10-Q 1 msc10q3q12.htm QUARTERLY REPORT Momentive 09.30.2012 10Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 FORM 10-Q
 
 
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2012
OR
 
o
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 1-71
 
  MOMENTIVE SPECIALTY CHEMICALS INC.
(Exact name of registrant as specified in its charter)

New Jersey
 
13-0511250
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
180 East Broad St., Columbus, OH 43215
 
614-225-4000
(Address of principal executive offices including zip code)
 
(Registrant’s telephone number including area code)
 
(Former name, former address and former fiscal year, if changed since last report)

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  o
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  x 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 definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
 
o
  
Accelerated filer
 
o
 
 
 
 
Non-accelerated filer
 
x
  
Smaller reporting company
 
o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  o No  x.
Number of shares of common stock, par value $0.01 per share, outstanding as of the close of business on November 1, 2012: 82,556,847



MOMENTIVE SPECIALTY CHEMICALS INC.
INDEX
 
 
 
Page
PART I – FINANCIAL INFORMATION
 
 
 
 
Item 1.
Momentive Specialty Chemicals Inc. Condensed Consolidated Financial Statements (Unaudited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4T.
 
 
 
PART II – OTHER INFORMATION
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
Item 5.
 
 
 
Item 6.

2




MOMENTIVE SPECIALTY CHEMICALS INC.
CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited) 
(In millions, except share data)
September 30,
2012
 
December 31,
2011
Assets
 
 
 
Current assets
 
 
 
Cash and cash equivalents (including restricted cash of $3)
$
340

 
$
431

Short-term investments
5

 
7

Accounts receivable (net of allowance for doubtful accounts of $17 and $19, respectively)
637

 
592

Inventories:
 
 
 
Finished and in-process goods
294

 
254

Raw materials and supplies
118

 
103

Other current assets
97

 
72

Total current assets
1,491

 
1,459

Deferred income taxes
362

 
4

Other assets, net
171

 
165

Property and equipment:
 
 
 
Land
89

 
88

Buildings
296

 
298

Machinery and equipment
2,343

 
2,300

 
2,728

 
2,686

Less accumulated depreciation
(1,571
)
 
(1,477
)
 
1,157

 
1,209

Goodwill
167

 
167

Other intangible assets, net
93

 
104

Total assets
$
3,441

 
$
3,108

Liabilities and Deficit
 
 
 
Current liabilities
 
 
 
Accounts and drafts payable
$
421

 
$
393

Debt payable within one year
73

 
117

Affiliated debt payable within one year
2

 
2

Interest payable
60

 
61

Income taxes payable
5

 
15

Accrued payroll and incentive compensation
42

 
57

Other current liabilities
145

 
132

Total current liabilities
748

 
777

Long-term liabilities
 
 
 
Long-term debt
3,426

 
3,420

Long-term pension and post employment benefit obligations
205

 
223

Deferred income taxes
65

 
72

Other long-term liabilities
162

 
156

Advance from affiliates

 
225

Total liabilities
4,606

 
4,873

Commitments and contingencies (See Note 9)
 
 
 
Deficit
 
 
 
Common stock—$0.01 par value; 300,000,000 shares authorized, 170,605,906 issued and 82,556,847 outstanding at September 30, 2012 and December 31, 2011
1

 
1

Paid-in capital
752

 
533

Treasury stock, at cost—88,049,059 shares
(296
)
 
(296
)
Note receivable from parent
(24
)
 
(24
)
Accumulated other comprehensive income
22

 
17

Accumulated deficit
(1,621
)
 
(1,997
)
Total Momentive Specialty Chemicals Inc. shareholder’s deficit
(1,166
)
 
(1,766
)
Noncontrolling interest
1

 
1

Total deficit
(1,165
)
 
(1,765
)
Total liabilities and deficit
$
3,441

 
$
3,108

See Notes to Condensed Consolidated Financial Statements



3


MOMENTIVE SPECIALTY CHEMICALS INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(In millions)
2012
 
2011
 
2012
 
2011
Net sales
$
1,177

 
$
1,322

 
$
3,672

 
$
4,054

Cost of sales
1,037

 
1,137

 
3,182

 
3,445

Gross profit
140

 
185

 
490

 
609

Selling, general and administrative expense
74

 
82

 
238

 
253

Asset impairments

 

 
23

 
18

Business realignment costs
11

 
1

 
29

 
9

Other operating expense (income), net
4

 
1

 
13

 
(20
)
Operating income
51

 
101

 
187

 
349

Interest expense, net
66

 
67

 
198

 
196

Other non-operating (income) expense, net
(2
)
 
5

 
(1
)
 
3

(Loss) income from continuing operations before income tax and earnings from unconsolidated entities
(13
)
 
29

 
(10
)
 
150

Income tax benefit
(373
)
 
(5
)
 
(371
)
 
(2
)
Income from continuing operations before earnings from unconsolidated entities
360

 
34

 
361

 
152

Earnings from unconsolidated entities, net of taxes
4

 
5

 
15

 
11

Net income from continuing operations
364

 
39

 
376

 
163

Net income from discontinued operations, net of taxes

 

 

 
2

Net income
$
364

 
$
39

 
$
376

 
$
165

See Notes to Condensed Consolidated Financial Statements



4


MOMENTIVE SPECIALTY CHEMICALS INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited)

 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(In millions)
2012

2011
 
2012
 
2011
Net income
$
364

 
$
39

 
$
376

 
$
165

Other comprehensive income (loss), net of tax:
 
 
 
 
 
 
 
Foreign currency translation adjustments
18

 
(76
)
 
3

 
(25
)
Gain (loss) recognized from pension and postretirement benefits
1

 
(1
)
 
1

 
(1
)
Net gain from cash flow hedge activity

 

 
1

 

Other comprehensive income (loss)
19

 
(77
)
 
5

 
(26
)
Comprehensive income (loss)
$
383

 
$
(38
)
 
$
381

 
$
139

See Notes to Condensed Consolidated Financial Statements

5


MOMENTIVE SPECIALTY CHEMICALS INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
 
Nine Months Ended September 30,
(In millions)
2012
 
2011
Cash flows provided by (used in) operating activities
 
 
 
Net income
$
376

 
$
165

Adjustments to reconcile net income to net cash provided by (used in) operating activities:
 
 
 
Depreciation and amortization
115

 
128

Deferred tax benefit
(388
)
 
(19
)
Non-cash asset impairments and accelerated depreciation
31

 
18

Unrealized foreign currency losses
18

 
1

Other non-cash adjustments
5

 
(2
)
Net change in assets and liabilities:
 
 
 
Accounts receivable
(81
)
 
(147
)
Inventories
(58
)
 
(88
)
Accounts and drafts payable
40

 
31

Income taxes payable
(2
)
 
(9
)
Other assets, current and non-current
14

 
(28
)
Other liabilities, current and long-term
(43
)
 
(78
)
Net cash provided by (used in) operating activities
27

 
(28
)
Cash flows (used in) provided by investing activities
 
 
 
Capital expenditures
(92
)
 
(109
)
Proceeds from sale of (purchases of) debt securities, net
2

 
(3
)
Change in restricted cash

 
3

Funds remitted to unconsolidated affiliates
(1
)
 
(5
)
Proceeds from sale of business, net of cash transferred

 
173

Proceeds from sale of assets
10

 
3

Net cash (used in) provided by investing activities
(81
)
 
62

Cash flows used in financing activities
 
 
 
Net short-term debt (repayments) borrowings
(7
)
 
11

Borrowings of long-term debt
451

 
455

Repayments of long-term debt
(479
)
 
(507
)
Repayment of advance from affiliates
(7
)
 

Capital contribution from parent
16

 

Long-term debt and credit facility financing fees
(13
)
 
(1
)
Distribution paid to parent
(2
)
 
(1
)
Net cash used in financing activities
(41
)
 
(43
)
Effect of exchange rates on cash and cash equivalents
4

 
(3
)
Decrease in cash and cash equivalents
(91
)
 
(12
)
Cash and cash equivalents (unrestricted) at beginning of period
428

 
180

Cash and cash equivalents (unrestricted) at end of period
$
337

 
$
168

Supplemental disclosures of cash flow information
 
 
 
Cash paid for:
 
 
 
Interest, net
$
191

 
$
211

Income taxes, net of cash refunds
17

 
19

Non-cash financing activity:
 
 
 
Non-cash capital contribution from parent
$
218

 
$

See Notes to Condensed Consolidated Financial Statements

6


MOMENTIVE SPECIALTY CHEMICALS INC.
CONDENSED CONSOLIDATED STATEMENT OF DEFICIT (Unaudited)
(In millions)
Common
Stock
 
Paid-in
Capital
 
Treasury
Stock
 
Note
Receivable
From Parent
 
Accumulated
Other
Comprehensive
Income (a)
 
Accumulated
Deficit
 
Total Momentive Specialty Chemicals Inc. Deficit
 
Non-controlling Interest
 
Total
Balance at December 31, 2011
$
1

 
$
533

 
$
(296
)
 
$
(24
)
 
$
17

 
$
(1,997
)
 
$
(1,766
)
 
$
1

 
$
(1,765
)
Net income

 

 

 

 

 
376

 
376

 

 
376

Other comprehensive income

 

 

 

 
5

 

 
5

 

 
5

Stock-based compensation expense

 
3

 

 

 

 

 
3

 

 
3

Non-cash capital contribution from parent

 
218

 

 

 

 

 
218

 

 
218

Distribution declared to parent ($0.02 per share)

 
(2
)
 

 

 

 

 
(2
)
 

 
(2
)
Balance at September 30, 2012
$
1

 
$
752

 
$
(296
)
 
$
(24
)
 
$
22

 
$
(1,621
)
 
$
(1,166
)
 
$
1

 
$
(1,165
)
 
(a)
Accumulated other comprehensive income at September 30, 2012 represents $133 of net foreign currency translation gains, net of tax and a $111 unrealized loss, net of tax, related to net actuarial losses and prior service costs for the Company’s defined benefit pension and postretirement benefit plans. Accumulated other comprehensive income at December 31, 2011 represents $130 of net foreign currency translation gains, net of tax, $1 of net deferred losses on cash flow hedges and a $112 unrealized loss, net of tax, related to net actuarial losses and prior service costs for the Company’s defined benefit pension and postretirement benefit plans.
See Notes to Condensed Consolidated Financial Statements

7


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
(In millions, except share and common unit data)
1. Background and Basis of Presentation
Based in Columbus, Ohio, Momentive Specialty Chemicals Inc., (which may be referred to as “MSC” or the “Company”) serves global industrial markets through a broad range of thermoset technologies, specialty products and technical support for customers in a diverse range of applications and industries. The Company's business is organized based on the products offered and the markets served. At September 30, 2012, the Company had two reportable segments: Epoxy, Phenolic and Coating Resins and Forest Products Resins.
The Company's direct parent is Momentive Specialty Chemicals Holdings LLC (“MSC Holdings”), a holding company and wholly owned subsidiary of Momentive Performance Materials Holdings LLC (“Momentive Holdings”), the ultimate parent entity of MSC. On October 1, 2010, MSC Holdings and Momentive Performance Materials Holdings Inc. (“MPM Holdings”), the parent company of Momentive Performance Materials Inc. (“MPM”), became subsidiaries of Momentive Holdings. This transaction is referred to as the “Momentive Combination.” Momentive Holdings is controlled by investment funds managed by affiliates of Apollo Management Holdings, L.P. (together with Apollo Global Management, LLC and its subsidiaries, “Apollo”). Apollo may also be referred to as the Company's owner.
During the first quarter of 2012, the Company recorded an out of period loss of approximately $3 related to the disposal of long-lived assets. As a result of this adjustment, the Company’s Loss from continuing operations before income tax increased by $3 and Net income decreased by $2 for the nine months ended September 30, 2012. Of the $3 increase to Loss from continuing operations before income tax, approximately $1 and $2 should have been recorded in the years ended December 31, 2011 and 2010, respectively. Management does not believe that this out of period error is material to the unaudited Condensed Consolidated Financial Statements for the nine months ended September 30, 2012, or to any prior periods. Additionally, the Company revised the unaudited Condensed Consolidated Statement of Cash Flows for the nine months ended September 30, 2011 to correct for the classification of dividends of $9 received from an unconsolidated affiliate that were originally included in investing activities but have now been properly classified in operating activities. Footnotes contained herein have been revised, where applicable, for the revision discussed above.
Basis of Presentation—The unaudited Condensed Consolidated Financial Statements include the accounts of the Company, its majority-owned subsidiaries in which minority shareholders hold no substantive participating rights and variable interest entities (“VIEs”) in which the Company is the primary beneficiary. Intercompany accounts and transactions are eliminated in consolidation. In the opinion of management, all adjustments consisting of normal, recurring adjustments considered necessary for a fair statement have been included. Results for the interim periods are not necessarily indicative of results for the entire year.
Year-end condensed 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.
Pursuant to the rules and regulations of the Securities and Exchange Commission, certain information and disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted. These unaudited Condensed Consolidated Financial Statements should be read in conjunction with the audited Consolidated Financial Statements and the accompanying notes included in the Company's most recent Annual Report on Form 10-K.
2. Summary of Significant Accounting Policies
Use of Estimates—The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities. It also requires the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates.
Impairment—The Company reviews long-lived definite-lived assets for recoverability whenever events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable. Recoverability is based on estimated undiscounted cash flows. Measurement of the loss, if any, is based on the difference between the carrying value and fair value.
During the nine months ended September 30, 2012, the Company recorded the following asset impairments:
As a result of the likelihood that certain assets would be disposed of before the end of their estimated useful lives, resulting in lower future cash flows associated with these assets, the Company recorded impairments of $15 and $6 on certain of its long-lived assets in its Epoxy, Phenolic and Coating Resins and Forest Products Resins segments, respectively.
As a result of market weakness and the loss of a customer, resulting in lower future cash flows associated with certain assets within the Company's European forest products business, the Company recorded impairments of $2 on these long-lived assets in its Forest Products Resins segment.
In addition, the Company recorded accelerated depreciation of $1 and $8 related to closing facilities during the three and nine months ended September 30, 2012, respectively.
Subsequent Events—The Company has evaluated events and transactions subsequent to September 30, 2012 through November 13, 2012, the date of issuance of its unaudited Condensed Consolidated Financial Statements.
Reclassifications—Certain prior period balances have been reclassified to conform with current presentations.

8


Recently Issued Accounting Standards
Newly Adopted Accounting Standards
On January 1, 2012, the Company adopted the provisions of Accounting Standards Update No. 2011-04: Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs (“ASU 2011-04”). ASU 2011-04 amended existing fair value measurement guidance and is intended to align U.S. GAAP and International Financial Reporting Standards. The guidance requires several new disclosures, including additional quantitative information about significant unobservable inputs used in Level 3 fair value measurements and a qualitative description of the valuation process for both recurring and nonrecurring Level 2 and Level 3 fair value measurements. ASU 2011-04 also requires the disclosure of all fair value measurements by fair value hierarchy level, amongst other requirements. The adoption of ASU 2011-04 did not have a material impact on the Company's unaudited Condensed Consolidated Financial Statements. See Note 6 for the disclosures required by the adoption of ASU 2011-04.
On January 1, 2012, the Company adopted the provisions of Accounting Standards Update No. 2011-05: Comprehensive Income (“ASU 2011-05”), which was issued by the FASB in June 2011 and amended by Accounting Standards Update No. 2011-12: Comprehensive Income (“ASU 2011-12”) issued in December 2011. ASU 2011-05 amended presentation guidance by eliminating the option for an entity to present the components of comprehensive income as part of the statement of changes in stockholders' equity and required presentation of comprehensive income in a single continuous financial statement or in two separate but consecutive financial statements. ASU 2011-12 deferred the effective date for amendments to the presentation of reclassifications of items out of accumulated other comprehensive income in ASU 2011-05. The amendments in ASU 2011-05 did not change the items that must be reported in other comprehensive income or when an item of comprehensive income must be reclassified to net income. The Company has presented comprehensive income in a separate and consecutive statement entitled, “Condensed Consolidated Statements of Comprehensive Income.”
Newly Issued Accounting Standards
There were no newly issued accounting standards in the first nine months of 2012 applicable to the Company's unaudited Condensed Consolidated Financial Statements.
3. Discontinued Operations

North American Coatings and Composite Resins Business
On May 31, 2011, the Company sold its North American coatings and composite resins business (“CCR Business”) to PCCR USA, Inc., a subsidiary of Investindustrial, a European investment group. For the nine months ended September 30, 2011, the CCR Business had net sales of $114 and a pre-tax loss of $3. The CCR Business is reported as a discontinued operation for all periods presented.
Global Inks and Adhesive Resins Business
On January 31, 2011, the Company sold its global inks and adhesive resins business (“IAR Business”) to Harima Chemicals Inc. For the nine months ended September 30, 2011, the IAR Business had net sales of $31 and pretax income of $6. The IAR Business is reported as a discontinued operation for all periods presented.
4. Restructuring
In 2012, in response to softening demand in certain of its businesses in the second half of 2011, the Company initiated significant restructuring programs with the intent to optimize its cost structure and bring manufacturing capacity in line with demand. At September 30, 2012, the Company had $16 of in-process cost reduction programs savings expected to be achieved over the remaining life of the projects. The Company estimates that these restructuring cost activities will occur over the next 12 to 15 months. As of September 30, 2012, the total costs expected to be incurred on restructuring activities are estimated at $33, consisting mainly of workforce reduction and site closure-related costs.
The following table summarizes restructuring information by type of cost:
 
Workforce Reductions
 
Site Closure Costs
 
Other Projects
 
Total
Restructuring costs expected to be incurred
$
25

 
$
7

 
$
1

 
$
33

Cumulative restructuring costs incurred through September 30, 2012
$
19

 
$
7

 
$

 
$
26

 
 
 
 
 
 
 
 
Accrued liability at December 31, 2011
$
6

 
$

 
$

 
$
6

Restructuring charges
13

 
7

 

 
20

Payments
(5
)
 
(7
)
 

 
(12
)
Accrued liability at September 30, 2012
$
14

 
$

 
$

 
$
14

    

9


Workforce reduction costs primarily relate to non-voluntary employee termination benefits and are accounted for under the guidance for nonretirement postemployment benefits or as exit and disposal costs, as applicable. During the three and nine months ended September 30, 2012 charges of $7 and $20, respectively, were recorded in “Business realignment costs” in the unaudited Condensed Consolidated Statements of Operations. At September 30, 2012 and December 31, 2011, the Company had accrued $14 and $6, respectively, for restructuring liabilities in “Other current liabilities” in the unaudited Condensed Consolidated Balance Sheets.
The following table summarizes restructuring information by reporting segment:
 
Epoxy, Phenolic and Coating Resins
 
Forest Products Resins
 
Corporate and Other
 
Total
Restructuring costs expected to be incurred
$
12

 
$
19

 
$
2

 
$
33

Cumulative restructuring costs incurred through September 30, 2012
$
7

 
$
18

 
$
1

 
$
26

 
 
 
 
 
 
 
 
Accrued liability at December 31, 2011
$
1

 
$
2

 
$
3

 
$
6

Restructuring charges (releases)
6

 
16

 
(2
)
 
20

Payments
(3
)
 
(9
)
 

 
(12
)
Accrued liability at September 30, 2012
$
4

 
$
9

 
$
1

 
$
14

5. Related Party Transactions
Administrative Service, Management and Consulting Arrangement
The Company is subject to an Amended and Restated Management Consulting Agreement with Apollo (the “Management Consulting Agreement”) that renews on an annual basis, unless notice to the contrary is given by either party. Under the Management Consulting Agreement, the Company receives certain structuring and advisory services from Apollo and its affiliates. The Management Consulting Agreement provides indemnification to Apollo, its affiliates and their directors, officers and representatives for potential losses arising from these services. Apollo is entitled to an annual fee equal to the greater of $3 or 2% of the Company's Adjusted EBITDA. Apollo elected to waive charges of any portion of the annual management fee due in excess of $3 for the calendar year 2012.
During the three and nine months ended September 30, 2012 the Company recognized expense under the Management Consulting Agreement of $1 and $2, respectively. These amounts are included in “Other operating expense (income), net” in the Company’s unaudited Condensed Consolidated Statements of Operations.
Apollo Notes Registration Rights Agreement
On November 5, 2010, in connection with the issuance of the Company's 9.00% Second-Priority Senior Secured Notes due 2020, the Company entered into a separate registration rights agreement with Apollo. The registration rights agreement gives Apollo the right to make three requests by written notice to the Company specifying the maximum aggregate principal amount of notes to be registered. The agreement requires the Company to file a registration statement with respect to the notes it issued to Apollo as promptly as possible following receipt of each such notice. There are no cash or additional penalties under the registration rights agreement resulting from delays in registering the notes.
In September 2011, the Company filed a registration statement on Form S-1 with the SEC to register the resale of $134 of Second-Priority Senior Secured Notes due 2020 held by Apollo, which was subsequently declared effective on May 7, 2012.
Shared Services Agreement
On October 1, 2010, in conjunction with the Momentive Combination, the Company entered into a shared services agreement with MPM, as amended on March 17, 2011 (the “Shared Services Agreement”). Under this agreement, the Company provides to MPM, and MPM provides to the Company, certain services, including, but not limited to, executive and senior management, administrative support, human resources, information technology support, accounting, finance, technology development, legal and procurement services. The Shared Services Agreement establishes certain criteria upon which the costs of such services are allocated between the Company and MPM. Pursuant to this agreement, during the nine months ended September 30, 2012 and 2011, the Company incurred approximately $111 and $134, respectively, of net costs for shared services and MPM incurred approximately $106 and $128, respectively, of net costs for shared services. Included in the net costs incurred during the nine months ended September 30, 2012 and 2011, were net billings from the Company to MPM of $16 and $5, respectively, to bring the percentage of total net incurred costs for shared services under the Shared Services Agreement to 51% for the Company and 49% for MPM, as well as to reflect costs allocated 100% to one party. During the nine months ended September 30, 2012 and 2011, the Company realized approximately $19 and $21, respectively, in cost savings as a result of the Shared Services Agreement. The Company had accounts receivable from MPM of $3 and $15 as of September 30, 2012 and December 31, 2011, respectively, and accounts payable to MPM of $0 and $3 at September 30, 2012 and December 31, 2011, respectively.

10


Apollo Advance
In connection with the terminated Huntsman merger and related litigation settlement agreement and release among the Company, Huntsman and other parties entered into on December 14, 2008, the Company paid Huntsman $225. The settlement payment was funded to the Company by an advance from Apollo, while reserving all rights with respect to reallocation of the payments to other affiliates of Apollo. Under the provisions of the settlement agreement and release, the Company was only contractually obligated to reimburse Apollo for any insurance recoveries on the $225 settlement payment, net of expense incurred in obtaining such recoveries. Apollo agreed that the payment of any such insurance recoveries would satisfy the Company’s obligation to repay amounts received under the $225 advance.
In April 2012, the Company agreed to a settlement with its insurers to recover $10 in proceeds associated with the $225 settlement payment made to Huntsman in 2008. During the nine months ended September 30, 2012, the Company recognized the $10 settlement, which was recorded net of approximately $2 of fees related to the settlement, and is included in “Other operating expense (income), net” in the unaudited Condensed Consolidated Statements of Operations. In July 2012, the Company received approximately $1 from its insurers for reimbursement of expenses incurred in obtaining the recoveries, and remitted to Apollo the remaining $7 of the insurance settlement. Following receipt of the settlement payment, Apollo acknowledged the satisfaction of the Company's obligations to Apollo with respect to the $225 advance, which was previously recorded as a long-term liability. The remaining $218 was reclassified from a long-term liability to equity as a capital contribution from Apollo during the three months ended September 30, 2012.
Preferred Equity Commitment and Issuance
In December 2011, in conjunction with a previous commitment, Momentive Holdings issued 28,785,935 preferred units and 28,785,935 warrants to purchase common units of Momentive Holdings to affiliates of Apollo for a purchase price of $205 (the “Preferred Equity Issuance”), representing the initial $200 face amount, plus amounts earned from the interim liquidity facilities, less related fees and expenses. Momentive Holdings contributed $189 of the proceeds from the Preferred Equity Issuance to MSC Holdings and MSC Holdings contributed the amount to the Company. As of December 31, 2011, the Company had recognized a capital contribution of $204, representing the total proceeds from the Preferred Equity Issuance, less related fees and expenses. The remaining $16 was held in a reserve account at December 31, 2011 by Momentive Holdings to redeem any additional preferred units from Apollo equal to the aggregate number of preferred units and warrants subscribed for by all other members of Momentive Holdings. In January 2012, the remaining $16 of proceeds held in the reserve account were contributed to the Company.
Purchase of MSC Holdings Debt
In 2009, the Company purchased $180 in face value of the outstanding MSC Holdings LLC PIK Debt Facility for $24, including accrued interest. The loan receivable from MSC Holdings has been recorded at its acquisition value of $24 as a reduction of equity in the unaudited Condensed Consolidated Balance Sheets as MSC Holdings is the Company’s parent. In addition, at September 30, 2012 the Company has not recorded accretion of the purchase discount or interest income as ultimate receipt of these cash flows is under the control of MSC Holdings. The Company will continue to assess the collectibility of these cash flows to determine future amounts to record, if any.
Purchases and Sales of Products and Services with Apollo Affiliates and Other Related Parties
The Company sells products to certain Apollo affiliates, members of Momentive Holdings and other related parties. These sales were $5 and less than $1 for the three months ended September 30, 2012 and 2011, respectively, and $11 and $2 for the nine months ended September 30, 2012 and 2011, respectively. Accounts receivable from these affiliates were $5 and $1 at September 30, 2012 and December 31, 2011, respectively. The Company also purchases raw materials and services from certain Apollo affiliates. These purchases were $13 and $5 for the three months ended September 30, 2012 and 2011, respectively, and $31 and $25 for the nine months ended September 30, 2012 and 2011, respectively. The Company had accounts payable to Apollo affiliates of $1 at both September 30, 2012 and December 31, 2011.
Other Transactions and Arrangements
Momentive Holdings purchases insurance policies which also cover the Company and MPM. Amounts are billed to the Company based on the Company's relative share of the insurance premiums. Momentive Holdings billed the Company $12 for both the three and nine months ended September 30, 2012 and $14 for both the three and nine months ended September 30, 2011. The Company had accounts payable to Momentive Holdings of $6 and $3 under these arrangements at September 30, 2012 and December 31, 2011, respectively.
The Company sells finished goods to, and purchases raw materials from, its foundry joint venture between the Company and Delta-HA, Inc. (“HAI”). The Company also provides toll-manufacturing and other services to HAI. The Company’s investment in HAI is recorded under the equity method of accounting, and the related sales and purchases are not eliminated from the Company’s unaudited Condensed Consolidated Financial Statements. However, any profit on these transactions is eliminated in the Company’s unaudited Condensed Consolidated Financial Statements to the extent of the Company’s 50% interest in HAI. Sales and services provided to HAI were $28 and $26 for the three months ended September 30, 2012 and 2011, respectively, and $84 and $86 for the nine months ended September 30, 2012 and 2011, respectively. Accounts receivable from HAI were $17 and $14 at September 30, 2012 and December 31, 2011, respectively. Purchases from HAI were $6 and $10 for the three months ended September 30, 2012 and 2011, respectively, and $30 and $41 for the nine months ended September 30, 2012 and 2011, respectively. The Company had accounts payable to HAI of $4 at both September 30, 2012 and December 31, 2011. Additionally, HAI declared dividends to the Company of $4 during the three months ended September 30, 2011, and $13 and $9 during the nine months ended September 30, 2012 and 2011, respectively. No amounts remain outstanding related to these previously declared dividends as of September 30, 2012.

11


The Company’s purchase contracts with HAI represent a significant portion of HAI’s total revenue, and this factor results in the Company absorbing the majority of the risk from potential losses or the majority of the gains from potential returns. However, the Company does not have the power to direct the activities that most significantly impact HAI, and therefore, does not consolidate HAI. The carrying value of HAI’s assets were $49 and $48 at September 30, 2012 and December 31, 2011, respectively. The carrying value of HAI’s liabilities were $22 and $21 at September 30, 2012 and December 31, 2011, respectively.
The Company had a loan receivable from its unconsolidated forest products joint venture in Russia of $1 and $3 as of September 30, 2012 and December 31, 2011, respectively. The Company also had royalties receivable from its unconsolidated forest products joint venture in Russia of $4 and $2 as of September 30, 2012 and December 31, 2011, respectively.
6. Fair Value
Fair value is the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Fair value measurement provisions establish a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. This guidance describes three levels of inputs that may be used to measure fair value:
Level 1: Inputs are quoted prices (unadjusted) for identical assets or liabilities in active markets.
Level 2: Pricing inputs are other than quoted prices in active markets included in Level 1, which are either directly or indirectly observable as of the reported date.
Level 3: Unobservable inputs that are supported by little or no market activity and are developed based on the best information available in the circumstances. For example, inputs derived through extrapolation or interpolation that cannot be corroborated by observable market data.
Recurring Fair Value Measurements
Following is a summary of assets and liabilities measured at fair value on a recurring basis as of September 30, 2012 and December 31, 2011:
 
 
Fair Value Measurements Using
 
Total
 
 
Level 1
 
Level 2
 
Level 3
 
September 30, 2012
 
 
 
 
 
 
 
 
Derivative liabilities
 
$

 
$
(2
)
 
$

 
$
(2
)
December 31, 2011
 
 
 
 
 
 
 
 
Derivative liabilities
 

 
(3
)
 

 
(3
)
Level 1 derivative liabilities primarily consist of financial instruments traded on exchange or futures markets. Level 2 derivative liabilities consist of derivative instruments transacted primarily in over the counter markets.
There were no transfers between Level 1, Level 2 or Level 3 measurements during the three or nine months ended September 30, 2012.
The Company calculates the fair value of its Level 1 derivative liabilities using quoted market prices. The Company calculates the fair value of its Level 2 derivative liabilities using standard pricing models with market-based inputs, adjusted for nonperformance risk. When its financial instruments are in a liability position, the Company evaluates its credit risk as a component of fair value. At September 30, 2012 and December 31, 2011, no adjustment was made by the Company to reduce its derivative liabilities for nonperformance risk.
When its financial instruments are in an asset position, the Company is exposed to credit loss in the event of nonperformance by other parties to these contracts and evaluates their credit risk as a component of fair value.

Non-recurring Fair Value Measurements
Following is a summary of losses as a result of the Company measuring assets at fair value on a non-recurring basis during the nine months ended September 30, 2012 and 2011, all of which were valued using Level 3 inputs:
 
 
Nine Months Ended September 30,
 
 
2012
 
2011
Long-lived assets held and used
 
$
23

 
$
18


12


During the nine months ended September 30, 2012, as a result of the likelihood that certain assets would be disposed of before the end of their estimated useful lives, resulting in lower future cash flows associated with these assets, the Company wrote down long-lived assets with a carrying value of $26 to fair value of $5, resulting in impairment charges of $15 and $6 on certain assets within its Epoxy, Phenolic and Coating Resins and Forest Products Resins segments, respectively. These long-lived assets were valued by using a discounted cash flow analysis based on assumptions that market participants would use. Significant unobservable inputs in the model included projected short-term future cash flows, projected growth rates and discount rates associated with these long-lived assets. Future projected short-term cash flows and growth rates were derived from probability-weighted forecast models based upon budgets prepared by the Company's management. These projected future cash flows were discounted using rates ranging from 2% to 3%.
During the nine months ended September 30, 2012, as a result of market weakness and the loss of a customer, resulting in lower future cash flows associated with certain assets, the Company wrote-down long-lived assets with a carrying value of $22 to a fair value of $20, resulting in an impairment charge of $2 within its Forest Products Resins segment. These long-lived assets were valued using a discounted cash flow analysis based on assumptions that market participants would use and incorporated probability-weighted cash flows based on the likelihood of various possible scenarios. Significant unobservable inputs in the model included projected future cash flows, projected growth rates and discount rates associated with these long-lived assets. Future projected cash flows and growth rates were derived from probability-weighted forecast models based upon budgets prepared by the Company's management. These projected future cash flows were discounted using rates ranging from 2% to 10%.
As a result of the permanent closure of a large customer in the second quarter of 2011 and continued competitive pressures resulting in successive periods of negative cash flows associated with certain assets within the Company's European forest products business, the Company wrote down long-lived assets with a carrying value of $29 to fair value of $11, resulting in an impairment charge of $18 for the nine months ended September 30, 2011. These assets were valued using a discounted cash flow analysis based on assumptions that market participants would use, and incorporated probability-weighted cash flows based on the likelihood of various possible scenarios. Significant unobservable inputs in the model included projected future cash flows, projected growth rates, discount rates and asset usage charges associated with certain intangible assets.
Non-derivative Financial Instruments
The following table summarizes the carrying amount and fair value of the Company’s non-derivative financial instruments:
 
 
Carrying Amount
 
Fair Value
 
 
 
Level 1
 
Level 2
 
Level 3
 
Total
September 30, 2012
 
 
 
 
 
 
 
 
 
 
Debt
 
$
3,501

 
$

 
$
3,404

 
$
11

 
$
3,415

December 31, 2011
 
 
 
 
 
 
 
 
 
 
Debt
 
3,539

 

 
3,214

 
12

 
3,226

Fair values of debt classified as Level 2 are determined based on other similar financial instruments, or based upon interest rates that are currently available to the Company for the issuance of debt with similar terms and maturities. Level 3 amounts represent capital leases whose fair value is determined through the use of present value and specific contract terms. The carrying amounts of cash and cash equivalents, short term investments, accounts receivable, accounts and drafts payable and other accrued liabilities are considered reasonable estimates of their fair values due to the short-term maturity of these financial instruments.
7. Derivative Instruments and Hedging Activities
Derivative Financial Instruments
The Company is exposed to certain risks related to its ongoing business operations. The primary risks managed by using derivative instruments are foreign currency exchange risk, interest rate risk and commodity price risk. The Company does not hold or issue derivative financial instruments for trading purposes.
Foreign Exchange Rate Swaps
International operations account for a significant portion of the Company’s revenue and operating income. The Company’s policy is to reduce foreign currency cash flow exposure from exchange rate fluctuations by hedging anticipated and firmly committed transactions when it is economically feasible. The Company periodically enters into forward contracts to buy and sell foreign currencies to reduce foreign exchange exposure and protect the U.S. dollar value of certain transactions to the extent of the amount under contract. The counter-parties to our forward contracts are financial institutions with investment grade ratings. The Company does not apply hedge accounting to these derivative instruments.
Interest Rate Swaps
The Company periodically uses interest rate swaps to alter interest rate exposures between fixed and floating rates on certain long-term debt. Under interest rate swaps, the Company agrees with other parties to exchange, at specified intervals, the difference between fixed rate and floating rate interest amounts calculated using an agreed-upon notional principal amount. The counter-parties to the interest rate swap agreements are financial institutions with investment grade ratings.

13


In July 2010, the Company entered into a two-year interest rate swap agreement . This swap is designed to offset the cash flow variability that results from interest rate fluctuations on the Company’s variable rate debt. This swap became effective on January 4, 2011 upon the expiration of the January 2007 interest rate swap. The initial notional amount of the swap is $350, and will subsequently be amortized down to $325. The Company pays a fixed rate of 1.032% and will receive a variable one month LIBOR rate. The Company accounts for the swap as a qualifying cash flow hedge.
In December 2011, the Company entered into a three-year interest rate swap agreement with a notional amount of AUD $6, which became effective on January 3, 2012 and will mature on December 5, 2014. The Company pays a fixed rate of 4.140% and receives a variable rate based on the 3 month Australian Bank Bill Rate. The Company has not applied hedge accounting to this derivative instrument.
Commodity Contracts
The Company hedges a portion of its electricity purchases for certain North American plants. The Company enters into forward contracts with fixed prices to hedge electricity pricing at these plants. Any unused electricity is net settled for cash each month based on the market electricity price versus the contract price. The Company also hedges a portion of its natural gas purchases for certain North American plants. The Company uses futures contracts to hedge natural gas pricing at these plants. The natural gas contracts are settled for cash each month based on the closing market price on the last day the contract trades on the New York Mercantile Exchange. The Company does not apply hedge accounting to these electricity or natural gas future contracts.
The following tables summarize the Company’s derivative financial instruments:
 
 
 
 
September 30, 2012
 
December 31, 2011
Liability Derivatives
 
Balance Sheet Location
 
Notional
Amount
 
Fair Value
Liability
 
Notional
Amount
 
Fair Value
Liability
Derivatives designated as hedging instruments:
 
 
 
 
 
 
 
 
 
 
Interest Rate Swaps
 
 
 
 
 
 
 
 
 
 
Interest swap – 2010
 
Other current liabilities
 
$
325

 
$
(1
)
 
$
350

 
$
(2
)
Total
 
 
 
 
 
$
(1
)
 
 
 
$
(2
)
 
 
 
 
 
 
 
 
 
 
 
Derivatives not designated as hedging instruments:
 
 
 
 
 
 
 
 
 
 
Interest Rate Swap
 
 
 
 
 
 
 
 
 
 
Australian dollar interest swap
 
Other current liabilities
 
$
6

 
$

 
$
6

 
$

Commodity Contracts
 
 
 
 
 
 
 
 
 
 
Electricity contracts
 
Other current liabilities
 
2

 
(1
)
 
3

 
(1
)
Natural gas futures
 
Other current liabilities
 
1

 

 
5

 

Total
 
 
 
 
 
$
(1
)
 
 
 
$
(1
)
Derivatives in Cash Flow Hedging Relationship
 
Amount of Loss Recognized in OCI on Derivative for the Three Months Ended:
 
Location of Loss Reclassified from Accumulated OCI into Income
 
Amount of Loss Reclassified from Accumulated OCI into Income for the Three Months Ended:
 
September 30, 2012
 
September 30, 2011
September 30, 2012
 
September 30, 2011
Interest Rate Swaps
 
 
 
 
 
 
 
 
 
 
Interest swap – 2010
 
$
(1
)
 
$
(1
)
 
Interest expense, net
 
$
(1
)
 
$
(1
)
Total
 
$
(1
)
 
$
(1
)
 
 
 
$
(1
)
 
$
(1
)
Derivatives in Cash Flow Hedging Relationship
 
Amount of Loss Recognized in OCI on Derivative for the Nine Months Ended:
 
Location of Loss Reclassified from Accumulated OCI into Income
 
Amount of Loss Reclassified from Accumulated OCI into Income for the Nine Months Ended:
 
September 30, 2012
 
September 30, 2011
September 30, 2012
 
September 30, 2011
Interest Rate Swaps
 
 
 
 
 
 
 
 
 
 
Interest swap – 2010
 
$
(1
)
 
$
(3
)
 
Interest expense, net
 
$
(2
)
 
$
(3
)
Total
 
$
(1
)
 
$
(3
)
 
 
 
$
(2
)
 
$
(3
)
As of September 30, 2012, the Company expects to reclassify $1 of losses recognized in Accumulated other comprehensive income to earnings over the next twelve months.

14


Derivatives Not Designated as Hedging Instruments
 
Amount of Gain (Loss) Recognized in Income on Derivative for the Three Months Ended:
 
Location of Gain (Loss) Recognized in Income on Derivative
 
September 30, 2012
 
September 30, 2011
 
Foreign Exchange and Interest Rate Swaps
 
 
 
 
 
 
Cross-Currency and Interest Rate Swap
 
$

 
$
1

 
Other non-operating expense, net
Commodity Contracts
 
 
 
 
 
 
Electricity contracts
 
(1
)
 

 
Cost of sales
Natural gas futures
 
(1
)
 
(1
)
 
Cost of sales
Total
 
$
(2
)
 
$

 
 
Derivatives Not Designated as Hedging Instruments
 
Amount of Gain (Loss) Recognized in Income on Derivative for the Nine Months Ended:
 
Location of Gain (Loss) Recognized in Income on Derivative
 
September 30, 2012
 
September 30, 2011
 
Foreign Exchange and Interest Rate Swaps
 
 
 
 
 
 
Cross-Currency and Interest Rate Swap
 
$

 
$
(1
)
 
Other non-operating expense, net
Commodity Contracts
 
 
 
 
 
 
Electricity contracts
 

 
(1
)
 
Cost of sales
Natural gas futures
 
(2
)
 
(1
)
 
Cost of sales
Total
 
$
(2
)
 
$
(3
)
 
 
8. Debt Obligations
Debt outstanding at September 30, 2012 and December 31, 2011 is as follows:
 
 
September 30, 2012
 
December 31, 2011
 
 
Long-Term
 
Due Within
One Year
 
Long-Term
 
Due Within
One Year
Non-affiliated debt:
 
 
 
 
 
 
 
 
Senior Secured Credit Facilities:
 
 
 
 
 
 
 
 
Floating rate term loans due May 2013
 
$

 
$

 
$
446

 
$
8

Floating rate term loans due May 2015
 
898

 
15

 
910

 
15

Senior Secured Notes:
 
 
 
 
 
 
 
 
6.625% First-priority Senior Notes due 2020
 
450

 

 

 

8.875% Senior Secured Notes due 2018 (includes $6 of unamortized debt discount at September 30, 2012 and December 31, 2011)
 
994

 

 
994

 

Floating rate Second-priority Senior Secured Notes due 2014
 
120

 

 
120

 

9.00% Second-priority Senior Secured Notes due 2020
 
574

 

 
574

 

Debentures:
 
 
 
 
 
 
 
 
9.2% debentures due 2021
 
74

 

 
74

 

7.875% debentures due 2023
 
189

 

 
189

 

8.375% sinking fund debentures due 2016
 
62

 

 
62

 

Other Borrowings:
 
 
 
 
 
 
 
 
Australia Facility due 2014
 
31

 
5

 
36

 
5

Brazilian bank loans
 
19

 
40

 

 
65

Capital Leases
 
10

 
1

 
11

 
1

Other
 
5

 
12

 
4

 
23

Total non-affiliated debt
 
3,426

 
73

 
3,420

 
117

Affiliated debt:
 
 
 
 
 
 
 
 
Affiliated borrowings due on demand
 

 
2

 

 
2

Total affiliated debt
 

 
2

 

 
2

Total debt
 
$
3,426

 
$
75

 
$
3,420

 
$
119


15


2012 Refinancing Activities
In March 2012, the Company issued $450 aggregate principal amount of 6.625% First-Priority Senior Secured Notes due 2020 at an issue price of 100%. The Company used the net proceeds, together with cash on hand to repay approximately $454 aggregate principal amount of existing term loans maturing May 5, 2013 under the Company’s senior secured credit facilities, effectively extending these maturities by an additional seven years. In conjunction with the Offering Transaction, the Company extended $171 of its $200 revolving line of credit facility commitments from lenders from February 2013 to December 2014. In connection with the refinancing activities, the lender commitments to the revolving line of credit facility were decreased to approximately $192 in the aggregate. The interest rate for loans made under the extended revolver commitments was increased to adjusted LIBOR plus 4.75% from adjusted LIBOR plus 4.50%. The commitment fee for the extended revolver commitments was decreased to 0.5% of the unused line from 4.5% of the unused line. Collectively, these transactions are referred to as the “March Refinancing Transactions.” The priority of the liens securing the collateral for the 6.625% Senior Secured Notes is pari passu to the liens in such collateral securing the Company's senior secured credit facilities.
The Company incurred approximately $13 in fees associated with the March Refinancing Transactions, which have been deferred and are recorded in “Other assets, net” in the unaudited Condensed Consolidated Balance Sheets. The deferred fees will be amortized over the contractual life of the respective debt obligations on an effective interest basis. Additionally, $1 in unamortized deferred financing fees were written-off related to the $454 of term loans under the Company's senior secured credit facility that were repaid and extinguished. These fees are included in “Other non-operating (income) expense, net” in the unaudited Condensed Consolidated Statements of Operations.
Covenant Compliance
Two of the Company’s wholly-owned international subsidiaries were not in compliance with a financial covenant under their respective loan agreements when they delivered their audited financial statements for the year ended December 31, 2011. As of December 31, 2011, outstanding debt of approximately $31 was classified as “Debt payable within one year” in the unaudited Condensed Consolidated Balance Sheets. In March 2012, the Company obtained a covenant waiver from one of the respective banks, representing approximately $25 of the $31, which was subsequently reclassified to “Long-term debt” in the unaudited Condensed Consolidated Balance Sheets.
9. Commitments and Contingencies
Environmental Matters
The Company’s operations involve the use, handling, processing, storage, transportation and disposal of hazardous materials. The Company is subject to extensive environmental regulation at the federal, state and local levels as well as foreign laws and regulations, and is therefore exposed to the risk of claims for environmental remediation or restoration. In addition, violations of environmental laws or permits may result in restrictions being imposed on operating activities, substantial fines, penalties, damages or other costs, any of which could have a material adverse effect on the Company’s business, financial condition, results of operations or cash flows.
Environmental Institution of Paraná IAP—On August 10, 2005, the Environmental Institute of Paraná (IAP), an environmental agency in the State of Paraná, provided Hexion Quimica Industria, the Company’s Brazilian subsidiary, with notice of an environmental assessment in the amount of 12 Brazilian reais. The assessment related to alleged environmental damages to the Paranagua Bay caused in November 2004 from an explosion on a shipping vessel carrying methanol purchased by the Company. The investigations performed by the public authorities have not identified any actions of the Company that contributed to or caused the accident. The Company responded to the assessment by filing a request to have it cancelled and by obtaining an injunction precluding execution of the assessment pending adjudication of the issue. In November 2010, the Court denied the Company’s request to cancel the assessment and lifted the injunction that had been issued. The Company responded to the ruling by filing an appeal in the State of Paraná Court of Appeals. In March 2012, the Company was informed that the Court of Appeals had denied the Company’s appeal. The Company continues to believe that the assessment is invalid, and on June 4, 2012 it filed appeals to the Superior Court of Justice and the Supreme Court of Brazil. The Company continues to believe it has strong defenses against the validity of the assessment, and does not believe that a loss is probable. At September 30, 2012, the amount of the assessment, including tax, penalties, monetary correction and interest, is 29 Brazilian reais, or approximately $14.

16


The following table summarizes all probable environmental remediation, indemnification and restoration liabilities, including related legal expenses, at September 30, 2012 and December 31, 2011:
 
Number of Sites
 
Liability
 
Range of Reasonably Possible Costs
Site Description
September 30, 2012
 
December 31, 2011
 
September 30, 2012
 
December 31, 2011
 
Low
 
High
Geismar, LA
1
 
1
 
$
17

 
$
17

 
$
10

 
$
24

Superfund and offsite landfills – allocated share:
 
 
 
 
 
 
 
 
 
 
 
Less than 1%
23
 
31
 
1

 
1

 
1

 
2

Equal to or greater than 1%
12
 
12
 
6

 
7

 
5

 
13

Currently-owned
13
 
12
 
7

 
5

 
5

 
13

Formerly-owned:
 
 
 
 
 
 
 
 
 
 
 
Remediation
11
 
10
 
2

 
1

 
1

 
13

Monitoring only
4
 
5
 
1

 
1

 

 
1

Total
64
 
71
 
$
34

 
$
32

 
$
22

 
$
66

These amounts include estimates for unasserted claims that the Company believes are probable of loss and reasonably estimable. The estimate of the range of reasonably possible costs is less certain than the estimates upon which the liabilities are based. To establish the upper end of a range, assumptions less favorable to the Company among the range of reasonably possible outcomes were used. As with any estimate, if facts or circumstances change, the final outcome could differ materially from these estimates. At September 30, 2012 and December 31, 2011, $8 and $6, respectively, has been included in “Other current liabilities” in the unaudited Condensed Consolidated Balance Sheets with the remaining amount included in “Other long-term liabilities.”
Following is a discussion of the Company’s environmental liabilities and the related assumptions at September 30, 2012:
Geismar, LA Site—The Company formerly owned a basic chemicals and polyvinyl chloride business that was taken public as Borden Chemicals and Plastics Operating Limited Partnership (“BCPOLP”) in 1987. The Company retained a 1% interest, the general partner interest and the liability for certain environmental matters after BCPOLP’s formation. Under a Settlement Agreement approved by the United States Bankruptcy Court for the District of Delaware among the Company, BCPOLP, the United States Environmental Protection Agency and the Louisiana Department of Environmental Quality, the Company agreed to perform certain of BCPOLP’s obligations for soil and groundwater contamination at BCPOLP’s Geismar, Louisiana site. The Company bears the sole responsibility for these obligations because there are no other potentially responsible parties (“PRP”) or third parties from whom the Company could seek reimbursement.
A groundwater pump and treat system to remove contaminants is operational, and natural attenuation studies are proceeding. If closure procedures and remediation systems prove to be inadequate, or if additional contamination is discovered, costs that would approach the higher end of the range of possible outcomes could result.
Due to the long-term nature of the project, the reliability of timing and the ability to estimate remediation payments, a portion of this liability was recorded at its net present value, assuming a 3% discount rate and a time period of 28 years. The range of possible outcomes is discounted in a similar manner. The undiscounted liability, which is expected to be paid over the next 28 years, is approximately $24. Over the next five years, the Company expects to make ratable payments totaling $6.
 Superfund Sites and Offsite Landfills—The Company is currently involved in environmental remediation activities at a number of sites for which it has been notified that it is, or may be, a PRP under the United States Comprehensive Environmental Response, Compensation and Liability Act or similar state “superfund” laws. The Company anticipates approximately 50% of the estimated liability for these sites will be paid within the next five years, with the remainder over the next twenty-five years. The Company generally does not bear a significant level of responsibility for these sites, and as a result, has little control over the costs and timing of cash flows.
The Company’s ultimate liability will depend on many factors including its share of waste volume, the financial viability of other PRPs, the remediation methods and technology used, the amount of time necessary to accomplish remediation and the availability of insurance coverage. The range of possible outcomes takes into account the maturity of each project, resulting in a more narrow range as the project progresses. To estimate both its current reserves for environmental remediation at these sites and the possible range of additional costs, the Company has not assumed that it will bear the entire cost of remediation of every site to the exclusion of other known PRPs who may be jointly and severally liable. The Company has limited information to assess the viability of other PRPs and their probable contribution on a per site basis. The Company’s insurance provides very limited, if any, coverage for these environmental matters.
Sites Under Current Ownership—The Company is conducting environmental remediation at a number of locations that it currently owns, of which ten sites are no longer in operation. As the Company is performing a portion of the remediation on a voluntary basis, it has some control over the costs to be incurred and the timing of cash flows. The Company expects to pay approximately $5 of these liabilities within the next five years, with the remainder over the next five years. The factors influencing the ultimate outcome include the methods of remediation elected, the conclusions and assessment of site studies remaining to be completed, and the time period required to complete the work. No other parties are responsible for remediation at these sites.

17


Formerly-Owned Sites—The Company is conducting environmental remediation at a number of locations that it formerly owned. The final costs to the Company will depend on the method of remediation chosen and the level of participation of third parties.
Monitoring Only Sites—The Company is responsible for a number of sites that require monitoring where no additional remediation is expected. The Company has established reserves for costs related to these sites. Payment of these liabilities is anticipated to occur over the next ten or more years. The ultimate cost to the Company will be influenced by fluctuations in projected monitoring periods or by findings that are different than anticipated.
Indemnifications—In connection with the acquisition of certain of the Company’s operating businesses, the Company has been indemnified by the sellers against certain liabilities of the acquired businesses, including liabilities relating to both known and unknown environmental contamination arising prior to the date of the purchase. The indemnifications may be subject to certain exceptions and limitations, deductibles and indemnity caps. While it is reasonably possible that some costs could be incurred, except for those sites identified above, the Company has inadequate information to allow it to estimate a potential range of liability, if any.
Non-Environmental Legal Matters
The Company is involved in various legal proceedings in the ordinary course of business and had reserves of $10 and $7 at September 30, 2012 and December 31, 2011, respectively, for all non-environmental legal defense costs incurred and settlement costs that it believes are probable and estimable. At September 30, 2012 and December 31, 2011, $6 and $3, respectively, has been included in “Other current liabilities” in the unaudited Condensed Consolidated Balance Sheets with the remaining amount included in “Other long-term liabilities.”
Following is a discussion of significant non-environmental legal proceedings:
Brazil Tax Claim— On October 15, 2012, the Appellate Court for the State of Sao Paulo rendered a unanimous decision in favor of the Company on this claim, which has been pending since 1992. In 1992, the State of Sao Paulo Administrative Tax Bureau issued an assessment against the Company's Brazilian subsidiary claiming that excise taxes were owed on certain intercompany loans made for centralized cash management purposes. These loans were characterized by the Tax Bureau as intercompany sales. Since that time, management and the Tax Bureau have held discussions and the subsidiary filed an administrative appeal seeking cancellation of the assessment. The Administrative Court upheld the assessment in December 2001. In 2002, the subsidiary filed a second appeal with the highest-level Administrative Court, again seeking cancellation of the assessment. In February 2007, the highest-level Administrative Court upheld the assessment. The Company requested a review of this decision. On April 23, 2008, the Brazilian Administrative Tax Tribunal issued its final decision upholding the assessment against the subsidiary. The Company filed an Annulment action in the Brazilian Judicial Courts in May 2008 along with a request for an injunction to suspend the tax collection. The injunction was denied but the Annulment action was pursued. The Company pledged certain properties and assets in Brazil during the pendency of the Annulment action in lieu of paying the assessment. In September 2010, in the Company's favor, the Court adopted its appointed expert's report finding that the transactions in question were intercompany loans. The State Tax Bureau appealed this decision in December 2010, and the Appellate Court ruled in the Company's favor on October 15, 2012, as described above. The State Tax Bureau has a limited time in which to file an appeal. The Company continues to believe that a loss contingency is not probable. At September 30, 2012, the amount of the assessment, including tax, penalties, monetary correction and interest, is 70 Brazilian reais, or approximately $34.
Hillsborough County—The Company is named in a lawsuit filed on July 12, 2004 in Hillsborough County, Florida Circuit Court, for an animal feed supplement processing site formerly operated by the Company and sold in 1980. The lawsuit is filed on behalf of multiple residents of Hillsborough County living near the site and it alleges various injuries from exposure to toxic chemicals. The Company does not have adequate information from which to estimate a potential range of liability, if any. The court dismissed a similar lawsuit brought on behalf of a class of plaintiffs in November 2005.
Other Legal Matters—The Company is involved in various other product liability, commercial and employment litigation, personal injury, property damage and other legal proceedings in addition to those described above, including actions that allege harm caused by products the Company has allegedly made or used, containing silica, vinyl chloride monomer and asbestos. The Company believes it has adequate reserves and that it is not reasonably possible that a loss exceeding amounts already reserved would be material. Furthermore, the Company has insurance to cover claims of these types.


18


10. Pension and Postretirement Expense
Following are the components of net pension and postretirement expense (benefit) recognized by the Company for the three and nine months ended September 30, 2012 and 2011:
 
Pension Benefits
 
Non-Pension Postretirement Benefits
 
Three Months Ended September 30,
 
Three Months Ended September 30,
 
2012
 
2011
 
2012
 
2011
 
U.S.
Plans
 
Non-U.S.
Plans
 
U.S.
Plans
 
Non-U.S.
Plans
 
U.S.
Plans
 
Non-U.S.
Plans
 
U.S.
Plans
 
Non-U.S.
Plans
Service cost
$
1

 
$
2

 
$
1

 
$
2

 
$

 
$

 
$

 
$

Interest cost on projected benefit obligation
3

 
4

 
4

 
4

 

 

 

 

Expected return on assets
(4
)
 
(2
)
 
(4
)
 
(3
)
 

 

 

 

Amortization of prior service cost (benefit)
2

 

 

 
1

 
(2
)
 

 
(3
)
 

Recognized actuarial loss

 

 
1

 

 

 

 

 

Net expense (benefit)
$
2

 
$
4

 
$
2

 
$
4

 
$
(2
)
 
$

 
$
(3
)
 
$

 
Pension Benefits
 
Non-Pension Postretirement Benefits
 
Nine Months Ended September 30,
 
Nine Months Ended September 30,
 
2012
 
2011
 
2012
 
2011
 
U.S.
Plans
 
Non-U.S.
Plans
 
U.S.
Plans
 
Non-U.S.
Plans
 
U.S.
Plans
 
Non-U.S.
Plans
 
U.S.
Plans
 
Non-U.S.
Plans
Service cost
$
2

 
$
6

 
$
2

 
$
6

 
$

 
$

 
$

 
$

Interest cost on projected benefit obligation
9

 
13

 
10

 
13

 

 

 

 

Expected return on assets
(12
)
 
(9
)
 
(12
)
 
(9
)
 

 

 

 

Amortization of prior service cost (benefit)
6

 

 

 
1

 
(6
)
 

 
(8
)
 

Recognized actuarial loss

 

 
5

 

 

 

 

 

Net expense (benefit)
$
5

 
$
10

 
$
5

 
$
11

 
$
(6
)
 
$

 
$
(8
)
 
$

11. Income Taxes
During the three months ended September 30, 2012, the Company recognized a tax benefit of $373 as a result of the release of a significant portion of the valuation allowance in the U.S. The Company continues to maintain a valuation allowance on certain U.S. federal and state deferred tax assets, including deferred interest deductions of $23 and a portion of its state net operating loss carryforwards of $40. In the opinion of management, it is more likely than not that these deferred tax assets will not be realized.
The deferred interest deductions, which have an unlimited carryover, have significant restrictions on their utilization. The Company maintains a valuation allowance against these tax attributes because it is more likely than not that these tax attributes will not be realized.
The Company considered all available evidence, both positive and negative, in assessing the need for a valuation allowance. The Company evaluated the need to maintain a valuation allowance for deferred tax assets based on management's assessment of whether it is more likely than not that deferred tax benefits would be realized through the generation of future taxable income. The reversal of the U.S. valuation allowance was the result of a continuing trend of significant U.S. taxable income starting in tax year 2009, and the expectation that this trend will continue, due to improvements in the U.S. business and the positive impact of the Company's cost reduction efforts.
12. Segment Information
The Company's business segments are based on the products that the Company offers and the markets that it serves. At September 30, 2012, the Company had two reportable segments: Epoxy, Phenolic and Coating Resins and Forest Products Resins. A summary of the major products of the Company's reportable segments follows:
 
Epoxy, Phenolic and Coating Resins: epoxy specialty resins, oil field products, versatic acids and derivatives, basic epoxy resins and intermediates, phenolic specialty resins and molding compounds, polyester resins, acrylic resins and vinylic resins
 
Forest Products Resins: forest products resins and formaldehyde applications

Reportable Segments
Following are net sales and Segment EBITDA (earnings before interest, income taxes, depreciation and amortization) by reportable segment. Segment EBITDA is defined as EBITDA adjusted for certain non-cash items, other income and expenses and discontinued operations. Segment EBITDA is the primary performance measure used by the Company's senior management, the chief operating decision-maker and the board of directors to evaluate operating results and allocate capital resources among segments. Segment EBITDA is also the profitability measure used to set management and executive incentive compensation goals. Corporate and Other is primarily corporate general and administrative expenses that are not allocated to the segments, such as shared service and administrative functions, foreign exchange gains and losses and legacy company costs not allocated to continuing segments.

19


Net Sales to Unaffiliated Customers(1):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2012
 
2011
 
2012
 
2011
Epoxy, Phenolic and Coating Resins
$
751

 
$
870

 
$
2,341

 
$
2,688

Forest Products Resins
426

 
452

 
1,331

 
1,366

Total
$
1,177

 
$
1,322

 
$
3,672

 
$
4,054

(1)
Intersegment sales are not significant and, as such, are eliminated within the selling segment.
Segment EBITDA:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2012
 
2011
 
2012
 
2011
Epoxy, Phenolic and Coating Resins
$
76

 
$
126

 
$
291

 
$
433

Forest Products Resins
49

 
46

 
151

 
141

Corporate and Other
(10
)
 
(10
)
 
(36
)
 
(45
)
Reconciliation of Segment EBITDA to Net Income:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2012
 
2011
 
2012
 
2011
Segment EBITDA:
 
 
 
 
 
 
 
Epoxy, Phenolic and Coating Resins
$
76

 
$
126

 
$
291

 
$
433

Forest Products Resins
49

 
46

 
151

 
141

Corporate and Other
(10
)
 
(10
)
 
(36
)
 
(45
)
 
 
 
 
 
 
 
 
Reconciliation:
 
 
 
 
 
 
 
Items not included in Segment EBITDA:
 
 
 
 
 
 
 
Asset impairments and other non-cash charges
(5
)
 
(2
)
 
(53
)
 
(23
)
Business realignment costs
(11
)
 
(1
)
 
(29
)
 
(9
)
Integration costs
(2
)
 
(5
)
 
(8
)
 
(15
)
Net income from discontinued operations

 

 

 
2

Other
(2
)
 
(10
)
 
2

 
2

Total adjustments
(20
)
 
(18
)
 
(88
)
 
(43
)
Interest expense, net
(66
)
 
(67
)
 
(198
)
 
(196
)
Income tax benefit
373

 
5

 
371

 
2

Depreciation and amortization
(38
)
 
(43
)
 
(115
)
 
(127
)
Net income
$
364

 
$
39

 
$
376

 
$
165

 Items Not Included in Segment EBITDA
Asset impairments and non-cash charges primarily represent asset impairments, stock-based compensation expense, accelerated depreciation recorded on closing facilities and unrealized derivative and foreign exchange gains and losses. Business realignment costs for the three and nine months ended September 30, 2012 primarily include expenses from the Company's restructuring and cost optimization programs. Business realignment costs for the three and nine months ended September 30, 2011 primarily relate to expenses from minor restructuring programs. Integration costs relate primarily to the Momentive Combination. Net income from discontinued operations represents the results of the IAR and CCR businesses.
Not included in Segment EBITDA are certain non-cash and other income and expenses. For the three months ended September 30, 2012, these items primarily include losses on the disposal of assets and other transaction costs, partially offset by net realized and unrealized foreign exchange transaction gains. For the nine months ended September 30, 2012, these items include net realized and unrealized foreign exchange transaction gains and insurance recoveries related to the terminated Huntsman merger, partially offset by losses on the disposal of assets. For the three and nine months ended September 30, 2011, these items primarily include business optimization expenses, retention program costs and realized foreign exchange gains and losses. For the nine months ended September 30, 2011, these amounts also include a gain recognized on the termination of an operator agreement with a customer.


20


13. Summarized Financial Information of Unconsolidated Affiliate
Summarized financial information of the unconsolidated affiliate HAI as of September 30, 2012 and December 31, 2011 and for the three and nine months ended September 30, 2012 and 2011 is as follows:
 
September 30,
2012
 
December 31,
2011
Current assets
$
37

 
$
35

Non-current assets
12

 
13

Current liabilities
22

 
21

Non-current liabilities

 

 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2012
 
2011
 
2012
 
2011
Net sales
$
45

 
$
43

 
$
144

 
$
134

Gross profit
11

 
10

 
36

 
30

Pre-tax income
7

 
7

 
25

 
20

Net income
7

 
8

 
24

 
20

14. Guarantor/Non-Guarantor Subsidiary Financial Information
The Company and certain of its U.S. subsidiaries guarantee debt issued by its wholly owned subsidiaries Hexion Nova Scotia, ULC and Hexion U.S. Finance Corporation (together, the “Subsidiary Issuers”), which includes the 6.625% first priority notes due 2020, 8.875% senior secured notes due 2018, the floating rate second-priority senior secured notes due 2014 and the 9% second-priority notes due 2020.
The following information contains the condensed consolidating financial information for MSC (the parent), the Subsidiary Issuers, the combined subsidiary guarantors (Momentive Specialty Chemical Investments Inc.; Borden Chemical Foundry; LLC, Lawter International, Inc.; HSC Capital Corporation; Momentive International, Inc.; Momentive CI Holding Company; NL COOP Holdings LLC and Oilfield Technology Group, Inc.) and the combined non-guarantor subsidiaries, which includes all of the Company’s foreign subsidiaries.
All of the subsidiary issuers and subsidiary guarantors are 100% owned by MSC. All guarantees are full and unconditional, and are joint and several. There are no significant restrictions on the ability of the Company to obtain funds from its domestic subsidiaries by dividend or loan. While the Company’s Australian, New Zealand and Brazilian subsidiaries are restricted in the payment of dividends and intercompany loans due to the terms of their credit facilities, there are no material restrictions on the Company’s ability to obtain cash from the remaining non-guarantor subsidiaries.
This information includes allocations of corporate overhead to the combined non-guarantor subsidiaries based on net sales. Income tax expense has been provided on the combined non-guarantor subsidiaries based on actual effective tax rates.

21


The Company revised its condensed consolidating statements of cash flows for the nine months ended September 30, 2011 to correct the classification of intercompany dividends received. The revisions were made to appropriately classify dividends received that represent a return on investment as an operating activity. These amounts were previously classified as cash flows from investing activities. For the nine months ended September 30, 2011, in the Momentive Specialty Chemicals Inc. column, the revisions resulted in an increase of $16 to “Cash flows (used in) provided by operating activities” with a corresponding offset to “Cash flows used in investing activities.” These corrections, which the Company determined are not material, had no impact on any financial statements or footnotes, except for the columns of the condensed consolidating statements of cash flows.
The Company also revised its condensed consolidating balance sheet as of December 31, 2011 to correctly present intercompany accounts receivable and payable and intercompany debt receivable and payable. The revisions were made to present intercompany accounts receivable and accounts payable and intercompany debt receivable and debt payable on a gross basis. The revisions resulted in the following increases:
 
 
Increases from previously reported amounts
 
 
As of December 31, 2011
 
 
Momentive Specialty Chemicals Inc.
 
Subsidiary Issuers
 
Combined Subsidiary Guarantors
 
Combined Non-Guarantor Subsidiaries
Assets:
 
 
 
 
 
 
 
 
Intercompany accounts receivable
 
$
102

 
$
46

 
$

 
$
257

Intercompany loans receivable - current portion
 
203

 

 

 
713

Intercompany loans receivable
 
649

 
1,907

 
22

 
4,592

Liabilities:
 
 
 
 
 
 
 
 
Intercompany accounts payable
 
$
102

 
$
46

 
$

 
$
257

Intercompany loans payable within one year
 
203

 

 

 
713

Intercompany loans payable
 
649

 
1,907

 
22

 
4,592

The Company also revised its condensed consolidating balance sheet as of December 31, 2011 to appropriately classify the balance sheet credit arising from recognition of losses in excess of investment as a liability balance. These amounts were previously classified as a credit in “Other assets” in the Momentive Specialty Chemicals Inc. column. As of December 31, 2011, in the Momentive Specialty Chemicals Inc. column, the correction resulted in an increase of $192 to “Other assets,” with a corresponding increase to “Accumulated losses from unconsolidated subsidiaries in excess of investment.” These corrections, which the Company determined are not material, had no impact on any financial statements or footnotes, except for the columns of the condensed consolidating balance sheets. The December 31, 2011 condensed consolidating balance sheet is derived from the revised condensed consolidating balance sheet included within the annual consolidated financial statements.
The Company will revise in future filings its Guarantor/Nonguarantor Subsidiary Financial Information footnote. The revisions will be made to correct the presentation of intercompany activity within the condensed consolidating statements of cash flows.
Within the condensed consolidating statements of cash flows, dividends from subsidiaries will be reclassified from investing activities to operating activities. This change will have the following impacts on the guarantor and nonguarantor condensed consolidating financial statements:
For year ended December 31, 2011, in the Momentive Specialty Chemicals Inc. column, the revisions will result in an increase of $25 to “Cash flows (used in) provided by operating activities” with a corresponding offset to “Cash flows provided by (used in) investing activities.”
For year ended December 31, 2010, in the Momentive Specialty Chemicals Inc. column, the revisions will result in an increase of $18 to “Cash flows (used in) provided by operating activities” with a corresponding offset to “Cash flows provided by (used in) investing activities.” For the year ended December 31, 2010, in the Combined Subsidiary Guarantors column, the revisions will result in an increase of $1 to “Cash flows (used in) provided by operating activities,” with a corresponding offset to “Cash flows provided by (used in) investing activities.”
For the three months ended March 31, 2012, in the Momentive Specialty Chemicals Inc. column, the revisions will result in an increase of $6 to “Cash flows provided by (used in) operating activities” with a corresponding offset to “Cash flows provided by (used in) investing activities.”

22


MOMENTIVE SPECIALTY CHEMICALS INC.
SEPTEMBER 30, 2012
CONDENSED CONSOLIDATING BALANCE SHEET (Unaudited)
 
 
Momentive
Specialty
Chemicals
Inc.
 
Subsidiary
Issuers
 
Combined
Subsidiary
Guarantors
 
Combined
Non-Guarantor
Subsidiaries
 
Eliminations
 
Consolidated
Assets
 
 
 
 
 
 
 
 
 
 
 
Current assets
 
 
 
 
 
 
 
 
 
 
 
Cash and cash equivalents (including restricted cash of $0 and $3, respectively)
$
230

 
$

 
$

 
$
110

 
$

 
$
340

Short-term investments

 

 

 
5

 

 
5

Accounts receivable, net
176

 

 

 
461

 

 
637

Intercompany accounts receivable
174

 
56

 

 
378

 
(608
)
 

Intercompany loans receivable - current portion
327

 

 

 
613

 
(940
)
 

Inventories:
 
 
 
 
 
 
 
 
 
 
 
Finished and in-process goods
117

 

 

 
177

 

 
294

Raw materials and supplies
43

 

 

 
75

 

 
118

Other current assets
49

 

 

 
48

 

 
97

Total current assets
1,116

 
56

 

 
1,867

 
(1,548
)
 
1,491

Deferred income taxes
355

 

 

 
7

 

 
362

Other assets, net
224

 
44

 
2

 
86

 
(185
)
 
171

Intercompany loans receivable
669

 
2,272

 
26

 
3,175

 
(6,142
)
 

Property and equipment, net
492

 

 

 
665

 

 
1,157

Goodwill
93

 

 

 
74

 

 
167

Other intangible assets, net
54

 

 

 
39

 

 
93

Total assets
$
3,003

 
$
2,372

 
$
28

 
$
5,913

 
$
(7,875
)
 
$
3,441

Liabilities and (Deficit) Equity