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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
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[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2002
or
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 0-7154
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QUAKER CHEMICAL CORPORATION
(Exact name of Registrant as specified in its charter)
A Pennsylvania Corporation No. 23-0993790
(State or other (I.R.S. Employer
jurisdiction of Identification No.)
incorporation or
organization)
One Quaker Park, 901 Hector Street,
Conshohocken, Pennsylvania 19428
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (610) 832-4000
Securities registered pursuant to Section 12(b) of the Act:
Name of each Exchange on
Title of each class which registered
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Common Stock, New York Stock Exchange
$1.00 par value
Stock Purchase New York Stock Exchange
Rights
Securities registered pursuant to Section 12(g) of the Act:
None
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Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [_]
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act) Yes [X] No [_]
State aggregate market value of voting and non-voting common equity held by
non-affiliates of the Registrant. (The aggregate market value is computed by
reference to the last reported sale on the New York Stock Exchange on June 28,
2002): $210,589,726.
State the aggregate market value of the voting and non-voting common equity
held by non-affiliates of the Registrant. (The aggregate market value is
computed by reference to the last reported sale on the New York Stock Exchange
on March 14, 2003): $172,665,525.
Indicate the number of shares outstanding of each of the Registrant's
classes of common stock as of the latest practicable date: 9,352,004 shares of
Common Stock, $1.00 Par Value, as of March 14, 2003.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's definitive Proxy Statement dated March 31, 2003
in connection with the Annual Meeting of Shareholders to be held on May 14,
2003 are incorporated into Part III.
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PART I
As used in this Report, the terms "Quaker" and the "Company" refer to Quaker
Chemical Corporation, its subsidiaries, and associated companies, unless the
context otherwise requires.
Item 1. Business.
General Description
Quaker develops, produces, and markets a broad range of formulated chemical
specialty products for various heavy industrial and manufacturing applications
and, in addition, offers and markets chemical management services. Quaker's
principal products and services include: (i) rolling lubricants (used by
manufacturers of steel in the hot and cold rolling of steel and by
manufacturers of aluminum in the cold rolling of aluminum); (ii) corrosion
preventives (used by steel and metalworking customers to protect metal during
manufacture, storage, and shipment); (iii) metal finishing compounds (used to
prepare metal surfaces for special treatments such as galvanizing and tin
plating and to prepare metal for further processing); (iv) machining and
grinding compounds (used by metalworking customers in cutting, shaping, and
grinding metal parts which require special treatment to enable them to tolerate
the manufacturing process); (v) forming compounds (used to facilitate the
drawing and extrusion of metal products); (vi) hydraulic fluids (used by steel,
metalworking, and other customers to operate hydraulically activated
equipment); (vii) technology for the removal of hydrogen sulfide in various
industrial applications; (viii) chemical milling maskants for the aerospace
industry and temporary and permanent coatings for metal and concrete products;
(ix) construction products such as flexible sealants and protective coatings
for various applications; and (x) programs to provide chemical management
services. Individual product lines representing more than 10% of consolidated
revenues for any of the past three years are as follows:
2002 2001 2000
---- ---- ----
Rolling lubricants.............. 21.5% 22.9% 25.3%
Machining and grinding compounds 14.8% 15.2% 14.8%
Hydraulic fluids................ 12.7% 12.4% 11.6%
Corrosion preventitives......... 10.4% 10.5% 10.7%
A substantial portion of Quaker's sales worldwide are made directly through
its own employees with the balance being handled through distributors and
agents. Quaker employees visit the plants of customers regularly and, through
training and experience, identify production needs which can be resolved or
alleviated either by adapting Quaker's existing products or by applying new
formulations developed in Quaker's laboratories. Generally, separate
manufacturing facilities of a single customer are served by different
personnel. Sales are recorded when products are shipped to customers and
services earned. As part of the Company's chemical management services, certain
third party products are transferred to customers at no gross profit and,
accordingly, these transactions have no effect on net sales. Third party
products transferred under these arrangements totaled $28.3 million, $20.7
million, and $19.7 million for 2002, 2001, and 2000, respectively. License fees
and royalties are recorded when earned and are included in other income.
The business of the Company and its operating results are subject to certain
risks, of which the principal ones are referred to in the following subsections.
Competition
The chemical specialty industry is composed of a number of companies of
similar size as well as companies larger and smaller than Quaker. Quaker cannot
readily determine its precise position in every industry it serves. Based on
information available to Quaker, however, it is estimated that Quaker holds a
leading and significant global position (among a group in excess of 25 other
suppliers) in the market for process fluids to produce sheet steel used in the
production of hot and cold rolling of steel. Many competitors are in fewer and
more specialized product classifications or provide different levels of
technical services in terms of specific formulations for
1
individual customers. Competition in the industry is based primarily on the
ability to provide products that meet the needs of the customer and render
technical services and laboratory assistance to customers and, to a lesser
extent, on price.
Major Customers and Markets
During 2002, Quaker's five largest customers (each composed of multiple
subsidiaries or divisions with semi-autonomous purchasing authority) accounted
for approximately 18% of its consolidated net sales with the largest of these
customers accounting for approximately 7% of consolidated net sales. A
significant portion of Quaker's revenues are realized from the sale of process
fluids to manufacturers of steel, automobiles, appliances, and durable goods,
and, therefore, Quaker is subject to the same business cycles as those
experienced by these manufacturers and their customers. Furthermore, steel
customers typically have limited manufacturing locations as compared to
metalworking customers and generally use higher volumes of products at a single
location. Accordingly, the loss or closure of a steel mill of a significant
customer can have a material adverse effect on Quaker's business.
Raw Materials
Quaker uses over 500 raw materials, including mineral oils, fats and fat
derivatives, ethylene derivatives, solvents, surface active agents, chlorinated
paraffinic compounds, and a wide variety of organic and inorganic compounds. In
2002, only one raw material (mineral oil) accounted for as much as 10% of the
total cost of Quaker's raw material purchases. The price of mineral oil is
directly affected by the price of crude oil. Accordingly, significant
fluctuations in the price of crude oil can have a material effect upon the
Company's business. Many of the raw materials used by Quaker are "commodity"
chemicals, and, therefore, Quaker's earnings can be affected by market changes
in raw material prices. Quaker has multiple sources of supply for most
materials, and management believes that the failure of any single supplier
would not have a material adverse effect upon its business. Reference is made
to disclosure contained in Item 7A of this Report.
Patents and Trademarks
Quaker has a limited number of patents and patent applications, including
patents issued, applied for, or acquired in the United States and in various
foreign countries, some of which may prove to be material to its business.
Principal reliance is placed upon Quaker's proprietary formulae and the
application of its skills and experience to meet customer needs. Quaker's
products are identified by trademarks that are registered throughout its
marketing area. Quaker makes little use of advertising but relies heavily upon
its reputation in the markets which it serves.
Research and Development--Laboratories
Quaker's research and development laboratories are directed primarily toward
applied research and development since the nature of Quaker's business requires
continuing modification and improvement of formulations to provide chemical
specialties to satisfy customer requirements. Research and development costs
are expensed as incurred. Research and development expenses during 2002, 2001,
and 2000 were $9.1 million, $8.9 million, and $8.5 million, respectively.
Quaker maintains quality control laboratory facilities in each of its
manufacturing locations. In addition, Quaker maintains in Conshohocken,
Pennsylvania, and Uithoorn, The Netherlands, laboratory facilities that are
devoted primarily to applied research and development.
Most of Quaker's subsidiaries and associated companies also have laboratory
facilities. Although not as complete as the Conshohocken or Uithoorn
laboratories, these facilities are generally sufficient for the requirements of
the customers being served. If problems are encountered which cannot be
resolved by local laboratories, such problems may be referred to the laboratory
staff in Conshohocken or Uithoorn.
2
Regulatory Matters
In order to facilitate compliance with applicable Federal, state, and local
statutes and regulations relating to occupational health and safety and
protection of the environment, the Company has an ongoing program of site
assessment for the purpose of identifying capital expenditures or other actions
that may be necessary to comply with such requirements. The program includes
periodic inspections of each facility by Quaker and/or independent
environmental experts, as well as ongoing inspections by on-site personnel.
Such inspections are addressed to operational matters, record keeping,
reporting requirements, and capital improvements. In 2002, capital expenditures
directed solely or primarily to regulatory compliance amounted to approximately
$0.5 million compared to $1.3 million and $2.8 million in 2001 and 2000,
respectively. In 2003, the Company expects to incur approximately $1.4 million
for capital expenditures directed primarily to regulatory compliance.
Number of Employees
On December 31, 2002, Quaker's consolidated companies had 1,038 full-time
employees of whom 462 were employed by the parent company and its U.S.
subsidiaries and 576 were employed by its non-U.S. subsidiaries. Associated
companies of Quaker (in which it owns 50% or less) employed 144 people on
December 31, 2002.
Product Classification
The Company's reportable segments are as follows:
(1) Metalworking process chemicals--products used as lubricants for
various heavy industrial and manufacturing applications.
(2) Coatings--temporary and permanent coatings for metal and concrete
products and chemical milling maskants.
(3) Other chemical products--primarily chemicals used in the
manufacturing of paper in 2000 (pulp and paper division sold May 2000) as
well as other various chemical products.
Non-U.S. Activities
Since significant revenues and earnings are generated by non-U.S.
operations, Quaker's financial results are affected by currency fluctuations,
particularly between the U.S. dollar, the E.U. euro, the Brazilian real, and
other foreign currencies, and the impact of those currency fluctuations on the
underlying economies. Reference is made to disclosure contained in Item 7A of
this Report and in Note 11 of Notes to Consolidated Financial Statements
included in Item 8 of this Report.
Quaker Chemical Corporation on the Internet
Financial results, news and other information about Quaker Chemical
Corporation can be accessed from the Company's Web site at
http://www.quakerchem.com. This site includes important information on products
and services, financial reports, news releases, and career opportunities. The
Company's periodic and current reports, including exhibits and supplemental
schedules filed therewith, and amendments to those reports, filed with the
Securities and Exchange Commission ("SEC") are available on this Web site, free
of charge, as soon as reasonably practicable after they are electronically
filed or furnished to the SEC.
Factors that May Affect Our Future Results
(Cautionary Statements Under the Private Securities Litigation Reform Act of
1995)
Certain information included in this Report and other materials filed or to
be filed by Quaker with the Securities and Exchange Commission (as well as
information included in oral statements or other written
3
statements made or to be made by us) contains or may contain forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended.
These statements can be identified by the fact that they do not relate strictly
to historical or current facts. We have based these forward-looking statements
on our current expectations about future events. These forward-looking
statements include statements with respect to our beliefs, plans, objectives,
goals, expectations, anticipations, intentions, financial condition, results of
operations, future performance and business, including:
. statements relating to our business strategy;
. our current and future results and plans; and
. statements that include the words "may," "could," "should," "would,"
"believe," "expect," "anticipate," "estimate," "intend," "plan" or
similar expressions.
Such statements include information relating to current and future business
activities, operational matters, capital spending, and financing sources. From
time to time, oral or written forward-looking statements are also included in
Quaker's periodic reports on Forms 10-Q and 8-K, press releases and other
materials released to the public.
Any or all of the forward-looking statements in this report, in Quaker's
Annual Report to Shareholders for 2002 and in any other public statements we
make may turn out to be wrong. This can occur as a result of inaccurate
assumptions or as a consequence of known or unknown risks and uncertainties.
Many factors discussed in this Report will be important in determining our
future performance. Consequently, actual results may differ materially from
those that might be anticipated from our forward-looking statements.
We undertake no obligation to publicly update any forward-looking
statements, whether as a result of new information, future events or otherwise.
However, any further disclosures made on related subjects in Quaker's
subsequent reports on Forms 10-K, 10-Q and 8-K should be consulted. The risks
and uncertainties that could impact the Company's future operations and results
include, but are not limited to, further downturns in our customers'
businesses, significant increases in raw material costs, worldwide economic and
political conditions, foreign currency fluctuations, the current conflict in
Iraq, and future security alerts and terrorist attacks such as those that
occurred on September 11, 2001. Furthermore, the Company is subject to the same
business cycles as those experienced by steel, automobile, aircraft, appliance,
and durable goods manufacturers. These risks, uncertainties, and possible
inaccurate assumptions relevant to our business could cause our actual results
to differ materially from expected and historical results. Other factors beyond
those discussed could also adversely affect us. This discussion is provided as
permitted by the Private Securities Litigation Reform Act of 1995.
Item 2. Properties.
Quaker's corporate headquarters and a laboratory facility are located in
Conshohocken, Pennsylvania. Quaker's other principal facilities are located in
Detroit, Michigan; Middletown, Ohio; Placentia, California; Uithoorn, The
Netherlands; Santa Perpetua de Mogoda, Spain; Rio de Janeiro, Brazil; and Wuxi,
China. With the exception of the Conshohocken site, which is owned by a real
estate joint venture of which Quaker is a 50% partner (the "Venture"), and the
Placentia site, which is leased, all of these principal facilities are owned by
Quaker and as of December 31, 2002 were mortgage free. Quaker also leases
sales, laboratory, manufacturing and warehouse facilities in other locations.
In January 2001, the Company contributed its Conshohocken, Pennsylvania,
property and buildings (the "Site") to a real estate joint venture (the
"Venture") in exchange for a 50% ownership in the Venture. The Venture did not
assume any debt or other obligations of the Company. The Venture renovated
certain of the existing buildings at the Site, as well as built new office
space (the "Project"). In December 2000, the Company entered into an agreement
with the Venture to lease approximately 38% of the Site's available office
space for a 15-year period commencing February 2002, with multiple renewal
options. The Company believes the terms of this lease are no less favorable
than the terms it would have obtained from an unaffiliated third party. As of
December 31, 2002, approximately 87% of the Site's office space was under lease
and the Site (including improvements thereon) was subject to encumberances
securing indebtedness of the Venture in the amount of $27.3 million.
4
During the fourth quarter of 2002, the Company completed the sale of its
Woodchester, England manufacturing facility. As of December 31, 2001, Quaker
closed this facility and transferred production to its facilities in Uithoorn,
The Netherlands and Santa Perpetua de Mogoda, Spain. The administrative,
warehousing, and laboratory activities previously conducted at the Woodchester
site were transferred to a sales distribution office located in Stonehouse,
England.
In addition, Quaker's Villeneuve, France site is currently for sale. Quaker
ceased manufacturing operations at its facility in Villeneuve, France,
effective March 31, 2002. Production was consolidated into its facilities in
Uithoorn, The Netherlands and Santa Perpetua de Mogoda, Spain. Sales,
warehousing, and laboratory activities will continue at the Villeneuve site
pending its sale.
Quaker's aforementioned principal facilities (excluding Conshohocken)
consist of various manufacturing, administrative, warehouse, and laboratory
buildings. Substantially all of the buildings (including Conshohocken) are of
fire-resistant construction and are equipped with sprinkler systems. All
facilities are primarily of masonry and/or steel construction and are adequate
and suitable for Quaker's present operations. The Company has a program to
identify needed capital improvements which is implemented as management
considers necessary or desirable. Most locations have various numbers of raw
material storage tanks ranging from 7 to 66 each with a capacity ranging from
1,000 to 82,000 gallons and processing or manufacturing vessels ranging in
capacity from 15 to 16,000 gallons.
Each of Quaker's 50% or less owned non-U.S. associated companies owns or
leases a plant and/or sales facilities in various locations.
Item 3. Legal Proceedings.
The Company is a party to proceedings, cases, and requests for information
from, and negotiations with, various claimants and Federal and state agencies
relating to various matters including environmental matters. Incorporated
herein by this reference is the information concerning pending asbestos-related
litigation against an inactive subsidiary and amounts accrued associated with
certain environmental investigatory and noncapital remediation costs in Note 14
of Notes to Consolidated Financial Statements which appears in Item 8 of this
Report. The Company is party to other litigation which management currently
believes will not have a material adverse effect on the Company's results of
operations, cash flow, or financial condition.
Item 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted to a vote of security holders during the last
quarter of the period covered by this Report.
Item 4(a). Executive Officers of the Registrant.
Set forth below are the executive officers of the Company. Each of the
executive officers were elected to a one-year term.
Name, Age, and Present Business Experience During Past Five
Position with the Company Years and Period Served as an Officer
- ------------------------- -------------------------------------
Ronald J. Naples, 57..................... Mr. Naples was elected Chairman of the Board in May 1997 and
Chairman of the Board and Chief Executive Officer in October 1995. He also served as
Chief Executive Officer, and Director President of the Company from October 1995 until March 1998.
Mr. Naples has been a Director of the Company since 1988.
Joseph W. Bauer, 60...................... Mr. Bauer was elected President and Chief Operating Officer of
President and Chief Operating Officer the Company in March 1998. Previously, Mr. Bauer was
employed by M. A. Hanna and was President of M. A. Hanna
Color Division from 1996 to 1998.
5
Name, Age, and Present Business Experience During Past Five
Position with the Company Years and Period Served as an Officer
- ------------------------- -------------------------------------
Michael F. Barry, 44....................... Mr. Barry was elected Vice President, Chief Financial Officer and
Vice President, Chief Financial Officer Treasurer of the Company in November 1998. Previously, Mr.
and Treasurer Barry was employed by Lyondell (formerly ARCO Chemical)
where he held the position of Business Director for its Urethanes
business throughout the Americas from 1997 to 1998.
D. Jeffry Benoliel, 44..................... Mr. Benoliel was elected Vice President and General Counsel in
Vice President, Secretary and January 2001. He was elected an officer of the Company in May
General Counsel 1998, at which time he assumed the office of Corporate Secretary
in addition to being Director, Corporate Legal Affairs, a position
he held since May 1996. Mr. Benoliel is the son of Peter A.
Benoliel, a Director of the Company.
Jose Luiz Bregolato, 57.................... Mr. Bregolato was elected to his current position in 1993.
Vice President and Managing
Director--South America
Ian F. Clark, 58........................... Mr. Clark was elected an officer of the Company in March 1999.
Vice President and Global Industry He assumed his current position in January 2001. Previously, he
Leader--Metalworking/ was Vice President and Global Industry Leader--Steel/Fluid
Chemical Management Services Power from March 1999 to December 2000. Prior to joining the
Company, he was employed by Ciba Specialty Chemicals
Corporation where he was Vice President-Sales and Marketing,
U.S. Pigments Division from 1990 to 1998 and, in addition, was
General Manager for one of its global pigment segments from
1996 to 1998.
James A. Geier, 47......................... Mr. Geier was elected to his current position in November 1997.
Vice President--Human Resources
Mark Harris, 48............................ Mr. Harris was elected to his current position in January 2001.
Vice President and Global Industry From 1996 until he assumed his current position, Mr. Harris was
Leader--Steel/Fluid Power Regional Industry Manager for the Company's Steel/Fluid Power
business in Europe, the Middle East, and Africa.
Daniel S. Ma, 62........................... Mr. Ma was elected to his current position in 1993.
Vice President and Managing
Director--Asia/Pacific
Wilbert Platzer, 41........................ Mr. Platzer was elected to his current position in January 2001.
Vice President--Worldwide From March 1996 to June 1999, he was Managing Director of
Operations Quaker Chemical B.V., the Company's Dutch affiliate, and, from
July 1999 until he assumed his current position, he was Director
of Operations--Europe.
Irving H. Tyler, 44........................ Mr. Tyler was elected Vice President--Information Services and
Vice President--Information Services Chief Information Officer of the Company in January 2001.
and Chief Information Officer Previously, he was the Company's Director of Information
Services and Chief Information Officer from July 1999 to January
2001, European Controller from August 1997 to July 1999.
Mark A. Featherstone, 41................... Mr. Featherstone joined the Company in May 2001 as Global
Global Controller Controller. Previously, he was Senior Vice President-Finance and
Controller at Internet Partnership Group from April 2000 to
March 2001, and Director of Financial Policies and Projects at
Coty Inc. from May 1996 to March 2000.
6
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.
The Company's common stock is listed on the New York Stock Exchange ("NYSE")
under the trading symbol KWR. The following table sets forth, for the calendar
quarters during the past two years, the range of high and low sales prices for
the common stock as reported by the NYSE (amounts rounded to the nearest
penny), and the quarterly dividends declared as indicated:
Range of Quotations
--------------------------- Dividends
2002 2001 Declared
------------- ------------- ----------
High Low High Low 2002 2001
------ ------ ------ ------ ---- -----
First quarter. $25.50 $19.84 $19.00 $16.12 $.21 $.205
Second quarter 24.90 20.51 20.99 17.17 .21 .205
Third quarter. 25.00 18.32 21.75 16.96 .21 .205
Fourth quarter 23.68 18.22 22.30 18.00 .21 .205
As of January 17, 2003 there were 872 shareholders of record of the
Company's common stock, its only outstanding class of equity securities.
Reference is made to the "Equity Compensation Plan Information" incorporated
by reference in Item 12 of this Report, which is incorporated herein by this
reference.
Item 6. Selected Financial Data.
The following table sets forth selected financial information for the
Company:
2002 2001/(1)/ 2000/(2)/ 1999/(3)/ 1998/(4)/
-------- -------- -------- -------- --------
(Dollars in thousands except per share amounts)
Summary of Operations:
Net sales....................................... $274,521 $251,074 $267,570 $265,671 $264,453
Income before taxes, equity income and minority
interest...................................... 24,318 14,430 26,486 27,151 16,797
Net income...................................... 14,297 7,665 17,163 15,651 10,650
Per share:
Net income-basic............................ $ 1.56 $ .85 $ 1.94 $ 1.76 $ 1.21
Net income-diluted.......................... 1.51 .84 1.93 1.74 1.20
Dividends................................... .84 .82 .80 .77 .74
Financial Position:
Working capital................................. $ 37,529 $ 47,424 $ 52,981 $ 51,584 $ 45,636
Total assets.................................... 213,858 179,666 188,239 182,213 191,403
Long-term debt.................................. 16,590 19,380 22,295 25,122 25,344
Shareholders' equity............................ 88,055 80,899 84,907 81,199 83,735
- --------
(1) The results of operations for 2001 include restructuring charges of $4,039
after-tax; an additional provision for doubtful accounts related to the
poor financial condition of certain customers of $1,380 after-tax; an
environmental charge of $345 after-tax; and organizational structure
charges of $184 after-tax.
(2) The results of operations for 2000 include an additional provision for
doubtful accounts related to the poor financial condition of certain
customers of $1,154 after-tax; a net gain on exit of businesses of $1,016
after-tax; and an environmental charge of $1,035 after-tax.
(3) The results of operations for 1999 include a net restructuring credit of
$188 after-tax.
(4) The results of operations for 1998 include net restructuring and
integration charges of $2,882 after-tax and minority interest.
7
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Critical Accounting Policies and Estimates
Quaker's discussion and analysis of its financial condition and results of
operations are based upon Quaker's consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States. The preparation of these financial statements requires
Quaker to make estimates and judgments that affect the reported amounts of
assets, liabilities, revenues and expenses, and related disclosure of
contingent assets and liabilities. On an ongoing basis, Quaker evaluates its
estimates, including those related to customer sales incentives, product
returns, bad debts, inventories, property, plant, and equipment, investments,
intangible assets, income taxes, financing operations, restructuring, accrued
incentive compensation plans, pensions and other postretirement benefits, and
contingencies and litigation. Quaker bases its estimates on historical
experience and on various other assumptions that are believed to be reasonable
under the circumstances, the results of which form the basis for making
judgments about the carrying values of assets and liabilities that are not
readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions.
Quaker believes the following critical accounting policies describe the more
significant judgments and estimates used in the preparation of its consolidated
financial statements:
1. Accounts receivable and inventory reserves and exposures--Quaker
establishes allowances for doubtful accounts for estimated losses resulting
from the inability of its customers to make required payments. If the
financial condition of Quaker's customers were to deteriorate, resulting in
an impairment of their ability to make payments, additional allowances may
be required. Downturns in the overall economic climate may also tend to
exacerbate specific customer financial issues. As part of its terms of
trade, Quaker may custom manufacture products for certain large customers
and/or may ship product on a consignment basis. Further, a significant
portion of Quaker's revenues is derived from sales to customers in the U.S.
steel industry, where a number of bankruptcies occurred during recent years.
In 2000, 2001, and early 2002, Quaker recorded additional provisions for
doubtful accounts primarily related to bankruptcies in the U.S. steel
industry. When a bankruptcy occurs, Quaker must judge the amount of
proceeds, if any, that may ultimately be received through the bankruptcy or
liquidation process. These matters may increase the Company's exposure
should a bankruptcy occur, and may require writedown or disposal of certain
inventory due to its estimated obsolescence or limited marketability.
Customer returns of products or disputes may also result in similar issues
related to the realizability of recorded accounts receivable or returned
inventory.
2. Environmental and litigation reserves--Accruals for environmental and
litigation matters are recorded when it is probable that a liability has
been incurred and the amount of the liability can be reasonably estimated.
Accrued liabilities are exclusive of claims against third parties and are
not discounted. Environmental costs and remediation costs are capitalized if
the costs extend the life, increase the capacity or improve the safety or
efficiency of the property from the date acquired or constructed, and/or
mitigate or prevent contamination in the future. Estimates for accruals for
environmental matters are based on a variety of potential technical
solutions, governmental regulations and other factors, and are subject to a
large range of potential costs for remediation and other actions. A
considerable amount of judgment is required in determining the most likely
estimate within the range, and the factors determining this judgment may
vary over time. Similarly, reserves for litigation and similar matters are
based on a range of potential outcomes and require considerable judgment in
determining the most probable outcome. If no amount within the range is
considered more probable than any other amount, the Company accrues the
lowest amount in the range in accordance with generally accepted accounting
principles. An inactive subsidiary of the Company is involved in asbestos
litigation. If the Company ever concluded that it was probable it would be
liable for any of the obligations of such subsidiary, then it would record
the associated liabilities if they can be reasonably estimated. The Company
will reassess this situation periodically in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 5, "Accounting for
Contingencies." See Note 14 of Notes to Consolidated Financial Statements
which appears in Item 8 of this Report.
8
3. Realizability of equity investments--Quaker holds equity investments
in various domestic and foreign companies, whereby it has the ability to
influence, but not control, the operations of the entity and its future
results. Quaker records an investment impairment charge when it believes an
investment has experienced a decline in value that is other than temporary.
Future adverse changes in market conditions, poor operating results of
underlying investments, or devaluation of foreign currencies could result in
losses or an inability to recover the carrying value of the investments that
may not be reflected in an investment's current carrying value. These
factors may result in an impairment charge in the future.
4. Tax exposures and valuation allowances--Quaker records expenses and
liabilities for taxes based on estimates of amounts that will be ultimately
determined to be deductible in tax returns filed in various jurisdictions.
The filed tax returns are subject to audit, often several years subsequent
to the date of the financial statements. Disputes or disagreements may arise
during audits over the timing or validity of certain items or deductions,
which may not be resolved for extended periods of time. Quaker establishes
reserves for potential tax audit and other exposures as transactions occur
and reviews these reserves on a regular basis; however, actual exposures and
audit adjustments may vary from these estimates. Quaker also records
valuation allowances when necessary to reduce its deferred tax assets to the
amount that is more likely than not to be realized. While Quaker has
considered future taxable income and ongoing prudent and feasible tax
planning strategies in assessing the need for the valuation allowance, in
the event Quaker were to determine that it would be able to realize its
deferred tax assets in the future in excess of its net recorded amount, an
adjustment to the deferred tax asset would increase income in the period
such determination was made. Likewise, should Quaker determine that it would
not be able to realize all or part of its net deferred tax asset in the
future, an adjustment to the deferred tax asset would be charged to income
in the period such determination was made. U.S. income taxes have not been
provided on the undistributed earnings of non-U.S. subsidiaries since it is
the Company's intention to continue to reinvest these earnings in those
subsidiaries for working capital and expansion needs. U.S. and foreign
income taxes that would be payable if such earnings were distributed may be
lower than the amount computed at the U.S. statutory rate due to the
availability of tax credits.
5. Restructuring liabilities--Restructuring charges may consist of
charges for employee severance, rationalization of manufacturing facilities
and other items. Quaker has recorded restructuring and other exit costs,
including involuntary termination of certain employees, in accordance with
the Financial Accounting Standards Board's ("FASB") Emerging Issues Task
Force Issue No. 94-3, "Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring)." Certain of these items, particularly
those involving impairment charges for assets to be sold or closed, require
significant estimates and assumptions in terms of estimated sale proceeds,
date of sale, transaction costs and other matters, and these estimates can
change based on market conditions and other factors. In July 2002, the FASB
issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal
Activities," which nullified EITF Issue No. 94-3. The Company is required to
adopt the provisions of SFAS No. 146 effective for exit or disposal
activities initiated after December 31, 2002.
6. Goodwill and other intangible assets--Goodwill and other intangible
assets are evaluated in accordance with SFAS No. 142, "Goodwill and Other
Intangible Assets." Intangible assets, which do not have indefinite lives,
are recorded at fair value and amortized over a straight-line basis based on
third party valuations of the assets. Goodwill and intangible assets, which
have indefinite lives, are no longer amortized and required to be assessed
at least annually for impairment. The Company compares the assets' fair
value to its carrying value primarily based on future discounted cash flows
in order to determine if an impairment charge is warranted. The estimates of
future cash flows involve considerable management judgment and are based
upon assumptions about expected future operating performance. Assumptions
used in these forecasts are consistent with internal planning. The actual
cash flows could differ from management's estimates due to changes in
business conditions, operating performance, and economic conditions. The
Company completed its annual impairment assessment as of the end of the
third quarter 2002 and no impairment charge was warranted.
9
7. Postretirement benefits--The Company provides certain pension and
other postretirement benefits to employees and retirees. Independent
actuaries, in accordance with accounting principles generally accepted in
the U.S., perform the required valuations to determine benefit expense and,
if necessary, non-cash charges to equity for additional minimum pension
liabilities. Critical assumptions used in the actuarial valuation include
the weighted average discount rate, rates of increase in compensation levels
and expected long-term rates of return on assets. If different assumptions
were used, additional pension expense or charges to equity may be required.
For 2002, the Company incurred such a non-cash charge to equity of $4.3
million. The Company's pension plan year-end is November 30, which serves as
the measurement date. As a result, the Company used a weighted average
discount rate of 6.875%. Had the Company decreased its weighted average
discount rate to 6.75%, the additional minimum pension liability would have
increased approximately $0.6 million and pension expense would not have
materially changed for 2002. Commencing in 2003, the Company lowered its
long-term rate of return on plan assets from 9.25% to 8.75%.
Recently Issued Accounting Standards
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations." SFAS No. 143 addresses accounting and reporting for obligations
associated with the retirement of tangible long-lived assets and the associated
retirement costs. This statement is effective for fiscal years beginning after
June 15, 2002. Management has assessed the impact of the new standard and
determined there is no material impact to the financial statements.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44, and 62, Amendment of FASB Statement No. 13 and Technical
Corrections." For most companies, SFAS No. 145 will require gains and losses on
extinguishments of debt to be classified as income or loss from continuing
operations rather than as extraordinary items as previously required under SFAS
No. 4. Extraordinary treatment will be required for certain extinguishments as
provided in Accounting Principles Board ("APB") Opinion No. 30. The statement
also amended SFAS No. 13 for certain sales-leaseback and sublease accounting.
The Company adopted this standard on January 1, 2003. Management has assessed
the impact of the new standard and determined there is no material impact to
the financial statements.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities," which nullified EITF Issue No. 94-3. SFAS
No. 146 requires that a liability for a cost associated with an exit or
disposal activity be recognized when the liability is incurred, whereas EITF
No. 94-3 had recognized the liability at the commitment date to an exit plan.
The Company is required to adopt the provisions of SFAS No. 146 effective for
exit or disposal activities initiated after December 31, 2002.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation--Transition and Disclosure." This standard amends the transition
and disclosure requirements of SFAS No. 123, "Accounting for Stock-Based
Compensation." As permitted by SFAS No. 148, the Company accounts for stock
option grants in accordance with APB Opinion No. 25, "Accounting for Stock
Issued to Employees." Accordingly, no compensation expense has been recognized
for stock options since all options granted had an exercise price equal to the
market value of the underlying stock on the grant date. The Company currently
does not intend to transition to the use of a fair value method for accounting
for stock-based compensation. See also Note 1 to Notes to the Consolidated
Financial Statements.
In November 2002, the FASB issued FASB Interpretation No. 45 (FIN 45),
"Guarantor's Accounting and Disclosure Requirements for Guarantees, including
Indirect Guarantees of Indebtedness of Others, an interpretation of FASB
Statements No. 5, 57, and 107 and Rescission of FASB Interpretation No. 34".
FIN 45 clarifies the requirements of FASB Statement No. 5, "Accounting for
Contingencies," relating to the guarantor's accounting for, and disclosure of,
the issuance of certain types of guarantees. The disclosure provisions of the
Interpretation are effective for financial statements issued after December 15,
2002. The provisions for initial recognition and measurements are effective on
a prospective basis for guarantees that are issued or modified after December
31, 2002. Management has assessed the impact of the new standard and determined
there to be no material impact to the financial statements.
10
In January 2003, the FASB issued FIN No. 46, "Consolidation of Certain
Variable Interest Entities" (VIEs), which is an interpretation of Accounting
Research Bulletin (ARB) No. 51, "Consolidated Financial Statements." FIN No. 46
addresses the application of ARB No. 51 to VIEs, and generally would require
that assets, liabilities, and results of the activity of a VIE be consolidated
into the financial statements of the enterprise that is considered the primary
beneficiary. FIN No. 46 is effective for interim periods beginning after June
15, 2003 to VIEs in which an enterprise holds a variable interest that it
acquired before February 1, 2003. The Company is currently in the process of
reviewing the provisions of FIN No. 46, particularly in relation to the
Company's real estate joint venture to determine if the joint venture must be
consolidated effective July 1, 2003. However, all disclosures required by FIN
46 are included in the accompanying Note 3 to Notes to the Consolidated
Financial Statements. FIN 46 is effective immediately for any variable
interests acquired subsequent to January 31, 2003. The Company has not acquired
any variable interests subsequent to January 31, 2003.
Liquidity and Capital Resources
Quaker's cash and cash equivalents decreased to $13.9 million at December
31, 2002 from $20.5 million at December 31, 2001. The decrease resulted
primarily from $24.4 million provided by operating activities, offset by $30.3
million and $1.3 million used in investing and financing activities,
respectively. Quaker has also reduced working capital levels from $47.4 million
to $37.5 million as of December 31, 2001 and 2002 respectively. As part of the
Company's chemical management services' growth strategy, the Company has a
number of proposals outstanding. If the Company is successful in the bid
process, this could have a material impact to the Company's working capital
requirements.
Net cash flow provided by operating activities amounted to $24.4 million in
2002 compared with $22.6 million in 2001. The increase primarily resulted from
an increase in net income and pension liabilities over 2001 offset by increased
severance payments in 2002.
Net cash used in investing activities increased to $30.3 million in 2002
from $8.0 million in 2001. This increase is primarily related to $21.3 million
cash paid for the Company's 2002 acquisitions. Dividends from associated
companies was lower in 2002 as a result of lower net income from our Japanese
joint venture. Proceeds from disposition of assets was significantly higher in
2002 reflective of the sale of our U.K. manufacturing facility which was
completed in the fourth quarter of 2002. Cash used for capital expenditures was
$2.8 million higher in 2002 as compared to 2001.
Expenditures for property, plant, and equipment were $10.8 million in 2002
compared to $8.0 million in 2001. Capital expenditures in 2002, primarily
included upgrades of manufacturing capabilities at various locations, with $0.5
million related to environmental and regulatory compliance in 2002 versus $1.3
million in 2001, approximately $4.5 million in 2002 for the Company's global
transaction system, as well as $2.4 million in 2002 related to the Company's
new corporate offices. The Company expects these initiatives to continue in
2003 with the Company's capital expenditures projected to be approximately $15
million in 2003.
In January 2001, the Company contributed its Conshohocken, Pennsylvania,
property and buildings (the "Site") to a real estate joint venture (the
"Venture") in exchange for a 50% ownership in the Venture. The Venture did not
assume any debt or other obligations of the Company. The Venture credited the
Company's capital account with the estimated fair value of the Site, which
amount was in excess of the book value of the contribution. The Company
recorded its investment in the Venture at book value, which totaled $4.7
million. At December 31, 2002, the Company's investment balance was
approximately $4.0 million.
The Venture renovated certain of the existing buildings at the Site, as well
as built new office space (the "Project"). In December 2000, the Company
entered into an agreement with the Venture to lease approximately 38% of the
Site's available office space for a 15-year period commencing February 2002,
with multiple renewal options. The Company believes the terms of this lease are
no less favorable than the terms it would have obtained from an unaffiliated
third party. As of December 31, 2002, approximately 87% of the Site's office
space was under lease.
The Venture funded the Project with a $21.0 million construction loan (the
"Venture"), of which approximately $11.8 million was outstanding as of December
31, 2001. The Venture Loan was secured in part by
11
a mortgage on the Site and certain guarantees executed by certain Venture
partners other than the Company. In December 2002, $27.3 million of permanent
financing, at a 5.95% interest rate secured by the Site (including the related
improvements), was obtained (the "Financing"), which was used to pay off the
Venture Loan in 2002. In March 2003, the Company received approximately $1.8
million of proceeds as a priority return, and expects to receive an estimated
additional $2.2 million during 2003. After receiving the aforementioned
priority distributions and if cash flows permit, the Company will be eligible
to receive additional priority distributions of up to $2.3 million from the
Venture.
In connection with the Financing, the guarantees from the Venture partners
with respect to the Venture Loan expired. The Company has not guaranteed, nor
is it obligated to pay any principal, interest or penalties on the Venture Loan
or the Financing, even in the event of default by the Venture. At December 31,
2002, the Venture had property with a net book value of $27.8 million, total
assets of $35.6 million, and total liabilities of $27.5 million, including
$27.3 million due under the Financing.
Net cash flows used in financing activities were $1.3 million in 2002
compared with $9.6 million in 2001. The net change was primarily due to a net
increase in short-term borrowings of $9.0 million incurred primarily to finance
the Company's 2002 acquisitions. In addition, 2002 includes repayments of
long-term debt of $2.9 million which was offset by $3.0 million of proceeds
primarily related to shares issued upon exercise of stock options.
In April 2002, the Company entered into a $20.0 million committed revolving
credit facility with a bank, which expires in April 2003. In March 2003, the
Company reached agreement with this bank to extend the term of this facility by
an additional year, with the available credit to be reduced to $15.0 million.
At the Company's option, the interest rate for borrowings under this facility
may be based on the lender's cost of funds plus a margin, LIBOR plus a margin,
or on the lender's prime rate. There were no outstanding borrowings under this
facility as of December 31, 2002. Further, in April 2002, the Company entered
into a $10.0 million uncommitted demand credit facility. A total of $8.9
million in borrowings under this facility was outstanding as of December 31,
2002 at an average borrowing rate of approximately 2.4%. The provisions of the
agreements require that the Company maintain certain financial ratios and
covenants, all of which the Company was in compliance with as of December 31,
2002. Under its most restrictive covenants the Company can borrow an additional
$69.0 million as of December 31, 2002.
The Company believes that in 2003, it is capable of funding its operating
requirements including pension plan contributions, payments of dividends to
shareholders, possible acquisition opportunities, and possible resolution of
contingencies, through internally generated funds supplemented with debt as
needed. In addition, in 2003, the Company expects to meet its cash contribution
minimum to its defined benefit plans of approximately $1.5 million.
The following table summarizes the Company's contractual obligations at
December 31, 2002, and the effect such obligations are expected to have on its
liquidity and cash flow in future periods:
Payments due by period (Dollars in thousands)
----------------------------------------------------
2008 and
Contractual Obligations Total 2003 2004 2005 2006 2007 beyond
----------------------- ------- ------- ------ ------ ------ ------ --------
Long-term debt.................... $19,447 $ 2,857 $2,857 $2,857 $2,857 $2,857 $ 5,162
Short-term debt................... 9,348 9,348 -- -- -- -- --
Non-cancelable operating leases... 27,639 4,327 3,657 2,802 2,450 2,350 12,053
------- ------- ------ ------ ------ ------ -------
Total contractual cash obligations $56,434 $16,532 $6,514 $5,659 $5,307 $5,207 $17,215
======= ======= ====== ====== ====== ====== =======
Operations
Comparison of 2002 with 2001
Consolidated net sales increased to $274.5 million in 2002 from $251.1
million in 2001. The 9% increase was the net result of a 6% increase in volume
and a 5% improvement in price/mix, offset by a 2% negative
12
impact from foreign currency translation. The 6% increase in volume was
primarily due to the inclusion of revenues from the acquisitions of United
Lubricants Corporation and Epmar Corporation, as well as the purchase of a
controlling interest in the Company's South African joint venture, which was
included in the Company's consolidated results effective July 1, 2002. At
constant exchange rates and excluding revenue from acquisitions, consolidated
net sales increased 3%.
Gross profit as a percentage of sales was 40.6% in 2002 compared with 40.2%
in 2001. This increase in gross margin percentage was attributable to higher
volumes, and lower raw material prices with some product mix changes. While raw
material price decreases and product mix changes have resulted in improved
margins to date, the Company expects the 2003 gross margin to be relatively
flat or slightly down. The Company is beginning to see upward pressure on raw
material prices particularly in the first half of 2003. This pressure is
expected to be somewhat offset by mix improvement and continued cost savings
initiatives. However, the duration of higher crude oil prices currently being
experienced may negatively impact raw material pricing for a longer period of
time.
Selling, general, and administrative costs (SG&A) as reported for 2002 were
$87.6 million compared to $80.5 million in 2001. Upon the January 1, 2002
adoption of SFAS No. 142, "Goodwill and Other Intangible Assets," the Company
no longer amortizes goodwill. SG&A for 2001 included $1.0 million of goodwill
amortization. Other significant costs in 2001 included: $2.0 million of
additional provisions for doubtful accounts primarily attributable to U.S.
steel customers that filed for bankruptcy protection under Chapter 11 and $0.3
million of organizational structure costs. The overall increase in 2002 SG&A
was primarily related to the Company's current year acquisitions, which added
approximately $4.9 million of expense, as well as higher administrative costs
such as insurance, pension, incentive compensation, and expenses related to the
Company's new global transaction system. In 2003, the Company expects higher
costs for pension and insurance as well as for our global transaction system.
Operating income as reported was $24.0 million in 2002 compared to $14.2
million in 2001. In addition to the significant costs noted in 2001 SG&A,
operating income for 2001 also included a restructuring charge of $5.9 million
as well as an additional environmental provision of $0.5 million. The
restructuring charge of $5.9 million related to plans to close and sell our
manufacturing facilities in the U.K. and France, reduce administrative
functions, as well as costs related to abandoned acquisitions. The overall
increase in operating income in 2002 was primarily attributable to the 2001
significant costs noted above, as well as higher gross margin from the noted
volume increases.
The Company's effective tax rate was 32% in 2002 versus 31% in 2001. The
effective tax rate is dependent on many internal and external factors and is
assessed by the Company on a regular basis. Currently the Company anticipates
its effective tax rate for 2003 will be 33%. The Company had previously been
assessed additional taxes based on an audit of certain subsidiaries for prior
years, which has been resolved with no material impact to the Company's
consolidated financial statements.
Equity in net income of associated companies for 2002 was approximately $0.3
million lower than 2001. This decrease was primarily attributable to the July
2002 purchase of a controlling interest in the Company's South African joint
venture, as well as losses from the start-up of the Company's real estate joint
venture.
Minority interest in net income of subsidiaries for 2002 was approximately
$0.4 million lower than 2001. This decrease was substantially the result of
lower U.S. dollar net income from the Company's joint venture in Brazil
partially offset by an improved performance of the Company's China joint
venture and the purchase of a controlling interest in our South African joint
venture.
Comparison of 2001 with 2000
Consolidated net sales decreased from $267.6 million in 2000 to $251.1
million in 2001. The 6% decline was the net result of a 4% decrease in volume
and a 3% improvement in price/mix, offset by a 4% negative impact from foreign
currency translation. Also, the sale of the U.S. pulp and paper business in May
2000
13
unfavorably impacted the sales comparison by 1%. The shortfall for the year was
mainly attributable to metalworking process chemicals sales declines in the
U.S., Europe, and Asia/Pacific regions, primarily due to weak demand from the
steel industry, as indicated by bankruptcy filings of two of the Company's
major U.S. customers. Brazil sales increased in this segment on a local
currency basis, but declined as well due to the weakening of the Brazilian real
against the U.S. dollar. These declines were partially offset by higher
coatings segment revenues despite weakening aircraft production in the fourth
quarter of 2001. Sales from the Company's new joint venture ("Q2 Technologies")
also helped offset the sales decline with its strong performance in sales of
its sulfur removal technology to industrial customers.
Gross profit as a percentage of sales also declined (40.2% for 2001 compared
to 41.9% for 2000) primarily as a result of lower sales volumes and higher raw
material costs in addition to product mix changes.
SG&A costs as reported for 2001 were $80.5 million compared to $86.9 million
in 2000. Both 2001 and 2000 SG&A included certain significant costs. These
costs included additional provisions for doubtful accounts primarily
attributable to U.S. steel customers that filed for bankruptcy protection under
Chapter 11 of $2.0 million and $1.7 million in 2001 and 2000, respectively.
SG&A for 2001 also included $0.3 million of organizational structure costs. The
overall decline in SG&A is primarily due to continued cost containment efforts
as well as foreign exchange impacts.
Operating income as reported was $14.2 million in 2001 compared to $25.1
million reported in 2000. In addition to the significant costs noted in SG&A,
operating income for 2001 also included the following significant costs: a
restructuring charge of $5.9 million, as well as an additional environmental
provision of $0.5 million. The restructuring charge of $5.9 million, related to
plans to close and sell our manufacturing facilities in the U.K. and France,
reduce administrative functions, as well as costs related to abandoned
acquisitions. Operating income for 2000 also included a gain of $1.5 million
relating to the sale of our U.S. pulp and paper business offset by an
additional environmental provision of $1.5 million. The overall decline in
operating income was the result of the aforementioned significant costs as well
as lower gross profit margin related to the overall sales decline in 2001.
Other income variance primarily reflects lower license fee revenue in 2001
in addition to gains on fixed asset disposals in 2000 versus losses in 2001.
Net interest expense was lower in 2001 reflecting increased interest income and
lower overall short-term borrowings in addition to lower interest rates in
2001. Equity income was lower in 2001 compared to 2000, reflecting lower income
from the Company's joint ventures in Mexico, Japan, and Venezuela, as well as
losses incurred by the Venture. Minority interest was higher in 2001, primarily
due to higher net income from joint ventures in Brazil and Q2 Technologies.
The Company's effective tax rate was 31% in both 2001 and 2000.
Restructuring and Related Activities
In 2001, Quaker's management approved restructuring plans to realign the
organization and reduce operating costs. Quaker's restructuring plans include
the decision to close and sell manufacturing facilities in the U.K. and France.
In addition, Quaker consolidated certain functions within its global business
units and reduced administrative functions, as well as expensed costs related
to abandoned acquisitions. Included in the restructuring charges are provisions
for severance of 53 employees.
Restructuring and related charges of $5.854 million were recognized in 2001.
The charge comprised of $2.644 million related to employee separations, $2.613
million related to facility rationalization charges, and $0.597 million related
to abandoned acquisitions. Employee separation benefits varied depending on
local regulations within certain foreign countries and included severance and
other benefits. As of December 31, 2002, Quaker had completed 50 of the planned
53 employee separations under the 2001 plan. During the fourth quarter of 2002,
the Company completed the sale of its U.K. manufacturing facility. Quaker
closed this facility at the end
14
of 2001. Quaker expects to substantially complete the initiatives contemplated
under the restructuring plans, including the sale of its manufacturing facility
in France, by the end of 2003. Accrued restructuring balances, included in
other current liabilities, as of December 31, 2002 are as follows:
(Dollars in thousands)
-----------------------------------------------------------------------
Balance Currency Balance
December 31, Translation December 31,
2001 Payments and Other 2002
------------ -------- ----------- ------------
Employee separations.... $2,534 $(1,374) $114 $1,274
Facility rationalization 1,439 (752) 182 869
------ ------- ---- ------
Total................ $3,973 $(2,126) $296 $2,143
====== ======= ==== ======
Environmental Clean-up Activities
The Company is involved in environmental clean-up activities in connection
with an existing plant location. During the second quarter of 2000, it was
discovered during an internal environmental audit that AC Products, Inc. (ACP),
a wholly owned subsidiary, had failed to properly report its air emissions. In
response, an internal investigation of all environmental, health, and safety
matters at ACP was conducted. ACP voluntarily disclosed these matters to
regulators and took steps to correct all environmental, health, and safety
issues discovered. In addition, ACP is involved in certain soil and groundwater
remediation activities identified in prior years. In connection with these
activities, the Company recorded pre-tax charges totaling $0.5 million and $1.5
million in 2001 and 2000, respectively. The Company believes that the remaining
potential-known liabilities associated with these matters range from
approximately $1.2 million to $1.9 million, for which the Company has
sufficient reserves. Notwithstanding the foregoing, the Company cannot be
certain that liabilities in the form of remediation expenses, fines, penalties,
and damages will not be incurred in excess of the amount reserved. See Note 14
of Notes to Consolidated Financial Statements which appears in Item 8 of this
Report.
General
The Company generally does not use financial instruments that expose it to
significant risk involving foreign currency transactions; however, the size of
non-U.S. activities has a significant impact on reported operating results and
the attendant net assets. During the past three years, sales by non-U.S.
subsidiaries accounted for approximately 55% to 56% of the consolidated net
annual sales (see Note 11 of Notes to Consolidated Financial Statements).
Factors that May Affect Our Future Results
(Cautionary Statements Under the Private Securities Litigation Reform Act of
1995)
Certain information included in this Report and other materials filed or to
be filed by Quaker with the Securities and Exchange Commission (as well as
information included in oral statements or other written statements made or to
be made by us) contains or may contain forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended. These statements can be
identified by the fact that they do not relate strictly to historical or
current facts. We have based these forward-looking statements on our current
expectations about future events. These forward-looking statements include
statements with respect to our beliefs, plans, objectives, goals, expectations,
anticipations, intentions, financial condition, results of operations, future
performance and business, including:
. statements relating to our business strategy;
. our current and future results and plans; and
. statements that include the words "may," "could," "should," "would,"
"believe," "expect," "anticipate," "estimate," "intend," "plan" or
similar expressions.
15
Such statements include information relating to current and future business
activities, operational matters, capital spending, and financing sources. From
time to time, oral or written forward-looking statements are also included in
Quaker's periodic reports on Forms 10-Q and 8-K, press releases and other
materials released to the public.
Any or all of the forward-looking statements in this report, in Quaker's
Annual Report to Shareholders for 2002 and in any other public statements we
make may turn out to be wrong. This can occur as a result of inaccurate
assumptions or as a consequence of known or unknown risks and uncertainties.
Many factors discussed in this Report will be important in determining our
future performance. Consequently, actual results may differ materially from
those that might be anticipated from our forward-looking statements.
We undertake no obligation to publicly update any forward-looking
statements, whether as a result of new information, future events or otherwise.
However, any further disclosures made on related subjects in Quaker's
subsequent reports on Forms 10-K, 10-Q and 8-K should be consulted. The risks
and uncertainties that could impact the Company's future operations and results
include, but are not limited to, further downturns in our customers'
businesses, significant increases in raw material costs, worldwide economic and
political conditions, foreign currency fluctuations, the current conflict in
Iraq, and future security alerts and terrorist attacks such as those that
occurred on September 11, 2001. Furthermore, the Company is subject to the same
business cycles as those experienced by steel, automobile, aircraft, appliance,
and durable goods manufacturers. These risks, uncertainties, and possible
inaccurate assumptions relevant to our business could cause our actual results
to differ materially from expected and historical results. Other factors beyond
those discussed could also adversely affect us. This discussion is provided as
permitted by the Private Securities Litigation Reform Act of 1995.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
Quaker is exposed to the impact of interest rates, foreign currency
fluctuations, changes in commodity prices, and credit risk.
Interest Rate Risk. Quaker's exposure to market rate risk for changes in
interest rates relates primarily to its short and long-term debt. Most of
Quaker's long-term debt has a fixed interest rate, while its short-term debt is
negotiated at market rates which can be either fixed or variable. Accordingly,
if interest rates rise significantly, the cost of short-term debt to Quaker
will increase. This can have an adverse effect on Quaker, depending on the
extent of Quaker's short-term borrowings. As of December 31, 2002, Quaker had
$9.3 million in short-term borrowings.
Foreign Exchange Risk. A significant portion of Quaker's revenues and
earnings is generated by its foreign operations. These foreign operations also
hold a significant portion of Quaker's assets and liabilities. All such
operations use the local currency as their functional currency. Accordingly,
Quaker's financial results are affected by risks typical of global business
such as currency fluctuations, particularly between the U.S. dollar, the
Brazilian real, and the E.U. euro. As exchange rates vary, Quaker's results can
be materially affected.
In the past, Quaker has used, on a limited basis, forward exchange contracts
to hedge foreign currency transactions and foreign exchange options to reduce
exposure to changes in foreign exchange rates. The amount of any gain or loss
on these derivative financial instruments was immaterial.
Quaker was not in 2002 and is not currently a party to any derivative
financial instruments. Therefore, adoption of SFAS No. 133, as amended by SFAS
No. 138, did not have a material impact on Quaker's operating results or
financial position as of December 31, 2002.
Commodity Price Risk. Many of the raw materials used by Quaker are
commodity chemicals, and, therefore, Quaker's earnings can be materially
adversely affected by market changes in raw material prices. In certain cases,
Quaker has entered into fixed-price purchase contracts having a term of up to
one year. These contracts provide for protection to Quaker if the price for the
contracted raw materials rises, however, in certain
16
limited circumstances, Quaker will not realize the benefit if such prices
decline. Quaker has not been, nor is it currently a party to, any derivative
financial instrument relative to commodities.
Credit Risk. Quaker establishes allowances for doubtful accounts for
estimated losses resulting from the inability of its customers to make required
payments. If the financial condition of Quaker's customers were to deteriorate,
resulting in an impairment of their ability to make payments, additional
allowances may be required. Downturns in the overall economic climate may also
tend to exacerbate specific customer financial issues. A significant portion of
Quaker's revenues is derived from sales to customers in the U.S. steel
industry, where a number of bankruptcies occurred during recent years. In 2000,
2001, and early 2002, Quaker recorded additional provisions for doubtful
accounts primarily related to bankruptcies in the U.S. steel industry. When a
bankruptcy occurs, Quaker must judge the amount of proceeds, if any, that may
ultimately be received through the bankruptcy or liquidation process. In
addition, as part of its terms of trade, Quaker may custom manufacture products
for certain large customers and/or may ship product on a consignment basis.
These practices may increase the Company's exposure should a bankruptcy occur,
and may require writedown or disposal of certain inventory due to its estimated
obsolescence or limited marketability. Customer returns of products or disputes
may also result in similar issues related to the realizability of recorded
accounts receivable or returned inventory.
Item 8. Financial Statements and Supplementary Data.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
----
Financial Statements:
Report of Independent Accountants.............. 18
Consolidated Statement of Income............... 19
Consolidated Balance Sheet..................... 20
Consolidated Statement of Cash Flows........... 21
Consolidated Statement of Shareholders' Equity. 22
Notes to Consolidated Financial Statements..... 23
17
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders and Board of Directors
of Quaker Chemical Corporation
In our opinion, the consolidated financial statements listed in the index
appearing under Item 8 on page 17 and listed in the index appearing under Item
15(a)(1) on page 44, present fairly, in all material respects, the financial
position of Quaker Chemical Corporation and its subsidiaries at December 31,
2002 and 2001, and the results of their operations and their cash flows for
each of the three years in the period ended December 31, 2002, in conformity
with accounting principles generally accepted in the United States of America.
In addition, in our opinion, the financial statement schedule listed in the
index appearing under Item 15(a)(2) on page 44 presents fairly, in all material
respects, the information set forth therein when read in conjunction with the
related consolidated financial statements. These financial statements and
financial statement schedule are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements and financial statement schedule based on our audits. We conducted
our audits of these statements in accordance with auditing standards generally
accepted in the United States of America, which 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.
As discussed in Note 13 to the consolidated financial statements, effective
January 1, 2002, the Company adopted Statement of Financial Accounting
Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets."
/s/ PricewaterhouseCoopers LLP
PricewaterhouseCoopers LLP
Philadelphia, Pennsylvania
March 18, 2003
18
QUAKER CHEMICAL CORPORATION
CONSOLIDATED STATEMENT OF INCOME
Year Ended December 31,
----------------------------
2002 2001 2000
-------- -------- --------
(Dollars in thousands except
per share amounts)
Net sales............................................... $274,521 $251,074 $267,570
-------- -------- --------
Costs and expenses:
Cost of goods sold................................... 162,944 150,045 155,530
Selling, general, and administrative expenses........ 87,604 80,484 86,865
Net gain on exit of businesses.......................... -- -- (1,473)
Environmental charge.................................... -- 500 1,500
Restructuring charges................................... -- 5,854 --
-------- -------- --------
250,548 236,883 242,422
-------- -------- --------
Operating income........................................ 23,973 14,191 25,148
Other income, net....................................... 1,135 1,089 2,434
Interest expense........................................ (1,774) (1,880) (2,030)
Interest income......................................... 984 1,030 934
-------- -------- --------
Income before taxes, equity income and minority interest 24,318 14,430 26,486
Taxes on income......................................... 7,782 4,473 8,211
-------- -------- --------
16,536 9,957 18,275
Equity in net income of associated companies............ 295 613 1,424
Minority interest in net income of subsidiaries......... (2,534) (2,905) (2,536)
-------- -------- --------
Net income.............................................. $ 14,297 $ 7,665 $ 17,163
======== ======== ========
Per share data:
Net income--basic.................................... $ 1.56 $ .85 $ 1.94
Net income--diluted.................................. $ 1.51 $ .84 $ 1.93
Dividends............................................ $ .84 $ .82 $ .80
Weighted average shares outstanding:
Basic................................................ 9,172 9,054 8,831
Diluted.............................................. 9,474 9,114 8,896
See notes to consolidated financial statements.
19
QUAKER CHEMICAL CORPORATION
CONSOLIDATED BALANCE SHEET
December 31,
--------------------
2002 2001
-------- --------
(Dollars in thousands
except per share
amounts)
ASSETS
Current assets
Cash and cash equivalents................................................... $ 13,857 $ 20,549
Accounts receivable, net.................................................... 53,353 44,787
Inventories, net............................................................ 23,636 18,785
Deferred income taxes....................................................... 5,874 4,031
Prepaid expenses and other current assets................................... 6,953 4,778
-------- --------
Total current assets.................................................... 103,673 92,930
Property, plant, and equipment, net............................................ 48,512 38,244
Goodwill....................................................................... 21,927 14,960
Other intangible assets, net................................................... 5,852 1,442
Investments in associated companies............................................ 9,060 9,839
Deferred income taxes.......................................................... 10,609 9,085
Other assets................................................................... 14,225 13,166
-------- --------
Total assets............................................................ $213,858 $179,666
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Short-term borrowings and current portion of long-term debt................. $ 12,205 $ 2,858
Accounts payable............................................................ 27,461 18,323
Dividends payable........................................................... 1,962 1,873
Accrued compensation........................................................ 10,254 8,109
Other current liabilities................................................... 14,262 14,343
-------- --------
Total current liabilities............................................... 66,144 45,506
Long-term debt................................................................. 16,590 19,380
Deferred income taxes.......................................................... 1,518 1,233
Accrued pension and postretirement benefits.................................... 28,723 19,239
Other non-current liabilities.................................................. 5,166 4,973
-------- --------
Total liabilities....................................................... 118,141 90,331
-------- --------
Minority interest in equity of subsidiaries.................................... 7,662 8,436
-------- --------
Commitments and contingencies.................................................. -- --
Shareholders' equity
Common stock, $1 par value; authorized 30,000,000 shares; issued (including
treasury shares) 9,664,009 shares......................................... 9,664 9,664
Capital in excess of par value.............................................. 626 357
Retained earnings........................................................... 110,448 103,953
Unearned compensation....................................................... (1,245) (1,597)
Accumulated other comprehensive loss........................................ (27,078) (24,075)
-------- --------
92,415 88,302
Treasury stock, shares held at cost; 2002-342,109, 2001-526,865............. (4,360) (7,403)
-------- --------
Total shareholders' equity.............................................. 88,055 80,899
-------- --------
Total liabilities and shareholders' equity........................... $213,858 $179,666
======== ========
See notes to consolidated financial statements.
20
QUAKER CHEMICAL CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS
Year Ended December 31,
--------------------------
2002 2001 2000
-------- ------- -------
(Dollars in thousands)
Cash flows from operating activities
Net income................................................................................... $ 14,297 $ 7,665 $17,163
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation.............................................................................. 5,432 4,913 5,404
Amortization.............................................................................. 805 1,467 1,408
Equity in net income of associated companies.............................................. (295) (613) (1,424)
Minority interest in earnings of subsidiaries............................................. 2,534 2,905 2,536
Deferred income taxes..................................................................... 328 (627) (1,821)
Deferred compensation and other postretirement benefits................................... 35 201 1,218
Net gain on exit of businesses............................................................ -- -- (1,473)
Environmental charge...................................................................... -- 500 1,500
Restructuring charge...................................................................... -- 5,854 --
Pension and other, net.................................................................... 1,524 (695) 596
Increase (decrease) in cash from changes in current assets and current liabilities, net of
acquisitions and divestitures:
Accounts receivable, net.................................................................. (657) 7,573 (2,187)
Inventories............................................................................... (3,101) 2,762 (650)
Prepaid expenses and other current assets................................................. (194) 39 (1,596)
Accounts payable and accrued liabilities.................................................. 7,107 (6,603) (1,805)
Change in restructuring liabilities....................................................... (2,156) (1,123) (328)
Estimated taxes on income................................................................. (1,261) (1,614) 2,852
-------- ------- -------
Net cash provided by operating activities.............................................. 24,398 22,604 21,393
-------- ------- -------
Cash flows from investing activities
Capital expenditures......................................................................... (10,837) (8,036) (6,126)
Dividends from associated companies.......................................................... 515 1,208 625
Investments in and advances to associated companies.......................................... -- 95 --
Payments related to acquisitions............................................................. (21,285) (1,718) (3,500)
Proceeds from sale of business............................................................... -- -- 5,200
Proceeds from disposition of assets.......................................................... 1,682 259 1,006
Other, net................................................................................... (326) 165 (11)
-------- ------- -------
Net cash used in investing activities.................................................. (30,251) (8,027) (2,806)
-------- ------- -------
Cash flows from financing activities.............................................................
Dividends paid............................................................................... (7,714) (7,410) (6,989)
Net increase (decrease) in short-term borrowings............................................. 9,026 (56) (290)
Repayment of long-term debt.................................................................. (2,853) (2,891) (28)
Treasury stock issued........................................................................ 2,951 2,902 810
Treasury stock repurchased................................................................... -- -- (1,961)
Distributions to minority shareholders....................................................... (2,673) (2,335) (1,533)
Other, net................................................................................... -- 234 --
-------- ------- -------
Net cash used in financing activities.................................................. (1,263) (9,556) (9,991)
-------- ------- -------
Effect of exchange rate changes on cash...................................................... 424 (1,024) (721)
Net (decrease) increase in cash and cash equivalents...................................... (6,692) 3,997 7,875
Cash and cash equivalents at beginning of year............................................ 20,549 16,552 8,677
-------- ------- -------
Cash and cash equivalents at end of year.................................................. $ 13,857 $20,549 $16,552
======== ======= =======
Supplemental cash flow disclosures
Cash paid during the year for:
Income taxes................................................................................. $ 7,787 $ 7,550 $ 6,935
Interest..................................................................................... 1,897 1,876 2,020
Noncash investing activities:
Contribution of property, plant, and equipment to real estate joint venture.................. $ -- $ 4,358 $ --
See notes to consolidated financial statements.
21
QUAKER CHEMICAL CORPORATION
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
Accumulated
Capital in other
Common excess of Retained Unearned comprehensive Treasury
stock par value earnings compensation income (loss) stock Total
------ ---------- -------- ------------ ------------- -------- -------
(Dollars in thousands except per share amounts)
Balance at December 31, 1999... $9,664 $ 832 $ 93,655 $ -- $(11,378) $(11,574) $81,199
-------
Net income.................. -- -- 17,163 -- -- -- 17,163
Currency translation
adjustments............... -- -- -- -- (5,546) -- (5,546)
Minimum pension liability... -- -- -- -- 210 -- 210
-------
Comprehensive income...... -- -- -- -- -- -- 11,827
-------
Dividends ($.80 per share).. -- -- (7,058) -- -- -- (7,058)
Shares acquired under
repurchase program........ -- -- -- -- -- (1,961) (1,961)
Shares issued upon exercise
of options................ -- (54) -- -- -- 613 559
Shares issued for employee
stock purchase plan....... -- (32) -- -- -- 373 341
------ ----- -------- ------- -------- -------- -------
Balance at December 31, 2000... 9,664 746 103,760 -- (16,714) (12,549) 84,907
-------
Net income.................. -- -- 7,665 -- -- -- 7,665
Currency translation
adjustments............... -- -- -- -- (5,566) -- (5,566)
Minimum pension liability... -- -- -- -- (1,524) -- (1,524)
Unrealized (loss) on
available-for-sale
securities................ -- -- -- -- (271) -- (271)
-------
Comprehensive income...... -- -- -- -- -- -- 304
-------
Dividends ($.82 per share).. -- -- (7,472) -- -- -- (7,472)
Shares issued upon exercise
of options................ -- (375) -- -- -- 3,106 2,731
Shares issued for employee
stock purchase plan....... -- 8 -- -- -- 244 252
Restricted stock............ -- (22) -- (1,597) -- 1,796 177
------ ----- -------- ------- -------- -------- -------
Balance at December 31, 2001... 9,664 357 103,953 (1,597) (24,075) (7,403) 80,899
-------
Net income.................. -- -- 14,297 -- -- 14,297
Currency translation
adjustments............... -- -- -- -- 1,478 -- 1,478
Minimum pension liability... -- -- -- -- (4,322) -- (4,322)
Unrealized (loss) on
available-for-sale
securities................ -- -- -- -- (159) -- (159)
-------
Comprehensive income...... -- -- -- -- -- -- 11,294
-------
Dividends ($.84 per share).. -- -- (7,802) -- -- -- (7,802)
Shares issued upon exercise
of options................ -- 250 -- -- -- 2,548 2,798
Shares issued for employee
stock purchase plan....... -- 80 -- -- -- 144 224
Shares issued for long-term
incentive awards.......... -- (61) -- -- -- 351 290
Restricted stock............ -- -- -- 352 -- -- 352
------ ----- -------- ------- -------- -------- -------
Balance at December 31, 2002 $9,664 $ 626 $110,448 $(1,245) $(27,078) $ (4,360) $88,055
====== ===== ======== ======= ======== ======== =======
See notes to consolidated financial statements.
22
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands except per share amounts)
Note 1--Significant Accounting Policies
Principles of consolidation: All majority-owned subsidiaries are included
in the Company's consolidated financial statements, with appropriate
elimination of intercompany balances and transactions. Investments in
associated (less than majority-owned) companies are accounted for under the
equity method. The Company's share of net income or losses of investments is
included in the consolidated statement of income. The Company periodically
reviews these investments for impairments and, if necessary, would adjust these
investments to their fair value when a decline in market value is deemed to be
other than temporary.
Effective July 1, 2002, the Company acquired a controlling interest of
Quaker Chemical South Africa (Pty.) Ltd. (South Africa), a previously 50% owned
joint venture. As a result, South Africa, previously reported using the equity
method, is now a fully consolidated 51% owned subsidiary. The effect of this
change was not material to the financial statements.
Translation of foreign currency: Assets and liabilities of non-U.S.
subsidiaries and associated companies are translated into U.S. dollars at the
respective rates of exchange prevailing at the end of the year. Income and
expense accounts are translated at average exchange rates prevailing during the
year. Translation adjustments resulting from this process are recorded directly
in shareholders' equity and will be included in income only upon sale or
liquidation of the underlying investment.
Cash and cash equivalents: The Company considers all highly liquid
investments with original maturities of three months or less to be cash
equivalents.
Inventories: Inventories are valued at the lower of cost or market value.
The majority of domestic inventories are valued using the last-in, first-out
("LIFO") method. Cost of non-U.S. subsidiaries and certain domestic inventories
are determined using the first-in, first-out ("FIFO") method.
Long-lived assets: Property, plant, and equipment are stated at cost.
Depreciation is computed using the straight-line method on an individual asset
basis over the following estimated useful lives: buildings and improvements, 10
to 45 years; and machinery and equipment, 3 to 15 years. The carrying value of
long-lived assets is periodically evaluated whenever changes in circumstances
or current events indicate the carrying amount of such assets may not be
recoverable. An estimate of undiscounted cash flows produced by the asset, or
the appropriate group of assets, is compared with the carrying value to
determine whether an impairment exists. If necessary, the Company recognizes an
impairment loss for the difference between the carrying amount of the assets
and their estimated fair value. Fair value is based on current and anticipated
future undiscounted cash flows. Expenditures for renewals and betterments,
which increase the estimated useful life or capacity of the assets, are
capitalized; expenditures for repairs and maintenance are expensed when
incurred.
Capitalized Software: The Company applies the Accounting Standards
Executive Committee Statement of Position (SOP) 98-1, "Accounting for the Costs
of Computer Software Developed or Obtained for Internal Use." This SOP requires
the capitalization of certain costs incurred in connection with developing or
obtaining software for internal use. In connection with the implementation of
the Company's global transaction system, approximately $8,378 and $3,572 of
costs were capitalized at December 31, 2002 and 2001, respectively. These costs
are amortized over a period of five years once the assets are placed into
service.
Goodwill and Other Intangible Assets: On January 1, 2002, the Company
adopted SFAS No. 142, "Goodwill and Other Intangible Assets." The new standard
requires that goodwill and indefinite-lived intangible assets no longer be
amortized. In addition, goodwill and indefinite-lived intangible assets are
tested for impairment at least annually. These tests will be performed more
frequently if there are triggering events.
23
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
Impairment losses after initial adoption will be recorded as part of income
from continuing operations. Definite-lived intangible assets are amortized over
their estimated useful lives, generally for periods ranging from 5 to 20 years.
The Company continually evaluates the reasonableness of the useful lives of
these assets. See also Note 13 of the Consolidated Financial Statements.
Revenue recognition: Sales are generally recorded when products are shipped
to customers and services earned. For products shipped on consignment, revenue
is recorded upon usage by the customer. As part of the Company's chemical
management services, certain third party products are transferred to customers.
Where the Company acts as a principal, revenues are recognized on a gross
reporting basis at the selling price negotiated with clients. Where the Company
acts as an agent, such revenue is recorded using net reporting as service
revenues, at the amount of the administrative fee earned by the Company for
ordering the goods. Third party products transferred under these arrangements
and recorded net totaled $28,344, $20,654, and $19,733, for 2002, 2001, and
2000, respectively. License fees and royalties are recorded when earned and are
included in other income.
Research and development costs: Research and development costs are expensed
as incurred. Research and development expenses are included in selling, general
and administrative expenses, and during 2002, 2001, and 2000 were $9,072,
$8,851, and $8,496, respectively.
Concentration of credit risk: Financial instruments, which potentially
subject the Company to a concentration of credit risk, principally consist of
cash equivalents, short-term investments, and trade receivables. The Company
invests temporary and excess cash in money market securities and financial
instruments having maturities typically within 90 days. The Company has not
experienced losses from the aforementioned investments.
The Company sells its principal products to major steel, automotive, and
related companies around the world. The Company maintains allowances for
potential credit losses. As of December 31, 2002 and 2001, the allowance for
doubtful accounts was $6,118 and $5,155, respectively. Historically, the
Company has experienced some losses related to the poor financial condition of
certain customers. Prior to 2000, such losses were not material. In 2002, 2001,
and 2000, the Company provided allowances of $1,365, $2,472, and $1,971,
respectively, primarily related to U.S. steel customers that filed for
bankruptcy under Chapter 11.
Environmental liabilities and expenditures: Accruals for environmental
matters are recorded when it is probable that a liability has been incurred and
the amount of the liability can be reasonably estimated. If no amount in the
range is considered more probable than any other amount, the Company records
the lowest amount in the range in accordance with generally accepted accounting
principles. Accrued liabilities are exclusive of claims against third parties
and are not discounted. Environmental costs and remediation costs are
capitalized if the costs extend the life, increase the capacity or improve
safety or efficiency of the property from the date acquired or constructed,
and/or mitigate or prevent contamination in the future.
Comprehensive income (loss): The Company presents comprehensive income
(loss) in its Statement of Shareholders' Equity. The components of accumulated
other comprehensive loss at December 31, 2002 include: accumulated foreign
currency translation adjustments of $20,051, minimum pension liability of
$6,597, and unrealized holding losses on available-for-sale securities of $430.
The components of accumulated other comprehensive loss at December 31, 2001
include: accumulated foreign currency translation adjustments of $21,529 and
minimum pension liability of $2,275 and unrealized holding losses on
available-for-sale securities of $271.
24
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
Income Taxes: The provision for income taxes is determined using the asset
and liability approach of accounting for income taxes. Under this approach,
deferred taxes represent the future tax consequences expected to occur when the
reported amounts of assets and liabilities are recovered or paid. The provision
for income taxes represents income taxes paid or payable for the current year
plus the change in deferred taxes during the year. Deferred taxes result from
differences between the financial and tax bases of the Company's assets and
liabilities and are adjusted for changes in tax rates and tax laws when changes
are enacted. Valuation allowances are recorded to reduce deferred tax assets
when it is more likely than not that a tax benefit will not be realized.
Stock-based compensation: In December 2002, the Financial Accounting
Standards Board (FASB) issued Statement of Financial Accounting Standards
(SFAS) No. 148, "Accounting for Stock-Based Compensation--Transition and
Disclosure." This standard amends the transition and disclosure requirements of
SFAS No. 123, "Accounting for Stock-Based Compensation." As permitted by SFAS
No. 148, the Company accounts for stock option grants in accordance with
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees." Accordingly, no compensation expense has been recognized for stock
options since all options granted had an exercise price equal to the market
value of the underlying stock on the grant date. The Company currently does not
intend to transition to the use of a fair value method for accounting for
stock-based compensation. The following tables illustrate the effect on net
earnings and earnings per share if the Company had applied the fair value
recognition provisions of SFAS No. 123 as well as the assumptions used in the
calculation.
Year Ended December 31,
-------------------------
2002 2001 2000
------- ------ -------
(Dollars in thousands,
except per share amounts)
Net income--as reported................................................. $14,297 $7,665 $17,163
Deduct: Total stock-based employee compensation expense determined under
the fair value based method for all awards, net of tax................ 537 429 269
------- ------ -------
Pro forma net income.................................................... $13,760 $7,236 $16,894
======= ====== =======
Earnings per share:
Basic--as reported................................................... $ 1.56 $ 0.85 $ 1.94
Basic--pro forma..................................................... $ 1.50 $ 0.80 $ 1.91
Diluted--as reported................................................. $ 1.51 $ 0.84 $ 1.93
Diluted--pro forma................................................... $ 1.45 $ 0.79 $ 1.90
The fair value of each option grant is estimated on the date of the grant
using the Black-Scholes option-pricing model with the following
weighted-average assumptions:
2002 2001 2000
---- ---- ----
Dividend yield......... 3.9% 3.9% 3.9%
Expected volatility.... 23.9% 21.9% 20.4%
Risk-free interest rate 3.00% 3.38% 5.12%
Expected life (years).. 5 7 7
Recently issued accounting standards: In June 2001, the FASB issued SFAS
No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143 addresses
accounting and reporting for obligations associated with the retirement of
tangible long-lived assets and the associated retirement costs. This statement
is effective for fiscal years beginning after June 15, 2002. Management has
assessed the impact of the new standard and determined there is no material
impact to the financial statements.
25
QUAKER CHEMICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Dollars in thousands except per share amounts)
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44, and 62, Amendment of FASB Statement No. 13 and Technical
Corrections." For most companies, SFAS No. 145 will require gains and losses on
extinguishments of debt to be classified as income or loss from continuing
operations rather than as extraordinary items as previously required under SFAS
No. 4. Extraordinary treatment will be required for certain extinguishments as
provided in APB Opinion No. 30. The statement also amended SFAS No. 13 for
certain sales-leaseback and sublease accounting. The Company adopted this
standard on January 1, 2003. Management has assessed the impact of the new
standard and determined there is no material impact to the financial statements.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities," which nullified EITF Issue No. 94-3. SFAS
No. 146 requires that a liability for a cost associated with an exit or
disposal activity be recognized when the liability is incurred, whereas EITF
No. 94-3 had recognized the liability at the commitment date to an exit plan.
The Company is required to adopt the provisions of SFAS No. 146 effective for
exit or disposal activities initiated after December 31, 2002.
In November 2002, the FASB issued FASB Interpretation No. 45 (FIN 45),
"Guarantor's Accounting and Disclosure Requirements for Guarantees, including
Indirect Guarantees of Indebtedness of Others, an interpretation of FASB
Statements No. 5, 57, and 107 and Rescission of FASB Interpretation No. 34".
FIN 45 clarifies the requirements of FASB Statement No. 5, "Accounting for
Contingencies," relating to the guarantor's accounting for, and disclosure of,
the issuance of certain types of guarantees. The disclosure provisions of the
Interpretation are effective for financial statements issued after December 15,
2002. However, the provisions for initial recognition and measurements are
effective on a prospective basis for guarantees that are issued or modified
after December 31, 2002. Management has assessed the impact of the new standard
and determined there to be no material impact to the financial statements.
In January 2003, the FASB issued FIN 46, "Consolidation of Certain Variable
Interest Entities" (VIEs), which is an interpretation of Accounting Research
Bulletin (ARB) No. 51, "Consolidated Financial Statements." FIN 46 addresses
the application of ARB No. 51 to VIEs, and generally would require that assets,
liabilities, and results of the activity of a VIE be consolidated into the
financial statements of the enterprise that is considered the primary
beneficiary. FIN 46 is effective for interim periods beginning after June 15,
2003 to VIEs in which an enterprise holds a variable interest that it acquired
before February 1, 2003. The Company is currently in the process of reviewing
the provisions of FIN 46, particularly in relation to the Company's real estate
joint venture to determine if the joint venture must be consolidated effective
July 1, 2003. However, all disclosures required by FIN 46 are included in the
accompanying Note 3 to the Consolidated Financial Statements. FIN 46 is
effective immediately for any variable interests acquired subsequent to January
31, 2003. The Company has not acquired any variable interests subsequent to
January 31, 2003.
Accounting estimates: The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reporte