finalq110q2010.htm

SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549


FORM 10-Q

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

For the quarterly period ended March 31, 2010

OR

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

For the transition period from              to             

Commission file number 1-1070

Olin Corporation
(Exact name of registrant as specified in its charter)

   
Virginia
13-1872319
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)

   
190 Carondelet Plaza, Suite 1530, Clayton, MO
63105-3443
(Address of principal executive offices)
(Zip Code)

(314) 480-1400
(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  o No  o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer  x Accelerated filer  ¨ Non-accelerated filer  ¨ (Do not check if a smaller reporting company)

Smaller reporting company ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes ¨ No x

As of March 31, 2010, 78,867,179 shares of the registrant’s common stock were outstanding.

 
1

 

Part I — Financial Information

Item 1.  Financial Statements.

OLIN CORPORATION AND CONSOLIDATED SUBSIDIARIES
Condensed Balance Sheets
(In millions, except per share data)
(Unaudited)

   
March 31,
2010
   
December 31,
2009
   
March 31,
2009
 
ASSETS
                 
Current assets:
                 
Cash and cash equivalents
 
$
411.0
   
$
458.5
   
$
168.6
 
Receivables, net
   
197.1
     
183.3
     
216.4
 
Income tax receivable
   
19.3
     
19.4
     
2.7
 
Inventories
   
156.4
     
123.8
     
166.5
 
Current deferred income taxes
   
50.1
     
50.5
     
60.1
 
Other current assets
   
22.3
     
24.8
     
11.5
 
Total current assets
   
856.2
     
860.3
     
625.8
 
Property, plant and equipment (less accumulated depreciation of $1,017.5, $1,001.3 and $970.6)
   
688.5
     
695.4
     
659.4
 
Prepaid pension costs
   
14.5
     
5.0
     
 
Deferred income taxes
   
     
     
23.5
 
Other assets
   
71.8
     
71.0
     
83.3
 
Goodwill
   
300.3
     
300.3
     
301.9
 
Total assets
 
$
1,931.3
   
$
1,932.0
   
$
1,693.9
 
LIABILITIES AND SHAREHOLDERS’ EQUITY
                       
Current liabilities:
                       
Accounts payable
 
$
121.1
   
$
117.8
   
$
124.2
 
Accrued liabilities
   
192.4
     
193.1
     
202.6
 
Total current liabilities
   
313.5
     
310.9
     
326.8
 
Long-term debt
   
397.1
     
398.4
     
253.4
 
Accrued pension liability
   
55.7
     
56.6
     
43.3
 
Deferred income taxes
   
26.6
     
25.8
     
6.0
 
Other liabilities
   
316.4
     
318.0
     
304.3
 
Total liabilities
   
1,109.3
     
1,109.7
     
933.8
 
Commitments and contingencies
                       
Shareholders’ equity:
                       
Common stock, par value $1 per share:  authorized, 120.0 shares;
                       
issued and outstanding 78.9, 78.7 and 77.9 shares
   
78.9
     
78.7
     
77.9
 
Additional paid-in capital
   
826.8
     
823.1
     
809.3
 
Accumulated other comprehensive loss
   
(250.7
)
   
(248.2
)
   
(253.8
)
Retained earnings
   
167.0
     
168.7
     
126.7
 
Total shareholders’ equity
   
822.0
     
822.3
     
760.1
 
Total liabilities and shareholders’ equity
 
$
1,931.3
   
$
1,932.0
   
$
1,693.9
 

The accompanying notes to condensed financial statements are an integral part of the condensed financial statements.


 
2

 

OLIN CORPORATION AND CONSOLIDATED SUBSIDIARIES
Condensed Statements of Income
(In millions, except per share data)
(Unaudited)

   
Three Months Ended
March 31,
 
   
2010
   
2009
 
Sales
 
$
362.0
   
$
400.6
 
Operating expenses:
               
Cost of goods sold
   
312.5
     
306.2
 
Selling and administration
   
32.1
     
39.2
 
Other operating income
   
2.3
     
5.5
 
Operating income
   
19.7
     
60.7
 
Earnings of non-consolidated affiliates
   
2.2
     
14.8
 
Interest expense
   
6.9
     
1.6
 
Interest income
   
0.2
     
0.5
 
Income before taxes
   
15.2
     
74.4
 
Income tax provision
   
1.1
     
27.7
 
Net income
 
$
14.1
   
$
46.7
 
Net income per common share:
               
Basic
 
$
0.18
   
$
0.60
 
Diluted
 
$
0.18
   
$
0.60
 
Dividends per common share
 
$
0.20
   
$
0.20
 
Average common shares outstanding:
               
Basic
   
78.8
     
77.5
 
Diluted
   
79.4
     
77.6
 

The accompanying notes to condensed financial statements are an integral part of the condensed financial statements.


 
3

 

OLIN CORPORATION AND CONSOLIDATED SUBSIDIARIES
Condensed Statements of Shareholders’ Equity
(In millions, except per share data)
(Unaudited)
 
         
Additional
Paid-In
Capital
   
Accumulated
Other
Comprehensive
Loss
   
Retained
Earnings
   
Total
Shareholders’
Equity
 
Common Stock
Shares
Issued
   
Par
Value
Balance at January 1, 2009
   
77.3
   
$
77.3
   
$
801.6
   
$
(269.4
)
 
$
95.5
   
$
705.0
 
Comprehensive income:
                                               
Net income
   
     
     
     
     
46.7
     
46.7
 
Translation adjustment
   
     
     
     
(0.3
)
   
     
(0.3
)
Net unrealized gain
   
     
     
     
13.9
     
     
13.9
 
Amortization of prior service costs and actuarial losses, net
   
     
     
     
2.0
     
     
2.0
 
Comprehensive income
                                           
62.3
 
Dividends paid:
                                               
Common stock ($0.20 per share)
   
     
     
     
     
(15.5
)
   
(15.5
)
Common stock issued for:
                                               
Employee benefit plans
   
0.6
     
0.6
     
6.6
     
     
     
7.2
 
Other transactions
   
     
     
0.3
     
     
     
0.3
 
Stock-based compensation
   
     
     
0.8
     
     
     
0.8
 
Balance at March 31, 2009
   
77.9
   
$
77.9
   
$
809.3
   
$
(253.8
)
 
$
126.7
   
$
760.1
 
Balance at January 1, 2010
   
78.7
   
$
78.7
   
$
823.1
   
$
(248.2
)
 
$
168.7
   
$
822.3
 
Comprehensive income:
                                               
Net income
   
     
     
     
     
14.1
     
14.1
 
Translation adjustment
   
     
     
     
(0.4
)
   
     
(0.4
)
Net unrealized loss
   
     
     
     
(4.6
)
   
     
(4.6
)
Amortization of prior service costs and actuarial losses, net
   
     
     
     
2.5
     
     
2.5
 
Comprehensive income
                                           
11.6
 
Dividends paid:
                                               
Common stock ($0.20 per share)
   
     
     
     
     
(15.8
)
   
(15.8
)
Common stock issued for:
                                               
Employee benefit plans
   
0.2
     
0.2
     
2.3
     
     
     
2.5
 
Other transactions
   
     
     
0.1
     
     
     
0.1
 
Stock-based compensation
   
     
     
1.3
     
     
     
1.3
 
Balance at March 31, 2010
   
78.9
   
$
78.9
   
$
826.8
   
$
(250.7
)
 
$
167.0
   
$
822.0
 

The accompanying notes to condensed financial statements are an integral part of the condensed financial statements.



 
4

 

OLIN CORPORATION AND CONSOLIDATED SUBSIDIARIES
Condensed Statements of Cash Flows
(In millions)
(Unaudited)
   
Three Months Ended
March 31,
 
   
2010
   
2009
 
Operating Activities
           
Net income
 
$
14.1
   
$
46.7
 
Adjustments to reconcile net income to net cash and cash equivalents provided by (used for) operating activities:
               
Earnings of non-consolidated affiliates
   
(2.2
)
   
(14.8
)
Other operating income – gains on disposition of property, plant and equipment
   
(2.0
)
   
(5.0
)
Stock-based compensation
   
1.5
     
1.1
 
Depreciation and amortization
   
21.6
     
16.6
 
Deferred income taxes
   
2.5
     
21.2
 
Qualified pension plan contributions
   
(2.4
)
   
(1.0
)
Qualified pension plan income
   
(6.0
)
   
(5.0
)
Common stock issued under employee benefit plans
   
0.3
     
0.6
 
Change in:
               
Receivables
   
(13.8
)
   
(3.4
)
Income taxes receivable
   
0.1
     
(3.3
)
Inventories
   
(32.6
)
   
(35.1
)
Other current assets
   
(4.4
)
   
(0.6
)
Accounts payable and accrued liabilities
   
8.8
     
(46.3
)
Other assets
   
(0.1
)
   
 
Other noncurrent liabilities
   
0.4
     
0.8
 
Other operating activities
   
(0.2
)
   
0.2
 
Net operating activities
   
(14.4
)
   
(27.3
)
Investing Activities
               
Capital expenditures
   
(21.4
)
   
(49.8
)
Proceeds from disposition of property, plant and equipment
   
2.5
     
5.5
 
(Advances to) distributions from affiliated companies, net
   
(0.2
)
   
1.4
 
Other investing activities
   
(0.4
)
   
(0.3
)
Net investing activities
   
(19.5
)
   
(43.2
)
Financing Activities
               
Long-term debt borrowings
   
     
1.5
 
Issuance of common stock
   
2.2
     
6.6
 
Dividends paid
   
(15.8
)
   
(15.5
)
Net financing activities
   
(13.6
)
   
(7.4
)
Net decrease in cash and cash equivalents
   
(47.5
)
   
(77.9
)
Cash and cash equivalents, beginning of period
   
458.5
     
246.5
 
Cash and cash equivalents, end of period
 
$
411.0
   
$
168.6
 
Cash paid (received) for interest and income taxes:
               
Interest
 
$
7.6
   
$
0.2
 
Income taxes, net of refunds
 
$
(0.3
)
 
$
9.3
 
Non-cash investing activities:
               
Capital expenditures included in accounts payable and accrued liabilities
 
$
6.8
   
$
12.8
 

The accompanying notes to condensed financial statements are an integral part of the condensed financial statements.

 
5

 

OLIN CORPORATION AND CONSOLIDATED SUBSIDIARIES
Notes to Condensed Financial Statements
(Unaudited)
 
DESCRIPTION OF BUSINESS

Olin Corporation is a Virginia corporation, incorporated in 1892.  We are a manufacturer concentrated in two business segments:  Chlor Alkali Products and Winchester.  Chlor Alkali Products, with nine U.S. manufacturing facilities and one Canadian manufacturing facility, produces chlorine and caustic soda, sodium hydrosulfite, hydrochloric acid, hydrogen, bleach products and potassium hydroxide.  Winchester, with its principal manufacturing facility in East Alton, IL, produces and distributes sporting ammunition, reloading components, small caliber military ammunition and components, and industrial cartridges.

We have prepared the condensed financial statements included herein, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (SEC).  The preparation of the consolidated financial statements requires estimates and assumptions that affect amounts reported and disclosed in the financial statements and related notes.  In our opinion, these financial statements reflect all adjustments (consisting only of normal accruals), which are necessary to present fairly the results for interim periods.  Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations; however, we believe that the disclosures are appropriate.  We recommend that you read these condensed financial statements in conjunction with the financial statements, accounting policies, and the notes thereto and Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ended December 31, 2009.  Certain reclassifications were made to prior year amounts to conform to the 2010 presentation.

ALLOWANCE FOR DOUBTFUL ACCOUNTS RECEIVABLES

We evaluate the collectibility of accounts receivable based on a combination of factors.  We estimate an allowance for doubtful accounts as a percentage of net sales based on historical bad debt experience.  This estimate is periodically adjusted when we become aware of a specific customer's inability to meet its financial obligations (e.g., bankruptcy filing) or as a result of changes in the overall aging of accounts receivable.  While we have a large number of customers that operate in diverse businesses and are geographically dispersed, a general economic downturn in any of the industry segments in which we operate could result in higher than expected defaults, and, therefore, the need to revise estimates for the provision for doubtful accounts could occur.

Allowance for doubtful accounts receivable consisted of the following:
   
March 31,
 
   
2010
   
2009
 
   
($ in millions)
 
Balance at beginning of year
 
$
3.3
   
$
5.0
 
Provisions charged
   
0.1
     
4.7
 
Write-offs, net of recoveries
   
     
(2.7
)
Balance at end of period
 
$
3.4
   
$
7.0
 


 
6

 

INVENTORIES

Inventories consisted of the following:
   
March 31,
2010
   
December 31,
2009
   
March 31,
2009
 
   
($ in millions)
 
Supplies
 
$
29.3
   
$
29.0
   
$
26.7
 
Raw materials
   
60.3
     
52.2
     
77.6
 
Work in process
   
27.6
     
23.0
     
27.8
 
Finished goods
   
97.5
     
77.8
     
117.4
 
     
214.7
     
182.0
     
249.5
 
LIFO reserve
   
(58.3
)
   
(58.2
)
   
(83.0
)
Inventories, net
 
$
156.4
   
$
123.8
   
$
166.5
 

Inventories are valued at the lower of cost or market, with cost being determined principally by the dollar value last-in, first-out (LIFO) method of inventory accounting.  Cost for other inventories has been determined principally by the average cost method, primarily operating supplies, spare parts, and maintenance parts.  Elements of costs in inventories included raw materials, direct labor, and manufacturing overhead.  Inventories under the LIFO method are based on annual estimates of quantities and costs as of year-end; therefore, the condensed financial statements at March 31, 2010, reflect certain estimates relating to inventory quantities and costs at December 31, 2010.  If the first-in, first-out (FIFO) method of inventory accounting had been used, inventories would have been approximately $58.3 million, $58.2 million and $83.0 million higher than reported at March 31, 2010, December 31, 2009, and March 31, 2009, respectively.

EARNINGS PER SHARE

Basic and diluted net income per share are computed by dividing net income by the weighted average number of common shares outstanding.  Diluted net income per share reflects the dilutive effect of stock-based compensation.
 
   
Three Months Ended
March 31,
 
   
2010
   
2009
 
Computation of Basic Income per Share
 
($ and shares in millions,
except per share data)
 
Net income
 
$
14.1
   
$
46.7
 
Basic shares
   
78.8
     
77.5
 
Basic net income per share
 
$
0.18
   
$
0.60
 
Computation of Diluted Income per Share
               
Diluted shares:
               
Basic shares
   
78.8
     
77.5
 
Stock-based compensation
   
0.6
     
0.1
 
Diluted shares
   
79.4
     
77.6
 
Diluted net income per share
 
$
0.18
   
$
0.60
 

The computation of dilutive shares from stock-based compensation does not include 0.7 million and 0.3 million shares for the three months ended March 31, 2010 and 2009, respectively, as their effect would have been anti-dilutive.

 
7

 

ENVIRONMENTAL

We are party to various government and private environmental actions associated with past manufacturing facilities and former waste disposal sites.  Charges to income for investigatory and remedial efforts were material to operating results in 2009 and are expected to be material to operating results in 2010.  The condensed balance sheets included reserves for future environmental expenditures to investigate and remediate known sites amounting to $164.2 million, $166.1 million, and $160.1 million at March 31, 2010, December 31, 2009, and March 31, 2009, respectively, of which $129.2 million, $131.1 million, and $125.1 million, respectively, were classified as other noncurrent liabilities.

   
Three Months Ended
March 31,
 
   
2010
   
2009
 
   
($ in millions)
 
Charges to income
 
$
0.6
   
$
4.8
 
Recoveries from third parties of costs incurred and expensed in prior periods
   
(2.6
)
   
 
Total environmental (income) expense
 
$
(2.0
)
 
$
4.8
 

Environmental exposures are difficult to assess for numerous reasons, including the identification of new sites, developments at sites resulting from investigatory studies, advances in technology, changes in environmental laws and regulations and their application, changes in regulatory authorities, the scarcity of reliable data pertaining to identified sites, the difficulty in assessing the involvement and financial capability of other potentially responsible parties (PRPs), our ability to obtain contributions from other parties, and the lengthy time periods over which site remediation occurs.  It is possible that some of these matters (the outcomes of which are subject to various uncertainties) may be resolved unfavorably to us, which could materially adversely affect our financial position or results of operations.

SHAREHOLDERS’ EQUITY

Our board of directors, in April 1998, authorized a share repurchase program of up to 5 million shares of our common stock.  We have repurchased 4,845,924 shares under the April 1998 program.  There were no share repurchases during the three month periods ended March 31, 2010 and 2009.  At March 31, 2010, 154,076 shares remained authorized to be purchased.

We issued less than 0.1 million shares with a total value of less than $0.1 million, representing stock options exercised for both the three months ended March 31, 2010 and 2009.  In addition, we issued 0.2 million and 0.6 million shares with a total value of $2.5 million and $7.2 million for the three months ended March 31, 2010 and 2009, respectively, in connection with our Contributing Employee Ownership Plan (CEOP).  These shares were issued to satisfy the investment in our common stock resulting from employee contributions, our matching contributions, retirement contributions and re-invested dividends.  Effective January 1, 2010, we suspended our CEOP match on all salaried and certain non-bargained hourly employees’ contributions.


 
8

 

The following table represents the activity included in accumulated other comprehensive loss:

   
Foreign Currency Translation Adjustment
   
Unrealized
Gains (Losses)
on Derivative Contracts
(net of taxes)
   
Pension and Postretirement Benefits
(net of taxes)
   
Accumulated Other Comprehensive Loss
 
   
($ in millions)
 
Balance at January 1, 2009
 
$
(5.1
)
 
$
(25.0
)
 
$
(239.3
)
 
$
(269.4
)
Unrealized gains (losses)
   
(0.3
)
   
4.7
     
     
4.4
 
Reclassification adjustments into income
   
     
9.2
     
2.0
     
11.2
 
Balance at March 31, 2009
 
$
(5.4
)
 
$
(11.1
)
 
$
(237.3
)
 
$
(253.8
)
Balance at January 1, 2010
 
$
(0.5
)
 
$
11.6
   
$
(259.3
)
 
$
(248.2
)
Unrealized losses
   
(0.4
)
   
(1.0
)
   
     
(1.4
)
Reclassification adjustments into income
   
     
(3.6
)
   
2.5
     
(1.1
)
Balance at March 31, 2010
 
$
(0.9
)
 
$
7.0
   
$
(256.8
)
 
$
(250.7
)

Pension and postretirement benefits (net of taxes) activity in other comprehensive loss included the amortization of prior service costs and actuarial losses.

Unrealized gains and losses on derivative contracts (net of taxes) activity in other comprehensive loss included a deferred tax (benefit) provision for the three months ended March 31, 2010 and 2009 of $(2.9) million and $8.8 million, respectively.  Pension and postretirement benefits (net of taxes) activity in other comprehensive loss included a deferred tax provision for the three months ended March 31, 2010 and 2009 of $1.6 million and $1.3 million, respectively.

SEGMENT INFORMATION

We define segment results as income before interest expense, interest income, other operating income, other income, and income taxes, and include the operating results of non-consolidated affiliates.

   
Three Months Ended
March 31,
 
   
2010
   
2009
 
Sales:
 
($ in millions)
 
Chlor Alkali Products
 
$
230.6
   
$
267.7
 
Winchester
   
131.4
     
132.9
 
Total sales
 
$
362.0
   
$
400.6
 
Income before taxes:
               
Chlor Alkali Products(1)
 
$
10.6
   
$
68.7
 
Winchester
   
19.5
     
17.0
 
Corporate/other:
               
Pension income(2)
   
4.7
     
4.8
 
Environmental income (expense)(3)
   
2.0
     
(4.8
)
Other corporate and unallocated costs
   
(17.2
)
   
(15.7
)
Other operating income(4)
   
2.3
     
5.5
 
Interest expense(5)
   
(6.9
)
   
(1.6
)
Interest income
   
0.2
     
0.5
 
Income before taxes
 
$
15.2
   
$
74.4
 

(1)
Earnings of non-consolidated affiliates were included in the Chlor Alkali Products segment results consistent with management’s monitoring of the operating segments.  The earnings from non-consolidated affiliates were $2.2 million and $14.8 million for the three months ended March 31, 2010 and 2009, respectively.


 
9

 

(2)
The service cost and the amortization of prior service cost components of pension expense related to the employees of the operating segments are allocated to the operating segments based on their respective estimated census data.  All other components of pension costs are included in corporate/other and include items such as the expected return on plan assets, interest cost, and recognized actuarial gains and losses.  Pension income for the three months ended March 31, 2010 included a charge of $1.3 million associated with an agreement to withdraw our Henderson, NV chlor alkali hourly workforce from a multi-employer defined benefit pension plan.

(3)
Environmental income (expense) for the three months ended March 31, 2010 included $2.6 million of recoveries from third parties for costs incurred and expensed in prior periods.

(4)
Other operating income for the three months ended March 31, 2010 and 2009 included $2.0 million and $1.3 million, respectively, of gains on the disposal of assets primarily associated with the St. Gabriel, LA conversion and expansion project.  Other operating income for the three months ended March 31, 2009 also included a $3.7 million gain on the sale of land.

(5)
Interest expense was reduced by capitalized interest of $0.1 million and $2.5 million for the three months ended March 31, 2010 and 2009, respectively.

STOCK-BASED COMPENSATION

Stock-based compensation granted includes stock options, performance stock awards, restricted stock awards, and deferred directors’ compensation.  Stock-based compensation expense was as follows:

   
Three Months Ended
March 31,
 
   
2010
   
2009
 
   
($ in millions)
 
Stock-based compensation
 
$
2.0
   
$
1.9
 
Mark-to-market adjustments
   
0.8
     
(1.1
)
Total expense
 
$
2.8
   
$
0.8
 

The fair value of each stock option granted, which typically vests ratably over three years, but not less than one year, was estimated on the date of grant, using the Black-Scholes option-pricing model with the following weighted-average assumptions used:

Grant date
 
2010
   
2009
 
Dividend yield
   
4.32
%
   
4.26
%
Risk-free interest rate
   
3.00
%
   
2.32
%
Expected volatility
   
42
%
   
40
%
Expected life (years)
   
7.0
     
7.0
 
Grant fair value (per option)
 
$
4.61
   
$
3.85
 
Exercise price
 
$
15.68
   
$
14.28
 
Shares granted
   
803,750
     
866,250
 

Dividend yield for 2010 and 2009 was based on a historical average.  Risk-free interest rate was based on zero coupon U.S. Treasury securities rates for the expected life of the options.  Expected volatility was based on our historical stock price movements, and we believe that historical experience is the best available indicator of the expected volatility.  Expected life of the option grant was based on historical exercise and cancellation patterns, and we believe that historical experience is the best estimate of future exercise patterns.


 
10

 

INVESTMENTS – AFFILIATED COMPANIES

We have a 50% ownership interest in SunBelt Chlor Alkali Partnership (SunBelt), which is accounted for using the equity method of accounting.  The condensed financial positions and results of operations of SunBelt in its entirety were as follows:

100% Basis
 
March 31,
2010
   
December 31,
2009
   
March 31,
2009
 
Condensed balance sheet data:
 
($ in millions)
 
Current assets
 
$
23.0
   
$
16.1
   
$
50.3
 
Noncurrent assets
   
90.4
     
94.1
     
105.2
 
Current liabilities
   
23.0
     
21.4
     
21.5
 
Noncurrent liabilities
   
85.3
     
85.3
     
97.5
 

   
Three Months Ended
March 31,
 
   
2010
   
2009
 
Condensed income statement data:
 
($ in millions)
 
Sales
 
$
27.6
   
$
52.5
 
Gross profit
   
6.2
     
30.5
 
Net income
   
1.6
     
25.6
 

The amount of cumulative unremitted earnings of SunBelt was $5.1 million, $3.5 million and $36.5 million at March 31, 2010, December 31, 2009, and March 31, 2009, respectively.  We received distributions from SunBelt totaling zero and $1.0 million for the three months ended March 31, 2010 and 2009, respectively.  We have not made any contributions in 2010 or 2009.

In accounting for our ownership interest in SunBelt, we adjust the reported operating results for depreciation expense in order to conform SunBelt’s plant and equipment useful lives to ours.  Beginning January 1, 2007, the original machinery and equipment of SunBelt had been fully depreciated in accordance with our useful asset lives, thus resulting in lower depreciation expense.  The lower depreciation expense increased our share of SunBelt’s operating results by $0.8 million for both the three months ended March 31, 2010 and 2009.  The operating results from SunBelt included interest expense of $0.9 million and $1.0 million for the three months ended March 31, 2010 and 2009, respectively, on the SunBelt Notes.  Finally, we provide various administrative, management and logistical services to SunBelt for which we received fees totaling $2.1 million and $2.0 million for the three months ended March 31, 2010 and 2009, respectively.

Pursuant to a note purchase agreement dated December 22, 1997, SunBelt sold $97.5 million of Guaranteed Senior Secured Notes due 2017, Series O, and $97.5 million of Guaranteed Senior Secured Notes due 2017, Series G.  We refer to these notes as the SunBelt Notes.  The SunBelt Notes bear interest at a rate of 7.23% per annum, payable semiannually in arrears on each June 22 and December 22.


 
11

 

We have guaranteed the Series O Notes, and PolyOne, our partner in this venture, has guaranteed the Series G Notes, in both cases pursuant to customary guaranty agreements.  Our guarantee and PolyOne’s guarantee are several, rather than joint.  Therefore, we are not required to make any payments to satisfy the Series G Notes guaranteed by PolyOne.  An insolvency or bankruptcy of PolyOne will not automatically trigger acceleration of the SunBelt Notes or cause us to be required to make payments under our guarantee, even if PolyOne is required to make payments under its guarantee.  However, if SunBelt does not make timely payments on the SunBelt Notes, whether as a result of a failure to pay on a guarantee or otherwise, the holders of the SunBelt Notes may proceed against the assets of SunBelt for repayment.  If we were to make debt service payments under our guarantee, we would have a right to recover such payments from SunBelt.

Beginning on December 22, 2002 and each year through 2017, SunBelt is required to repay $12.2 million of the SunBelt Notes, of which $6.1 million is attributable to the Series O Notes.  Our guarantee of these SunBelt Notes was $48.8 million at March 31, 2010.  In the event SunBelt cannot make any of these payments, we would be required to fund the payment on the Series O Notes.  In certain other circumstances, we may also be required to repay the SunBelt Notes prior to their maturity.  We and PolyOne have agreed that, if we or PolyOne intend to transfer our respective interests in SunBelt and the transferring party is unable to obtain consent from holders of 80% of the aggregate principal amount of the indebtedness related to the guarantee being transferred after good faith negotiations, then we and PolyOne will be required to repay our respective portions of the SunBelt Notes.  In such event, any make whole or similar penalties or costs will be paid by the transferring party.

In addition to SunBelt, we have two other investments, which are accounted for under the equity method.  The following table summarizes our investments in our equity affiliates:
   
March 31,
2010
   
December 31,
2009
   
March 31,
2009
 
   
($ in millions)
 
SunBelt
 
$
(1.9
)
 
$
(4.1
)
 
$
8.8
 
Bay Gas
   
12.9
     
12.6
     
11.0
 
Bleach joint venture
   
11.0
     
11.1
     
12.5
 
Investments in equity affiliates
 
$
22.0
   
$
19.6
   
$
32.3
 

The following table summarizes our equity earnings of non-consolidated affiliates:
   
Three Months Ended
March 31,
 
   
2010
   
2009
 
   
($ in millions)
 
SunBelt
 
$
1.6
   
$
13.6
 
Bay Gas
   
0.4
     
0.4
 
Bleach joint venture
   
0.2
     
0.8
 
Equity earnings of non-consolidated affiliates
 
$
2.2
   
$
14.8
 

We paid net settlements of advances to our non-consolidated affiliates of $0.2 million for the three months ended March 31, 2010.  We received net settlement of advances from our non-consolidated affiliates of $1.4 million for the three months ended March 31, 2009.

PENSION PLANS AND RETIREMENT BENEFITS

Most of our employees participate in defined contribution pension plans.  We provide a contribution to an individual retirement contribution account maintained with the CEOP primarily equal to 5% of the employee’s eligible compensation if such employee is less than age 45, and 7.5% of the employee’s eligible compensation if such employee is age 45 or older.  Expenses of the defined contribution pension plans were $4.0 million for both the three months ended March 31, 2010 and 2009.


 
12

 

A portion of our bargaining hourly employees continue to participate in our domestic defined benefit pension plans under a flat-benefit formula.  Our funding policy for the defined benefit pension plans is consistent with the requirements of federal laws and regulations.  Our foreign subsidiaries maintain pension and other benefit plans, which are consistent with statutory practices.  Our defined benefit pension plan provides that if, within three years following a change of control of Olin, any corporate action is taken or filing made in contemplation of, among other things, a plan termination or merger or other transfer of assets or liabilities of the plan, and such termination, merger, or transfer thereafter takes place, plan benefits would automatically be increased for affected participants (and retired participants) to absorb any plan surplus (subject to applicable collective bargaining requirements).

We also provide certain postretirement health care (medical) and life insurance benefits for eligible active and retired domestic employees.  The health care plans are contributory with participants’ contributions adjusted annually based on medical rates of inflation and plan experience.

   
Pension Benefits
   
Other Postretirement
Benefits
 
   
Three Months Ended
March 31,
   
Three Months Ended
March 31,
 
   
2010
   
2009
   
2010
   
2009
 
Components of Net Periodic Benefit (Income) Cost
 
($ in millions)
 
Service cost
 
$
1.6
   
$
1.7
   
$
0.4
   
$
0.4
 
Interest cost
   
24.8
     
25.9
     
1.0
     
1.1
 
Expected return on plans’ assets
   
(34.7
)
   
(33.9
)
   
     
 
Amortization of prior service cost
   
0.2
     
0.2
     
(0.1
)
   
 
Recognized actuarial loss
   
3.3
     
2.4
     
0.7
     
0.6
 
Net periodic benefit (income) cost
 
$
(4.8
)
 
$
(3.7
)
 
$
2.0
   
$
2.1
 

We made contributions to our foreign defined benefit pension plan of $2.4 million and $1.0 million for the three months ended March 31, 2010 and 2009, respectively.  In March 2010, we recorded a charge of $1.3 million associated with an agreement to withdraw our Henderson, NV chlor alkali hourly workforce from a multi-employer defined benefit pension plan.

INCOME TAXES

The following table accounts for the difference between the actual tax provision and the amounts obtained by applying the statutory U.S. federal income tax rate of 35% to income before taxes.

   
Three Months Ended
March 31,
 
Effective Tax Rate Reconciliation (Percent)
 
2010
   
2009
 
Statutory federal tax rate
   
35.0
     
35.0
 
Foreign rate differential
   
(0.5
)
   
(0.1
)
Domestic manufacturing/export tax incentive
   
     
(0.8
)
Dividends paid to CEOP
   
(3.2
)
   
(0.4
)
State income taxes, net
   
(0.9
)
   
3.1
 
Reductions due to statute of limitations
   
(12.1
)
   
 
Change in valuation allowance
   
(10.4
)
   
 
Return to provision
   
(2.4
)
   
 
Other, net
   
1.7
     
0.4
 
Effective tax rate
   
7.2
     
37.2
 

The effective tax rate for the three months ended March 31, 2010 included a benefit of $1.6 million related to the release of a portion of a valuation allowance recorded against the foreign tax credit carryforward deferred tax asset generated by our Canadian operations.


 
13

 

As of March 31, 2010, we had $48.9 million of gross unrecognized tax benefits, of which $46.5 million would impact the effective tax rate, if recognized.  The amount of unrecognized tax benefits was as follows:
   
March 31,
 
   
2010
   
2009
 
   
($ in millions)
 
Balance at beginning of year
 
$
50.8
   
$
50.2
 
Increases for prior year tax positions
   
0.1
     
 
Decrease for prior year tax positions
   
(0.3
)
   
(0.1
)
Increases for current year tax positions
   
0.1
     
 
Reductions due to statute of limitations
   
(1.8
)
   
 
Balance at end of period
 
$
48.9
   
$
50.1
 

As of March 31, 2010, we believe it is reasonably possible that our total amount of unrecognized tax benefits will decrease by approximately $8.8 million over the next twelve months.  The reduction primarily relates to settlements with taxing authorities and the lapse of federal, state, and foreign statutes of limitation.

Our federal and Canadian income tax returns for 2006 to 2008 are open tax years under the statute of limitations.  We file in numerous states, Canadian provinces and foreign jurisdictions with varying statutes of limitation.  The tax years 2004 through 2008 are open depending on each jurisdiction’s unique statute of limitation.  The Internal Revenue Service (IRS) has commenced an audit of our U.S. income tax return for 2006.  We believe we have adequately provided for all tax positions; however, amounts asserted by taxing authorities could be greater than our accrued position.

Pioneer filed income tax returns in the U.S., various states, Canada, and various Canadian provinces.  Pioneer income tax returns are open for examination for the years 2005 and forward.  The Canada Revenue Agency has commenced an audit of Pioneer’s Canadian tax returns for its 2005 to 2007 tax years.  No issues have arisen to date that would suggest an additional tax liability should be recognized.

DERIVATIVE FINANCIAL INSTRUMENTS

We are exposed to market risk in the normal course of our business operations due to our purchases of certain commodities, our ongoing investing and financing activities, and our operations that use foreign currencies.  The risk of loss can be assessed from the perspective of adverse changes in fair values, cash flows and future earnings.  We have established policies and procedures governing our management of market risks and the use of financial instruments to manage exposure to such risks.  Accounting Standards Codification (ASC) 815 “Derivatives and Hedging” (ASC 815), formerly SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” (SFAS No. 133), requires an entity to recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value.  We use hedge accounting treatment for substantially all of our business transactions whose risks are covered using derivative instruments.  In accordance with ASC 815, we designate commodity forward contracts as cash flow hedges of forecasted purchases of commodities and certain interest rate swaps as fair value hedges of fixed-rate borrowings.  We do not enter into any derivative instruments for trading or speculative purposes.

Energy costs, including electricity used in our Chlor Alkali Products segment, and certain raw materials and energy costs, namely copper, lead, zinc, electricity, and natural gas used primarily in our Winchester segment, are subject to price volatility.  Depending on market conditions, we may enter into futures contracts and put and call option contracts in order to reduce the impact of commodity price fluctuations.  The majority of our commodity derivatives expire within one year.  Those commodity contracts that extend beyond one year correspond with raw material purchases for long-term fixed-price sales contracts.

We enter into forward sales and purchase contracts to manage currency risk resulting from purchase and sale commitments denominated in foreign currencies (principally Canadian dollar and Euro).  All of the currency derivatives expire within two years and are for United States dollar equivalents.  Our foreign currency forward contracts do not meet the criteria to qualify for hedge accounting.  We had forward contracts to sell foreign currencies with a notional value of zero at both March 31, 2010 and 2009, and $0.3 million at December 31, 2009.  We had forward contracts to buy foreign currencies with a notional value of $1.7 million at March 31, 2010 and December 31, 2009 and zero at March 31, 2009.


 
14

 

In 2001 and 2002, we entered into interest rate swaps on $75 million of our underlying fixed-rate debt obligations, whereby we agreed to pay variable rates to a counterparty who, in turn, pays us fixed rates.  The counterparty to these agreements is Citibank, N.A., a major financial institution.  In January 2009, we entered into a $75 million fixed interest rate swap with equal and opposite terms as the $75 million variable interest rate swaps on the 9.125% senior notes due 2011 (2011 Notes).  We have agreed to pay a fixed rate to a counterparty who, in turn, pays us variable rates.  The counterparty to this agreement is Bank of America, a major financial institution.  The result was a gain of $7.9 million on the $75 million variable interest rate swaps, which will be recognized through 2011.  As of March 31, 2010, $4.8 million of this gain was included in long-term borrowings.  In January 2009, we de-designated our $75 million interest rate swaps that had previously been designated as fair value hedges.  The $75 million variable interest rate swaps and the $75 million fixed interest rate swap do not meet the criteria for hedge accounting.  All changes in the fair value of these interest rate swaps are recorded currently in earnings.

Cash flow hedges

ASC 815 requires that all derivative instruments be recorded on the balance sheet at their fair value.  For derivative instruments that are designated and qualify as a cash flow hedge, the change in fair value of the derivative is recognized as a component of other comprehensive loss until the hedged item is recognized in earnings.  Gains and losses on the derivatives representing hedge ineffectiveness are recognized currently in earnings.

We had the following notional amount of outstanding commodity forward contracts that were entered into to hedge forecasted purchases:

   
March 31,
2010
   
December 31,
2009
   
March 31,
2009
 
   
($ in millions)
 
Copper
 
$
32.7
   
$
34.1
   
$
41.0
 
Zinc
   
3.8
     
3.2
     
3.5
 
Lead
   
25.4
     
17.0
     
17.4
 
Natural gas
   
8.3
     
7.1
     
6.2
 

As of March 31, 2010, the counterparty to $35.7 million of these commodity forward contracts was Wells Fargo, a major financial institution.

We use cash flow hedges for certain raw material and energy costs such as copper, zinc, lead, and natural gas to provide a measure of stability in managing our exposure to price fluctuations associated with forecasted purchases of raw materials and energy costs used in the company's manufacturing process.  At March 31, 2010, we had open positions in futures contracts through 2013.  If all open futures contracts had been settled on March 31, 2010, we would have recognized a pretax gain of $11.2 million.

If commodity prices were to remain at the levels they were at March 31, 2010, approximately $5.5 million of deferred gains would be reclassified into earnings during the next twelve months.  The actual effect on earnings will be dependent on actual commodity prices when the forecasted transactions occur.

Fair value hedges

For derivative instruments that are designated and qualify as a fair value hedge, the gain or loss on the derivative as well as the offsetting loss or gain on the hedged item attributable to the hedged risk are recognized in current earnings.  We include the gain or loss on the hedged items (fixed-rate borrowings) in the same line item, interest expense, as the offsetting loss or gain on the related interest rate swaps.  As of March 31, 2010, December 31, 2009 and March 31, 2009, the total notional amount of our interest rate swaps designated as fair value hedges were $151.6 million, $26.6 million and $26.6 million, respectively.  In March 2010, we entered into $125.0 million of interest rate swaps on the 6.75% senior notes due 2016 (2016 Notes).


 
15

 

We use interest rate swaps as a means of managing interest expense and floating interest rate exposure to optimal levels.  These interest rate swaps are treated as fair value hedges.  The accounting for gains and losses associated with changes in fair value of the derivative and the effect on the condensed financial statements will depend on the hedge designation and whether the hedge is effective in offsetting changes in fair value of cash flows of the asset or liability being hedged.  We have entered into $151.6 million of such swaps, whereby we agreed to pay variable rates to a counterparty who, in turn, pays us fixed rates.  The counterparty to these agreements is Citibank, N.A., a major financial institution.  In all cases, the underlying index for the variable rates is six-month London InterBank Offered Rate (LIBOR).  Accordingly, payments are settled every six months and the terms of the swaps are the same as the underlying debt instruments.

Financial statement impacts

We present our derivative assets and liabilities in our condensed balance sheets on a net basis.  We net derivative assets and liabilities whenever we have a legally enforceable master netting agreement with the counterparty to our derivative contracts.  We use these agreements to manage and substantially reduce our potential counterparty credit risk.

The following table summarizes the location and fair value of the derivative instruments on our condensed balance sheets.  The table disaggregates our net derivative assets and liabilities into gross components on a contract-by-contract basis before giving effect to master netting arrangements:

   
Asset Derivatives
 
Liability Derivatives
 
       
Fair Value
     
Fair Value
 
Derivatives Designated as Hedging Instruments
 
Balance
Sheet
Location
 
March 31,
2010
   
December 31,
2009
   
March 31,
2009
 
Balance
Sheet
Location
 
March 31,
2010
   
December 31,
2009
   
March 31,
2009
 
       
($ in millions)
     
($ in millions)
 
Interest rate contracts
 
Other assets
 
$
0.8
   
$
1.4
   
$
2.7
 
Long-term debt
 
$
5.6
   
$
6.9
   
$
10.8
 
Commodity contracts – gains
 
Other current assets
   
12.0
     
17.7
     
 
Accrued liabilities
   
     
     
(0.9
)
Commodity contracts – losses
 
Other current assets
   
(1.4
)
   
(0.2
)
   
 
Accrued liabilities
   
0.8
     
     
19.5
 
       
$
11.4
   
$
18.9
   
$
2.7
     
$
6.4
   
$
6.9
   
$
29.4
 

Derivatives Not Designated as Hedging Instruments
                                         
Interest rate contracts
 
Other assets
 
$
5.7
   
$
6.0
   
$
8.5
 
Other liabilities
 
$
1.3
   
$
0.9
   
$
0.3
 
Commodity contracts – losses
 
Other current assets
   
     
     
 
Accrued liabilities
   
0.7
     
     
 
Foreign currency contracts
 
Other current assets
   
     
     
 
Accrued liabilities
   
0.1
     
0.1
     
 
       
$
5.7
   
$
6.0
   
$
8.5
     
$
2.1
   
$
1.0
   
$
0.3
 
                                                       
Total derivatives(1)
     
$
17.1
   
$
24.9
   
$
11.2
     
$
8.5
   
$
7.9
   
$
29.7
 

(1)         Does not include the impact of cash collateral received from or provided to counterparties.

 
16

 


The following table summarizes the effects of derivative instruments on our condensed statements of income:
     
Amount of Gain (Loss)
 
     
Three Months Ended
March 31,
 
 
Location of Gain (Loss)
 
2010
   
2009
 
Derivatives – Cash Flow Hedges
   
($ in millions)
 
Recognized in other comprehensive loss (effective portion)
———   $ (1.6 )   $ 7.7  
                   
Reclassified from accumulated other comprehensive loss into income (effective portion)
Cost of goods sold
  $ 5.8     $ (15.1 )
Recognized in income (ineffective portion)
Cost of goods sold
    (0.3 )     (0.4
      $ 5.5     $ (15.5 )
Derivatives – Fair Value Hedges
                 
Interest rate contracts
Interest expense
  $ 1.1     $ 0.9  
      $ 1.1     $ 0.9  
                   
Derivatives Not Designated as Hedging Instruments
                 
Interest rate contracts
Interest expense
  $ 0.1     $ 0.1  
Commodity contracts
Cost of goods sold
    (0.7 )    
 
Foreign currency contracts
Selling and administration
   
     
 
      $ (0.6 )   $ 0.1  

Credit risk and collateral

By using derivative instruments, we are exposed to credit and market risk.  If a counterparty fails to fulfill its performance obligations under a derivative contract, our credit risk will equal the fair-value gain in a derivative.  Generally, when the fair value of a derivative contract is positive, this indicates that the counterparty owes us, thus creating a repayment risk for us.  When the fair value of a derivative contract is negative, we owe the counterparty and, therefore, assume no repayment risk.  We minimize the credit (or repayment) risk in derivative instruments by entering into transactions with high-quality counterparties.  We monitor our positions and the credit ratings of our counterparties and we do not anticipate non-performance by the counterparties.

Based on the agreements with our various counterparties, cash collateral is required to be provided when the net fair value of the derivatives, with the counterparty, exceed a specific threshold.  If the threshold is exceeded, cash is either provided by the counterparty to us if the value of the derivatives is our asset, or cash is provided by us to the counterparty if the value of the derivatives is our liability.  As of March 31, 2010 and December 31, 2009, the amounts recognized in other current assets for cash collateral provided by counterparties to us was $1.9 million and $2.2 million, respectively.  As of March 31, 2009, the amount recognized in accrued liabilities represented cash collateral totaling $6.5 million that we have the right to reclaim.  In all instances where we are party to a master netting agreement, we offset the receivable or payable recognized upon payment of cash collateral against the fair value amounts recognized for derivative instruments that have also been offset under such master netting agreements.


 
17

 

FAIR VALUE MEASUREMENTS

Fair value is defined as the price at which an asset could be exchanged in a current transaction between knowledgeable, willing parties or the amount that would be paid to transfer a liability to a new obligor, not the amount that would be paid to settle the liability with the creditor.  Where available, fair value is based on observable market prices or parameters or derived from such prices or parameters.  Where observable prices or inputs are not available, valuation models are applied.  These valuation techniques involve some level of management estimation and judgment, the degree of which is dependent on the price transparency for the instruments or market and the instruments’ complexity.

Assets and liabilities recorded at fair value in the condensed balance sheets are categorized based upon the level of judgment associated with the inputs used to measure their fair value.  Hierarchical levels, defined by ASC 820 “Fair Value Measurements and Disclosures” (ASC 820) and directly related to the amount of subjectivity associated with the inputs to fair valuation of these assets and liabilities, are as follows:

Level 1 — Inputs were unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date.

Level 2 — Inputs (other than quoted prices included in Level 1) were either directly or indirectly observable for the asset or liability through correlation with market data at the measurement date and for the duration of the instrument’s anticipated life.

Level 3 — Inputs reflected management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date.  Consideration was given to the risk inherent in the valuation technique and the risk inherent in the inputs to the model.

Determining which hierarchical level an asset or liability falls within requires significant judgment.  We evaluate our hierarchy disclosures each quarter.  The following table summarizes the financial instruments measured at fair value in the condensed balance sheets:

   
Fair Value Measurements
 
Balance at March 31, 2010
 
Level 1
 
Level 2
 
Level 3
   
Total
 
Assets
 
($ in millions)
 
Interest rate swaps
   
$
   
$
6.5
   
$
   
$
6.5
 
Commodity forward contracts
     
4.4
     
6.2
     
     
10.6
 
Liabilities
                                 
Interest rate swaps
   
$
   
$
6.9
   
$
   
$
6.9
 
Commodity forward contracts
     
     
1.5
     
     
1.5
 
Foreign currency contracts
     
0.1
     
     
     
0.1
 

Balance at December 31, 2009
                   
Assets
     
Interest rate swaps
   
$
   
$
7.4
   
$
   
$
7.4
 
Commodity forward contracts
     
5.7
     
11.8
     
     
17.5
 
Liabilities
                                 
Interest rate swaps
   
$
   
$
7.8
   
$
   
$
7.8
 
Foreign currency contracts
     
0.1
     
     
     
0.1
 

Balance at March 31, 2009
                   
Assets
     
Interest rate swaps
   
$
   
$
11.2
   
$
   
$
11.2
 
Liabilities
                                 
Interest rate swaps
   
$
   
$
11.1
   
$
   
$
11.1
 
Commodity forward contracts
     
6.6
     
12.0
     
     
18.6
 

For the three months ended March 31, 2010, there were no transfers into or out of Level 1 and Level 2.

 
18

 

Interest rate swaps

The fair value of the interest rate swaps was included in other assets, long-term debt, and other liabilities as of March 31, 2010, December 31, 2009 and March 31, 2009.  These financial instruments were valued using the “income approach” valuation technique.  This method used valuation techniques to convert future amounts to a single present amount.  The measurement was based on the value indicated by current market expectations about those future amounts.  We use interest rate swaps as a means of managing interest expense and floating interest rate exposure to optimal levels.

Commodity forward contracts

The fair value of the commodity forward contracts was classified in other current assets as of March 31, 2010 and December 31, 2009 and classified in accrued liabilities as of March 31, 2009, with unrealized gains and losses included in accumulated other comprehensive loss, net of applicable taxes.  These financial instruments were valued primarily based on prices and other relevant information observable in market transactions involving identical or comparable assets or liabilities including both forward and spot prices for commodities.  We use commodity forward contracts for certain raw materials and energy costs such as copper, zinc, lead, and natural gas to provide a measure of stability in managing our exposure to price fluctuations.

Foreign Currency Contracts

The fair value of the foreign currency contracts was classified in accrued liabilities as of March 31, 2010 and December 31, 2009, with gains and losses included in selling and administration expense, as these financial instruments do not meet the criteria to qualify for hedge accounting.  These financial instruments were valued primarily based on prices and other relevant information observable in market transactions involving identical or comparable assets or liabilities including both forward and spot prices for foreign currencies.  We enter into forward sales and purchase contracts to manage currency risk resulting from purchase and sale commitments denominated in foreign currencies (principally Canadian dollar and Euro).

Financial Instruments

The carrying values of cash and cash equivalents, accounts receivable and accounts payable approximated fair values due to the short-term maturities of these instruments.  The fair value of our long-term debt was determined based on current market rates for debt of the same risk and maturities.  At March 31, 2010, December 31, 2009, and March 31, 2009, the estimated fair value of debt was $416.0 million, $416.0 million and $238.9 million, respectively, which compares to debt recorded on the balance sheet of $397.1 million, $398.4 million and $253.4 million, respectively.

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

Business Background

Our manufacturing operations are concentrated in two business segments:  Chlor Alkali Products and Winchester.  Both are capital intensive manufacturing businesses with operating rates closely tied to the general economy.  Each segment has a commodity element to it, and therefore, our ability to influence pricing is quite limited on the portion of the segment’s business that is strictly commodity.  Our Chlor Alkali Products segment is a commodity business where all supplier products are similar and price is the major supplier selection criterion.  We have little or no ability to influence prices in this large, global commodity market.  Cyclical price swings, driven by changes in supply/demand, can be abrupt and significant and, given the capacity in our Chlor Alkali Products business, can lead to very significant changes in our overall profitability.  Winchester also has a commodity element to its business, but a majority of Winchester ammunition is sold as a branded consumer product where there are opportunities to differentiate certain offerings through innovative new product development and enhanced product performance.  While competitive pricing versus other branded ammunition products is important, it is not the only factor in product selection.

 
19

 


Executive Summary

Chlor Alkali Products’ segment income was $10.6 million for the first quarter of 2010 compared to $68.7 million for the first quarter of 2009, which reflects significantly lower ECU pricing, partially offset by higher volumes.  Pricing during the first quarter of 2009 was a record for our business.  Chlor Alkali Products’ segment income improved sequentially from the fourth quarter of 2009 level of $5.2 million, as both chlorine and caustic soda volumes and ECU netbacks improved.  Operating rates in Chlor Alkali Products for the first quarter of 2010 were 75%, which were higher than both the first quarter of 2009 level of 65% and the fourth quarter of 2009 level of 70%.

First quarter of 2010 ECU netbacks were approximately $440, which was an increase from the approximately $425 experienced in the fourth quarter of 2009.  The first quarter of 2009 record ECU netback was approximately $765.  In December 2009, a $75 per ton caustic soda price increase was announced.  We began realizing a portion of this price increase in caustic soda in the first quarter of 2010 with the remainder of this price increase expected to be realized in the second quarter of 2010.  During March 2010, an additional $80 per ton caustic soda price increase was announced to be effective April 1, 2010.  While the success of this increase is not yet known, the benefits of this caustic soda price increase, if realized, are expected in our system in the second half of 2010.

Winchester segment income of $19.5 million in the first quarter of 2010, which represented the highest level of first quarter segment income in at least the last two decades, improved 15% compared to the prior year segment income of $17.0 million.  Winchester’s first quarter of 2010 results benefited from lower commodity costs and reduced bad debt expense compared to the first quarter of 2009, which more than offset lower commercial volumes.  Winchester continues to experience the above normal levels of demand that began around the November 2008 presidential election.  The increase in demand has been across the majority of Winchester’s product offerings, including rifle, pistol and rimfire ammunition.  The first quarter of 2010 commercial volumes were 5% below the first quarter of 2009 but approximately 50% higher than the first quarter of 2008.

Income before taxes for the first quarter of 2010 included $2.6 million of recoveries from third parties for environmental costs incurred and expensed in prior periods and included a charge of $1.3 million associated with an agreement to withdraw our Henderson, NV chlor alkali hourly workforce from a multi-employer defined benefit pension plan.

The Patient Protection and Affordable Healthcare Act was signed into law on March 23, 2010 and the Healthcare and Education Reconciliation Act of 2010 was signed into law on March 31, 2010, (collectively the Healthcare Acts).  The impact of the Healthcare Acts did not have a material effect on our financial statements.

Consolidated Results of Operations
   
Three Months Ended
March 31,
 
   
2010
   
2009
 
   
($ in millions, except per share data)
 
Sales
 
$
362.0
   
$
400.6
 
Cost of goods sold
   
312.5
     
306.2
 
Gross margin
   
49.5
     
94.4
 
Selling and administration
   
32.1
     
39.2
 
Other operating income
   
2.3
     
5.5
 
Operating income
   
19.7
     
60.7
 
Earnings of non-consolidated affiliates
   
2.2
     
14.8
 
Interest expense
   
6.9
     
1.6
 
Interest income
   
0.2
     
0.5
 
Income before taxes
   
15.2
     
74.4
 
Income tax provision
   
1.1
     
27.7
 
Net income
 
$
14.1
   
$
46.7
 
Net income per common share:
               
Basic
 
$
0.18
   
$
0.60
 
Diluted
 
$
0.18
   
$
0.60
 


 
20

 

Three Months Ended March 31, 2010 Compared to Three Months Ended March 31, 2009

Sales for the three months ended March 31, 2010 were $362.0 million compared to $400.6 million last year, a decrease of $38.6 million, or 10%.  Chlor Alkali Products’ sales decreased $37.1 million, or 14%, due to lower ECU prices partially offset by increased shipment volumes.  Our ECU netbacks, excluding SunBelt, decreased 42% compared to the same period in the prior year.  Winchester sales decreased by $1.5 million, or 1%, from the three months ended March 31, 2009 primarily due to lower sales volumes.

Gross margin decreased $44.9 million, or 48%, compared to the three months ended March 31, 2009, primarily as a result of decreased Chlor Alkali gross margin resulting from lower ECU netbacks, partially offset by improved Winchester gross margin resulting from lower commodity and other material costs.  Gross margin in 2010 was positively impacted by lower environmental costs of $6.8 million.  Gross margin as a percentage of sales decreased to 14% in 2010 from 24% in 2009.

Selling and administration expenses for the three months ended March 31, 2010 decreased $7.1 million, or 18%, from the three months ended March 31, 2009 primarily due to a lower provision for doubtful customer accounts receivable of $4.6 million, decreased management incentive compensation of $2.1 million, which was offset by increased mark-to-market adjustments on stock-based compensation of $2.2 million, lower consulting fees of $1.0 million, decreased salary and benefit costs of $0.6 million, a favorable foreign currency impact of $0.6 million and a lower level of legal and legal-related settlement expenses of $0.5 million.  Selling and administration expenses as a percentage of sales were 9% in 2010 and 10% in 2009.

Other operating income for the three months ended March 31, 2010 decreased by $3.2 million from the same period in 2009.  Other operating income for the three months ended March 31, 2010 and 2009 included $2.0 million and $1.3 million, respectively, of gains on the disposition of property, plant and equipment primarily associated with the St. Gabriel, LA conversion and expansion project.  Other operating income for the three months ended March 31, 2009 also included a $3.7 million gain on the sale of land.

The earnings of non-consolidated affiliates were $2.2 million for the three months ended March 31, 2010, a decrease of $12.6 million from the three months ended March 31, 2009, primarily due to lower ECU netbacks at SunBelt.

Interest expense increased by $5.3 million in 2010, primarily due to a higher level of outstanding debt and a decrease of $2.4 million in capitalized interest associated with our St. Gabriel, LA facility conversion and expansion project.

Interest income decreased by $0.3 million in 2010 primarily due to lower short-term interest rates, partially offset by higher average cash balances.

The effective tax rate for the three months ended March 31, 2010 included a $1.8 million reduction in expense associated with the expiration of statutes of limitation in domestic jurisdictions, a $1.6 million reduction in expense related to the release of a portion of a valuation allowance recorded against the foreign tax credit carryforward deferred tax asset generated by our Canadian operations, and a $0.4 million benefit associated with certain prior years’ tax returns.  After giving consideration to these three items of $3.8 million, the effective tax rate for the three months ended March 31, 2010 of 32.2% was lower than the 35% U.S. federal statutory rate primarily due to favorable permanent tax deduction items and the utilization of certain state tax credits, which offset the effect of state income taxes.  During periods of low earnings, our effective tax rate can be significantly impacted by permanent tax deduction items, return to provision adjustments, changes in tax contingencies and valuation allowances, and tax credits.  The effective tax rate for the three months ended March 31, 2009 of 37.2% was higher than the 35% U.S. federal statutory rate primarily due to state income taxes, which were offset in part by the utilization of certain state tax credits.

 
21

 

Segment Results

We define segment results as income before interest expense, interest income, other operating income, other income, and income taxes, and include the operating results of non-consolidated affiliates.
   
Three Months Ended
March 31,
 
   
2010
   
2009
 
Sales:
 
($ in millions)
 
Chlor Alkali Products
 
$
230.6
   
$
267.7
 
Winchester
   
131.4
     
132.9
 
Total sales
 
$
362.0
   
$
400.6
 
Income before taxes:
               
Chlor Alkali Products(1)
 
$
10.6
   
$
68.7
 
Winchester
   
19.5
     
17.0
 
Corporate/other:
               
Pension income(2)
   
4.7
     
4.8
 
Environmental income (expense)(3)
   
2.0
     
(4.8
)
Other corporate and unallocated costs
   
(17.2
)
   
(15.7
)
Other operating income(4)
   
2.3
     
5.5
 
Interest expense(5)
   
(6.9
)
   
(1.6
)
Interest income
   
0.2
     
0.5
 
Income before taxes
 
$
15.2
   
$
74.4
 

(1)
Earnings of non-consolidated affiliates were included in the Chlor Alkali Products segment results consistent with management’s monitoring of the operating segments.  The earnings from non-consolidated affiliates were $2.2 million and $14.8 million for the three months ended March 31, 2010 and 2009, respectively.

(2)
The service cost and the amortization of prior service cost components of pension expense related to the employees of the operating segments are allocated to the operating segments based on their respective estimated census data.  All other components of pension costs are included in corporate/other and include items such as the expected return on plan assets, interest cost, and recognized actuarial gains and losses.  Pension income for the three months ended March 31, 2010 included a charge of $1.3 million associated with an agreement to withdraw our Henderson, NV chlor alkali hourly workforce from a multi-employer defined benefit pension plan.

(3)
Environmental income (expense) for the three months ended March 31, 2010 included $2.6 million of recoveries from third parties for costs incurred and expensed in prior periods.

(4)
Other operating income for the three months ended March 31, 2010 and 2009 included $2.0 million and $1.3 million, respectively, of gains on the disposal of assets primarily associated with the St. Gabriel, LA conversion and expansion project.  Other operating income for the three months ended March 31, 2009 also included a $3.7 million gain on the sale of land.

(5)
Interest expense was reduced by capitalized interest of $0.1 million and $2.5 million for the three months ended March 31, 2010 and 2009, respectively.


 
22

 

Chlor Alkali Products

Three Months Ended March 31, 2010 Compared to Three Months Ended March 31, 2009

Chlor Alkali Products’ sales for the three months ended March 31, 2010 were $230.6 million compared to $267.7 million for the three months ended March 31, 2009, a decrease of $37.1 million, or 14%.  The sales decrease was primarily due to lower ECU pricing, which decreased 42% from the three months ended March 31, 2009, partially offset by higher chlorine and caustic soda volumes of 20%.  Volumes for potassium hydroxide more than tripled for the three months ended March 31, 2010 compared to the three months ended March 31, 2009, primarily reflecting a raw material supply disruption that impacted first quarter 2009 volumes.  Bleach volumes increased 12% for the three months ended March 31, 2010 compared to the same period last year, while hydrochloric acid volumes decreased 23% compared to the three months ended March 31, 2009.  Sales of potassium hydroxide, bleach, and hydrochloric acid aggregated to approximately 25% of Chlor Alkali Products’ sales for the three months ended March 31, 2010.  Our ECU netback, excluding SunBelt, was approximately $440 for the three months ended March 31, 2010 compared to approximately $765 for the three months ended March 31, 2009.  Freight costs included in the ECU netback decreased 6% for the three months ended March 31, 2010, compared to the same period last year, which reflects the benefits of increased pipeline shipments associated with the re-start of our St. Gabriel, LA facility.  Our operating rate for the three months ended March 31, 2010 was 75%, compared to the operating rate of 65% for the three months ended March 31, 2009.  The higher operating rate for 2010 resulted from higher chlorine and caustic soda demand.

Chlor Alkali posted segment income of $10.6 million for three months ended March 31, 2010 compared to $68.7 million for the same period in 2009, a decrease of $58.1 million, or 85%.  Chlor Alkali segment income was lower primarily due to lower ECU netbacks ($103.3 million) and lower earnings of non-consolidated affiliates ($12.6 million) primarily related to lower ECU netbacks at SunBelt, partially offset by increased volumes ($38.2 million) and decreased operating costs ($19.6 million), primarily raw materials and electricity.

Winchester

Three Months Ended March 31, 2010 Compared to Three Months Ended March 31, 2009

Winchester sales were $131.4 million for the three months ended March 31, 2010 compared to $132.9 million for the three months ended March 31, 2009, a decrease of $1.5 million, or 1%.  Sales of ammunition to domestic and international commercial customers decreased $7.3 million.  These decreases were offset by higher shipments to military customers of $2.4 million, increased shipments to industrial customers, who primarily supply the construction sector, of $1.4 million and higher shipments to law enforcement agencies of $1.0 million.

Winchester reported segment income of $19.5 million for the three months ended March 31, 2010 compared to $17.0 million for the three months ended March 31, 2009, an increase of $2.5 million, or 15%.  The increase was primarily due to the impact of decreased commodity and other material costs and lower bad debt costs ($5.5 million), partially offset by decreased volumes and lower selling prices ($3.0 million).

Corporate/Other

Three Months Ended March 31, 2010 Compared to Three Months Ended March 31, 2009

For the three months ended March 31, 2010, pension income included in corporate/other was $4.7 million compared to $4.8 million for the three months ended March 31, 2009.  Pension income for the three months ended March 31, 2010 included a charge of $1.3 million associated with an agreement to withdraw our Henderson, NV chlor alkali hourly workforce from a multi-employer defined benefit pension plan.  On a total company basis, defined benefit pension income for the three months ended March 31, 2010 was $4.8 million compared to $3.7 million for the three months ended March 31, 2009.

Credits to income for environmental investigatory and remedial activities were $2.0 million for the three months ended March 31, 2010, which includes $2.6 million of recoveries from third parties for costs incurred and expensed in prior periods.  Without these recoveries in 2010, charges to income for environmental investigatory and remedial activities would have been $0.6 million for the three months ended March 31, 2010 compared with $4.8 million for the three months ended March 31, 2009.  These charges related primarily to expected future investigatory and remedial activities associated with past manufacturing operations and former waste disposal sites.

 
23

 


For the three months ended March 31, 2010, other corporate and unallocated costs were $17.2 million compared with $15.7 million in 2009, an increase of $1.5 million, or 10%.  The increase was primarily due to higher stock-based compensation costs of $2.3 million, primarily resulting from mark-to-market adjustments, and increased insurance costs of $1.1 million, partially offset by decreased legal and legal-related settlement expenses of $0.9 million and lower asset retirement obligation charges of $0.6 million.

Outlook

Net income in the second quarter of 2010 is projected to be in the $0.15 to $0.20 per diluted share range compared with $0.36 per diluted share in the second quarter of 2009.

Chlor Alkali Products second quarter of 2010 segment earnings are expected to more than double compared to the first quarter of 2010, as we are anticipating improvement in demand and ECU pricing as compared to the first quarter of 2010.  We also expect the second quarter 2010 chlorine and caustic soda shipment volumes to improve from the second quarter of 2009.  Chlor Alkali Products’ operating rates in the second quarter of 2010 are forecast to be in the low to mid 80% range, which is an improvement from both the first quarter of 2010 level of 75% and the second quarter of 2009 level of 70%.

First quarter of 2010 ECU netbacks were approximately $440, which was an increase from the approximately $425 experienced in the fourth quarter of 2009.  Second quarter 2010 ECU netbacks are anticipated to improve sequentially from the first quarter of 2010.  We believe that ECU netbacks, in our system, bottomed out in the third quarter of 2009.  In December 2009, a $75 per ton caustic soda price increase was announced.  We began realizing a portion of this price increase in caustic soda in the first quarter of 2010 with the remainder of this price increase expected to be realized in the second quarter of 2010.  During March 2010, an additional $80 per ton caustic soda price increase was announced to be effective April 1, 2010.  While the success of this increase is not yet known, the benefits of this caustic soda price increase, if realized, are expected in our system in the second half of 2010.

Winchester second quarter 2010 segment earnings are expected to decline from the first quarter of 2010 due to normal seasonal demand and higher commodity prices.  Winchester continues to experience the above normal levels of demand that began around the November 2008 presidential election.  The increase in demand has been across the majority of Winchester’s product offerings, including rifle, pistol and rimfire ammunition.  The first quarter of 2010 commercial volumes were 5% below the first quarter of 2009 but approximately 50% higher than the first quarter of 2008.  We have begun to see certain product offerings, such as hunting rifle, where inventory in the customer supply chain system has improved.  However, we believe there continues to be an industry-wide lack of pistol ammunition inventory as it remains in short supply.  Winchester anticipates that higher than normal levels of demand will continue at least through the second quarter of 2010 but at lower levels than were experienced in 2009.

The spot market price of copper has increased from $2.26 per pound at June 30, 2009 to $3.55 per pound at March 31, 2010, while lead has increased from $0.78 per pound to $0.96 per pound over the same period.  As a reminder, Winchester uses approximately three times as much lead as copper.  As a result of the increase in commodity costs, Winchester has announced price increases of three percent to five percent to be effective April 1, 2010.  The success of these price increases is uncertain.

First quarter 2010 credits for environmental investigatory and remedial activities were $2.0 million, which included $2.6 million of recoveries from third parties for environmental costs incurred and expensed in prior periods.  Charges to income for environmental investigatory and remedial activities are forecast to increase to the $6 million to $8 million range in the second quarter of 2010.  This second quarter 2010 forecast for environmental investigatory and remedial costs does not include any recovery of costs incurred and expensed in prior periods.  Without the 2009 recoveries of $82.1 million of environmental costs incurred and expensed in prior periods, we anticipate that the full year 2010 charges for environmental investigatory and remedial activities will be 5% to 10% greater than the 2009 level of $24.1 million.  We do believe that there are additional opportunities to recover environmental costs incurred and expensed in prior periods in 2010, but the timing and the amount of any additional recoveries are uncertain.

We believe the second quarter 2010 effective tax rate will be in the 32% to 35% range, before favorable adjustments.  The second quarter 2010 forecast includes approximately $2 million of favorable adjustments to income tax expense, related to the expiration of statutes of limitations and the reduction of a valuation allowance associated with foreign tax credits.  During periods of low earnings, our effective tax rate can be significantly impacted by permanent tax deduction items, return to provision adjustments, changes in tax contingencies and valuation allowances, and tax credits.


 
24

 

In 2010, we expect our capital spending to be in the $70 million to $80 million range, which includes bleach manufacturing and shipping by railroad expansion projects at three of our chlor alkali facilities.  This anticipated 2010 capital spending compares with the 2009 capital spending of $137.9 million.  We are also in the process of initiating construction of a low salt, high strength bleach facility that will double the concentration of the bleach we manufacture, which should significantly reduce transportation costs.  Capital spending for this project, which is expected to be in the $15 million to $20 million range, should occur in 2010 and 2011.  Additional investments in low salt, high strength bleach are being evaluated.  As a result of the capitalization of the St. Gabriel, LA conversion and expansion project in late 2009, we expect 2010 depreciation expense to be in the $85 million to $90 million range.

Environmental Matters

    Environmental provisions (credited) charged to income were as follows:
   
Three Months Ended
March 31,
 
   
2010
   
2009
 
   
($ in millions)
 
Charges to income
 
$
0.6
   
$
4.8
 
Recoveries from third parties of costs incurred and expensed in prior periods
   
(2.6
)
   
 
Total environmental (income) expense
 
$
(2.0
)
 
$
4.8
 

Our liabilities for future environmental expenditures were as follows:
   
March 31,
 
   
2010
   
2009
 
   
($ in millions)
 
Balance at beginning of year
 
$
166.1
   
$
158.9
 
Charges to income
   
0.6
     
4.8
 
Remedial and investigatory spending
   
(2.9
)
   
(3.3
)
Currency translation adjustments
   
0.4
     
(0.3
)
Balance at end of period
 
$
164.2
   
$
160.1
 

Environmental investigatory and remediation activities spending was associated with former waste disposal sites and past manufacturing operations.  Spending in 2010 for investigatory and remedial efforts, the timing of which is subject to regulatory approvals and other uncertainties, is estimated to be in the $35 million range.  Cash outlays for remedial and investigatory activities associated with former waste disposal sites and past manufacturing operations were not charged to income, but instead, were charged to reserves established for such costs identified and expensed to income in prior periods.  Associated costs of investigatory and remedial activities are provided for in accordance with generally accepted accounting principles governing probability and the ability to reasonably estimate future costs.  Our ability to estimate future costs depends on whether our investigatory and remedial activities are in preliminary or advanced stages.  With respect to unasserted claims, we accrue liabilities for costs that, in our experience, we may incur to protect our interest against those unasserted claims.  Our accrued liabilities for unasserted claims amounted to $3.4 million at March 31, 2010.  With respect to asserted claims, we accrue liabilities based on remedial investigation, feasibility study, remedial action, and Operation, Maintenance and Monitoring (OM&M) expenses that, in our experience, we may incur in connection with the asserted claims.  Required site OM&M expenses are estimated and accrued in their entirety for required periods not exceeding 30 years, which reasonably approximates the typical duration of long-term site OM&M.  Charges to income for investigatory and remedial efforts were material to operating results in 2009 and are expected to be material to operating results in 2010 and future years.