Cost of sales

Selling, general and administrative expenses

Interest expense

Interest income

Foreign currency transaction (gains) losses

Other (income) expense

Asset impairment

Restructuring expense

 

 

 

Provision for U.S. and foreign income taxes

 

Income (loss) from discontinued operations, net of tax of $0

 

Noncontrolling interests

 

 

 

Basic

Diluted

 

Income (loss) from continuing operations

Income (loss) from discontinued operations

 

Net income (loss) attributable to common stockholders

 

 

Income (loss) from continuing operations

Income (loss) from discontinued operations

 

Net income (loss) attributable to common stockholders

 

Cash and cash equivalents

Accounts receivable, less allowance for doubtful accounts of $10,922 at February 28, 2011 and $13,205 at August 31, 2010

Inventories, average cost or market, whichever is lower

Prepaid expenses and other current assets

 

 

 

Deferred charges and other assets

Goodwill

Intangible assets

 

 

 

 

Land and improvements

Buildings and leasehold improvements

Machinery and equipment

Furniture and fixtures

Construction in progress

 

 

Accumulated depreciation and investment grants of $869 at February 28, 2011 and $744 at August 31, 2010

 

 

 

 

Short-term debt

Accounts payable

U.S. and foreign income taxes payable

Accrued payrolls, taxes and related benefits

Other accrued liabilities

 

 

 

Common stock, $1 par value, authorized - 75,000,000 shares, issued - 47,786,892 shares at February 28, 2011 and 47,690,024 shares at August 31, 2010

Other capital

Accumulated other comprehensive income

Retained earnings

Treasury stock, at cost, 16,825,652 shares at February 28, 2011 and 16,205,230 at August 31, 2010

 

Noncontrolling interests

 

 

 

Net income

Adjustments to reconcile net income to net cash provided from (used in) operating activities:

Depreciation and amortization

Deferred tax provision

Pension, postretirement benefits and other deferred compensation

Net losses (gains) on asset sales

Asset impairment

Changes in assets and liabilities:

Accounts receivable

Inventories

Accounts payable

Income taxes

Accrued payrolls and other accrued liabilities

Changes in other assets and other long-term liabilities

 

Net cash provided from (used in) operating activities

 

 

Expenditures for property, plant and equipment

Proceeds from the sale of assets

Business acquisitions, net of cash acquired

 

Net cash used in investing activities

 

 

Cash dividends paid

Increase (decrease) in notes payable and long-term debt

Borrowings on revolving credit facilities

Repayments on revolving credit facilities

Payment of debt issuance costs

Cash distributions to noncontrolling interests

Common stock issued (redeemed), net

Issuance (purchase) of treasury stock, net

 

Net cash provided from (used in) financing activities

 

Effect of exchange rate changes on cash

 

 

 

 

GENERAL

The unaudited interim consolidated financial statements included for A. Schulman, Inc. (the “Company”) reflect all adjustments, which are, in the opinion of management, necessary for a fair presentation of the results of the interim period presented. All such adjustments are of a normal recurring nature. The year-end consolidated balance sheet data was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States of America (“U.S. GAAP”). The unaudited consolidated financial information should be read in conjunction with the consolidated financial statements and notes thereto incorporated in the Company’s Annual Report on Form 10-K for the year ended August 31, 2010.

The results of operations for the three and six months ended February 28, 2011 are not necessarily indicative of the results expected for the year ending August 31, 2011.

The accounting policies for the periods presented are the same as described in Note 1 — Summary of Significant Accounting Policies to the consolidated financial statements contained in the Company’s Annual Report on Form 10-K for the fiscal year ended August 31, 2010, except for the adoption of new accounting pronouncements related to fair value disclosures. The adoption of this accounting pronouncement is discussed in Note 18.

Certain items previously reported in specific financial statement captions have been reclassified to conform to the fiscal 2011 presentation.

CASH AND CASH EQUIVALENTS

All highly liquid investments purchased with an original maturity of three months or less are considered to be cash equivalents. Such investments amounted to $9.8 million as of February 28, 2011 and $18.4 million as of August 31, 2010. The Company’s cash equivalents and investments are diversified with numerous financial institutions which management believes to have acceptable credit ratings. These investments are primarily money-market funds and short-term time deposits. The money-market funds are primarily AAA rated by third parties. Management continues to monitor the placement of its cash given the current credit market. The recorded amount of these investments approximates fair value. Investments with maturities between three and twelve months are considered to be short-term investments. As of February 28, 2011 and August 31, 2010, the Company did not hold any short-term investments.

BUSINESS ACQUISITIONS

On March 1, 2010, the Company completed the purchase of McCann Color, Inc. (“McCann Color”), a producer of high-quality color concentrates, based in North Canton, Ohio, for $8.8 million in cash. The business provides specially formulated color concentrates to match precise customer specifications. Its products are used in end markets such as packaging, lawn and garden, furniture, consumer products and appliances. The operations serve customers from its 48,000-square-foot, expandable North Canton facility, which was built in 1998 exclusively to manufacture color concentrates. The facility complements the Company’s existing North American masterbatch manufacturing and product development facilities in Akron, Ohio, San Luis Potosi, Mexico, and La Porte, Texas. The results of operations from the McCann Color acquisition are included in the accompanying consolidated financial statements for the period from the acquisition date, March 1, 2010, and are reported in the Americas segment.

The acquisition was accounted for in accordance with the Financial Accounting Standards Board (“FASB”) revised accounting standard for business combinations. The accounting guidance for business combinations results in a new basis of accounting reflecting the estimated fair values for assets acquired and liabilities assumed. The transaction was financed with available cash. Tangible assets acquired and liabilities assumed were recorded at their estimated fair values of $2.0 million and $0.5 million, respectively. The estimated fair values of finite-lived intangible assets acquired of $4.0 million related to intellectual property and customer relationships are being amortized over their estimated useful lives of 15 years. Goodwill of $3.4 million represents the excess of cost over the estimated fair value of net tangible and intangible assets acquired. The information included herein has been prepared based on the allocation of the purchase price using estimates of the fair value and useful lives of assets acquired and liabilities assumed which were determined with the assistance of independent valuations, quoted market prices and estimates made by management.

On April 30, 2010, the Company acquired ICO, Inc. (“ICO”) through a merger by and among the Company, ICO and Wildcat Spider, LLC, a wholly-owned subsidiary of the Company, and which is now known as ICO-Schulman, LLC, pursuant to the terms of the December 2, 2009 Agreement and Plan of Merger (“Merger Agreement”). The results of ICO’s operations have been included in the consolidated financial statements since the date of acquisition, April 30, 2010.

The acquisition of ICO presented the Company with an opportunity to expand its presence substantially, especially in the global specialty powders and U.S. masterbatch markets. ICO’s business is complementary to the Company’s business across markets, product lines and geographies. The acquisition of ICO’s operations increased the Company’s presence in the U.S. masterbatch market, gained plants in the high-growth market of Brazil and expanded the Company’s presence in Asia with the addition of several ICO facilities in that region. In Europe, the acquisition added rotomold compounding and size reduction to the Company’s capabilities. It also enables growth in countries where the Company had a limited presence, such as France, Italy and Holland, as well as leverages its existing facilities serving high-growth markets such as Poland, Hungary and Sweden.

Under the terms of the Merger Agreement, each share of ICO common stock outstanding immediately prior to the merger was converted into the right to receive a pro rata portion of the total consideration of $105.0 million in cash and 5.1 million shares of the Company’s common stock. All unvested stock options and shares of restricted stock of ICO became fully vested immediately prior to the merger. Unexercised stock options were exchanged for cash equal to their “in the money” value, which reduced the cash pool available to ICO’s stockholders. The following table summarizes the calculation of the estimated fair value of the total consideration transferred (in thousands, except share price):

A. Schulman, Inc. common shares issued

Closing price per share of A. Schulman, Inc. common stock, as of April 30, 2010

 

Consideration attributable to common stock

Cash paid, including cash paid to settle ICO, Inc.’s outstanding equity awards

 

Total consideration transferred

 

The merger was accounted for in accordance with the FASB revised accounting standard for business combinations. The accounting guidance for business combinations results in a new basis of accounting reflecting the estimated fair values for assets acquired and liabilities assumed. The information included herein has been prepared based on the preliminary allocation of the purchase price using estimates of the fair value and useful lives of assets acquired and liabilities assumed which were determined with the assistance of independent valuations, quoted market prices and estimates made by management. The purchase price allocations are subject to further adjustment until all pertinent information regarding the property, plant and equipment, intangible assets, goodwill and deferred income tax assets and liabilities acquired are fully evaluated by the Company and independent valuations are complete.

The following table presents the preliminary estimated fair value of the assets acquired and liabilities assumed at the date of acquisition (in thousands):

Cash and cash equivalents

Accounts receivable

Inventories

Prepaid expenses and other current assets

Property, plant and equipment

Intangible assets

Other long-term assets

 

Total assets acquired

 

Current maturites of long-term debt and notes payable

Accounts payable

Other accrued liabilities

Long-term debt

Deferred income taxes

Pension plans

Other long-term liabilities

 

Total liabilities assumed

 

 

 

The Company preliminarily recorded acquired intangible assets of $71.1 million. These intangible assets include customer related intangibles of $48.5 million with estimated useful lives of 19 years, developed technology of $10.1 million with estimated useful lives of 11 years, and trademarks and trade names of $12.5 million with estimated useful lives ranging between 5 and 20 years.

Goodwill represents the excess of the purchase price over the estimated fair values of the assets acquired and the liabilities assumed in the acquisition. Goodwill largely consists of expected synergies resulting from the acquisition. The Company anticipates that the transaction will produce run-rate synergies by the end of fiscal 2011, resulting from the consolidation and centralization of global purchasing activities, tax benefits, and elimination of duplicate corporate administrative costs. Goodwill as of April 30, 2010 was provisionally allocated by segment as follows (in thousands):

Europe, Middle East and Africa

Americas

 

Total goodwill

 

None of the goodwill associated with this transaction will be deductible for income tax purposes.

The estimated fair value of accounts receivables acquired was $66.9 million with the gross contractual amount being $70.3 million.

On November 3, 2010, the Company completed the purchase of all the capital stock of Mash Indústria e Comércio de Compostos Plásticos LTDA (“Mash”), a masterbatch additive producer and engineered plastics compounder based in Sao Paulo, Brazil, for $15.2 million. Mash’s products are used in end markets such as film and packaging, automotive and appliances. The acquisition expanded the Company’s presence in the growing Brazilian market, which is a large, diversified market with strong macroeconomic fundamentals. The Company believes the Brazilian plastics industry holds significant growth potential because per-capita consumption of plastic is still much lower than in other countries. With this acquisition and the acquisition of ICO, which included two facilities in Brazil, the Company is aggressively expanding its presence in that market and enhancing its ability to serve customers. The results of operations from the Mash acquisition are included in the accompanying consolidated financial statements for the period from the closing date, November 3, 2010, and are reported in the Americas segment.

The acquisition was accounted for in accordance with the FASB revised accounting standard for business combinations. The accounting guidance for business combinations results in a new basis of accounting reflecting the estimated fair values for assets acquired and liabilities assumed. The transaction was financed with available cash. Tangible assets acquired and liabilities assumed were preliminarily recorded at their estimated fair values of $8.4 million and $6.5 million, respectively. The estimated fair values of finite-lived intangible assets acquired of $7.2 million related to a trade name and customer relationships are being amortized over their estimated useful lives of 3 and 15 years, respectively. Goodwill of $6.1 million represents the excess of cost over the estimated fair value of net tangible and intangible assets acquired. Goodwill largely consists of expected synergies resulting from the acquisition. None of the goodwill associated with this transaction will be deductible for income tax purposes. The information included herein has been prepared based on the allocation of the purchase price using estimates of the fair value and useful lives of assets acquired and liabilities assumed which were determined with the assistance of independent valuations, quoted market prices and estimates made by management. The purchase price allocations are subject to further adjustment until all pertinent information regarding the property, plant and equipment, intangible assets, other long-term assets, goodwill, contingent consideration liabilities, long-term debt, other long-term liabilities and deferred income tax assets and liabilities acquired are fully evaluated by the Company and independent valuations are complete.

GOODWILL AND OTHER INTANGIBLE ASSETS

The Company is required to review goodwill and indefinite-lived intangible assets at least annually for impairment. Goodwill impairment is tested at the reporting unit level on an annual basis in the fourth quarter and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value. The Company is not aware of any triggers which would require a goodwill impairment test as of February 28, 2011. The carrying amount of goodwill by segment for the Company was as follows:

Balance as of August 31, 2010

Acquisition

Adjustments to fair value of net assets acquired

Translation effect

 

Balance as of February 28, 2011

 

The following table summarizes intangible assets with determinable useful lives by major category:

Customer related intangibles

Developed technology

Registered trademarks

 

Total finite-lived intangible assets

 

DISCONTINUED OPERATIONS

During fiscal 2010, the Company completed the closure of the Invision sheet manufacturing operation at its Sharon Center, Ohio manufacturing facility. The operating results of Invision were previously included in the Company’s former Invision segment and are now reflected as discontinued operations for the periods presented. The remaining assets of Invision, primarily machinery and equipment, are considered held for sale as of February 28, 2011. These assets are included in the Company’s consolidated balance sheet in property, plant and equipment. The Company expects minimal charges related to the disposal of the equipment in fiscal 2011.

The following summarizes the results for discontinued operations for the three and six months ended February 28, 2011 and 2010. The income (loss) from discontinued operations does not include any income tax effect as the Company was not in a taxable position due to its continued U.S. losses and a full valuation allowance.

Net sales

 

Income (loss) from operations

Other income (expense)

 

Income (loss) from discontinued operations

 

PENSIONS AND OTHER POSTRETIREMENT BENEFIT PLANS

The components of the Company’s net periodic benefit cost (income) for defined benefit pension plans and other postretirement benefits are shown below.

Net periodic pension cost (income) recognized included the following components:

Service cost

Interest cost

Expected return on plan assets

Net actuarial loss and net amortization of prior service cost and transition obligation

 

Net periodic benefit cost

 

 

Postretirement benefit cost (income) included the following components:

Service cost

Interest cost

Net amortization of prior service cost (credit) and unrecognized loss

 

Net periodic benefit cost

 

CONTINGENCIES

The Company is engaged in various legal proceedings arising in the ordinary course of business. The ultimate outcome of these proceedings is not expected to have a material adverse effect on the Company’s financial condition, results of operations or cash flows.

CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

A summary of the changes in stockholders’ equity for the six months ended February 28, 2011 is as follows:

Balance at September 1, 2010

Comprehensive income (loss):

Net income (loss)

Foreign currency translation gain (loss)

Amortization of unrecognized transition obligations, actuarial losses and prior service costs (credits), net

Total comprehensive income (loss)

Cash dividends paid or accrued:

Common stock, $0.31 per share

Cash distributions to noncontrolling interests

Purchase of treasury stock

Issuance of treasury stock

Stock options exercised

Restricted stock issued, net of forfeitures

Redemption of common stock to cover tax withholdings

Amortization of restricted stock

 

Balance at February 28, 2011

 

COMPREHENSIVE INCOME (LOSS) AND ACCUMULATED OTHER COMPREHENSIVE INCOME

Comprehensive income (loss) for the three and six months ended February 28, 2011 and 2010 was as follows:

Comprehensive income (loss):

Net income (loss)

Foreign currency translation gain (loss)

Amortization of unrecognized transition obligations, actuarial losses and prior services costs (credits), net

 

Total comprehensive income (loss)

Comprehensive (income) loss attributable to noncontrolling interests

 

Comprehensive income (loss) attributable to A. Schulman, Inc.

 

The assets and liabilities of the Company’s foreign subsidiaries are translated into U.S. dollars using current exchange rates. Income statement items are translated at average exchange rates prevailing during the period. The resulting translation gains or losses are recorded as other comprehensive income (loss) and accumulated in the Company’s stockholders’ equity. The foreign currency translation gains in comprehensive income (loss) totaled $21.1 million and $28.4 million for the three and six months ended February 28, 2011, respectively, and were due primarily to the significant increase in the value of the euro as well as increases in other currencies against the U.S. dollar. Foreign currency translation gains or losses do not have a tax effect, as such gains or losses are considered permanently reinvested. Other comprehensive income adjustments related to pensions and other postretirement benefit plans are recorded net of tax using the applicable effective tax rate.

FAIR VALUE MEASUREMENT

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measure date. The FASB provides accounting rules that establish a fair value hierarchy to prioritize the inputs used in valuation techniques into three levels as follows:

Level 1: Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets;

Level 2: Inputs other than quoted prices included in Level 1 that are observable for the asset or liability either directly or indirectly; and

Level 3: Unobservable inputs which reflect an entity’s own assumptions.

The following table presents information about the Company’s assets and liabilities recorded at fair value as of February 28, 2011 in the Company’s consolidated balance sheet:

Assets:

Cash

Cash equivalents

Derivative assets, net

 

Total assets at fair value

 

 

Liabilities:

None

 

Total liabilities at fair value

 

The fair value of cash and cash equivalents, by their nature, is determined utilizing Level 1 inputs. The Company measures the fair value of forward foreign exchange contracts using Level 2 inputs through observable market transactions in active markets provided by banks.

The Company enters into forward foreign exchange contracts to reduce its exposure for amounts due or payable in foreign currencies. These contracts limit the Company’s exposure to fluctuations in foreign currency exchange rates. The total contract value of forward foreign exchange contracts outstanding as of February 28, 2011 was $17.7 million. Any gains or losses associated with these contracts as well as the offsetting gains or losses from the underlying assets or liabilities are included in the foreign currency transaction line in the Company’s consolidated statements of operations. The Company does not hold or issue forward foreign exchange contracts for trading purposes. There were no foreign currency contracts designated as hedging instruments as of February 28, 2011. The forward foreign exchange contracts are entered into with creditworthy multinational banks. The fair value of the Company’s forward foreign exchange contracts was less than $0.1 million as of February 28, 2011 and August 31, 2010 and was recognized in other accrued liabilities.

The following information presents the supplemental fair value information about long-term fixed-rate debt as of February 28, 2011. The Company’s long-term fixed-rate debt was primarily issued in euros.

Carrying value of long-term fixed-rate debt

Fair value of long-term fixed-rate debt

The fair value was calculated using discounted future cash flows. The increase in fair value is primarily related to an increase in foreign currency translation offset by an increase in quoted market interest rates. The carrying value of the Company’s variable-rate debt approximates fair value.

INCENTIVE STOCK PLANS

Effective in December 2002, the Company adopted the 2002 Equity Incentive Plan, which provided for the grant of incentive stock options, nonqualified stock options, restricted stock awards and director deferred units for employees and non-employee directors. The option price of incentive stock options is the fair market value of the shares of common stock on the date of the grant. In the case of nonqualified options, the Company grants options at 100% of the fair market value of the shares of common stock on the date of the grant. All options become exercisable at the rate of 33% per year, commencing on the first anniversary date of the grant. Each option expires ten years from the date of the grant. Restricted stock awards under the 2002 Equity Incentive Plan vest ratably over four years following the date of grant.

On December 7, 2006, the Company adopted the 2006 Incentive Plan, which provides for the grant of incentive stock options, nonqualified stock options, whole shares, restricted stock awards, restricted stock units, stock appreciation rights, performance shares, performance units, cash-based awards, dividend equivalents and performance-based awards. Upon adoption of the 2006 Incentive Plan, all remaining shares eligible for award under the 2002 Equity Incentive Plan were added to the 2006 Incentive Plan and no further awards could be made from the 2002 Equity Incentive Plan. It has been the Company’s practice to issue new shares of common stock upon stock option exercise and other equity grants. On February 28, 2011, there were approximately 0.4 million shares available for grant pursuant to the Company’s 2006 Incentive Plan.

On December 9, 2010, the Company’s stockholders approved the adoption of the A. Schulman, Inc. 2010 Value Creations Rewards Plan (“2010 Rewards Plan”). The 2010 Rewards Plan became effective upon approval from the Company’s stockholders and a total of 1,375,000 shares of common stock may be issued under the 2010 Rewards Plan. There have been no grants made from the 2010 Rewards Plan.

A summary of stock options is as follows:

Outstanding at August 31, 2010

Granted

Exercised

Forfeited and expired

 

Outstanding at February 28, 2011

 

Exercisable at February 28, 2011

 

The intrinsic value of a stock option is the amount by which the market value of the underlying stock exceeds the exercise price of the option. The intrinsic value for stock options exercisable as of February 28, 2011 was $0.7 million with a remaining term for options exercisable of approximately 2.5 years. For stock options outstanding as of February 28, 2011, exercise prices range from $13.99 to $24.69. The weighted-average remaining contractual life for options outstanding as of February 28, 2011 was approximately 2.5 years. All 243,928 outstanding and exercisable stock options are fully vested as of February 28, 2011. There were no grants of stock options during the six months ended February 28, 2011 and 2010.

Restricted stock awards under the 2006 Incentive Plan can vest over various periods. The restricted stock awards outstanding under the 2006 Incentive Plan have service vesting periods of three years following the date of grant. The following table summarizes the outstanding time-based restricted stock awards and time-based stock-settled restricted stock units (combined referred to as “restricted shares”) and weighted-average fair market value:

Outstanding at August 31, 2010

Granted

Vested

Forfeited

 

Outstanding at February 28, 2011

 

During the six months ended February 28, 2011 and 2010, the Company granted 60,847 and 83,176 time-based restricted shares, respectively. Restrictions on these restricted shares lapse ratably over a three-year period and were valued at the fair market value on the date of grant. Restricted shares earn dividends throughout the vesting period which are subject to the same vesting terms as the underlying restricted stock award.

The Company also grants awards with market and performance vesting conditions. In the table below, the Company summarizes all awards which include market-based and performance-based restricted stock awards and performance shares.

Outstanding at August 31, 2010

Granted

Vested

Forfeited

 

Outstanding at February 28, 2011

 

The Company granted 364,998 and 272,568 performance shares during six months ended February 28, 2011 and 2010, respectively. Performance shares are awards for which the vesting will occur based on market or performance conditions and do not have voting rights. Included in the outstanding performance-based awards as of February 28, 2011 are 477,566 performance shares which earn dividends throughout the vesting period and 397,202 performance shares which do not earn dividends. Earned dividends are subject to the same vesting terms as the underlying performance share award. Performance shares granted during fiscal 2008 which would have vested during the six months ended February 28, 2011 that did not meet the performance vesting conditions were forfeited.

The performance-based awards in the table above include 618,820 shares which are valued based upon a Monte Carlo simulation, which is a valuation model that represents the characteristics of these grants. Vesting of the ultimate number of shares underlying performance-based awards, if any, will be dependent upon the Company’s total stockholder return in relation to the total stockholder return of a select group of peer companies over a three-year period. The probability of meeting the market criteria was considered when calculating the estimated fair market value on the date of grant using a Monte Carlo simulation. These awards were accounted for as awards with market conditions, which are recognized over the service period, regardless of whether the market conditions are achieved and the awards ultimately vest. The fair value of the remaining 255,948 performance shares in the table above is based on the closing price of the Company’s common stock on the date of the grant.

The fair value of the performance shares granted during the six months ended February 28, 2011 using a Monte Carlo simulation used the following weighted-average assumptions:

Dividend yield

Expected volatility

Risk-free interest rate

Correlation

Total unrecognized compensation cost, including a provision for forfeitures, related to nonvested share-based compensation arrangements as of February 28, 2011 was approximately $10.9 million. This cost is expected to be recognized over a weighted-average period of approximately 1.9 years.

As of February 28, 2011, the Company had 20,000 stock-settled restricted stock units outstanding which were fully vested as of the grant date. There are no service requirements for vesting for this grant. These restricted stock units will be settled in shares of the Company’s common stock, on a one-to-one basis, no later than 60 days after the third anniversary of the award grant date. These awards do earn dividends during the restriction period; however, they do not have voting rights until released from restriction. These awards are treated as equity awards and have a grant date fair value based on the award grant date of $13.61 per award. There were no grants of fully vested stock-settled restricted stock units during the six months ended February 28, 2011 or 2010.

The Company had approximately 113,000 and 184,000 cash-settled restricted stock units outstanding with various vesting periods and criteria as of February 28, 2011 and 2010, respectively. There were no cash-settled restricted stock units granted during the three months ended February 28, 2011 and 2010. The cash-settled restricted stock units outstanding have either time-based vesting or performance-based vesting, similar to the Company’s restricted stock awards and performance shares. Each cash-settled restricted stock unit is equivalent to one share of the Company’s common stock on the vesting date. Certain cash-settled restricted stock units earn dividends during the vesting period. Cash-settled restricted stock units are settled only in cash at the vesting date and therefore are treated as a liability award. The Company records a liability for these restricted stock units in an amount equal to the total of (a) the mark-to-market adjustment of the units vested to date; and (b) accrued dividends on the units. In addition, the liability is adjusted for the estimated payout factor for the performance-based cash-settled restricted stock units. As a result of these mark-to-market adjustments, these restricted stock units introduce volatility into the Company’s consolidated statements of operations.

The Company had approximately $3.6 million cash-based awards, which are treated as liability awards, outstanding as of February 28, 2011. These awards were granted to foreign employees. Such awards include approximately $0.4 million which have service vesting periods of three years following the date of grant and the remaining $3.2 million are performance-based. The performance-based awards are based on the same conditions utilized for the performance shares. The Company records a liability for these cash-based awards equal to the amount of the award vested to date and adjusts the performance-based awards based on expected payout.

In fiscal 2010, the Company’s board of directors and stockholders approved the adoption of an Employee Stock Purchase Plan (“ESPP”) whereby employees may purchase Company stock through a payroll deduction plan. Purchases are made from the ESPP and credited to each participant’s account at the end of each calendar quarter, the “Investment Date.” The purchase price of the stock is 85% of the fair market value on the Investment Date. The ESPP is compensatory and the 15% discount is expensed ratably over the three month offering period. All employees, including officers, are eligible to participate in the ESPP. An employee whose stock ownership of the Company exceeds five percent of the outstanding common stock is not eligible to participate in the ESPP. The Company recorded minimal expense related to the ESPP during the first six months of fiscal 2011. It is the Company’s current practice to use treasury shares for the share settlement on the Investment Date.

In January 2011, the Company granted non-employee directors 35,000 shares of unrestricted common stock. The Company recorded compensation expense for this grant of approximately $0.8 million for the three and six months ended February 28, 2011.

The following table summarizes the impact to the Company’s consolidated statements of operations from stock-based compensation, which is primarily included in selling, general and administrative expenses in the accompanying consolidated statements of operations:

Restricted stock awards, unrestricted stock awards and performance-based awards

Cash-settled restricted stock units

Cash-based awards

 

Total stock-based compensation

 

EARNINGS PER SHARE

Basic earnings per share is computed by dividing income available to common stockholders by the weighted-average number of shares of common stock outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if common stock equivalents were exercised, and the impact of restricted stock and performance-based awards expected to vest, which would then share in the earnings of the Company.

The difference between basic and diluted weighted-average shares of common stock results from the assumed exercise of outstanding stock options and grants of restricted stock, calculated using the treasury stock method. The following presents the number of incremental weighted-average shares used in computing diluted per share amounts:

Weighted-average shares outstanding:

Basic

Incremental shares from stock options

Incremental shares from restricted stock

 

Diluted

 

For the three months ended February 28, 2011 and 2010, respectively, there were approximately 0.1 million and 0.7 million equivalent shares related to stock options and restricted stock that were excluded from diluted weighted-average shares outstanding because inclusion would have been anti-dilutive. Additionally, there were approximately 0.1 million equivalent shares related to stock options and restricted stock that were excluded from diluted weighted-average shares outstanding for the six months ended February 28, 2011 and 2010 because inclusion would have been anti-dilutive.

SEGMENT INFORMATION

The Company considers its operating structure and the types of information subject to regular review by its President and Chief Executive Officer (“CEO”), who is the Chief Operating Decision Maker (“CODM”), to identify reportable segments.

The Company’s reportable segments prior to fiscal 2011 were Europe, Middle East and Africa (“EMEA”), North America Masterbatch (“NAMB”), North America Engineered Plastics (“NAEP”), North America Rotomolding (“NARM”), Bayshore and Asia Pacific (“APAC”). As a result of certain management changes and reporting structures within the Company effective in fiscal 2011, the CODM makes decisions, assesses performance and allocates resources by the following regions: EMEA, the Americas (which includes North America and South America), and APAC. As a result of the changes, the reportable segments are now based on the regions in which the Company operates: EMEA, the Americas, and APAC. The Americas segment comprises the former NAMB, NAEP, NARM and Bayshore segments. Each reportable segment has a Chief Operating Officer who reports to the CEO.

The CODM uses net sales to unaffiliated customers, gross profit and operating income in order to make decisions, assess performance and allocate resources to each segment. Operating income does not include interest income or expense, other income or expense, restructuring related expenses, asset write-downs or foreign currency transaction gains or losses. In some cases, the Company may choose to exclude from a segment’s results certain non-recurring items as determined by management. These items are included in the Corporate and Other section in the table below. Corporate expenses include the compensation of certain personnel, certain audit expenses, board of directors related costs, certain insurance costs and other miscellaneous legal and professional fees.

Below is a presentation of net sales to unaffiliated customers, gross profit and operating income by segment. Also included is a reconciliation of operating income by segment to consolidated income from continuing operations before taxes.

EMEA

Americas

APAC

 

Total net sales to unaffiliated customers

 

EMEA

Americas

APAC

 

Total segment gross profit

 

Asset write-downs

Inventory step-up

 

Total gross profit

 

EMEA

Americas

APAC

 

Total segment operating income

Corporate and other

Interest expense, net

Foreign currency transaction gains (losses)

Other income (expense)

Asset write-downs

Costs related to acquisitions

Restructuring related

Inventory step-up

 

Income (loss) from continuing operations before taxes

 

Globally, the Company operates primarily in four lines of business or “product families”: (1) masterbatch, (2) engineered plastics, (3) specialty powders (formerly the “rotomolding” product family), and (4) distribution. The amount and percentage of consolidated sales for these product families for the three and six months ended February 28, 2011 and 2010 are as follows:

Masterbatch

Engineered plastics

Specialty powders

Distribution

 

 

 

Masterbatch

Engineered plastics

Specialty powders

Distribution

 

 

 

INCOME TAXES

At February 28, 2011, the Company’s gross unrecognized tax benefits totaled $3.9 million. If recognized, approximately $2.8 million of the total unrecognized tax benefits would favorably affect the Company’s effective tax rate. The Company reports interest and penalties related to income tax matters in income tax expense. At February 28, 2011, the Company had $0.6 million of accrued interest and penalties on unrecognized tax benefits.

The Company is open to potential income tax examinations in Germany from fiscal 2005 onward, in the U.S. from fiscal 2007 onward and in Belgium from fiscal 2008 onward. The Company is open to potential examinations from fiscal 2005 onward for most other foreign jurisdictions.

The amount of unrecognized tax benefits is expected to change in the next 12 months; however, the change is not expected to have a significant impact on the financial position of the Company.

The income (loss) from discontinued operations in fiscal 2010 does not include any income tax effect as the Company was not in a taxable position due to its continued U.S. losses and a full valuation allowance.

A reconciliation of the statutory U.S. federal income tax rate with the effective tax rates for the three months ended February 28, 2011 and 2010 is as follows:

Statutory U.S. tax rate

Amount of foreign taxes at less than U.S. statutory tax rate

U.S. and foreign losses with no tax benefit

U.S. restructuring and other U.S. unusual charges with no benefit

Italy valuation allowance

Establishment (resolution) of uncertain tax positions

Other

 

Total income tax expense (benefit)