OM GROUP INC - 10-Q Quarterly Report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2004
Commission File Number 001-12515

OM GROUP, INC.

(exact name of registrant as specified in its charter)


Delaware		52-1736882
(state or other jurisdiction of		(I.R.S., Employer
incorporation or organization)		Identification Number)

127 Public Square
1500 Key Tower
Cleveland, Ohio 44114-1221
(Address of principal executive offices)
(zip code)

(216) 781-0083
(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities and Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes o No þ

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934)

Yes þ No o

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of September 30, 2004: Common Stock, $.01 Par Value – 27,470,073 shares

Part I Financial Information

Item I Financial Statements

OM GROUP, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except per share data)

(Unaudited)


	September 30,			December 31,
	2004			2003
ASSETS
CURRENT ASSETS
Cash and cash equivalents	$	52,834		$	54,719
Accounts receivable, less allowances		159,222			136,700
Inventories		407,807			269,201
Advances to suppliers		22,266			19,400
Other		47,608			45,669

Total current assets		689,737			525,689

PROPERTY, PLANT AND EQUIPMENT, AT COST
Land		4,994			5,511
Buildings and improvements		161,521			157,738
Machinery and equipment		484,523			470,435
Furniture and fixtures		17,309			16,287

		668,347			649,971
Less accumulated depreciation		277,723			238,611

		390,624			411,360
OTHER ASSETS
Goodwill		179,165			178,678
Receivables from joint venture partners		29,378			51,187
Other		51,555			44,524

TOTAL ASSETS	$	1,340,459		$	1,211,438


LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES
Long-term debt in default	$	400,000		$	—
Accounts payable		147,136			136,190
Retained liabilities of businesses sold		21,674			41,654
Accrued income taxes		21,031			4,114
Accrued interest		12,465			1,896
Shareholder litigation accrual		92,000			—
Other		59,530			61,272

Total Current Liabilities		753,836			245,126

LONG-TERM LIABILITIES
Long-term debt		31,002			430,466
Deferred income taxes		33,266			29,042
Shareholder litigation accrual		—			84,500
Minority interest		45,892			42,726
Other		29,775			29,126

STOCKHOLDERS’ EQUITY
Preferred stock, $.01 par value:
Authorized 2,000,000 shares, no shares issued or outstanding		—			—
Common stock, $.01 par value:
Authorized 60,000,000 shares; issued 28,484,098 shares in 2004 and 2003		285			285
Capital in excess of par value		497,668			495,107
Retained deficit		(65,001	)		(160,724	)
Treasury stock (14,025 shares in 2004 and 2003, at cost)		(710	)		(710	)
Accumulated other comprehensive income		14,593			17,086
Unearned compensation		(147	)		(592	)

Total Stockholders’ Equity		446,688			350,452

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY	$	1,340,459		$	1,211,438

See accompanying notes to unaudited condensed consolidated financial statements.

Part I Financial Information

Item I Financial Statements

OM GROUP, INC.

CONDENSED STATEMENTS OF CONSOLIDATED OPERATIONS

(Amounts in thousands, except per share data)

(Unaudited)


	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2004			2003			2004			2003
Net sales	$	311,902		$	238,506		$	992,270		$	653,776
Cost of products sold		234,606			187,597			732,326			534,179

		77,296			50,909			259,944			119,597

Selling, general and administrative expenses		27,321			33,485			93,843			78,709


INCOME FROM OPERATIONS		49,975			17,424			166,101			40,888

OTHER INCOME (EXPENSE)
Interest expense		(9,766	)		(14,614	)		(30,100	)		(32,553	)
Foreign exchange loss		(2,967	)		(1,839	)		(6,802	)		(2,028	)
Investment income and other, net		1,803			10,369			5,867			11,723

		(10,930	)		(6,084	)		(31,035	)		(22,858	)

INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES AND MINORITY INTEREST		39,045			11,340			135,066			18,030

Income tax expense		8,062			3,868			36,177			6,149
Minority interest		1,193			212			3,166			(1,155	)

INCOME FROM CONTINUING OPERATIONS		29,790			7,260			95,723			13,036

DISCONTINUED OPERATIONS
Income from operations, net of tax		—			15,808			—			10,022
Gain on the sale of Precious Metal Group, net of tax		—			131,748			—			131,748

		—			147,556			—			141,770

NET INCOME	$	29,790		$	154,816		$	95,723		$	154,806


Net income per common share - basic
Continuing operations	$	1.05		$	0.26		$	3.36		$	0.46
Discontinued operations		—			5.20			—			5.00

Net income	$	1.05		$	5.46		$	3.36		$	5.46
Net income per common share - assuming dilution
Continuing operations	$	1.04		$	0.26		$	3.35		$	0.46
Discontinued operations		—			5.20			—			5.00

Net income	$	1.04		$	5.46		$	3.35		$	5.46
Weighted average shares outstanding
Basic		28,470			28,359			28,470			28,344
Assuming dilution		28,642			28,364			28,613			28,347

See accompanying notes to unaudited condensed consolidated financial statements.

Part I Financial Information

Item I Financial Statements

OM GROUP, INC.

CONDENSED STATEMENTS OF CONSOLIDATED CASH FLOWS

(Amounts in thousands, except per share data)

(Unaudited)


	Nine Months Ended
	September 30,
	2004			2003
OPERATING ACTIVITIES
Income from continuing operations	$	95,723		$	13,036
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		37,856			44,262
Foreign exchange loss		6,802			2,028
Minority interest		3,166			(1,155	)
Other non-cash items		16,317			(2,817	)
Changes in operating assets and liabilities		(142,627	)		(5,532	)

NET CASH PROVIDED BY OPERATING ACTIVITIES		17,237			49,822

INVESTING ACTIVITIES
Expenditures for property, plant and equipment		(11,909	)		(6,910	)
Acquisition of business		(6,715	)		(3,724	)
Proceeds from sale of businesses		—			871,281

NET CASH (USED IN) PROVIDED BY INVESTING ACTIVITIES		(18,624	)		860,647

FINANCING ACTIVITIES
Payments of long-term debt		—			(794,400	)

NET CASH USED IN FINANCING ACTIVITIES		—			(794,400	)

Effect of exchange rate changes on cash and cash equivalents		(498	)		4,450


CASH (USED IN) PROVIDED BY CONTINUING OPERATIONS		(1,885	)		120,519

CASH USED IN DISCONTINUED OPERATIONS		—			(70,860	)


(Decrease) increase in cash and cash equivalents		(1,885	)		49,659
Cash and cash equivalents at beginning of period		54,719			12,470

Cash and cash equivalents at end of period	$	52,834		$	62,129

Part I Financial Information

Item 1 Financial Statements

OM GROUP, INC.

Notes to Condensed Consolidated Financial Statements (Unaudited)

September 30, 2004

(Thousands of dollars, except as noted and per share amounts)


Note A		Basis of Presentation

		The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q. Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals for 2004 and 2003 and restatement adjustments for 2003 – see Note B for further discussion) considered necessary for a fair financial presentation have been included. Past operating results are not necessarily indicative of the results which may occur in future periods, and the interim period results are not necessarily indicative of the results to be expected for the full year. These financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2003.

		During 2003, the Company changed its method of accounting for certain inventories of its continuing operations from the last-in, first-out (“LIFO”) method to the first-in, first-out (“FIFO”) method. As a result, all unaudited financial information presented herein is on a FIFO basis (See Note C for further discussion).

Note B		Restatement

		The 2003 Form 10-K includes restated consolidated financial statements for 2002 and 2001 and adjustments to financial information for the first three quarters of 2003 to restate amounts originally reported on Form 10-Q or 10-Q/A. The restatement initially arose from an independent investigation conducted by the audit committee of the Company’s Board of Directors related to certain inventory accounting issues. The investigation, which commenced in December 2003, was conducted with the assistance of outside legal counsel and forensic accountants, and involved an extensive examination of the Company’s systems and procedures for valuing and reporting assets, liabilities and results of operations in the consolidated financial statements. The investigation included the review of accounting records, supporting documentation and e-mail communications, as well as interviews with numerous current and former employees.

		A primary focus of the investigation was adjustments made by or directed to be made by certain former Corporate accounting personnel as part of the financial statement close process, after financial results were submitted to Corporate from the operating units (“top-side adjustments”). As a result of the investigation, the Company has concluded that many of these top-side adjustments were not appropriate. The restatement adjustments include correction of these entries. The Company is cooperating with the SEC’s Division of Enforcement in its review of the findings of the audit committee with respect to evidence of accounting irregularities by former employees. The audit committee investigation concluded there was no evidence of wrongdoing by current employees.

		In connection with the restatement process, including expanded audit procedures at a number of locations worldwide, additional adjustments were identified and have been recorded in the restated financial statements.


		Further, in late 2003 and throughout the first nine months of 2004, the Company addressed comments from the SEC’s Division of Corporation Finance on periodic reports previously filed with the SEC. One of these comments challenged the Company’s methodology used to compute the lower of cost or market value of its inventory. As a result of this process, the Company revised its methodology to base its lower of cost or market computations on end of period market prices (as opposed to projected market prices), resulting in adjustments to amounts previously reported.

		The overall impact of the restatement adjustments on the Company’s previously issued condensed statement of consolidated operations for the three and nine months ended September 30, 2003 follows. Amounts presented are before the Company’s change from the LIFO to the FIFO method of valuing certain inventory as described in Note C.


	Three Months		Nine Months
	Ended		Ended
	September 30,		September 30,
	2003		2003
Net income, as originally reported	$	62,022	$	57,553
Effect of the restatement adjustments		94,062		111,266

Net income, as restated	$	156,084	$	168,819


Net income per common share – basic and diluted:
Net income, as originally reported	$	2.19	$	2.04
Effect of restatement adjustments		3.31		3.91

Net income, as restated	$	5.50	$	5.95


Note C		Inventories and Change in Accounting Principle

		Inventories consist of the following:


	September 30,		December 31,
	2004		2003
Raw materials and supplies	$	224,847	$	158,112
Work in process		42,535		43,109
Finished goods		140,425		67,980

	$	407,807	$	269,201


		Previously, substantially all of the Company’s inventories were accounted for under the LIFO method of accounting. During the fourth quarter 2003, the Company changed its method of accounting for certain inventories from the LIFO method to the FIFO method for its continuing operations. The effect of the change on restated income from continuing operations and per share amounts is as follows:


	Three Months			Nine Months
	Ended			Ended
	September 30,			September 30,
	2003			2003
Income from continuing operations, as restated using the LIFO method	$	8,527		$	27,048
Effect of change in accounting method to the FIFO method, applied retroactively		(1,267	)		(14,012	)

Income from continuing operations, as adjusted using the FIFO method	$	7,260		$	13,036


Income from continuing operations per common share - diluted:
Income from continuing operations per common share, as restated using the LIFO method	$	0.30		$	0.95
Effect of change in accounting method to the FIFO method, applied retroactively		(0.04	)		(0.49	)

Income from continuing operations per common share, as adjusted using the FIFO method	$	0.26		$	0.46


		The effect of the change on restated net income and per share amounts is as follows:


	Three Months			Nine Months
	Ended			Ended
	September 30,			September 30,
	2003			2003
Net income, as restated using the LIFO method	$	156,083		$	168,818
Effect of change in accounting method to the FIFO method, applied retroactively		(1,267	)		(14,012	)

Net income, as adjusted using the FIFO method	$	154,816		$	154,806


Net income per common share - diluted:
Net income per common share, as restated using the LIFO method	$	5.50		$	5.95
Effect of change in accounting method to the FIFO method, applied retroactively		(0.04	)		(0.49	)

Net income per common share, as adjusted using the FIFO method	$	5.46		$	5.46


		The Company used the LIFO method of accounting at its principal manufacturing locations since its initial public offering in 1993. However, since that time, the Company has experienced a high degree of volatility in the reference/published prices of its primary raw materials – cobalt and nickel. The prices of these raw materials are not significantly impacted by inflation but rather by supply and demand dynamics and the impact of traders speculating in the market. This volatility resulted in debit LIFO reserves at each fiscal year end from 1998 to 2002, due to cumulative deflation in the Company’s inventory since its adoption of LIFO. The Company believes that this volatility in metal prices will continue, and the change to FIFO will result in a more meaningful measure of inventory stated at current cost. Further, the change to FIFO will result in an improvement to reporting interim results by eliminating the fluctuations caused by the need to estimate year-end pricing and quantities during the year in a volatile market. Finally, the change to FIFO will conform all of the Company’s inventory accounting to the FIFO method and will align the Company’s accounting method with many of its peer companies.

Note D		Divestitures of Precious Metals and SCM Metal Products, Inc.

		On July 31, 2003, the Company completed the sale of its Precious Metals Group (PMG) to Umicore N.A. for approximately $814 million. After transaction costs and expenses, the Company recorded a gain on the disposal of this business of $145.9 million ($131.7 million after-tax). This business was comprised of the Company’s Precious Metal Chemistry and Metal Management reportable segments, which were acquired by the Company in August 2001. PMG is classified as a discontinued operation. The net proceeds were used to repay all of the Company’s indebtedness outstanding under its then-existing senior credit facilities.

		On April 1, 2003, the Company completed the sale of its copper powders business – SCM Metal Products, Inc. (SCM) – for $63.7 million. The net proceeds were used to repay a portion of the Company’s indebtedness outstanding under its then-existing senior credit facilities. There was no gain or loss recorded as this business was written-down by $2.6 million to its fair value in 2002. SCM is classified as a discontinued operation.


		Operating results of discontinued operations are summarized as follows:


	Three Months			Nine Months
	Ended			Ended
	September 30,			September 30,
	2003			2003
Net sales	$	342,857		$	2,415,945
Operating income		9,245			49,185
Interest expense		(4,094	)		(37,819	)
Income tax benefit		6,537			4,880
Income from discontinued operations	$	15,808		$	10,022


		The operating results summarized above include restructuring charges of $5.6 million. The results also include an allocation of consolidated interest expense, based on the estimated proceeds from the sales of the PMG business and SCM that were required to be used to repay indebtedness outstanding under the Company’s then-existing senior credit facilities.

Note E		Acquisitions
		In April 2000, the Company acquired Outokumpu Nickel Oy (ONO) for a cash purchase price on the acquisition date of $188.1 million. For the nine months ended September 30, 2004 and 2003, the Company made additional payments to the seller in the amount of $6.7 million and $3.7 million, respectively, under a contingent price participation clause of the original purchase agreement, whereby the seller is entitled to receive such payment based on a formula when the London Metal Exchange nickel price is above $3.50 per pound. Such price participation clause was in place through May 2004, at which time this original contract provision was renegotiated. As a result of this renegotiation, price participation payments made after May 2004 were charged to cost of products sold rather than accounted for as acquisition cost. The ultimate aggregate purchase price for the ONO acquisition was $206.0 million, including price participation payments of $6.7 million in 2004. These price participation payments reduce negative goodwill as calculated in the initial purchase price allocation. In accordance with the provisions of APB 16, Business Combinations, such negative goodwill was recorded in the opening balance sheet as a reduction of acquired long-lived assets (primarily property, plant and equipment). The price participation payments are accounted for as a reduction of negative goodwill as initially calculated, resulting in an increase to long-lived assets as these payments are made. Depreciation expense on the increase in long-lived assets has been calculated and recorded on a prospective basis over the estimated remaining useful life of the acquired assets.
Note F		Restructuring and Other Charges

		The Company’s worldwide restructuring program announced in 2002 was completed by the end of 2003, and therefore there were no restructuring charges in 2004. During the three and nine months ended September 30, 2003, the Company recorded restructuring and other charges related to its continuing operations of $15.7 million and $20.9 million, respectively. For the three months ended September 30, 2003, the amounts are recorded in cost of products sold ($5.8 million) and selling, general and administrative expenses ($9.9 million). For the nine-month period ended September 30, 2003, the amounts are recorded in cost of products sold ($5.8 million) and selling, general and administrative expenses ($15.1 million). A summary of the charges, which have a cash component of approximately $9.7 million for the nine months ended September 30, 2003, is as follows:


	Three		Nine
	Months		Months
	Ended		Ended
	September 30, 2003		September 30, 2003
Exit of facilities	$	11,365	$	11,365
Workforce reductions		1,815		3,855
Asset write-downs		—		1,242
Other		2,500		4,415

	$	15,680	$	20,877


		Charges for the exit of facilities include amounts related to the shut-down of the manufacturing operations of the electroless nickel business in Newark, New Jersey ($4.1 million); the shut-down of the manufacturing facility in Thailand ($3.5 million); relocation of the corporate headquarters and shut-down of an administrative facility in Cleveland, Ohio ($3.7 million). The Other charge is contract termination payments on the disposal of one of the Company’s corporate aircraft.

		An analysis of restructuring activity for the Company’s continuing operations is summarized below:

Exit of

Workforce

Facilities and

Reductions


Part I. Financial Information

Item 1. Financial Statements (Unaudited)

Condensed consolidated balance sheets – September 30, 2004 and December 31, 2003

Condensed statements of consolidated operations – Three months ended September 30, 2004 and 2003; Nine months ended September 30, 2004 and 2003

Condensed statements of consolidated cash flows – Nine months ended September 30, 2004 and 2003

Notes to condensed consolidated financial statements – September 30, 2004

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Item 3. Quantitative and Qualitative Disclosures about Market Risk

Item 4. Controls and Procedures

Part II. Other Information

Item 1. Legal Proceedings

Item 2. Changes in Securities - Not applicable

Item 3. Defaults upon Senior Securities

Item 4. Submission of Matters to a Vote of Security Holders – Not applicable

Item 5. Other information - Not applicable

Item 6. Exhibits
EXHIBIT 12 COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
EXHIBIT 31.1 CERTIFICATION
EXHIBIT 31.2 CERTIFICATION
EXHIBIT 32 CERTIFICATION

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