer contributions 1,170 1,977
Participant contributions 152 149
Change in currency exchange rates 5,685 (6,375)
Benefits paid (2,674) (2,886)
---------- ----------
Fair value of plan assets at end of year $ 57,754 $ 52,822
---------- ----------
Funded status at year end:
Plan assets less than PBO $ (14,607) $ (16,954)
Unrecognized actuarial loss 26,344 26,024
Unrecognized prior service cost 3,157 2,550
Unrecognized net transition obligation 999 770
---------- ----------
$ 15,893 $ 12,390
========== ==========
Amounts recognized in the balance sheet:
Accrued pension cost:
Current $ - $ (456)
Non current (2,469) (4,129)
Unrecognized net pension obligations 3,852 3,108
Accumulated other comprehensive loss 14,510 13,867
---------- ----------
$ 15,893 $ 12,390
========== ==========
SFAS No. 87, "Employers' Accounting for Pensions" requires that an
additional pension liability be recognized when the unfunded accumulated pension
benefit obligation exceeds the unfunded accrued pension liability. Variances
from actuarially assumed rates will change the actuarial valuation of accrued
pension liabilities, pension expense and funding requirements in future periods.
The accumulated benefit obligation of the Company's defined benefit pension
plans was $58.0 million at December 31, 2005 (2004 - $60.8 million).
In determining the expected long-term rate of return on plan asset
assumptions, the Company considers the long-term asset mix (e.g. equity vs.
fixed income) for the assets for each of its plans and the expected long-term
rates of return for such asset components. In addition, the Company receives
advice about appropriate long-term rates of return from the Company's
third-party actuaries. The Company currently has a plan asset target allocation
of 14% to equity managers, 64% to fixed income managers and the remainder
primarily to cash and liquid investments. The expected long-term rate of return
FB-18
for such investments is approximately 8%, 4.5% to 6% and 2.5%, respectively. The
plan asset allocation at December 31, 2005 was 16% to equity managers, 62% to
fixed income managers and the remainder invested primarily cash and liquid
investments (2004 - 16%, 64% and 20%, respectively). The Company regularly
reviews its actual asset allocation for each of its plans, and will periodically
rebalance the investments in each plan to more accurately reflect the targeted
allocation when considered appropriate.
The Company expects future benefits paid from its defined benefit plans to
be as follows:
Amount
Years ending December 31, (In thousands)
------------------------- --------------
2006 $ 3,921
2007 2,790
2008 4,425
2009 3,036
2010 3,087
2011 to 2015 20,926
Note 10 - Income taxes:
The components of (i) income from continuing operations before income taxes
("pretax income"), (ii) the difference between the provision for income taxes
attributable to pretax income and the amounts that would be expected using the
Danish statutory income tax rate of 30% in 2003 and 2004 and 28% in 2005, (iii)
the provision for income taxes and (iv) the comprehensive tax provision are
presented below.
FB-19
Three months ended
Years ended December 31, March 31,
----------------------------------------- ------------------------
2003 2004 2005 2005 2006
---- ---- ---- ---- ----
(unaudited)
(In thousands)
Pretax income (loss):
Denmark $ 170 $ (101) $ 526 $ 280 $ 129
Non-Denmark 34,150 33,760 51,038 12,482 10,258
------- ------- ------- ------- -------
$34,320 $33,659 $51,564 $12,762 $10,387
======= ======= ======= ======= =======
Expected tax expense $10,296 $10,099 $14,438 $ 3,829 $ 2,908
Non-Denmark tax rates 428 527 1,360 173 308
Non deductible expenses - - 281 - -
Tax contingency reserve adjustment (5,100) (125) (653) - 23
Refund of prior year taxes - (595) (45) - -
Tax on partnership income 1,245 (358) - - -
Other, net 559 295 756 82 (1)
------- ------- ------- ------- -------
Income tax expense $ 7,428 $ 9,843 $16,137 $ 4,084 $ 3,238
======= ======= ======= ======= =======
Provision for income taxes:
Current income tax expense:
Denmark $ 63 $ 2 $ 224 $ 86 $ 34
Non-Denmark 12,770 12,824 16,178 4,233 3,148
------- ------- ------- ------- -------
12,833 12,826 16,402 4,319 3,182
------- ------- ------- ------- -------
Deferred income tax expense (benefit):
Denmark (5,104) (139) (644) (1) 3
Non-Denmark (301) (2,844) 379 (234) 53
------- ------- ------- ------- -------
(5,405) (2,983) (265) (235) 56
------- ------- ------- ------- -------
$ 7,428 $ 9,843 $16,137 $ 4,084 $ 3,238
======= ======= ======= ======= =======
Comprehensive provision for income
taxes allocable to:
Pretax income $ 7,428 $ 9,843 $16,137 $ 4,084 $ 3,238
Other comprehensive loss -
pension liabilities (4,068) 5 180 - -
------- ------- ------- ------- -------
$ 3,360 $ 9,848 $16,317 $ 4,084 $ 3,238
======= ======= ======= ======= =======
FB-20
The components of the net deferred tax liability are summarized below.
December 31,
---------------------------------------------------
2004 2005
----------------------- -----------------------
Assets Liabilities Assets Liabilities
------ ----------- ------ -----------
(In thousands)
Tax effect of temporary differences relating to:
Inventories $ 61 $ (2,546) $ 72 $ (2,067)
Property and equipment 181 (20,214) - (18,199)
Accrued (prepaid) pension cost 4,063 (4,624) 3,883 (3,659)
Accrued liabilities and other deductible differences 199 - 1,420 -
Other taxable differences - (3,746) - (2,910)
Incremental tax and rate differences on equity in
earnings of non-tax group companies 1,905 - - -
------ -------- ------ --------
Gross deferred tax assets (liabilities) 6,409 (31,130) 5,375 (26,835)
Reclassification, principally netting by tax
jurisdiction (6,409) 6,409 (5,375) 5,375
------ -------- ------ --------
Net total deferred tax assets (liabilities) - (24,721) - (21,460)
Net current deferred tax assets (liabilities) - (2,363) - (2,194)
------ -------- ------ --------
Net noncurrent deferred tax liabilities $ - $(22,358) $ - $(19,266)
====== ======== ====== ========
Changes in the Company's deferred income tax valuation allowance are
summarized below:
December 31,
---------------------------------
2003 2004 2005
---- ---- ----
(In thousands)
Balance at beginning of year $ 658 $ 683 $ -
Increase in certain deductible temporary differences which the Company
believes do not meet the "more-likely-than-not" recognition criteria - - -
Foreign currency translation 25 - -
Offset to the change in gross deferred income tax assets due principally
to redeterminations of certain tax attributes and implementation of
certain planning strategies - (683) -
----- ----- -----
Balance at end of year $ 683 $ - $ -
===== ===== =====
Certain of the Company's U.S. and non-U.S. tax returns are being examined
and tax authorities have or may propose tax deficiencies, including penalties
and interest. For example:
o The Company received a preliminary tax assessment related to 1993 from the
Belgian tax authorities proposing tax deficiencies, including related
interest, of approximately euro 6 million ($7 million at December 31,
2005). The Company filed a protest to this assessment, and believes that a
significant portion of the assessment was without merit. The Belgian tax
authorities have filed a lien on the fixed assets of The Company's Belgian
TiO2 operations in connection with this assessment. In April 2003, the
Company received a notification from the Belgian tax authorities of their
intent to assess a tax deficiency related to 1999 that, including interest,
would have aggregated approximately euro 9 million ($11 million). The
Company filed a written response to the assessment, and in September 2005
the Belgian tax authorities withdrew the assessment.
FB-21
o The Norwegian tax authorities have notified the Company of their intent to
assess tax deficiencies of approximately kroner 12 million ($2 million)
relating to the years 1998 through 2000. The Company has objected to this
proposed assessment.
No assurance can be given that these tax matters will be resolved in the
Company's favor in view of the inherent uncertainties involved in settlement
initiatives and court and tax proceedings. The Company believes that it has
provided adequate accruals for additional taxes and related interest expense
which may ultimately result from all such examinations and believes that the
ultimate disposition of such examinations should not have a material adverse
effect on its consolidated financial position, results of operations or
liquidity.
Note 11 - Related party transactions:
The Company may be deemed to be controlled by Harold C. Simmons. See Note
1. Corporations that may be deemed to be controlled by or affiliated with Mr.
Simmons sometimes engage in (a) intercorporate transactions such as guarantees,
management and expense sharing arrangements, shared fee arrangements, tax
sharing agreements, joint ventures, partnerships, loans, options, advances of
funds on open account, and sales, leases and exchanges of assets, including
securities issued by both related and unrelated parties and (b) common
investment and acquisition strategies, business combinations, reorganizations,
recapitalizations, securities repurchases, and purchases and sales (and other
acquisitions and dispositions) of subsidiaries, divisions or other business
units, which transactions have involved both related and unrelated parties and
have included transactions which resulted in the acquisition by one related
party of a publicly held minority equity interest in another related party.
While no transactions of the type described above are planned or proposed with
respect to the Company other than as set forth in these financial statements,
the Company from time to time considers, reviews and evaluates such transactions
and understands that Contran, Valhi, NL, Kronos, KII and related entities
consider, review and evaluate such transactions. Depending upon the business,
tax and other objectives then relevant, it is possible that the Company might be
a party to one or more such transactions in the future.
The Company is a party to services and cost sharing agreements among
several affiliates of the Company whereby Kronos, KII and other affiliates
provide certain management, financial, insurance and administrative services to
the Company on a fee basis. The Company's expense was approximately $1.9 million
in 2003, $2.1 million in 2004 and $2.5 million in 2005 related to these services
and costs.
Tall Pines Insurance Company and EWI RE, Inc. provide for or broker certain
insurance policies for Contran and certain of its subsidiaries and affiliates,
including the Company. Tall Pines is wholly-owned by a subsidiary of Valhi, and
EWI is a wholly-owned subsidiary of NL. Consistent with insurance industry
practices, Tall Pines and EWI receive commissions from insurance and reinsurance
underwriters and/or assess fees for the policies that they provide or broker.
The aggregate premiums paid to Tall Pines (including amounts paid to Valmont
Insurance Company, another subsidiary of Valhi that was merged into Tall Pines
in 2004) and EWI by the Company were $900,000 in 2003, $1.1 million in 2004 and
$2.0 million in 2005. These amounts principally included payments for insurance
and reinsurance premiums paid to third parties, but also included commissions
paid to Tall Pines and EWI. Tall Pines purchases reinsurance for substantially
FB-22
all of the risks it underwrites. The Company expects that these relationships
with Tall Pines and EWI will continue in 2006.
Contran and certain of its subsidiaries and affiliates, including the
Company, purchase certain of their insurance policies as a group, with the costs
of the jointly-owned policies being apportioned among the participating
companies. With respect to certain of such policies, it is possible that
unusually large losses incurred by one or more insureds during a given policy
period could leave the other participating companies without adequate coverage
under that policy for the balance of the policy period. As a result, Contran and
certain of its subsidiaries and its affiliates, including NL, have entered into
a loss sharing agreement under which any uninsured loss is shared by those
entities who have submitted claims under the relevant policy. The Company
believes the benefits in the form of reduced premiums and broader coverage
associated with the group coverage for such policies justifies the risk
associated with the potential for uninsured loss.
Intercompany sales to (purchases from) affiliates of TiO2 are summarized in
the following table.
Years ended December 31,
------------------------------------------
2003 2004 2005
---- ---- ----
(In thousands)
Sales to:
TG $ 38,783 $ 53,631 $ 55,210
Kronos Limited ("KUK") 18,856 25,285 20,408
Kronos (US), Inc. ("KUS") 18,792 19,180 25,445
Societe Industrielle du Titane, S.A. ("SIT") 8,138 8,868 9,054
Kronos Canada, Inc. ("KC") 4,308 2,596 3,009
-------- -------- --------
$ 88,877 $109,560 $113,126
======== ======== ========
Purchases from:
TG $ 38,785 $ 48,808 $ 58,121
KUS 101 3,489 -
KC 223 22 103
-------- -------- --------
$ 39,109 $ 52,319 $ 58,224
======== ======== ========
Sales of ilmenite to TG were $15.5 million in 2003, $17.4 million in 2004
and $21.4 million in 2005.
KUS purchases the rutile and slag feedstock used as a raw material in all
of the Company's chloride process TiO2 facilities. The Company purchases such
feedstock from KUS for use in its facilities for an amount equal to the amount
paid by KUS to the third-party supplier plus a 2.5% administrative fee. Such
feedstock purchases were $39.5 million in 2003, $40.5 million in 2004 and $47.8
million in 2005.
Royalties paid to KII for use of certain of KII's intellectual property
totaled $10.4 million in 2003, $12.5 million in 2004 and $12.4 million in 2005,
and was included as a component of cost of sales.
During 2003, 2004 and 2005, the Company was party to an accounts receivable
factoring agreement (the "Factoring Agreement") with one or more of its
affiliates whereby the Company factored its export accounts receivable without
recourse for a fee of 0.85% for the Company's export receivables related to
Kronos Europe S.A./N.V. ("KEU") and 1.2% for export receivables related to its
Norwegian operating subsidiaries, Kronos Titan A/S ("TAS") and Titania A/S
("TIA"). Upon non-recourse transfer from the Company, the affiliate assumed all
FB-23
risk pertaining to the factored receivables, including, but not limited to,
exchange control risks, risks pertaining to the bankruptcy of a customer and
risks related to late payments. Export receivables sold by the Company pursuant
to the Factoring Agreement during 2003, 2004 and 2005 aggregated $101.4 million,
and $119.9 million and $124.5 million, respectively.
Net amounts currently receivable from (payable to) affiliates are
summarized in the following table.
December 31, March 31,
--------------------------- -----------
2004 2005 2006
---- ---- ----
(unaudited)
(In thousands)
Receivable from:
SIT $ 814 $ 864 $ 886
KUK 1,766 1,638 1,694
TG 13,342 24,967 30,079
Other 107 24 301
--------- --------- ---------
$ 16,029 $ 27,493 $ 32,960
========= ========= =========
Noncurrent receivable from TG $ 12,941 $ 11,239 $ 11,406
========= ========= =========
Payable to:
KII $ 4,266 $ 3,740 $ 3,008
KUS 5,486 5,317 301
KC 390 -
--------- --------- ---------
$ 10,142 $ 9,057 $ 3,309
========= ========= =========
Noncurrent payable to TG $ 5,449 $ - $ -
========= ========= =========
Net amounts between the Company, KUS, TG, SIT, KUK and KC were generally
related to product purchases and sales. Net amounts with TG also include
accounts receivable factoring fees.
Note 12 - NL common stock options held by employees of the Company:
At December 31, 2005, employees of the Company held options to purchase
approximately 23,000 shares of NL common stock, of which 13,000 are exercisable
at various dates through 2010 at an exercise price ranging from $2.66 to $5.63
per share and 10,000 are exercisable at various dates through 2011 at an
exercise price of $11.49 per share. No options were granted during 2003, 2004,
2005 or first quarter 2006. See Note 2 and 15.
Note 13 - Commitments and contingencies:
Operating leases. The Company leases, pursuant to operating leases, various
manufacturing and office space and transportation equipment. Most of the leases
contain purchase and/or various term renewal options at fair market and fair
rental values, respectively. In most cases management expects that, in the
normal course of business, leases will be renewed or replaced by other leases.
Net rent expense aggregated $3 million in each of 2003, 2004 and 2005. At
December 31, 2005, minimum rental commitments under the terms of noncancellable
operating leases were as follows:
FB-24
Equipment
--------------
(in thousands)
Years ending December 31,
--------------------------
2006 $ 603
2007 520
2008 516
2009 253
2010 92
2011 and thereafter 99
------
$2,083
======
Long-term contracts. KUS has long-term supply contracts that provide for
certain of its affiliates', including KDK's, chloride feedstock requirements
through 2010. The Company and certain of its affiliates purchase chloride
feedstock underlying these long-term supply contracts from KUS. The agreements
require KUS to purchase certain minimum quantities of feedstock with minimum
purchase commitments aggregating approximately $681 million at December 31,
2005.
Environmental matters. The Company's operations are governed by various
environmental laws and regulations. Certain of the Company's businesses are, or
have been engaged in the handling, manufacture or use of substances or compounds
that may be considered toxic or hazardous within the meaning of applicable
environmental laws and regulations. As with other companies engaged in similar
businesses, certain past and current operations and products of the Company have
the potential to cause environmental or other damage. The Company has
implemented and continues to implement various policies and programs in an
effort to minimize these risks. The Company's policy is to maintain compliance
with applicable environmental laws and regulations at all its facilities and to
strive to improve its environmental performance. From time to time, the Company
may be subject to environmental regulatory enforcement under various statutes,
resolution of which typically involves the establishment of compliance programs.
It is possible that future developments, such as stricter requirements of
environmental laws and enforcement policies thereunder, could adversely affect
the Company's production, handling, use, storage, transportation, sale or
disposal of such substances. The Company believes all of its plants are in
substantial compliance with applicable environmental laws.
Litigation matters. The Company's Belgian subsidiary and certain of its
employees are the subject of civil and criminal proceedings relating to an
accident that resulted in two fatalities at the Company's Belgian facility in
2000. In May 2004, the court ruled and, among other things, imposed a fine of
euro 200,000 against the Company and fines aggregating less than euro 40,000
against various Company employees. The Company and the individual employees have
appealed the ruling.
In addition to the litigation described above, the Company and its
affiliates are also involved in various other environmental, contractual,
product liability, patent (or intellectual property), employment and other
claims and disputes incidental to its present and former businesses.
The Company currently believes the disposition of all claims and disputes,
individually or in the aggregate, should not have a material adverse effect on
its consolidated financial condition, results of operations or liquidity.
Concentrations of credit risk. Sales of TiO2 accounted for approximately
78%, 79% and 78% of net sales during 2003, 2004 and 2005, respectively. The
remaining sales result from the mining and sale of ilmenite ore (a raw material
used in the sulfate pigment production process) and the manufacture and sale of
certain titanium chemical products (derived from co-products of the TiO2
FB-25
production process). TiO2 is generally sold to the paint, plastics and paper
industries. Such markets are generally considered "quality-of-life" markets
whose demand for TiO2 is influenced by the relative economic well-being of the
various geographic regions. TiO2 is sold to over 1,000 customers, with the top
ten external customers approximating 26% of net sales in 2003, 24% of net sales
in 2004 and 17% of net sales in 2005. Approximately 80% of the Company's TiO2
sales by volume were to Europe in each of 2003, 2004 and 2005. Approximately 10%
of sales by volume were to North America in each of 2003, 2004 and 2005.
Note 14 - Financial instruments:
Summarized below is the estimated fair value and related net carrying value
of the Company's financial instruments.
December 31, December 31,
2004 2005
---------------------- ----------------------
Carrying Fair Carrying Fair
amount value amount value
--------- -------- ---------- -------
(In millions)
Cash, cash equivalents, restricted cash
equivalents and noncurrent restricted
marketable debt securities $ 8.0 $ 8.0 $ 5.0 $ 5.0
Notes payable and long-term debt -
variable rate debt $ 13.6 $ 13.6 $ - $ -
The Company held no derivative financial instruments during 2003, 2004 or
2005.
Note 15 - Accounting principles recently adopted in 2003, 2004 and 2006:
Asset retirement obligations. The Company adopted SFAS No. 143, "Accounting
for Asset Retirement Obligations," effective January 1, 2003. Under SFAS No.
143, the fair value of a liability for an asset retirement obligation covered
under the scope of SFAS No. 143 would be recognized in the period in which the
liability is incurred, with an offsetting increase in the carrying amount of the
related long-lived asset. Over time, the liability would be accreted to its
present value, and the capitalized cost would be depreciated over the useful
life of the related asset. Upon settlement of the liability, an entity would
either settle the obligation for its recorded amount or incur a gain or loss
upon settlement.
Under the transition provisions of SFAS No. 143, at the date of adoption on
January 1, 2003, the Company will recognize (i) an asset retirement cost
capitalized as an increase to the carrying value of its property, plant and
equipment, (ii) accumulated depreciation on such capitalized cost and (iii) a
liability for the asset retirement obligation. Amounts resulting from the
initial application of SFAS No. 143 are measured using information, assumptions
and interest rates all as of January 1, 2003. The amount recognized as the asset
retirement cost is measured as of the date the asset retirement obligation was
incurred. Cumulative accretion on the asset retirement obligation, and
accumulated depreciation on the asset retirement cost, is recognized for the
time period from the date the asset retirement cost and liability would have
been recognized had the provisions of SFAS No. 143 been in effect at the date
the liability was incurred, through January 1, 2003. The difference, if any,
between the amounts to be recognized as described above and any associated
amounts recognized in the Company's balance sheet as of December 31, 2002 is
recognized as a cumulative effect of a change in accounting principle as of the
date of adoption. The effect of adopting SFAS No. 143 as of January 1, 2003 was
not material, as summarized in the table below and is not separately recognized
in the accompanying Statement of Income.
FB-26
Amount
------------
(in millions)
Increase in carrying value of net property,
plant and equipment:
Cost $ .4
Accumulated depreciation (.1)
Decrease in liabilities previously accrued for
closure and post closure activities
.3
Asset retirement obligation recognized (.6)
----
Net impact $ -
====
The change in the asset retirement obligations from January 1, 2003
($600,000) to December 31, 2003 ($800,000), to December 31, 2004 ($1 million)
and to December 31, 2005 ($900,000) is primarily due to accretion expense and
the effects of currency translation. Accretion expense, which is reported as a
component of cost of sales in the accompanying Consolidated Statements of
Income, approximated $100,000 for each of the years ended December 31, 2003,
2004 and 2005.
Estimates of the ultimate cost to be incurred to settle the Company's asset
retirement obligations require a number of assumptions, are inherently difficult
to develop and the ultimate outcome may differ from current estimates. As
additional information becomes available, cost estimates will be adjusted as
necessary. It is possible that technological, regulatory or enforcement
developments, the results of studies or other factors could necessitate the
recording of additional liabilities.
Costs associated with exit or disposal activities. The Company adopted SFAS
No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," on
January 1, 2003 for exit or disposal activities initiated on or after that date.
Under SFAS No. 146, costs associated with exit activities, as defined, that are
covered by the scope of SFAS No. 146 will be recognized and measured initially
at fair value, generally in the period in which the liability is incurred. Costs
covered by the scope of SFAS No. 146 include termination benefits provided to
employees, costs to consolidate facilities or relocate employees, and costs to
terminate contracts (other than a capital lease). Under prior GAAP, a liability
for such an exit cost is recognized at the date an exit plan is adopted, which
may or may not be the date at which the liability has been incurred. The effect
of adopting SFAS No. 146 as of January 1, 2003 was not material as the Company
was not involved in any exit or disposal activities covered by the scope of the
new standard as of such date.
Variable interest entities. The Company complied with the consolidation
requirements of FASB Interpretation ("FIN") No. 46R, "Consolidation of Variable
Interest Entities, an interpretation of ARB No. 51," as amended as of March 31,
2004. The Company does not have any involvement with any variable interest
entity (as that term is defined in FIN No. 46R) covered by the scope of FIN No.
46R that would require the Company to consolidate such entity under FIN No. 46R,
which had not already been consolidated under prior applicable GAAP, and
therefore the impact to the Company of adopting the consolidation requirements
of FIN No. 46R was not material.
Inventory costs. The Company adopted SFAS No. 151, "Inventory Costs, an
amendment of ARB No. 43, Chapter 4," as of January 1, 2006 for inventory costs
incurred on or after such date. SFAS No. 151 requires that the allocation of
fixed production overhead costs to inventory shall be based on normal capacity.
Normal capacity is not defined as a fixed amount; rather, normal capacity refers
to a range of production levels expected to be achieved over a number of periods
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under normal circumstances, taking into account the loss of capacity resulting
from planned maintenance shutdowns. The amount of fixed overhead allocated to
each unit of production is not increased as a consequence of idle plant or
production levels below the low end of normal capacity, but instead a portion of
fixed overhead costs are charged to expense as incurred. Alternatively, in
periods of production above the high end of normal capacity, the amount of fixed
overhead costs allocated to each unit of production is decreased so that
inventories are not measured above cost. SFAS No. 151 also clarifies existing
GAAP to require that abnormal freight and wasted materials (spoilage) are to be
expensed as incurred. The Company's production cost accounting had already
complies with the requirements of SFAS No. 151, and therefore adoption of SFAS
No. 151 did not have a material effect on its consolidated financial statements.
Stock options. As permitted by regulations of the Securities and Exchange
Commission ("SEC") the Company adopted SFAS No. 123R, as of January 1, 2006.
SFAS No. 123R, among other things, eliminates the alternative in existing GAAP
to use the intrinsic value method of accounting for stock-based employee
compensation under APBO No. 25. The Company is now generally required to
recognize the cost of employee services received in exchange for an award of
equity instruments based on the grant-date fair value of the award, with the
cost recognized over the period during which an employee is required to provide
services in exchange for the award (generally, the vesting period of the award).
No compensation cost will be recognized in the aggregate for equity instruments
for which the employee does not render the requisite service (generally, if the
instrument is forfeited before it has vested). The grant-date fair value will be
estimated using option-pricing models (e.g. Black-Scholes or a lattice model).
Under the transition alternatives permitted under SFAS No. 123R, the Company
will apply the new standard to all new awards granted on or after January 1,
2006, and to all awards existing as of December 31, 2005 which are subsequently
modified, repurchased or cancelled (referred to as the modified prospective
method in SFAS No. 123R). Additionally, as of January 1, 2006, the Company
recognizes compensation cost for the portion of any non-vested award existing as
of December 31, 2005 over the remaining vesting period. Because the number of
non-vested awards as of December 31, 2005 with respect to options granted by NL
to employees of the Company was not material, the effect of adopting SFAS No.
123R in so far as it relates to existing stock options, did not have a material
effect on the Company's consolidated financial statements. Should the Company or
its subsidiaries and affiliates, however, either grant a significant number of
options to employees of the Company or modify, repurchase or cancel existing
options in the future, the effect on the Company's consolidated financial
statements could be material.
Under the requirements of SFAS 123R, the cash income tax benefit resulting
from the exercise of stock options in excess of the cumulative income tax
benefit related to such options previously recognized for GAAP financial
reporting purposes in the Company's consolidated statements of income, if any,
is reflected as a cash inflow from financing activities in the Company's
consolidated statements of cash flows, and the Company's cash flows from
operating activities reflects the effect of cash paid for income taxes exclusive
of such cash income tax benefit. The aggregate amount of such income tax
benefits recognized as a component of cash flows from financing activities was
nil in the first quarter of 2006.
SFAS No. 123R also requires certain expanded disclosures regarding the
Company's stock options, and such expanded disclosures have been provided in
Note 12.
Certain employees of the Company have been granted options by NL to
purchase NL common stock. Prior to January 1, 2006, the Company accounted for
stock-based employee compensation in accordance with APBO No. 25, and its
various interpretations. Under APBO No. 25, no compensation cost is generally
recognized for fixed stock options in which the exercise price is greater than
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or equal to the market price on the grant date. Prior to 2005, and following the
cash settlement of certain stock options held by employees of NL and the
Company, the Company commenced accounting for its stock options using the
variable accounting method of APBO No. 25 because the Company could not overcome
the presumption that it would not similarly cash settle the remaining stock
options. Under the variable accounting method, the intrinsic value of all
unexercised stock options (including stock options with an exercise price at
least equal to the market price on the date of grant) is accrued as an expense,
with subsequent increases (decreases) in the Company's market price resulting in
the recognition of additional compensation expense (income). Following adoption
of SFAS No. 123R effective January 1, 2006, the Company will continue to account
for NL's remaining stock options in a manner similar to the variable accounting
method of APBO No. 25, as required by the guidance of SFAS No. 123R.
Compensation cost recognized by the Company in accordance with APBO No. 25
and the amount charged to the Company by NL for stock option exercises was
$117,000 in 2003 and $319,000 in 2004, and compensation income was $185,000 in
2005. Aggregate compensation expense related to NL stock options held by
employees of the Company was approximately $23,000 in the first quarter of 2005
and aggregate compensation income was approximately $71,000 in the first quarter
of 2006. The total income tax benefit related to such compensation cost
recognized by the Company was approximately $41,000 in 2003 and $96,000 in 2004,
and the total income tax provision related to the compensation income was
$52,000 in 2005. No compensation cost was capitalized as part of assets
(inventory or fixed assets) during 2003, 2004, 2005 and 2006. If the Company and
its subsidiaries had each elected to account for their respective stock-based
employee compensation related to stock options in accordance with the fair
value-based recognition provisions of SFAS No. 123, for all awards granted
subsequent to January 1, 1995, the effect on the Company's results of operations
in 2003, 2004, 2005 and 2006 would not have been material.
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