-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, SEcSgrJDCTm8+Nc6wRlVExxf3q4a6rwniTAyyx5lezgH9t7+qvsdJBAb9VEXLi7g TL1VdiAzblsEz7plgcqL2Q== 0000893220-03-000965.txt : 20030515 0000893220-03-000965.hdr.sgml : 20030515 20030515163715 ACCESSION NUMBER: 0000893220-03-000965 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 20030331 FILED AS OF DATE: 20030515 FILER: COMPANY DATA: COMPANY CONFORMED NAME: HERCULES INC CENTRAL INDEX KEY: 0000046989 STANDARD INDUSTRIAL CLASSIFICATION: MISCELLANEOUS CHEMICAL PRODUCTS [2890] IRS NUMBER: 510023450 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-00496 FILM NUMBER: 03705367 BUSINESS ADDRESS: STREET 1: 1313 N MARKET ST STREET 2: HERCULES PLZ CITY: WILMINGTON STATE: DE ZIP: 19894 BUSINESS PHONE: 3025945000 MAIL ADDRESS: STREET 1: HERCULES PLAZA STREET 2: RM 8151 NW CITY: WILMINGTON STATE: DE ZIP: 19894-0001 FORMER COMPANY: FORMER CONFORMED NAME: HERCULES POWDER CO DATE OF NAME CHANGE: 19680321 10-Q 1 w86579e10vq.txt HERCULES, INC. FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended March 31, 2003 Commission file number 1-496 HERCULES INCORPORATED A Delaware corporation I.R.S. Employer Identification No. 51-0023450 Hercules Plaza 1313 North Market Street Wilmington, Delaware 19894-0001 Telephone: 302-594-5000 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 is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act). Yes: |X| No: | | As of April 30, 2003, 109,914,973 shares of registrant's common stock were outstanding. PART I - FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS HERCULES INCORPORATED CONSOLIDATED STATEMENT OF OPERATIONS
(Unaudited) (Dollars in millions, except per share) Three Months Ended March 31, ------------------- 2003 2002 ------- ------- Net sales $ 441 $ 402 Cost of sales (Note 7) 281 243 Selling, general and administrative expenses 90 88 Research and development 10 10 Intangible asset amortization (Note 5) 2 2 Other operating (income) expense, net (Note 8) (1) 5 ------- ------- Profit from operations 59 54 Interest and debt expense 19 36 Preferred security distributions of subsidiary trusts 15 15 Other expense, net (Note 9) 4 4 ------- ------- Income (loss) before income taxes and equity income (loss) 21 (1) Provision for income taxes 8 2 ------- ------- Income (loss) before equity income (loss) 13 (3) Equity income (loss) of affiliated companies, net of tax -- -- ------- ------- Net income (loss) from continuing operations before discontinued operations and cumulative effect of changes in accounting principle 13 (3) Net loss on discontinued operations, net of tax (Note 4) -- (209) ------- ------- Net income (loss) before cumulative effect of changes in accounting principle 13 (212) Cumulative effect of changes in accounting principle, net of tax (Notes 5 and 13) (28) (368) ------- ------- Net loss $ (15) $ (580) ======= ======= Basic and diluted earnings (loss) per share (Note 6) Continuing operations $ 0.12 $ (0.03) Discontinued operations $ -- $ (1.92) Cumulative effect of changes in accounting principle $ (0.26) $ (3.37) Net loss $ (0.14) $ (5.32) Weighted-average number of shares - basic (millions) 109.5 109.0 Weighted-average number of shares - diluted (millions) 109.7 109.0
See accompanying notes to consolidated financial statements. 2 HERCULES INCORPORATED CONSOLIDATED BALANCE SHEET
(Dollars in millions) (Unaudited) March 31, December 31, 2003 2002 ----------- ------------ ASSETS Current assets Cash and cash equivalents $ 218 $ 209 Restricted cash (Note 11) 125 125 Accounts and notes receivable (net of allowance for doubtful accounts of $12 million) 368 360 Inventories Finished products 91 88 Materials, supplies, and work in process 86 79 Deferred income taxes 39 46 --------- --------- Total current assets 927 907 Property, plant, and equipment 1,949 1,925 Accumulated depreciation and amortization (1,286) (1,262) --------- --------- Net property, plant, and equipment 663 663 Intangible assets, net (Note 5) 196 198 Goodwill, net (Note 5) 477 468 Deferred income taxes 20 15 Other assets 414 442 --------- --------- Total assets $ 2,697 $ 2,693 ========= ========= LIABILITIES AND STOCKHOLDERS' DEFICIT Current liabilities Accounts payable $ 167 $ 176 Accrued expenses 273 295 Short-term debt (Note 11) 145 145 --------- --------- Total current liabilities 585 616 Long-term debt (Note 11) 733 738 Deferred income taxes 71 80 Postretirement benefits and other liabilities 792 758 Commitments and contingencies (Note 14) -- -- Company-obligated preferred securities of subsidiary trusts (Note 12) 625 624 Stockholders' deficit Series preferred stock -- -- Common stock (shares issued: 2003 - 159,984,444; 2002 - 159,984,444) 83 83 Additional paid-in capital 667 682 Unearned compensation (89) (93) Accumulated other comprehensive losses (434) (454) Retained earnings 1,468 1,483 --------- --------- 1,695 1,701 Reacquired stock, at cost (shares: 2003 - 50,061,718; 2002 - 50,615,487) (1,804) (1,824) --------- --------- Total stockholders' deficit (109) (123) --------- --------- Total liabilities and stockholders' deficit $ 2,697 $ 2,693 ========= =========
See accompanying notes to consolidated financial statements. 3 HERCULES INCORPORATED CONSOLIDATED STATEMENT OF CASH FLOW
(Dollars in millions) (Unaudited) Three Months Ended March 31, ---------------------------- 2003 2002 -------- -------- Net cash provided by (used in) operating activities of continuing operations $ 12 $ (15) -------- -------- CASH FLOW FROM INVESTING ACTIVITIES: Capital expenditures (8) (5) Proceeds of investment and fixed asset disposals 3 11 Other, net 1 -- -------- -------- Net cash (used in) provided by investing activities of continuing operations (4) 6 CASH FLOW FROM FINANCING ACTIVITIES: Long-term debt proceeds -- 155 Long-term debt repayments (5) (178) Change in short-term debt (1) 2 Common stock issued 5 2 -------- -------- Net cash used in financing activities of continuing operations (1) (19) Net cash provided by discontinued operations -- 7 Effect of exchange rate changes on cash 2 (3) -------- -------- Net increase (decrease) in cash and cash equivalents 9 (24) Cash and cash equivalents - beginning of period 209 76 -------- -------- Cash and cash equivalents - end of period $ 218 $ 52 ======== ======== SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the period for: Interest $ 6 $ 22 Preferred security distributions of subsidiary trusts 14 14 Income taxes 5 71 Non-cash investing and financing activities: Incentive and other employee benefit stock plan 4 --
See accompanying notes to consolidated financial statements. 4 HERCULES INCORPORATED CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME (LOSS)
(Dollars in millions) (Unaudited) Three Months Ended March 31, ------------------- 2003 2002 ------ ------ Net loss $ (15) $ (580) Foreign currency translation 20 (55) ------ ------ Comprehensive income (loss) $ 5 $ (635) ====== ======
See accompanying notes to consolidated financial statements. 5 HERCULES INCORPORATED NOTES TO FINANCIAL STATEMENTS (UNAUDITED) 1. These condensed consolidated financial statements and the notes to the consolidated financial statements of Hercules Incorporated ("Hercules" or the "Company") are unaudited as of and for the three months ended March 31, 2003 and 2002, but in the opinion of management include all adjustments necessary to present fairly in all material respects Hercules' financial position and results of operations for the interim periods. These condensed consolidated financial statements should be read in conjunction with the accounting policies, financial statements and notes included in Hercules' Annual Report on Form 10-K for the year ended December 31, 2002. Certain prior period amounts have been reclassified to conform to the current period presentation. 2. Stock-based Compensation Compensation costs attributable to stock option and similar plans are recognized based on any excess of the quoted market price of the stock on the date of grant over the amount the employee is required to pay to acquire the stock (the intrinsic-value method under Accounting Principles Board Opinion 25 ("APB 25")). Such amount, if any, is accrued over the related vesting period, as appropriate. Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123") and the related amendments in Statement of Financial Accounting Standards No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure" ("SFAS 148") require companies electing to continue to use the intrinsic-value method to make pro forma disclosures of net income and earnings per share as if the fair value based method of accounting had been applied. Pursuant to the disclosure requirements of SFAS 123, as amended by SFAS 148, the following table presents the pro forma effect on net loss and loss per share assuming the Company had applied the fair value recognition provisions of SFAS 123 to stock-based employee compensation.
(Dollars in millions, except per share) Three Months Ended March 31, ---------------------------- 2003 2002 -------- -------- Net loss, as reported $ (15) $ (580) Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of tax 2 3 -------- -------- Pro forma net loss $ (17) $ (583) ======== ======== Loss per share: Basic - as reported $ (0.14) $ (5.32) ======== ======== Basic - pro forma $ (0.16) $ (5.35) ======== ======== Diluted - as reported $ (0.14) $ (5.32) ======== ======== Diluted - pro forma $ (0.16) $ (5.35) ======== ========
3. Recent Accounting Pronouncements In January 2003, the FASB issued FASB Interpretation No. 46, "Consolidation of Certain Variable Interest Entities" ("FIN 46") ("VIEs"), which is an interpretation of Accounting Research Bulletin No. 51, "Consolidated Financial Statements" ("ARB 51"). FIN 46 addresses the application of ARB 51 to VIEs, and generally would require that assets, liabilities and results of the activity of a VIE be consolidated into the financial statements of the enterprise that is considered the primary beneficiary. The provisions of FIN 46 apply on a prospective basis to VIEs created after January 31, 2003 and become effective after June 30, 2003 for VIEs the Company had prior to January 31, 2003. The Company currently has two joint-venture VIEs that are presently accounted for using the equity method of accounting. These entities serve as strategic global marketers of the Company's bicomponent fibers. The assets and liabilities of these entities are not consolidated within the Company's financial statements. There are no assets of the Company that serve as collateral for the VIEs and the creditors of the VIEs have no recourse to the general credit of the Company. In April 2003, the FASB issued Statement of Financial Accounting Standards No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging Activities" ("SFAS 149"). SFAS 149 incorporates provisions 6 that were clarified by the Derivatives Implementation Group. The provisions of SFAS 149 should be applied prospectively to contracts entered into after June 30, 2003. The Company does not believe this statement will have a material effect on its financial statements. 4. Discontinued Operations On April 29, 2002, the Company completed the sale of the BetzDearborn Water Treatment Business (the "Water Treatment Business") to GE Specialty Materials, a unit of General Electric Company. The sale price was $1.8 billion in cash, resulting in net after-tax proceeds of approximately $1.7 billion. The Company used the net proceeds to prepay debt under its senior credit facility and ESOP credit facility (see Note 11). Pursuant to Statement of Financial Accounting Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS 144") as adopted on January 1, 2002, the Water Treatment Business has been treated as a discontinued operation as of February 12, 2002 and accordingly, all financial information has been restated. The loss from discontinued operations for the three months ended March 31, 2002 includes an after-tax loss on the disposal of the business of $230 million. The Paper Process Chemicals Business, representing approximately one-third of the business of BetzDearborn Inc. when it was originally acquired in 1998, was fully integrated into and continues to be reported within Pulp and Paper. Summarized below are the results of operations of the Water Treatment Business for the three months ended March 31, 2002.
(Dollars in millions) Three Months Ended March 31, 2002 ------------------ Net sales $ 192 Profit from operations 33 Income before income taxes 35 Tax provision 14 ------- Income from operations 21 Loss from disposal of business, including a provision for income taxes of $51 million (230) ------- Loss from discontinued operations $ (209) =======
Summarized below is the net cash flow provided by discontinued operations for the three months ended March 31, 2002.
(Dollars in millions) Three Months Ended March 31, 2002 ------------------ Net cash provided by operations $ 9 Capital expenditures (2) ------- Net cash flow from discontinued operations $ 7 =======
The major classes of assets and liabilities included in the consolidated balance sheet at the time of disposal were as follows:
(Dollars in millions) ASSETS LIABILITIES Accounts receivable, net $ 160 Accounts payable $ 57 Inventory 76 Accrued expenses 46 Fixed assets 216 Deferred income taxes 171 Goodwill and other intangible assets 1,419 Other liabilities 6 ----- Other assets 43 $ 280 ------- ===== $ 1,914 =======
7 5. Goodwill and Other Intangible Assets Effective January 1, 2002, Hercules adopted the provisions of Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"). Hercules identified the following reporting units: BetzDearborn, Pulp and Paper, Aqualon, FiberVisions and Pinova. In connection with Hercules' transitional review, recorded goodwill was determined to be impaired in the BetzDearborn and FiberVisions reporting units. In the first quarter of 2002, Hercules completed its transitional impairment review of the identified reporting units and recognized after-tax impairment losses of $262 million in the BetzDearborn reporting unit and $87 million in the FiberVisions reporting unit as a cumulative effect of a change in accounting principle. In addition, an after-tax impairment loss of $19 million was recognized in the first quarter of 2002 relating to the Company's equity investment in CP Kelco, which had an impairment under SFAS 142. Pursuant to SFAS 142, the Company is required to perform an annual assessment of its reporting units for impairment. The annual assessment was performed as of November 30, 2002 and indicated no additional impairment to the Company's goodwill was warranted. Accumulated amortization for goodwill upon adoption of SFAS 142 was $185 million. The following table shows changes in the carrying amount of goodwill by operating segment for the three months ended March 31, 2003.
(Dollars in millions) Engineered Performance Materials Products and Additives Total ----------- ------------- ------- Balance at December 31, 2002 $ 383 $ 85 $ 468 Foreign currency translation 9 -- 9 ------- ------- ------- Balance at March 31, 2003 $ 392 $ 85 $ 477 ======= ======= =======
The following table provides information regarding the Company's other intangible assets with finite lives:
(Dollars in millions) Customer Trademarks Other Relationships & Tradenames Intangibles Total ------------- ------------ ----------- ----------- Gross Carrying Amount Balance, December 31, 2002 $ 89 $ 70 $ 95 $ 254 Balance, March 31, 2003 89 70 95 254 Accumulated Amortization Balance, December 31, 2002 $ 11 $ 7 $ 38 $ 56 Balance, March 31, 2003 11 8 39 58
Total amortization expense for each of the three month periods ended March 31, 2003 and 2002 for other intangible assets was $2 million and $4 million, respectively, of which $2 million was included in income from continuing operations for each of the three months ended March 31, 2003 and 2002. Estimated amortization expense for 2003 and the five succeeding fiscal years is $9 million per year for 2003 and 2004 and $8 million per year from 2005 through 2008. 8 6. Earnings (Loss) Per Share The following table shows the amounts used in computing earnings (loss) per share and the effect on net income (loss) and the weighted-average number of shares of dilutive potential common stock:
(Dollars in millions, except per share) Three Months Ended March 31, 2003 2002 -------------------- ------------------- Earnings Income (loss) (Loss) (loss) per share (Loss) per share ------- --------- ------- --------- BASIC AND DILUTED: Continuing operations $ 13 $ 0.12 $ (3) $ (0.03) Discontinued operations -- -- (209) (1.92) Cumulative effect of changes in accounting principle (28) (0.26) (368) (3.37) ------- ------- ------- ------- Net loss $ (15) $ (0.14) $ (580) $ (5.32) Weighted-average number of shares - basic (millions) 109.5 109.0 Weighted-average number of shares - diluted (millions) 109.7 109.0
For the three months ended March 31, 2003 and 2002, the Company had convertible subordinated debentures which are convertible into approximately 0.2 million shares of common stock. However, the common stock shares into which these debentures are convertible have not been included in the dilutive share calculation for the three months ended March 31, 2002 because the impact of their inclusion would be anti-dilutive. The dilutive effect of the convertible debentures was included in the calculation for the three months ended March 31, 2003. 7. Depreciation Expense Cost of sales and selling, general and administrative expenses include depreciation expense related to continuing operations of $17 million and $18 million for the three months ended March 31, 2003 and 2002, respectively. 8. Other Operating (Income) Expense, Net Other operating (income) expense, net, for the three months ended March 31, 2003 and 2002 includes additional charges for severance benefits of $2 million and $4 million, respectively, associated with the comprehensive cost reduction and work process redesign program announced in September 2001 (see Note 10). The Company also recognized a $3 million gain in the three months ended March 31, 2003 related to a favorable legal settlement. The Company recognized approximately $1 million in environmental charges in the three months ended March 31, 2002. 9. Other Expense, Net Other expense, net, for the three months ended March 31, 2003 and 2002 includes $1 million and $2 million, respectively, in net charges for asbestos-related costs (see Note 14), $1 million and $2 million, respectively, in bank charges and other charges of approximately $3 million and $1 million, respectively. Interest income of $1 million was recognized in both periods. In addition, the three months ended March 31, 2002 included approximately $1 million for litigation costs, a $1 million foreign currency loss and a gain from the sale of assets of $2 million. Litigation costs and asset sales primarily relate to former operations of the Company. 10. Restructuring The consolidated balance sheet reflects liabilities for employee severance benefits and other exit costs of $14 million and $36 million at March 31, 2003 and 2002, respectively. During 2001, management authorized and committed to a plan to reduce the workforce as part of the comprehensive cost reduction and work process redesign program. Through December 31, 2002, the Company incurred charges related to this restructuring of $76 million, which includes charges of $68 million for employee termination benefits and $8 million for exit costs related to facility closures. During the three months ended March 31, 2003, the accrual for severance benefits recognized in accordance with Statement of Financial Accounting Standards No. 112, "Employers' Accounting for Postemployment Benefits," increased by approximately $2 million. Under this plan, approximately 1,364 employees have left or will leave the Company, of which approximately 1,260 employees were terminated through March 31, 2003. Approximately 46 employees were terminated during the three months ended March 31, 2003. The employees under the plan that have not been terminated will be terminated by December 31, 2003. The plan includes reductions throughout the Company with the majority of them from support functions. Cash payments during the three months ended March 31, 2003 were $10 million for severance benefits and other exit costs. Severance benefits paid during the quarter include the continuing benefit streams of previously 9 terminated employees as well as those terminated in the current period. Severance benefits were paid in accordance with the Company's standard severance pay plans, or in accordance with local practices outside the United States. A reconciliation of activity with respect to the liabilities established for these plans is as follows:
(Dollars in millions) March 31, December 31, 2003 2002 --------- ------------ Balance at beginning of year $ 22 $ 43 Additional termination benefits and other exit costs 2 25 Cash payments (10) (39) Reversals against goodwill -- (3) Reversals against earnings -- (2) Transferred with discontinued operations -- (2) ------- ------- Balance at end of period $ 14 $ 22 ======= =======
The balance at the end of the period represents severance benefits and other exit costs of which $12 million pertains to the 2001 restructuring plan and $2 million pertains to a prior year plan. The Company expects cash payments relating to these plans to be made over the next two years. Effective January 1, 2003, the Company adopted Statement of Financial Accounting Standards No. 146, "Accounting for Costs Associated with Exit or Disposal Activities" ("SFAS 146"). SFAS 146 addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs in a Restructuring)." SFAS 146 defines the timing of the recognition of costs associated with exit or disposal activities, the types of costs that may be recognized and the methodology for calculating the fair value of such costs. In the first quarter of 2003, the Company did not recognize any costs associated with exit or disposal activities pursuant to SFAS 146. 11. Debt A summary of short-term and long-term debt follows:
(Dollars in millions) March 31, December 31, 2003 2002 --------- ------------ SHORT-TERM: Banks $ -- $ 1 Current maturities of long-term debt 145 144 ------- ------- $ 145 $ 145 ======= =======
Bank borrowings represent primarily foreign overdraft facilities and short-term lines of credit, which are generally payable on demand with interest at various rates. At March 31, 2003, the Company had $15 million of unused short-term lines of credit that may be drawn as needed. There were no short-term lines of credit in use at March 31, 2003. 10
(Dollars in millions) March 31, December 31, 2003 2002 --------- ------------ LONG-TERM: 6.60% notes due 2027 $ 100 $ 100 6.625% notes due 2003 125 125 11.125% senior notes due 2007 400 400 8% convertible subordinated debentures due 2010 3 3 Term notes at various rates from 4.07% to 8.56% due in varying amounts through 2006 47 50 Term B loan due 2007 199 200 Other 4 4 ------- ------- 878 882 Current maturities of long-term debt (145) (144) ------- ------- Net long-term debt $ 733 $ 738 ======= =======
On December 20, 2002, the Company completed the refinancing of its existing senior credit facility with a new senior credit facility. The new senior credit facility consists of a four year $125 million revolving credit agreement and a $200 million term B loan due May 2007. In addition, the Company has the option of borrowing an additional $50 million to $150 million on terms identical to the term B loan. The incremental term loan will remain available until the earlier of December 20, 2005 or the repayment of the $200 million term B loan. In conjunction with the execution of the credit agreement, $125 million of the proceeds of the term B loan was placed into an escrow account to pay the principal amount of the 6.625% notes in June 2003. The escrow funds have been recognized as restricted cash on the Consolidated Balance Sheet. The term B loan bears interest at LIBOR + 3.25%. The revolving credit agreement bears interest at LIBOR plus an applicable margin, currently 2.75%, which is determinable based on the Company's leverage ratio. Interest rates are reset for one, two, three or six month periods at the Company's option. The new senior credit facility is secured by liens on the Company's assets (including real, personal and intellectual properties) and is guaranteed by substantially all of the Company's current and future wholly-owned domestic subsidiaries. As of March 31, 2003, $58 million of the $125 million revolver was available for use. The Company had outstanding letters of credit associated with the credit facility of $67 million at March 31, 2003. The Company's new senior credit facility requires quarterly compliance with certain financial covenants, including a debt/EBITDA ratio ("leverage ratio") and an interest coverage ratio and establishes limitations on the permitted amount of annual capital expenditures. 12. Company-obligated Preferred Securities of Subsidiary Trusts Company-obligated Preferred Securities of Subsidiary Trusts consists of:
(Dollars in millions) March 31, December 31, 2003 2002 --------- ------------ 9.42% Trust Originated Preferred Securities $ 363 $ 363 6 1/2% CRESTS Units 262 261 --------- --------- $ 625 $ 624 ========= =========
13. Asset Retirement Obligations Effective January 1, 2003, the Company adopted Statement of Financial Accounting Standards No. 143, "Accounting for Asset Retirement Obligations" ("SFAS 143"). SFAS 143, which was issued in June 2001, establishes accounting and reporting standards for the recognition and measurement of legal obligations associated with the retirement of tangible long-lived assets. SFAS 143 requires that the fair value of an asset retirement obligation be recorded when incurred. Included within the scope of SFAS 143 are environmental remediation liabilities that resulted from the normal operation of a long-lived asset. The Company has a number of environmental remediation liabilities associated with current and former operations that were incurred during the course of normal operations. The most significant differences in the measurement of these obligations under SFAS 143 are outlined below: 11 RECORDING OF FULL OBLIGATION: SFAS 143 requires that the fair value of an asset retirement obligation be recorded when it is incurred if a reasonable estimate of fair value can be made. Under SFAS 143, uncertainties (probability) in the amount and timing of settlement are incorporated into the fair value measure of the recognized liability, whereas under Statement of Financial Accounting Standards No. 5, "Accounting for Contingencies," and FASB Interpretation 14, "Reasonable Estimation of the Amount of a Loss," uncertainties are considered in determining recognition of a liability. PRESENT VALUE OF OBLIGATION: SFAS 143 requires that the fair value of the asset retirement obligation be discounted using a credit adjusted risk-free rate. CAPITALIZATION OF COSTS RELATED TO ENVIRONMENTAL CONTAMINATION: SFAS 143 requires capitalization of costs as a component of fixed assets to the extent there is a corresponding operating asset. EITF 90-8, "Capitalization of Costs to Treat Environmental Contamination," permitted capitalization of environmental remediation costs incurred in preparing a property for sale. With the adoption of SFAS 143, the Company recorded an increase to its environmental remediation liabilities of $28 million with a corresponding increase to property, plant, and equipment of $2 million and a decrease in capitalized environmental remediation costs of $18 million, resulting in an after-tax charge of $28 million ($44 million on a pre-tax basis), or $0.26 per share, as a cumulative effect of a change in accounting principle. The following table provides a reconciliation of the changes in the asset retirement obligations during the period.
SFAS 143 Adoption --------------------------- Balance Cumulative Capitalized Liabilities Balance January 1, Effect Retirement (Incurred) March 31, 2003 Adjustment Obligations Settled Accretion 2003 ---------- ---------- ----------- ----------- --------- --------- Capitalized remediation costs $ 18 $ (18) $ -- $ -- $ -- $ -- Environmental Remediation Liabilities: SFAS 143 ARO sites (85) (26) (2) 2 -- (111) Non-SFAS 143 sites (3) -- -- (1) -- (4) ------- ------- ------- ------- ------- ------- $ (70) $ (44) $ (2) $ 1 $ -- $ (115) ======= ======= ======= ======= ======= =======
The accretion the Company recognized during the quarter was rounded to zero. 14. Commitments and Contingencies GUARANTEES In November 2002, the FASB issued FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others" ("FIN 45"). The initial recognition and measurement provisions of FIN 45 were applicable on a prospective basis to guarantees issued or modified after December 31, 2002. The Company applied the initial recognition and measurement provisions on a prospective basis effective January 1, 2003. FIN 45 modifies existing disclosure requirements for most guarantees and requires that at the time a company issues a guarantee, the company must recognize an initial liability for the fair value of the obligation it assumes under that guarantee. The Company adopted the disclosure requirements of FIN 45 as of December 31, 2002. Disclosure about each group of similar guarantees is provided below: INDEMNIFICATIONS In connection with the sale of Company assets and businesses, the Company has indemnified respective buyers against certain liabilities that may arise in connection with the sale transactions and business activities prior to the ultimate closing of the sale. The terms of these indemnifications typically pertain to environmental, tax, employee and/or product related matters. If the indemnified party were to incur a liability or have a liability increase as a result of a successful claim, pursuant to the terms of the indemnification, the Company would be required to protect, defend, and/or indemnify the buyer. These indemnifications are generally subject to threshold amounts, specified claim periods and/or other restrictions. The carrying amount recorded for all indemnifications as of March 31, 2003 was $110 million. In addition, in connection with these transactions, the Company has generally provided indemnifications on 12 general corporate matters such as ownership of the relevant assets, the power and corporate authority to enter into transactions and the satisfaction of liabilities not assumed by the buyer. These indemnifications generally have indefinite terms. Although it is reasonably possible that future payments may exceed amounts accrued, due to the nature of indemnified items, it is not possible to make a reasonable estimate of the maximum potential loss or range of loss. Generally, there are no specific recourse provisions. Approximately $1 million in cash is held in escrow or collateral to cover certain indemnifications related to the sale of a business in 2001. In addition, the Company provides certain indemnifications in the ordinary course of business such as product, patent and performance warranties in connection with the manufacture, distribution and sale of its products and services. Due to the nature of these indemnities, it is not possible to make a reasonable estimate of the maximum potential loss or range of loss. DEBT OBLIGATIONS The Company has directly guaranteed various debt obligations under agreements with third parties related to subsidiaries and affiliates, and/or other unaffiliated companies. At March 31, 2003, the Company had directly guaranteed $23 million of such obligations. This represents the maximum principal amount of potential future payments that the Company could be required to make under the guarantees. Any applicable interest and expenses would generally be added to the amount of the obligations. Directly guaranteed obligations include approximately $8 million of outstanding obligations which are recorded as debt in the Company's Consolidated Financial Statements. Existing guarantees for subsidiaries and affiliates arose from liquidity needs in normal operations. The Company will be required to perform on these guarantees in the event of default by the guaranteed party. INTERCOMPANY GUARANTEES The Company and its subsidiaries have intercompany guarantees between and among themselves which aggregate approximately $165 million as of March 31, 2003. These guarantees relate to intercompany loans used to facilitate normal business operations. All of the $165 million has been eliminated from the Company's Consolidated Financial Statements. ENVIRONMENTAL In the ordinary course of its business, the Company is subject to numerous environmental laws and regulations covering compliance matters or imposing liability for the costs of, and damages resulting from, cleaning up sites, past spills, disposals and other releases of hazardous substances. Changes in these laws and regulations may have a material adverse effect on the Company's financial position and results of operations. Any failure by the Company to adequately comply with such laws and regulations could subject the Company to significant future liabilities. Hercules has been identified as a potentially responsible party ("PRP") by U.S. federal and state authorities, or by private parties seeking contribution, for the cost of environmental investigation and/or cleanup at numerous sites. The range of the reasonably possible share of costs for the investigation and cleanup of current and former operating sites, and other locations where the Company may have a known liability is between $115 million and $225 million. The actual costs will depend upon numerous factors, including the number of parties found responsible at each environmental site and their ability to pay; the actual methods of remediation required or agreed to; outcomes of negotiations with regulatory authorities; outcomes of litigation; changes in environmental laws and regulations; technological developments; and the years and timing of remedial activity required, which could range from 0 to 30. Hercules becomes aware of sites in which it may be named a PRP in investigatory and/or remedial activities through correspondence from the U.S. Environmental Protection Agency ("EPA") or other government agencies or from previously named PRPs, who either request information or notify the Company of its potential liability. The Company has established procedures for identifying environmental issues at its plant sites. In addition to environmental audit programs, the Company has environmental coordinators who are familiar with environmental laws and regulations and act as a resource for identifying environmental issues. United States, et al. v. Vertac Corporation, et al., USDC No. LR-C-80-109 and LR-C-80-110 (E.D. Ark.) This case, a cost-recovery action based upon the Comprehensive Environmental Response, Compensation and Liability Act ("CERCLA", or the Superfund statute), as well as other statutes, has been pending since 1980, and involves liability for costs expended and to be expended in connection with the investigation and remediation of the Vertac Chemical Company ("Vertac") site in Jacksonville, Arkansas. Hercules owned and operated the site from December 1961 until 1971. The site was used for the manufacture of certain herbicides and, at the order of the United 13 States, Agent Orange. In 1971, the site was leased to Vertac's predecessor. In 1976, Hercules sold the site to Vertac. The site was abandoned by Vertac in 1987, and Vertac was subsequently placed into receivership. Both prior to and following the abandonment of the site, the EPA and the Arkansas Department of Pollution Control and Ecology ("ADPC&E") were involved in the investigation and remediation of contamination at and around the site. Pursuant to several orders issued pursuant to CERCLA, Hercules actively participated in many of these activities. The cleanup is essentially complete, except for certain on-going maintenance and monitoring activities. This litigation primarily concerns the responsibility and allocation of liability for the costs incurred in connection with these activities. Although the case initially involved many parties, as a result of various United States District Court rulings and decisions, as well as a trial, Hercules and Uniroyal were held jointly and severally liable for the approximately $100 million in costs allegedly incurred by the EPA, as well as costs to be incurred in the future. That decision was made final by the District Court on September 13, 1999. Both Hercules and Uniroyal timely appealed that judgment to the United States Court of Appeals for the Eighth Circuit. On February 8, 2000, the District Court issued a final judgment on the allocation between Hercules and Uniroyal finding Uniroyal liable for 2.6 percent and Hercules liable for 97.4 percent of the costs at issue. Hercules timely appealed that judgment. Oral argument on both appeals was held before the Eighth Circuit on June 12, 2000. On April 10, 2001, the United States Court of Appeals for the Eighth Circuit issued an opinion in the consolidated appeals described above. In that opinion, the Appeals Court reversed the District Court's decision which had held Hercules jointly and severally liable for costs incurred and to be incurred at the Jacksonville site, and remanded the case back to the District Court for several determinations, including a determination of whether the harms at the site giving rise to the government's claims were divisible. The Appeals Court also vacated the District Court's allocation decision holding Hercules liable for 97.4 percent of the costs at issue, ordering that these issues be revisited following further proceedings with respect to divisibility. Finally, the Appeals Court affirmed the judgment of liability against Uniroyal. The trial on remand commenced on October 8, 2001, continued through October 19, 2001, resumed on December 11, 2001 and concluded on December 14, 2001. At the trial, the Company presented both facts and law to the District Court in support of its belief that the Company should not be liable under CERCLA for some or all of the costs incurred by the government in connection with the site because those harms are divisible. The District Court has not yet rendered its decision. Should the Company prevail on remand, any liability to the government will be either eliminated or reduced from the prior judgment. Hercules Incorporated v. Aetna Casualty & Surety Company, et al., Del. Super., C.A. No. 92C-10-105 and 90C-FE-195-1-CV (consolidated). In 1992, Hercules brought suit against its insurance carriers for past and future costs for cleanup of certain environmental sites. In April 1998, the trial regarding insurance recovery for the Jacksonville, Arkansas, site (see discussion above) was completed. The jury returned a "Special Verdict Form" with findings that, in conjunction with the Court's other opinions, were used by the Court to enter a judgment in August 1999. The judgment determined the amount of Hercules' recovery for past cleanup expenditures and stated that Hercules is entitled to similar coverage for costs incurred since September 30, 1997 and in the future. Hercules has not included any insurance recovery in the estimated range of costs above. Since entry of the Court's August 1999 order, Hercules has entered into settlement agreements with several of its insurance carriers and has recovered certain settlement monies. The terms of those settlements and the amounts recovered are confidential. On August 15, 2001, the Delaware Supreme Court issued a decision in Hercules Incorporated v. Aetna Casualty & Surety Company, et al., Del. Super., C.A. No. 92C-10-105 and 90C-FE-195-1-CV (consolidated). In its decision, the Delaware Supreme Court affirmed the trial court in part, reversed the trial court in part and remanded the case for further proceedings. The specific basis upon which the Delaware Supreme Court reversed the trial court was the trial court's application of pro rata allocation to determine the extent of the insurers' liability. Following settlements with two additional insurers, the terms of which are confidential, Hercules decided not to pursue this litigation against the remaining defendants. This matter was dismissed with prejudice on or about February 3, 2003. The Allegany Ballistics Laboratory ("ABL") is a government-owned facility which was operated by Hercules from 1945 to 1995 under contract with the United States Department of the Navy. The Navy has notified Hercules that they would like to negotiate with Hercules with respect to certain environmental liabilities which, the Navy alleges, are attributable to Hercules' past operations at ABL. The Navy alleges that, pursuant to CERCLA, it has spent a total of $24.8 million and expects to spend an additional $60 million over the next 10 years. The Company is currently investigating the Navy's allegations, including the basis of the Navy's claims, and whether the contracts with the government pursuant to which the Company operated ABL may insulate the Company from some or all of the amounts 14 sought. At this time, however, the Company cannot reasonably estimate its liability, if any, with respect to ABL and, accordingly, has not included this site in the range of its environmental liabilities reported above. At March 31, 2003, the accrued liability for environmental remediation was $115 million. The extent of liability is evaluated quarterly based on currently available information, including the progress of remedial investigations at each site and the current status of negotiations with regulatory authorities regarding the method and extent of apportionment of costs among other PRPs. While it is not feasible to predict the outcome of all pending suits and claims, the ultimate resolution of these environmental matters could have a material effect upon the results of operations and the financial position of Hercules, and the resolution of any of these matters during a specific period could have a material effect on the quarterly or annual results of that period. LITIGATION The Company is a defendant in numerous asbestos-related personal injury lawsuits and claims which typically arise from alleged exposure to asbestos fibers from resin encapsulated pipe and tank products which were sold by one of the Company's former subsidiaries to a limited industrial market ("products claims"). The Company is also a defendant in lawsuits alleging exposure to asbestos at facilities formerly or presently owned or operated by the Company ("premises claims"). Claims are received and settled or otherwise resolved on an on-going basis. In late December 1999, the Company entered into a settlement agreement to resolve the majority of the claims then pending. In connection with that settlement, the Company also entered into an agreement with several of the insurance carriers which sold that former subsidiary primary and first level excess insurance policies. Under the terms of that agreement, the majority of the amounts paid to resolve those products claims were insured, subject to the limits of the insurance coverage provided by those policies. The terms of both settlement agreements are confidential. Since entering into those agreements, the Company has continued to receive and settle or otherwise resolve claims on an on-going basis. Between January 1, 2002 and December 31, 2002, the Company received approximately 11,000 new claims, approximately half of which were included in "consolidated" complaints naming anywhere from one hundred to thousands of plaintiffs and a large number of defendants, but providing little information connecting any specific plaintiff's alleged injuries to any specific defendant's products or premises. It is the Company's belief that a significant majority of these "consolidated" claims will be dismissed for no payment. During that same time period, the Company also received approximately 13,000 other new claims, most of which were included in "consolidated" complaints, which have either been dismissed without payment or are in the process of being dismissed without payment, but with plaintiffs retaining the right to re-file should they be able to establish exposure to an asbestos-containing product for which the Company bears liability. Between January 1, 2003 and March 31, 2003, the Company received approximately 6,380 new claims, of which approximately 4,040 claims were included in "consolidated" complaints. The Company is continuing to evaluate whether the claims experience of 2002 and the first quarter of 2003, which represents a significant increase over prior years, is an anomaly or a new trend. With respect to total claims pending, as of March 31, 2003, there were approximately 21,180 unresolved claims, of which approximately 1,055 were premises claims. There were also approximately 2,220 unpaid claims which have been settled or are subject to the terms of a settlement agreement. In addition, as of March 31, 2003, there were approximately 13,340 claims (including the 13,000 claims noted in the above paragraph) which have been dismissed without payment or are in the process of being dismissed without payment. The Company anticipates that the primary and first level excess insurance policies referenced above will likely exhaust over the next 1 to 2 months, assuming that the rate of settlements and payments remains relatively consistent with the Company's past experience. Nonetheless, based on the current number of claims pending, the amounts the Company anticipates paying to resolve those claims which are not dismissed or otherwise resolved without payment, and anticipated future claims, the Company believes that it and its former subsidiary together have sufficient additional insurance to cover the majority of its current and estimated future asbestos-related liabilities, as discussed in the paragraph below. The foregoing is based on the Company's assumption that the number of future claims filed per year and claim resolution payments will vary considerably from year-to-year and by plaintiff, disease, venue, and other circumstances, but will, when taken as a whole, remain relatively consistent with the Company's experience to date and will decline as the population of potential future claimants expires due to non-asbestos-related causes. It is also based on the preliminary results of the study discussed below, the Company's evaluation of potentially available insurance coverage and its review of the relevant case law. However, the Company recognizes that the number of future claims filed per year and claim resolution payments could greatly exceed those reflected by its past experience and contemplated by the study referenced below, that the Company's belief of the range of its reasonably possible financial exposure could 15 change as the study referenced below continues, that its evaluation of potentially available insurance coverage may change depending upon numerous variables including risks inherent in litigation and the risk that one or more insurance carriers may refuse or be unable to meet its obligations to the Company, and that conclusions resulting from its review of relevant case law may be impacted by future court decisions or changes in the law. The Company is seeking defense and indemnity payments or an agreement to pay from those carriers responsible for excess coverage whose levels of coverage have been or will soon be reached. Although those excess carriers have not yet agreed to defend or indemnify it, the Company believes that it is likely that they will ultimately agree to do so, and that the majority of its estimated future asbestos-related costs will ultimately be paid or reimbursed by those carriers. However, if the Company is not able to reach satisfactory agreements with those carriers prior to exhaustion of the primary and first level excess insurance policies now covering the majority of its current asbestos-related claims, then, beginning as early as the second quarter of 2003, the Company might be required to completely fund these matters while it seeks reimbursement from its carriers. In order to maximize the likelihood of obtaining insurance payments for these liabilities, on November 27, 2002, the Company initiated litigation against its excess insurance carriers in a matter captioned Hercules Incorporated v. OneBeacon, et al., Civil Action No. 02C-11-237 (SCD), Superior Court of Delaware, New Castle County. Notwithstanding the filing of this litigation, the Company is continuing settlement discussions with several of its key insurers. The Company has commissioned a study of its asbestos-related liabilities. That study, which is in progress and will continue over the next several quarters, is being conducted by Professor Eric Stallard, who is a Research Professor of Demographic Studies at a major national university and a Member of the American Academy of Actuaries. Professor Stallard is a consultant with broad experience in estimating such liabilities. Based on the initial findings of that study, the Company estimates that its reasonably possible financial exposure for these matters ranges from $200 million to $500 million. Due to inherent uncertainties in estimating the timing and amounts of future payments, this range does not include the effects of inflation and has not been discounted for the time value of money. In addition, the range of financial exposures set forth above does not include estimates for future legal costs. It is the Company's policy to expense these costs as incurred. As stated above, the Company presently believes that the majority of this range of financial exposures will ultimately be funded by insurance proceeds. Cash payments related to this exposure are expected to be made over an extended number of years and actual payments, when made, could be for amounts in excess of the range due to potential future changes in estimates as well as the effects of inflation. Due to the dynamic nature of asbestos litigation and the present uncertainty concerning the participation of its excess insurance carriers, the Company's estimates are inherently uncertain, and these matters may present significantly greater financial exposures than presently anticipated. In addition, the asbestos study referenced in the above paragraph is continuing, and further analysis combined with new data received in the future could result in a material modification of the range of reasonably possible financial exposure set forth above. As a result of all of the foregoing, the Company's liability with respect to asbestos-related matters could exceed present estimates and may require a material change in the accrued liability for these matters within the next twelve months. If the Company's liability does exceed amounts recorded in the balance sheet, the Company presently believes that the majority of any additional liability it may reasonably anticipate will be paid or reimbursed by its insurance carriers. The initial findings of the study referenced above identify a range of the Company's reasonably possible financial exposure for these matters. The Company is not presently able to specify its best estimate of its liability within that range. The Company recorded a gross accrual of $225 million for present and future potential asbestos claims before anticipated insurance recoveries resulting in a net charge of $65 million related to these matters in the period ended September 30, 2002. At March 31, 2003, the Company has a remaining accrual of $205 million for the gross liability. The Company believes that it is probable that $126 million of the $205 million accrual will be funded by or recovered from insurance carriers. At March 31, 2003, the consolidated balance sheet reflects a current insurance receivable of $7 million and a long-term insurance receivable of $119 million. The Company, in conjunction with outside advisors, will continue to study its asbestos-related exposures, insurance recovery expectations, and reserves on an on-going basis, and make adjustments as appropriate. In June 1998, Hercules and David T. Smith Jr., a former Hercules employee and plant manager at the Brunswick plant, along with Georgia-Pacific Corporation and AlliedSignal Inc., were sued in Georgia State Court by 423 plaintiffs for alleged personal injuries and property damage. This litigation is captioned Coley, et al. v. Hercules Incorporated, et al., No. 98 VSO 140933 B (Fulton County, Georgia). Plaintiffs allege they were damaged by the discharge of hazardous waste from the companies' plants. On February 11, 2000, the Georgia State Court dismissed Georgia-Pacific Corporation and AlliedSignal Inc., without prejudice. In September 2000, David T. Smith Jr., was dismissed by the Georgia State Court with prejudice. On July 18, 2000, the Company was served with a complaint in a 16 case captioned Erica Nicole Sullivan, et al. v. Hercules Incorporated and David T. Smith, Jr., Civil Action File No. 00-1-05463-99 (Cobb County, Georgia). Based on the allegations contained in the complaint, this matter is very similar to the Coley litigation, and is brought on behalf of approximately 700 plaintiffs for alleged personal injury and property damage arising from the discharge of hazardous waste from Hercules' plant. The Company has reached an agreement in principle to settle the claims of all but six of these plaintiffs for an amount which is confidential, but which is not material to the financial condition of the Company. In August 1999, the Company was sued in an action styled as Cape Composites, Inc. v. Mitsubishi Rayon Co., Ltd., Case No. 99-08260 (U.S. District Court, Central District of California), one of a series of similar purported class action lawsuits brought on behalf of purchasers (excluding government purchasers) of carbon fiber and carbon prepreg in the United States from the named defendants from January 1, 1993 through January 31, 1999. The lawsuits were brought following published reports of a Los Angeles federal grand jury investigation of the carbon fiber and carbon prepreg industries. In these lawsuits, plaintiffs allege violations of Section 1 of the Sherman Antitrust Act for alleged price fixing. In September 1999, these lawsuits were consolidated by the Court into a case captioned Thomas & Thomas Rodmakers v. Newport Adhesives and Composites, Case No. CV-99-07796-GHK (CTx) (U.S. District Court, Central District of California), with all related cases ordered dismissed. This lawsuit is proceeding through discovery and motion practice. On May 2, 2002, the Court granted plaintiffs' Motion to Certify Class. The Company is named in connection with its former Composites Products Division, which was sold to Hexcel Corporation in 1996, and has denied liability and will vigorously defend this action. Since September 2001, Hercules, along with the other defendants in the Thomas & Thomas Rodmakers action referred to above, has been sued in nine California state court purported class actions brought on behalf of indirect purchasers of carbon fiber. In January 2002, these were consolidated into a case captioned Carbon Fiber Cases I, II, and III, Judicial Council Coordination Proceeding Nos. 4212, 4216 and 4222, Superior Court of California, County of San Francisco. These actions all allege violations of the California Business and Professions Code relating to alleged price fixing of carbon fiber and unfair competition. The Company denies liability and will vigorously defend each of these actions. In June 2002, a purported class action was filed in Massachusetts under the caption Saul M. Ostroff, et al. v. Newport Adhesives, et al., Civil Action No. 02-2385, Superior Court of Middlesex County. This matter is a purported class action brought on behalf of consumers who purchased merchandise manufactured with carbon fiber, and alleges the same types of price fixing activities alleged in the actions described in the above two paragraphs. In October 2002, the Company was notified that Horizon Sports Technologies had "opted out" of the federal antitrust class action described above (Thomas & Thomas Rodmakers) and filed its own suit against Hercules and the other defendants in that action (Horizon Sports Technologies, Inc. v. Newport Adhesives and Composites, Inc., et al., Case No. CV02-8126 FMC (RNEX), U.S. District Court, Central District of California, Western Division). Further, in April 2002, a related "Qui Tam" action was unsealed by the U.S. District Court for the Southern District of California. That action is captioned Randall M. Beck, et al. v. Boeing Defense and Space Group, Inc., et al., (Civil Action No. 99 CV 1557 JM JAH), was filed under seal in 1999, and is a "False Claims" action brought pursuant to the False Claims Act (31 U.S.C. Section 729 et seq.). In that action, the relators, in the name of the United States Government, allege the same price fixing activities which are the subject of the above-described actions. The relators then allege that those alleged price fixing activities resulted in inflated prices being charged by the defendant carbon fiber manufacturers to the defendant defense contractors, who, in turn, submitted claims for payment to the United States Government under various government contracts. It is alleged that those claims for payment were "false claims" because the prices charged for the carbon fiber and carbon prepreg were "fixed" contrary to the laws of the United States. The Company denies liability and will vigorously defend each of these actions. In connection with the grand jury investigation noted above in the paragraph describing the Cape Composites litigation, in January 2000, the United States Department of Justice ("DOJ"), Antitrust Division, served a grand jury subpoena duces tecum upon Hercules. The Company has been advised that it is one of several manufacturers of carbon fiber and carbon prepreg that have been served with such a subpoena. On September 28, 2000, the Company sold its Food Gums Division to CP Kelco ApS, a joint venture that the Company entered into with Lehman Brothers Merchant Banking Partners II, L.P. CP Kelco also acquired the biogums business of Pharmacia Corporation (formerly Monsanto Company). In April 2001, CP Kelco U.S., Inc., a wholly-owned subsidiary of CP Kelco ApS sued Pharmacia (CP Kelco U.S., Inc. v. Pharmacia Corporation U.S. District Court for the District of Delaware, Case No. 01-240-RRM), alleging federal securities fraud, common law fraud, breach of warranties and representations, and equitable fraud. In essence, the lawsuit alleges that Pharmacia misrepresented the value of the biogums business, resulting in damages to CP Kelco U.S., including the devaluation of CP Kelco U.S.'s 17 senior debt by the securities markets. In June 2001, Pharmacia filed a third-party complaint against the Company and Lehman. That complaint seeks contribution and indemnification from the Company and Lehman, jointly and severally, for any damages that may be awarded to CP Kelco U.S. in its action against Pharmacia. The Company filed a Motion for Judgement on the Pleadings, which was granted by the Magistrate Judge on September 19, 2002. In March 2003, the Magistrate Judge's ruling was adopted by the District Court judge. Prior to a trial on the case-in-chief, the District Court dismissed the Company from the case, subject to Pharmacia's right to appeal. On April 28, 2003, a jury trial began on the case-in-chief among CP Kelco, Lehman and Pharmacia. After the commencement of jury deliberations, the parties reached a settlement. The terms of the settlement are confidential. Given the settlement of the case-in-chief, the Company believes that the District Court's earlier dismissal of the Company would be upheld, if appealed. In November 2002, an action for declaratory judgment was filed in the U.S. District Court for the District of Delaware under the caption of Atofina Chemicals, Inc. and Atofina v. Hercules Incorporated (Civil Action No. 02-1613). In this action, Atofina seeks a declaration from the court regarding its liability for certain damages sought by the Company as compensation for injuries arising from the actions of Atofina, Akzo Nobel Chemicals and Clariant (including its successor in interest, Hoechst Celanese) in fixing the prices of monochloracetic acid and sodium monochloractetate from 1995 to 2000. The Company in response has counter-claimed against the entities identified above and affiliated companies for damages and injunctive relief. The matter is still in the pleadings stage with discovery to follow. The Company has settled with one of the parties. The terms of the settlement are confidential. By Order dated May 6, 2003, the U.S. District Court for the Middle District of Louisiana remanded to the 18th Judicial District Court for the Parish of Iberville, Louisiana, a total of nine (9) consolidated lawsuits, including two (2) lawsuits in which the Company is a defendant. These two lawsuits are Jerry Oldham, et al. v. The State of Louisiana, et al., Civil Action No. 55,160, 18th Judicial District Court, Parish of Iberville, Louisiana and John Capone, et al. v. The State of Louisiana, et al., Civil Action No. 56,048C, 18th Judicial District Court, Parish of Iberville, Louisiana, were served on the Company in September 2002 and October 2002, respectively. The Oldham case is a purported class action comprised of approximately 2,000 plaintiffs, and the Capone case is a consolidated action by approximately 44 plaintiffs. Both actions assert claims against the State of Louisiana, the Company, American PetroFina, Hercofina, Ashland Oil, International Minerals and Chemicals, Allemania Chemical, Ashland Chemical and the Parish of Iberville. The purported class members and plaintiffs, who claim to have worked or lived at or around the Georgia Gulf plant in Iberville Parish, allege injury and fear of future illness from the consumption of contaminated water and, specifically, elevated levels of arsenic in that water. As to the Company, plaintiffs allege that the Company, itself, and then as part of a joint venture, operated a nearby plant and, as part of those operations, used a groundwater injection well to dispose of various wastes, and that those wastes contaminated the potable water supply at Georgia Gulf. On October 17, 2002, the Company removed these matters to federal court. In January 2003, the U.S. District Court for the Middle District of Louisiana consolidated the Capone and Oldham matters with other lawsuits in which the Company is not a party. Plaintiffs sought remand which, as noted above, was granted by Order dated May 6, 2003. Discovery is now beginning. The Company denies any liability and intends to vigorously defend these matters. On January 31, 2003, the Court granted a Motion for Class Certification in a lawsuit captioned Douglas C. Smith, Individually and on Behalf of All Others Similarly Situated v. Hercules Incorporated and Thomas Gossage, CA No. 01C-08-291 WCC, Superior Court of Delaware, New Castle County. This lawsuit, which was filed on August 31, 2001, on behalf of Mr. Smith and a class of approximately 130 present and former Hercules employees, seeks payments under the "Integration Synergies Incentive Compensation Plan" (the "Plan"), a program put into place by the Company following its acquisition of BetzDearborn Inc. in October 1998. The goal of the Plan was to provide certain financial incentives to specific employees who were deemed to have significant impact on the integration of BetzDearborn Inc. into Hercules Incorporated. The amount to be paid under the Plan was tied to the successful achievement of "synergies," which were defined as the annualized reduction of expenses or improvement of profits realized as a result of the integration of BetzDearborn Inc. into Hercules. The lawsuit essentially alleges that the payments made under the Plan were not adequate and that the Company breached the terms of the Plan. The lawsuit seeks payments of between $25 million and $30 million, although the Company does not believe that any payments are owed to the class members. In February 2003, plaintiffs agreed to dismiss Thomas Gossage from the lawsuit. Discovery is ongoing. The Company denies any liability to the plaintiffs and is vigorously defending this action. At March 31, 2003, the consolidated balance sheet reflects a current liability of approximately $27 million and a long-term liability of approximately $184 million for litigation and claims. These amounts represent management's best estimate of the probable and reasonably estimable losses related to litigation or claims. The extent of the liability and recovery is evaluated quarterly. While it is not feasible to predict the outcome of all pending suits and claims, the ultimate resolution of these matters could have a material effect upon the financial position of Hercules, and the 18 resolution of any of the matters during a specific period could have a material effect on the quarterly or annual operating results for that period. 15. Segment Information The table below reflects Net sales and Profit from operations for the three months ended March 31, 2003 and 2002.
(Dollars in millions) Three Months Ended March 31, -------------------- 2003 2002 ------ ------ Net sales: Performance Products $ 356 $ 327 Engineered Materials and Additives 85 75 ------ ------ Consolidated $ 441 $ 402 ====== ====== Profit from operations: Performance Products $ 56 $ 58 Engineered Materials and Additives 2 3 Reconciling Items (a) 1 (7) ------ ------ Consolidated $ 59 $ 54 ====== ======
(a) Reconciling Items for the three months ended March 31, 2003 include severance charges and income recognized as a result of a favorable legal settlement. Reconciling items for the three months ended March 31, 2002 include restructuring charges, environmental costs and other corporate costs not allocated to the businesses. 16. Financial Information of Guarantor Subsidiaries The following condensed consolidating financial information for the Company presents the financial information of Hercules, the guarantor subsidiaries and the non-guarantor subsidiaries based on the Company's understanding of the Securities and Exchange Commission's interpretation and application of Rule 3-10 under the Securities and Exchange Commission's Regulation S-X. The financial information may not necessarily be indicative of results of operations or financial position had the guarantor subsidiaries or non-guarantor subsidiaries operated as independent entities. In this presentation, Hercules consists of the parent company's operations. Guarantor subsidiaries and non-guarantor subsidiaries of Hercules are reported on an equity basis. 19 Condensed Consolidating Statement of Operations Three Months Ended March 31, 2003
(Unaudited) (Dollars in millions) Unconsolidated -------------------------------------- Eliminations Guarantor Non-Guarantor & Parent Subsidiaries Subsidiaries Adjustments Consolidated -------- ------------ ------------- ----------- -------------- Net sales $ 129 $ 107 $ 234 $ (29) $ 441 Cost of sales 83 76 149 (27) 281 Selling, general, and administrative expenses 28 15 47 -- 90 Research and development 5 4 1 -- 10 Intangible asset amortization 2 -- -- -- 2 Other operating (income) expense, net (2) -- 1 -- (1) -------- -------- -------- -------- -------- Profit (loss) from operations 13 12 36 (2) 59 Interest and debt expense (income), net 45 (15) (11) -- 19 Preferred security distributions of subsidiary trusts -- -- 15 -- 15 Other expense, net 1 2 1 -- 4 -------- -------- -------- -------- -------- (Loss) income before income taxes and equity income (loss) (33) 25 31 (2) 21 (Benefit) provision for income taxes (11) 9 10 -- 8 Equity loss of affiliated companies -- -- -- -- -- Equity income (loss) from consolidated subsidiaries 35 2 1 (38) -- -------- -------- -------- -------- -------- Net income (loss) from continuing operations before discontinued operations and cumulative effect of changes in accounting principle 13 18 22 (40) 13 Net (loss) income from discontinued operations, net of tax -- -- -- -- -- Net income (loss) before cumulative effect of changes in accounting principle 13 18 22 (40) 13 Cumulative effect of changes in accounting principle, net of tax (28) -- -- -- (28) -------- -------- -------- -------- -------- Net (loss) income $ (15) $ 18 $ 22 $ (40) $ (15) ======== ======== ======== ======== ========
20 Condensed Consolidating Statement of Operations Three Months Ended March 31, 2002
(Unaudited) (Dollars in millions) Unconsolidated -------------------------------------- Eliminations Guarantor Non-Guarantor & Parent Subsidiaries Subsidiaries Adjustments Consolidated -------- ------------ ------------- ----------- -------------- Net sales $ 133 $ 115 $ 200 $ (46) $ 402 Cost of sales 84 81 124 (46) 243 Selling, general, and administrative expenses 20 26 42 -- 88 Research and development 5 4 1 -- 10 Intangible asset amortization 1 1 -- -- 2 Other operating (income) expense, net (1) 4 2 -- 5 -------- -------- -------- -------- -------- Profit (loss) from operations 24 (1) 31 -- 54 Interest and debt expense (income), net 68 (23) (9) -- 36 Preferred security distributions of subsidiary trusts -- -- 15 -- 15 Other expense, net 1 1 2 -- 4 -------- -------- -------- -------- -------- Loss (income) before income taxes and equity income (loss) (45) 21 23 -- (1) (Benefit) provision for income taxes (11) 8 5 -- 2 Equity loss of affiliated companies -- -- -- -- -- Equity income (loss) from consolidated subsidiaries 31 15 1 (47) -- -------- -------- -------- -------- -------- Net (loss) income from continuing operations before discontinued operations and cumulative effect of changes in accounting principle (3) 28 19 (47) (3) Net (loss) income from discontinued operations, net of tax (209) 12 10 (22) (209) Net (loss) income before cumulative effect of changes in accounting principle (212) 40 29 (69) (212) Cumulative effect of changes in accounting principle, net of tax (368) -- -- -- (368) -------- -------- -------- -------- -------- Net (loss) income $ (580) $ 40 $ 29 $ (69) $ (580) ======== ======== ======== ======== ========
21 Condensed Consolidating Balance Sheet March 31, 2003
(Unaudited) (Dollars in millions) Unconsolidated -------------------------------------- Eliminations Guarantor Non-Guarantor & Parent Subsidiaries Subsidiaries Adjustments Consolidated -------- ------------ ------------- ----------- -------------- ASSETS Current assets Cash and cash equivalents $ 106 $ 6 $ 106 $ -- $ 218 Restricted cash 125 -- -- -- 125 Accounts and notes receivable, net 90 66 212 -- 368 Intercompany receivables 80 25 19 (124) -- Inventories 49 55 85 (12) 177 Deferred income taxes 20 17 2 -- 39 -------- -------- -------- -------- -------- Total current assets 470 169 424 (136) 927 Property, plant, and equipment, net 173 162 328 -- 663 Investments in subsidiaries 2,351 69 50 (2,470) -- Goodwill and other intangible assets, net 232 90 351 -- 673 Deferred income taxes 122 -- 15 (117) 20 Other assets 344 13 57 -- 414 -------- -------- -------- -------- -------- Total assets $ 3,692 $ 503 $ 1,225 $ (2,723) $ 2,697 ======== ======== ======== ======== ======== LIABILITIES AND STOCKHOLDERS' DEFICIT Current liabilities Accounts payable $ 49 $ 17 $ 101 $ -- $ 167 Accrued expenses 91 125 57 -- 273 Intercompany payables 8 71 45 (124) -- Short-term debt 127 -- 18 -- 145 -------- -------- -------- -------- -------- Total current liabilities 275 213 221 (124) 585 Long-term debt 700 -- 33 -- 733 Deferred income taxes -- 117 71 (117) 71 Postretirement benefits and other liabilities 655 71 66 -- 792 Company-obligated preferred securities of subsidiary trusts -- -- 625 -- 625 Intercompany notes payable/(receivable) 2,171 (1,050) (1,121) -- -- Stockholders' deficit (109) 1,152 1,330 (2,482) (109) -------- -------- -------- -------- -------- Total liabilities and stockholders' deficit $ 3,692 $ 503 $ 1,225 $ (2,723) $ 2,697 ======== ======== ======== ======== ========
22 Condensed Consolidating Statement of Cash Flows Three Months Ended March 31, 2003
(Unaudited) (Dollars in millions) Unconsolidated -------------------------------------- Guarantor Non-Guarantor Parent Subsidiaries Subsidiaries Eliminations Consolidated -------- ------------ ------------- ----------- -------------- NET CASH (USED IN) PROVIDED BY OPERATIONS $ (36) $ 15 $ 33 $ -- $ 12 CASH FLOW FROM INVESTING ACTIVITIES: Capital expenditures (2) (2) (4) -- (8) Proceeds of investment and fixed asset disposals -- -- 3 -- 3 Other, net -- -- 1 -- 1 -------- -------- -------- -------- -------- Net cash used in investing activities (2) (2) -- -- (4) -------- -------- -------- -------- -------- CASH FLOW FROM FINANCING ACTIVITIES: Long-term debt repayments (1) -- (4) -- (5) Change in short-term debt -- -- (1) -- (1) Change in intercompany, noncurrent 9 (14) 5 -- -- Common stock issued 5 -- -- -- 5 -------- -------- -------- -------- -------- Net cash provided by (used in) financing activities 13 (14) -- -- (1) Effect of exchange rate changes on cash -- -- 2 -- 2 -------- -------- -------- -------- -------- Net (decrease) increase in cash and cash equivalents (25) (1) 35 -- 9 Cash and cash equivalents at beginning of period 131 7 71 -- 209 -------- -------- -------- -------- -------- Cash and cash equivalents at end of period $ 106 $ 6 $ 106 $ -- $ 218 ======== ======== ======== ======== ========
23 Condensed Consolidating Statement of Cash Flows Three Months Ended March 31, 2002
(Unaudited) (Dollars in millions) Unconsolidated -------------------------------------- Guarantor Non-Guarantor Parent Subsidiaries Subsidiaries Eliminations Consolidated -------- ------------ ------------- ----------- -------------- NET CASH (USED IN) PROVIDED BY OPERATING ACTIVITIES OF CONTINUING OPERATIONS $ (17) $ 32 $ (10) $ (20) $ (15) CASH FLOW FROM INVESTING ACTIVITIES: Capital expenditures (2) (1) (2) -- (5) Proceeds of investment and fixed asset disposals 8 2 1 -- 11 Other, net -- (3) -- 3 -- -------- -------- -------- -------- -------- Net cash provided by (used in) investing activities of continuing operations 6 (2) (1) 3 6 -------- -------- -------- -------- -------- CASH FLOW FROM FINANCING ACTIVITIES: Long-term debt proceeds 155 -- -- -- 155 Long-term debt repayments (105) -- (73) -- (178) Change in short-term debt -- -- 2 -- 2 Change in intercompany, noncurrent (46) 29 -- 17 -- Common stock issued 2 -- -- -- 2 -------- -------- -------- -------- -------- Net cash provided by (used in) financing activities of continuing operations 6 29 (71) 17 (19) Net cash flow (used in) provided by discontinued operations -- (67) 74 -- 7 Effect of exchange rate changes on cash -- -- (3) -- (3) -------- -------- -------- -------- -------- Net decrease in cash and cash equivalents (5) (8) (11) -- (24) Cash and cash equivalents at beginning of period 8 12 56 -- 76 -------- -------- -------- -------- -------- Cash and cash equivalents at end of period $ 3 $ 4 $ 45 $ -- $ 52 ======== ======== ======== ======== ========
24 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Within the following discussion, unless otherwise stated, "quarter" and "three-month period" refer to the first quarter of 2003 and the three months ended March 31, 2003. All comparisons are with the corresponding period in the previous year, unless otherwise stated. The Company operates through two reportable segments and four divisions: Performance Products (Pulp and Paper, Aqualon) and Engineered Materials and Additives (FiberVisions, Pinova). The table below reflects Net sales and Profit from operations for the quarters ended March 31, 2003 and 2002. Substantially all reconciling items have been allocated to the segments. The reconciling items primarily include corporate expenses.
(Dollars in millions) Three Months Ended March 31, -------------------- 2003 2002 ------ ------ Net sales: Performance Products $ 356 $ 327 Engineered Materials and Additives 85 75 ------ ------ Consolidated $ 441 $ 402 ====== ====== Profit from operations: Performance Products $ 56 $ 58 Engineered Materials and Additives 2 3 Reconciling Items (a) 1 (7) ------ ------ Consolidated $ 59 $ 54 ====== ======
(a) Reconciling Items for the three months ended March 31, 2003 include severance charges and income recognized as a result of a favorable legal settlement. Reconciling items for the three months ended March 31, 2002 include restructuring charges, environmental costs and other corporate costs not allocated to the businesses. Consolidated net sales were $441 million for the quarter, an increase of $39 million, or 10%. Compared to the first quarter 2002, prices were flat while volume/mix had a 3% positive impact and rate of exchange had a 7% positive impact. Volumes improved 7% versus the prior year. Regionally, net sales improved 2% in North America, 24% in Europe and 15% in Asia Pacific and declined 12% in Latin America. European sales were higher primarily due to the positive impact of the weaker dollar versus the euro. Profit from operations improved $5 million, or 9%. The improvement in profit from operations was driven by higher volumes, the positive impact of the weaker dollar versus the euro and reductions in the Company's fixed cost structure pursuant to the comprehensive cost reduction and work process redesign program (see Note 10) commenced in 2001; offsetting these amounts were higher raw material and energy costs, higher insurance expenses and higher pension and postretirement costs. Profit from operations benefited from income recognized as a result of a favorable legal settlement as well as lower environmental and severance charges versus the prior year. In the Performance Products segment, net sales grew $29 million, or 9%, and profit from operations declined $2 million, or 3%. In the Pulp and Paper Division, net sales growth resulted from 7% higher volumes as a result of the supply agreement with G.E. Betz. These volumes were recorded as intercompany sales prior to the divestiture of the Water Treatment Business. Profit from operations in the three-month period was negatively impacted by higher energy and raw material costs and higher pension expenses offset by lower selling, general and administrative expenses. Demand in the North American and European markets was weaker than expected with extended shutdowns at a number of paper mills. In addition, weather conditions in the southeastern United States affected wood chip supply and slowed production with a number of the Company's customers. Aqualon experienced 12% net sales growth and a 6% improvement in profit from operations in the quarter versus the prior year quarter. These improvements were largely driven by 4% higher volumes and the positive effect of rate of exchange. Volume improvements were driven largely by improved oilfield demand as rig counts were up worldwide versus the prior year. Profit from operations was negatively impacted by higher pension expenses. 25 In the Engineered Materials and Additives segment, net sales increased $10 million, or 13%, and profit from operations declined $1 million, or 33%. FiberVisions net sales increased 26% as a result of the positive rate of exchange effect, 14% higher volumes and the contractual customer pass through of higher polymer costs. Profit from operations was flat for the quarter. Higher volumes, resulting from increased demand for fibers in wipes and baby diapers, were offset by higher polymer costs. FiberVisions can recover approximately 75% of the higher polymer costs with a four to eight week lag depending on the terms of the customer contract. Conversely, when polymer prices begin to decline, the lag results in margin recovery. Net sales in Pinova experienced a 12% decline as a result of 5% lower volumes and changes in product/mix. Pinova's decreased volumes were due to lost sales from competitive pricing in the chewing gum market. Profit from operations decreased $1 million as a result of the lower volumes and higher pension expenses. Interest and debt expense, and preferred security distributions of subsidiary trusts decreased $17 million for the quarter, primarily due to lower outstanding debt balances, reflecting the application of proceeds from the sale of the Water Treatment Business on April 29, 2002. The effective tax rate for the quarter for continuing operations was 38% versus 200% for the same period 2002. The rate for the 2002 quarter was unfavorably impacted by the mix of earnings and losses by geographic region. The anticipated full year 2003 tax rate is approximately 38%. DISCONTINUED OPERATIONS On April 29, 2002, Hercules completed the sale of the Water Treatment Business to GE Specialty Materials, a unit of General Electric Company (see Note 4). The sale price was $1.8 billion in cash, resulting in net after-tax proceeds of approximately $1.7 billion. The Company used the net proceeds to prepay debt under its senior credit facility and ESOP credit facility. Pursuant to SFAS 144, the Water Treatment Business has been treated as a discontinued operation as of February 12, 2002, and accordingly, all financial information has been restated. The loss from discontinued operations for the three months ended March 31, 2002 includes an after-tax loss on the disposal of the business of $230 million. The Paper Process Chemicals Business, representing approximately one-third of the business of BetzDearborn Inc. when it was originally acquired in 1998, was fully integrated into and continues to be reported within Pulp and Paper. FINANCIAL CONDITION Liquidity and Financial Resources: Net cash provided by continuing operations was $12 million for the three-month period compared to cash used by continuing operations of $15 million in the first quarter 2002. The current ratio has increased to 1.60 at March 31, 2003, compared with 1.47 at December 31, 2002. The quick ratio has increased to 1.30 at March 31, 2003 from 1.20 at December 31, 2002. As of March 31, 2003, the Company had $58 million available under its $125 million revolving credit agreement and $15 million of unused short-term lines of credit. The Company had outstanding letters of credit associated with the credit facility of $67 million at March 31, 2003. The Company expects to meet short-term cash requirements from current available cash, operating cash flow and availability under lines of credit. Capital expenditures are expected to be between $45 million and $58 million during 2003. On April 28, 2003, the Company announced capacity expansion plans for the Natrosol(R) HEC (Hydroxyethylcellulose) and Natrosol(R) Plus product lines. The expansion, which will be staged at Aqualon's production facilities in New Jersey, Virginia and The Netherlands, is expected to begin in the fourth quarter 2003 and to be completed by the end of 2004. The expansion and upgrades are designed to increase annual capacity by 10,000 tons and have the added capability to produce new products now under development. Capital Structure and Commitments: Total capitalization (stockholders' (deficit) equity, company-obligated preferred securities of subsidiary trusts and debt) remained flat at $1.4 billion at March 31, 2003 from year-end 2002. The ratio of debt-to-total capitalization decreased to 63% at March 31, 2003 from 64% at December 31, 2002. In June 2003, the $125 million 6.625% notes will mature. The Company has placed $125 million in proceeds from the term B loan into an escrow account to pay the 6.625% notes. The escrow funds have been recognized as restricted cash on the Consolidated Balance Sheet. 2003 OUTLOOK The Company has experienced higher pension, health care, insurance, energy and raw material costs than anticipated. Energy and natural gas price spikes caused a number of raw material prices to increase as suppliers used the opportunity to improve 26 margins. It also caused some structural changes and reductions in capacity. The Company expects raw material prices to remain up for some period of time. More specifically, producers of materials derived from the chlor-alkalai, ethylene and natural gas chains are passing through increases in commodity prices. A combination of market tightness due to capacity consolidation, Venezuelan production interruptions and the war in Iraq affected many downstream products. Solvents, surfactants and a number of other raw materials came under pressure in the first quarter as all suppliers announced price increases. In general, realized increases were well below announced price increases. The Company raised prices across all four divisions, the effects of which are expected to be realized beginning in the second quarter. The U.S. dollar continues to weaken versus the euro. In Pulp and Paper, production is expected to remain sluggish in the near-term. In April, Pulp and Paper announced price increases across several product lines to offset rising raw material and energy costs. However, the environment continues to be very difficult and requires delivery of total cost savings to customers through new product and application technology. Over the long-term, Pulp and Paper is forecasting production growth for the global paper industry to be consistent with historical trends. In Aqualon, market conditions continue to be weak, but slightly ahead of last year. However, Aqualon has seen increases in the oilfield-related businesses. FiberVisions anticipates no benefit from any economic upturn in 2003. First quarter 2003 volume increases are due to new product introduction, pipeline fill, some gain in market share and strong customer market share. In Pinova, market conditions remain unchanged. CRITICAL ACCOUNTING POLICIES Effective January 1, 2003, the Company adopted SFAS 143 (see Note 13). Adoption of SFAS 143 resulted in the Company increasing the recorded liabilities for environmental remediation obligations. The actual costs for environmental remediation obligations will depend on numerous factors, including the actual methods of remediation required or agreed to, outcomes of negotiations with regulatory authorities, outcomes of litigation, changes in environmental laws and regulations, technological developments, and the years and timing of remedial activity required. SFAS 143 introduced additional variables into the measurement of these obligations, including probability weighting of expected cash flows, present value and assumptions regarding interest rates. Revisions to either the timing or amount of estimated cash flows, as well as the passage of time, will result in changes to the recorded liability. RECENT EVENTS On March 20, 2003, the Hercules Shareholders' Committee for New Management filed a preliminary proxy statement with the SEC announcing that it will solicit proxies to elect four candidates to the Board of Directors of Hercules Incorporated at the upcoming 2003 Annual Meeting. The Committee is comprised of International Specialty Products Inc., a privately-held international specialty chemicals company, four current members of the Hercules Board and the Committee's four nominees for election to the Board of Directors at this year's annual meeting. Since the initial filing, the Committee has filed several amendments to the preliminary proxy statement, as well as definitive additional soliciting materials. RISK FACTORS Market Risk - Fluctuations in interest and foreign currency exchange rates affect the Company's financial position and results of operations. The Company uses several strategies from time to time to actively hedge interest rate and foreign currency exchange rate exposure and minimize the effect of such fluctuations on reported earnings and cash flow. Sensitivity of the Company's financial instruments to selected changes in market rates and prices which are reasonably possible are described below. Market values are the present value of projected future cash flows based on the market rates and prices chosen. The market values for interest rate risk are calculated by utilizing a third-party software model that utilizes standard pricing models to determine the present value of the instruments based on the market conditions as of the valuation date. The Company's derivative and other financial instruments subject to interest rate risk at March 31, 2003 consist of debt instruments, pension benefit obligations and pension plan assets invested in fixed rate securities. The debt instruments had a net market value at March 31, 2003 of $1.46 billion. The sensitivity analysis assumes an 27 instantaneous 100-basis point move in interest rates from their current levels, with all other variables held constant. A 100-basis point increase in interest rates at March 31, 2003 would result in a $61 million decrease in the net market value of the liability. A 100-basis point decrease in interest rates at March 31, 2003 would result in a $78 million increase in the net market value of the liability. The Company's financial instruments subject to foreign currency exchange risk consist of foreign currency forward contracts and represent a net liability position of $0.6 million at March 31, 2003. The following sensitivity analysis assumes an instantaneous 10% change in foreign currency exchange rates, with all other variables held constant. A 10% strengthening of the U.S. dollar versus other currencies at March 31, 2003 would result in a $1.1 million increase in the net liability position, while a 10% weakening of the dollar versus other currencies would result in a $1.1 million decrease in the net liability position resulting in a net asset position. Foreign exchange forward and option contracts have been used to hedge the Company's firm and anticipated foreign currency cash flows. Thus, there is either an asset or cash flow exposure related to all the financial instruments in the above sensitivity analysis for which the impact of a movement in foreign exchange rates would be in the opposite direction and substantially equal to the impact on the instruments in the analysis. There are presently no significant restrictions on the remittance of funds generated by the Company's operations outside the United States. The Company has not designated any derivative as a hedge instrument under Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities," as amended, and accordingly, changes in the fair value of derivatives are recorded each period in earnings. The assets and liabilities associated with the Company's defined benefit pension plans are subject to interest rate and market risk. At March 31, 2003, the accumulated pension benefit obligation ("ABO") of the U.S. defined benefit plan was $1,227 million based on a discount rate of 6.75%. The fair value of the U.S. defined benefit plan assets at March 31, 2003 was $923 million. The assets of the U.S. defined benefit plan are invested as follows: $427 million in domestic corporate equity securities, $166 million in international corporate equity securities, $317 million in fixed income securities and $13 million in other investments. The Company has used an 8.75% assumed rate of return on plan assets for the U.S. plans effective January 1, 2003. A 100-basis point decrease or increase in the discount rate has approximately a plus or minus $130 million impact on the ABO. A 100-basis point decrease or increase in the assumed rate of return has approximately a plus or minus $12 million impact on the U.S. pension expense estimated for 2003. Environmental Litigation - Hercules has been identified by U.S. federal and state authorities as a "potentially responsible party" for environmental cleanup at numerous sites. The estimated range of reasonably possible costs for remediation is between $115 million and $225 million. The Company does not anticipate that its financial condition will be materially affected by environmental remediation costs in excess of amounts accrued, although quarterly or annual operating results could be materially affected (see Note 14). Environmental remediation expenses are funded from internal sources of cash. Such expenses are not expected to have a significant effect on the Company's ongoing liquidity. Environmental cleanup costs, including capital expenditures for ongoing operations, are a normal, recurring part of operations and are not significant in relation to total operating costs or cash flows. Other Litigation - Hercules is a defendant in numerous lawsuits that arise out of, and are incidental to, the conduct of its business. These suits concern issues such as product liability, contract disputes, employee-related matters, patent infringement, environmental proceedings, property damage and personal injury matters. The Company is a defendant in numerous asbestos-related personal injury lawsuits and claims which typically arise from alleged exposure to asbestos fibers from resin-encapsulated pipe and tank products which were sold by one of the Company's former subsidiaries to a limited industrial market ("products claims"). The Company is also a defendant in lawsuits alleging exposure to asbestos at facilities formerly or presently owned or operated by the Company ("premises claims"). The Company's estimated liability and insurance recoveries are based on numerous assumptions regarding the number of future claims, the cost of settlements, potential insurance recoveries and other variables. While the Company believes its estimates are reasonable, there can be no assurance that these assumptions will prove to be correct and the Company's actual experience may differ materially over time. Since it is not feasible to predict the outcome of all pending suits and claims, the ultimate resolution of these matters could have a material effect upon the financial position of Hercules, and the resolution of any of the matters during a specific period could have a material effect on the quarterly or annual operating results for that period (see Note 14). The Company anticipates that its primary and first level excess insurance policies will likely exhaust over the next 1 to 2 months, assuming that the rate of settlements and payments remains relatively consistent with the Company's past experience. Nonetheless, based on the current number of claims pending, the amounts the Company anticipates paying to resolve those claims which are not dismissed or 28 otherwise resolved without payment, and anticipated future claims, the Company believes that it and its former subsidiary together have sufficient additional insurance to cover the majority of its current and estimated future asbestos-related liabilities. FORWARD-LOOKING STATEMENTS This quarterly report on Form 10-Q includes forward-looking statements, as defined in the Private Securities Litigation Reform Act of 1995, reflecting management's current analysis and expectations, based on what management believes to be reasonable assumptions. Forward-looking statements may involve known and unknown risks, uncertainties and other factors, which may cause the actual results to differ materially from those projected, stated or implied, depending on such factors as: ability to generate cash, ability to raise capital, ability to refinance, the result of the pursuit of strategic alternatives, ability to execute work process redesign and reduce costs, business climate, business performance, economic and competitive uncertainties, higher manufacturing costs, reduced level of customer orders, changes in strategies, risks in developing new products and technologies, environmental and safety regulations and clean-up costs, foreign exchange rates, the impact of changes in the value of pension fund assets and liabilities, changes in generally accepted accounting principles, legislative changes, adverse legal and regulatory developments, including increases in the number or financial exposures of claims, lawsuits, settlements or judgments, or the inability to eliminate or reduce such financial exposures by collecting indemnity payments from insurers, the impact of increased accruals and reserves for such exposures, and adverse changes in economic and political climates around the world, including terrorist activities and international hostilities. Accordingly, there can be no assurance that the Company will meet future results, performance or achievements expressed or implied by such forward-looking statements. As appropriate, additional factors are contained in other reports filed by the Company with the Securities and Exchange Commission. This paragraph is included to provide safe harbor for forward-looking statements, which are not generally required to be publicly revised as circumstances change, and which the Company does not intend to update. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK For discussion of quantitative and qualitative disclosure about market risk, see "Risk Factors" under Item 2, Management's Discussion and Analysis of Financial Condition and Results of Operations. ITEM 4. CONTROLS AND PROCEDURES The Company carried out an evaluation, under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and Vice President and Controller, of the effectiveness of the design and operation of the Company's disclosure controls and procedures pursuant to Exchange Act Rule 13a-15 as of March 31, 2003. Based upon that evaluation, the Company's Chief Executive Officer and Vice President and Controller concluded that the Company's disclosure controls and procedures are effective. Disclosure controls and procedures are controls and procedures that are designed to ensure that information required to be disclosed in Company reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms. There have been no significant changes in the Company's internal controls or in other factors that could significantly affect internal controls subsequent to the date the Company carried out this evaluation. 29 PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS For information related to Legal Proceedings, see Notes to Financial Statements. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits Please see the exhibits listed on the Exhibit Index. (b) Reports on Form 8-K Date of Report Item No. Financial Statements Included -------------- -------- ----------------------------- February 13, 2003 5, 12 Yes 30 HERCULES INCORPORATED SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. HERCULES INCORPORATED By: /s/ Stuart C. Shears -------------------------------------- Stuart C. Shears Vice President and Treasurer (Principal Financial Officer and duly authorized signatory) May 15, 2003 By: /s/ Fred G. Aanonsen -------------------------------------- Fred G. Aanonsen Vice President and Controller (Principal Accounting Officer and duly authorized signatory) May 15, 2003 31 HERCULES INCORPORATED CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, William H. Joyce, Chairman and Chief Executive Officer, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Hercules Incorporated; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report. 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. /s/ William H. Joyce - ------------------------------------ William H. Joyce Chairman and Chief Executive Officer May 15, 2003 32 HERCULES INCORPORATED CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, Fred G. Aanonsen, Vice President and Controller, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Hercules Incorporated; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report. 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. /s/ Fred G. Aanonsen - ----------------------------- Fred G. Aanonsen Vice President and Controller May 15, 2003 33 HERCULES INCORPORATED EXHIBIT INDEX NUMBER DESCRIPTION 10-A* Amended and Restated Hercules Incorporated Management Incentive Compensation Plan, dated February 21, 2003 10-B* Hercules Deferred Compensation Plan, restated December 1995 10-C* Employment Offer Letter - Fred G. Aanonsen, dated June 27, 2001 10-D* Employment Offer Letter - Robert C. Flexon, dated May 12, 2000 10-E* Hercules Executive Survivor Benefit Plan II dated January 1, 1987- Benefit structure is only applicable to one executive officer 99.1* Certification of Chairman and Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 99.2* Certification of Vice President and Controller Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 * Filed herewith 34 EX-10.A 3 w86579exv10wa.txt HERCULES AMENDED & RESTATED MANAGEMENT INCENTIVE Exhibit 10-A HERCULES INCORPORATED ANNUAL MANAGEMENT INCENTIVE COMPENSATION PLAN (AMENDED AND RESTATED FEBRUARY 21, 2003) ARTICLE I PURPOSE The Hercules Incorporated Annual Management Incentive Compensation Plan, the terms of which are herein set forth (as the same is now in effect or as hereafter amended from time to time, the "Plan"), is intended to enable the Company to secure, retain and motivate highly qualified and experienced management personnel by providing to employees (including officers and directors who are employees) who (i) occupy positions that affect the annual performance of the Company and of such of its participating related companies as shall from time to time be designated by the Board for participation in the Plan and (ii) are designated as Participants in the Plan, incentive compensation linked to (a) the Company's success in meeting prescribed corporate goals, (b) the performance of the employee's organizational unit in meeting its prescribed goals and (c) the employee's individual performance in meeting its prescribed personal performance goals. ARTICLE II DEFINITIONS AND CONSTRUCTION Section 2.1 Definitions The following words and phrases when used in the Plan with an initial capital letter, unless their context clearly indicates to the contrary, shall have the respective meanings set forth below in this Section 2.1: Beneficiary. As defined in Subsection 17.7.1. Board. The Board of Directors of the Company. CEO. The Chief Executive Officer of the Company. Change in Control. As defined in Section 15.1. Committee. The Compensation Committee of the Board or such other committee as may be designated by the Board to administer the Plan. Common Stock. The common stock of the Company. Company. Hercules Incorporated and its successors and assigns. Corporate Payout Curves. As defined in Section 7.1. Corporate Performance Goals. Performance goals for a Plan Year based upon corporate performance during that Plan Year. Determination Date. As defined in Article X. Employee. An employee of the Company or of a Participating Subsidiary. Exchange Act. The Securities Exchange Act of 1934, as now in effect or as hereafter amended from time to time. Grantor. The Board, when used in reference to an Incentive Award granted to the CEO; the Committee, when used in reference to an Incentive Award granted to a Reporting Person; or the CEO, when used in reference to an Incentive Award granted to a Nonreporting Person. Group. One of the operating groups or corporate staff departments of either the Company or a Participating Subsidiary. Group Head. The individual occupying the highest organizational position within a particular Group. Group Payout Curves. As defined in Section 7.1. Group Performance Goals. Performance goals for a Plan Year based upon the performance of a particular Group during that Plan Year. Incentive Award. The actual cash and/or stock distribution made to any Participant pursuant to the Plan, the amount and payment of which is determined as set forth in the Plan. Incentive Awards Pool. As defined in Article IV. Incumbent Board. As defined in Section 15.1. Individual Performance Goals. Performance goals for a Plan Year based upon the performance of a particular Participant during that Plan Year. Individual Target Award. As defined in Section 5.1. LTICP. The Company's Long-Term Incentive Compensation Plan or any successor thereto or any other plan pursuant to which the Company has the ability to grant restricted shares of Common Stock. Maximum. The level of achievement of a particular Performance Goal at which the amount distributed with respect to the applicable component of the relevant Incentive Award will reach its highest possible level. -2- Nonreporting Person. An Employee who is not subject to the reporting requirements of Section 16(a) of the Exchange Act with respect to the Company. Participant. An Employee who is designated as a Participant in the Plan for a given Plan Year pursuant to Article III. Participating Subsidiary. A Subsidiary designated by the Board as a Participating Subsidiary. Payout Curve. The proposed Incentive Awards distribution scheme established for a given Plan Year established pursuant to Article VII hereof. Performance Goals. Corporate Performance Goals, Group Performance Goals and Individual Performance Goals. Plan. As defined in Article I. Plan Year. A calendar year for which any Participant is given the opportunity to earn an Incentive Award under the Plan. Reporting Person. An Employee subject to the reporting requirements of Section 16(a) of the Exchange Act with respect to the Company, other than the CEO. Restricted Common Stock. As defined in Article X. Subsidiary. Any corporation, partnership, joint venture or other entity (i) that, directly or indirectly through one or more intermediaries, is controlled by the Company or (ii) a majority or more of whose outstanding voting stock or voting power for election of directors or equivalent governing body is beneficially owned by the Company directly or indirectly through one or more intermediaries. Target. The targeted level of performance with respect to any particular Performance Goal. Target Incentive Awards Pool. As defined in Article IV. Threshold. The minimum level of achievement of a Performance Goal. Section 2.2 Construction Whenever any words are used herein in the masculine gender, they shall be construed as though they were also used in the feminine gender in all cases where they would so apply, and wherever any words are used herein in the singular -3- form they shall be construed as though they were also used in the plural form in all cases where they would so apply. Headings of sections and subsections of the Plan are inserted for convenience of reference, are not a part of the Plan, and are not to be considered in the construction hereof. The words "hereof," "herein," "hereunder" and other similar compounds of the word "here" shall mean and refer to the entire Plan, and not to any particular provision or section. All references herein to specific Articles, Sections or Subsections shall mean Articles, Sections or Subsections of this document unless otherwise qualified. ARTICLE III PARTICIPATION AND GRANT OF INCENTIVE AWARDS Section 3.1 Power to Designate Participants and Make Incentive Awards 3.1.1: The Board shall have the exclusive power to designate the CEO as a Participant and to make all decisions concerning the Incentive Awards of the CEO, including without limitation the terms and conditions of the CEO's Incentive Award opportunities and the amounts actually payable to the CEO pursuant to Incentive Awards, subject to the terms of the Plan and after taking into account the recommendations of the Committee. 3.1.2: The Committee shall have the exclusive power to designate Reporting Persons as Participants and to make all decisions concerning the Incentive Awards of Reporting Persons, including without limitation the terms and conditions of their Incentive Award opportunities and the amounts actually payable to them pursuant to Incentive Awards, subject to the terms of the Plan. 3.1.3: The CEO shall have the power to designate Nonreporting Persons as Participants and to make all decisions concerning the Incentive Awards of Nonreporting Persons, including without limitation the terms and conditions of their Incentive Award opportunities and the amounts actually payable to them pursuant to Incentive Awards, subject to the terms of the Plan and to the authority and oversight of the Committee. Section 3.2 Establishment of Terms of Awards The terms and conditions of Incentive Award opportunities shall be established in accordance with the process set forth in Articles IV through VII below. Such process shall be completed not later than the end of the first calendar quarter of the applicable Plan Year. Section 3.3 Notification of Participation Employees designated as Participants shall be so advised in writing, and shall also be informed of the amount of their Individual Target Awards and the other terms and conditions of their Incentive Award opportunities. -4- ARTICLE IV INCENTIVE AWARDS POOLS The Committee shall recommend to the Board, and the Board shall determine and approve, the aggregate dollar amount of the Incentive Awards that would be payable to all Participants if all Performance Goals were met at the Target level (the "Target Incentive Awards Pool" for that Plan Year) and the maximum aggregate dollar amount of the Incentive Awards that would become payable to all Participants if all Performance Goals were met at the Maximum level (the "Incentive Awards Pool"). However, the Board may adjust the amount of the Target Incentive Awards Pool and/or the Incentive Awards Pool upwards or downwards at any time before the end of the Plan Year. ARTICLE V INDIVIDUAL TARGET AWARDS Section 5.1 Target Awards The Grantor shall establish an incentive opportunity (an "Individual Target Award") for each Participant who will be eligible to receive an Incentive Award for each Plan Year, such that the aggregate of the Individual Target Awards does not exceed the Target Incentive Awards Pool for that Plan Year. The Individual Target Award shall be a percentage of the Participant's base salary or the benchmark for the Participant's position, or a flat dollar amount, as determined by the Grantor, but need not be the same for any other Participant or group of Participants. In selecting such percentage or amount, the Grantor shall consider, among other criteria, survey data regarding competitive industry practices for similar positions in comparable-sized chemical companies. Section 5.2 Components Each Individual Target Award will consist of two parts: a corporate component, to be earned based upon achievement of the applicable Corporate Performance Goals, and a Group component, to be earned based upon achievement of the applicable Group Performance Goals (in each case subject to adjustment based on the achievement of the applicable Individual Performance Goals). The Grantor shall determine the percentage assigned to each of the two components. ARTICLE VI PERFORMANCE GOALS Section 6.1 Corporate Performance Goals The Committee shall recommend to the Board, and the Board shall determine and approve, the Corporate Performance Goals for each Plan Year, including the Threshold, Target and Maximum levels of achievement. After such approval, the Board may modify the Corporate Performance Goals in any manner that it deems equitable and appropriate as a result of an extraordinary and material change in the Company's business, operations, corporate or capital structure, in -5- the manner in which it conducts business or any other extraordinary and material change affecting the Company. Section 6.2 Group Performance Goals Group Performance Goals for Participants in each Group shall be established for each Plan Year by the CEO after consultation with the applicable Group Head, including the Threshold, Target and Maximum levels of achievement. After such establishment, the CEO may approve a modification to such Group Performance Goals in any manner that he deems equitable and appropriate as a result of an extraordinary and material change in the Company's business, operations, corporate or capital structure, in the manner in which it conducts business or any other extraordinary and material change affecting the Company. Section 6.3 Individual Performance Goals Individual Performance Goals shall be established for each Participant for each Plan Year, as follows: 6.3.1: Individual Performance Goals for the CEO shall be established by the Board, after consultation with the Committee and the CEO. Individual Performance Goals for a Reporting Person shall be established by the Committee after consultation with the CEO and the Reporting Person. Individual Performance Goals for a Nonreporting Person shall be established by the Group Head for whom he works after consultation with such Nonreporting Person. 6.3.2: After Individual Performance Goals have been established under Section 6.3.1, the Board, the Committee or the Group Head, as applicable, may approve a modification to the Individual Performance Goals in any manner that it or he deems equitable and appropriate as a result of a change in the Participant's duties and responsibilities or the manner in which he discharges his duties and responsibilities or any other change, in each case if it or he determines such change to be extraordinary and material. Section 6.4 Certain Modifications In the event of a modification of the Corporate Performance Goals or the Group Performance Goals for any Plan Year pursuant to Section 6.1 or 6.2, the Grantor may modify the Individual Performance Goals of any Participant affected by the change resulting in such modification as deemed appropriate and equitable in his sole and absolute discretion. -6- ARTICLE VII PAYOUT CURVE Section 7.1 Establishment of Payout Curves The Committee shall establish the Payout Curves for the corporate component of Incentive Awards (the "Corporate Payout Curve"), and the CEO shall establish the Payout Curves for the Group component of Incentive Awards (the "Group Payout Curves"). Section 7.2 Requirements Each Payout Curve shall, within the framework of the applicable Performance Goals, Individual Target Awards, Thresholds and other terms and conditions established pursuant to Articles III through VI: 7.2.1: Establish Threshold, Target, Maximum and intermediate(s) performance and distribution levels for determining the amounts to be distributed to Participants pursuant to their Incentive Awards; and 7.2.2: Provide for distributions ranging from 0% to 200% of the Target Incentive Awards Pool, depending on the application of actual performance against the distribution levels set forth on such Payout Curve. Section 7.3 Modification From time to time, at any time before distributions are made with respect to Incentive Awards for a Plan Year, the Committee in its sole discretion may modify the Corporate Payout Curve, and the CEO, in his sole discretion, may modify or amend the Group Payout Curve for any Group, in order to reflect changed business or economic conditions. ARTICLE VIII DETERMINATION OF PERFORMANCE RESULTS As soon as practicable following the end of each Plan Year (1) the Committee shall determine whether and the extent to which the applicable Corporate Performance Goals were attained, (2) the CEO shall determine whether and the extent to which each Group attained its applicable Group Performance Goals, and (3) the Board, the CEO or the relevant Group Head, as applicable, shall determine whether and the extent to which each Participant attained his Individual Performance Goals. All such determinations shall be conclusive and binding with respect to all Participants and their Beneficiaries, except as they may be modified pursuant to other provisions of the Plan. -7- ARTICLE IX DETERMINATION OF INCENTIVE AWARDS Section 9.1 Calculation As soon as practicable after the determinations required by Article VIII have been made, the actual Incentive Awards to be made to Participants shall be calculated, based upon such determinations, and in the following manner: 9.1.1: The corporate component of each Participant's Incentive Award shall be determined by the application of the Corporate Payout Curve to the achievement of the applicable Corporate Performance Goals. 9.1.2: The relevant Group component of each Participant's Incentive Award shall be determined by the application of the achievement of the relevant Group Payout Curve to the applicable Group Performance Goals. 9.1.3: The actual Incentive Award for each Participant, subject to Subsection 9.1.4, shall be calculated by adding the corporate and Group components as so calculated, and then adjusting the result as appropriate based upon the Participant's achievement of the applicable Individual Performance Goals and such other factors as the Grantor may deem appropriate. 9.1.4: If the total amount of the Incentive Awards as thus determined for all Participants exceeds the Incentive Awards Pool, Incentive Awards shall be adjusted so that the total equals the Incentive Awards Pool. Section 9.2 Threshold Requirement Notwithstanding any other provision of the Plan, if the achievement of the Corporate Performance Goals for a given Plan Year is below the stated Threshold, no Participant shall receive any payment under Incentive Awards for that Plan Year unless the Board determines otherwise in its sole discretion. ARTICLE X PAYMENT OF INCENTIVE AWARDS Promptly following the date on which the final determination of Incentive Awards for a Plan Year is made (the "Determination Date"), subject to Articles XI through XIII below, each Participant shall be entitled to have his Incentive Award distributed to him in cash, in restricted shares of common stock pursuant to the LTICP ("Restricted Common Stock") or partly in each, as the Committee shall determine (and such determination need not be the same for all Participants). If any portion of any Incentive Award is distributed in Restricted Common Stock of the Company, the number of shares shall be determined by dividing (1) the dollar amount of such portion of the Incentive Award by (2) 85% of the fair market value of one share of Common Stock on the applicable Determination Date. For purposes of this Article X, the term "fair market value" shall mean, as of any -8- given Determination Date, the closing price for one share of Common Stock on that Determination Date, as reported on the Composite Tape for New York Stock Exchange Listed Companies and published in the Eastern Edition of The Wall Street Journal or, if there is no trading on that Determination Date, the closing price of the Common Stock as so reported and published on the next preceding date on which there was trading in Common Stock. ARTICLE XI PRO-RATED INCENTIVE AWARDS Section 11.1 New Participants Notwithstanding any provision of the Plan other than Article XV, if an Employee becomes a Participant during a given Plan Year, such Participant's Incentive Award may (but need not) be pro-rated, if so determined by the Grantor, to reflect the partial year of participation. Section 11.2 Transferred Participants Notwithstanding any provision of the Plan other than Article XV, a Participant whose employment is transferred from one Group to another during a given Plan Year may have his Incentive Award pro-rated between or among such Groups as determined by the Grantor, including without limitation by applying different Group Performance Goals to different portions of his Incentive Award. Section 11.3 Position Change Notwithstanding any provision of the Plan other than Article XV, if during any Plan Year a Participant moves from one position to another position in the Company or a Participating Subsidiary, the Grantor may, if the Grantor determines it is warranted, approve appropriate and equitable modifications to the performance requirements applicable to such Participant for such Plan Year to take account of such change. ARTICLE XII SUBSTANDARD PERFORMANCE Notwithstanding any provision of the Plan other than Article XV, if, at any time before a Participant has received distribution of any particular Incentive Award, the Grantor shall determine that a given Participant has performed any of his employment obligations in an unsatisfactory manner, the Grantor may decrease or may entirely eliminate the amount of the distribution that the Participant would otherwise be entitled to receive with respect to that Incentive Award. -9- ARTICLE XIII TERMINATION OF EMPLOYMENT Section 13.1 General Rule Except as provided below in this Article XIII and in Article XV, a Participant shall not be entitled to receive any distribution pursuant to an Incentive Award for a particular Plan Year unless he is employed by the Company or a Participating Subsidiary, as applicable, on December 31 of such Plan Year. Section 13.2 Death, Disability, Retirement or Reduction in Force A Participant (or, as appropriate, his Beneficiary or his estate) whose employment terminates during a Plan Year due to death, disability, retirement or reduction in force, may receive a pro-rated portion of his Incentive Award for such Plan Year, if so determined by the Grantor. Section 13.3 Termination for Cause Notwithstanding any other provision of the Plan, except as provided in the next sentence, a Participant whose employment is involuntarily terminated for cause (as determined by the Committee) shall not receive any distributions with respect to any Incentive Award for the Plan Year that has not actually been distributed before such termination. However, the foregoing shall not apply to any payment to the Participant pursuant to Article XV unless both the Participant's termination of employment and the Committee's determination that such termination was for cause occur before the relevant Change in Control. ARTICLE XIV ADMINISTRATION OF THE PLAN AND DELEGATIONS OF AUTHORITY Section 14.1 Committee Authority and Responsibility The Committee shall have primary responsibility for the administration of the Plan, and shall make all determinations under the Plan with respect to Reporting Persons. Without limiting the generality of the foregoing, the Committee shall (i) grant Incentive Awards to Reporting Persons, (ii) establish the maximum aggregate amount of Incentive Awards to be granted to Nonreporting Persons as a Group and (iii) establish the guidelines and oversight under which, pursuant to authorities granted by the Committee and the provisions of the Plan, the CEO may grant Incentive Awards to, and make determinations under the Plan with respect to, Nonreporting Persons, as more fully provided in Section 3.2. Furthermore, the Committee shall have final authority, in its sole discretion, to interpret the Plan and to make rules regarding its operation and administration, which shall be final and binding upon all Participants. The Committee may delegate to any of its members or to one or more employees of the Company the responsibility for the day-to-day administration of the Plan, provided that the delegated responsibilities are ministerial in nature. -10- Section 14.2 Board Authority and Responsibility The Board shall make all determinations under the Plan with respect to the CEO in his capacity as a Participant, taking into account the recommendations of the Committee. Notwithstanding anything to the contrary in the Plan, the Board may exercise any authority under the Plan that is given to the Committee or the CEO. Section 14.3 CEO Authority and Responsibility In making awards to Nonreporting Persons and carrying out his other responsibilities under the Plan, the CEO is acting as a delegee of the Committee and is at all times accountable to the Committee and authorized to act only in accordance with the provisions of the Plan and the guidelines and direction provided by the Committee from time to time. Furthermore, notwithstanding anything to the contrary in the Plan, the Committee may at any time revoke any or all authority given to the CEO under the Plan, in which event such authority shall be exercised by the Committee unless and until the Committee determines otherwise. The CEO shall report to the Committee as and when requested by the Committee regarding the manner in which the CEO has exercised his power under the Plan. The CEO is not intended to be, nor shall the CEO be construed to be, a member of the Committee. The CEO may delegate all or part of his authority and responsibilities under the Plan to one or more other appropriate officers or employees of the Company or any Participating Subsidiary. ARTICLE XV CHANGE IN CONTROL Section 15.1 Definition A "Change in Control" shall mean the occurrence of any of the following events: (1) The acquisition by any individual, entity or group (within the meaning of Section 13(d)(3) or 14(d)(2) of Exchange Act (a "Person")) of beneficial ownership (within the meaning of Rule 13d-3 promulgated under the Exchange Act) of 20% or more of either (A) the then-outstanding shares of common stock of the Company (the "Outstanding Company Common Stock") or (B) the combined voting power of the then-outstanding voting securities of the Company entitled to vote generally in the election of directors (the "Outstanding Company Voting Securities"); provided, however, that, for purposes of this part (1), the following acquisitions shall not constitute a Change of Control: (i) any acquisition directly from the Company, (ii) any acquisition by the Company, (iii) any acquisition by any employee benefit plan (or related trust) sponsored or maintained by the Company or any Affiliated Company, or (iv) any acquisition by any corporation pursuant to a transaction that complies with parts (3)(A), (3)(B) and (3)(C) of this definition; -11- (2) Individuals who, as of August 24, 2000, constitute the Board (the "Incumbent Board") cease for any reason to constitute at least a majority of the Board; provided, however, that any individual becoming a director subsequent to the date hereof whose election, or nomination for election by the Company's shareholders, was approved by a vote of at least a majority of the directors then comprising the Incumbent Board shall be considered as though such individual were a member of the Incumbent Board, but excluding, for this purpose, any such individual whose initial assumption of office occurs as a result of an actual or threatened election contest with respect to the election or removal of directors or other actual or threatened solicitation of proxies or consents by or on behalf of a Person other than the Board; (3) Consummation of a reorganization, merger, consolidation or sale or other disposition of all or substantially all of the assets of the Company (a "Business Combination"), in each case, unless, following such Business Combination, (A) all or substantially all of the individuals and entities that were the beneficial owners of the Outstanding Company Common Stock and the Outstanding Company Voting Securities immediately prior to such Business Combination beneficially own, directly or indirectly, 60% or more of the then-outstanding shares of common stock and the combined voting power of the then-outstanding voting securities entitled to vote generally in the election of directors, as the case may be, of the corporation resulting from such Business Combination (including, without limitation, a corporation that, as a result of such transaction, owns the Company or all or substantially all of the Company's assets either directly or through one or more subsidiaries) in substantially the same proportions as their ownership immediately prior to such Business Combination of the Outstanding Company Common Stock and the Outstanding Company Voting Securities, as the case may be, (B) no Person (excluding any corporation resulting from such Business Combination or any employee benefit plan (or related trust) of the Company or such corporation resulting from such Business Combination) beneficially owns, directly or indirectly, 20% or more of, respectively, the then-outstanding shares of common stock of the corporation resulting from such Business Combination or the combined voting power of the then-outstanding voting securities of such corporation, except to the extent that such ownership existed prior to the Business Combination, and (C) at least a majority of the members of the board of directors of the corporation resulting from such Business Combination were members of the Incumbent Board at the time of the execution of the initial agreement or of the action of the Board providing for such Business Combination; or (4) Approval by the shareholders of the Company of a complete liquidation or dissolution of the Company. -12- Section 15.2 Effect of Change in Control In the event of a Change in Control of the Company during a given Plan Year, each Participant who is employed by the Company or a Participating Subsidiary on the date of the Change in Control, or whose employment was terminated during the Plan Year but before the Change in Control, shall receive a cash payment, in full settlement of his Incentive Award for that Plan Year, equal to the Individual Target Award established for such Participant at the beginning of such Plan Year, times (in the case of a Participant not so employed on the date of the Change in Control) a fraction, the numerator of which is the number of days in the Plan Year through the date of the Change in Control, and the denominator of which is the number of days in the Plan Year. The Incentive Award payable to each Participant as a result of such Change in Control shall be paid in full within thirty (30) days after the effective date of such Change in Control. In the case of a Participant who is a party to any Individual Agreement under which the Participant is or may become entitled to payments with respect to the same Incentive Award as described above, the Company or its successor may make the right of such Participant to receive the payment set forth above conditioned upon the execution by such Participant of a waiver of the right to receive such payments under the Individual Agreement to the extent they would duplicate such payment. In the case of a Participant who is a party to any individual agreement under which the Participant is or may become entitled to additional payments with respect to the same Incentive Award, the Company or its successor may make the right of such Participant to receive the payment set forth above conditioned upon the execution by such Participant of a waiver of the right to receive such payments under the individual agreement to the extent they would duplicate such payment. ARTICLE XVI AMENDMENT, SUSPENSION AND TERMINATION The Board reserves the right to amend, suspend or terminate, in whole or in part, at any time and from time to time, any or all of the provisions of the Plan; provided, that no amendment, suspension or termination of the Plan that is made in anticipation of, in connection with or following a Change in Control, or at the request of a third party seeking to effect a Change in Control, shall have any effect on Article XV or the second sentence of Section 13.3, as they apply to that Change in Control, unless such effect is in no way adverse to the interests of Participants. ARTICLE XVII MISCELLANEOUS Section 17.1 Shares Available for Awards Shares of Restricted Common Stock delivered under the Plan shall be taken from the share authorization under the LTICP, and shall be subject to all of the terms, conditions and provisions thereof, including without limitation periods of restriction, transferability restrictions, risk of forfeiture and such other conditions -13- as the Committee, in accordance with the terms of the Long-Term Incentive Compensation Plan, may establish at the time the shares are delivered. Section 17.2 Incentive Awards Pool Adjustments The Committee from time to time, either during a given Plan Year or subsequent to the conclusion thereof, at any time prior to the commencement of distribution of Incentive Award payments for such Plan Year to Participants, may recommend to the Board that the amount of the Target Incentive Awards Pool and/or the Incentive Awards Pool for such Plan Year be increased or decreased, in order to reflect changed business or economic conditions. Section 17.3 Deferral of Payment of Incentive Awards A Participant shall be eligible to defer the payment of any Incentive Award that the Committee determines will be paid in cash, if he is eligible to participate in any deferred compensation plan that permits such deferral. Any such deferral shall be made under and subject to the provisions of the applicable deferred compensation plan. Section 17.4 Unfunded Plan The Plan shall be unfunded, and the Company shall not be required to segregate any assets which may at any time be represented by Incentive Awards under the Plan. The Incentive Awards payable under the Plan are contingent in character and, therefore, no rights shall vest in any Participant under the Plan until either the amount of such Participant's Incentive Award has been determined and paid by the Company pursuant to the Plan, or receipt thereof has been deferred by such Participant pursuant to the Hercules Deferred Compensation Plan. Section 17.5 Inalienability of Rights and Interests The rights and interests of a Participant under the Plan are personal to the Participant and to any person or persons who may become entitled to distribution or payments under the Plan by reason of death of the Participant, and the rights and interests of the Participant or any such person (including, without limitation, any Incentive Award distributable or payable under the Plan) shall not be subject in any manner to anticipation, alienation, sale, transfer, assignment, pledge, encumbrance or charge, and any such attempted action shall be void and no such benefit or interest shall be in any manner liable for or subject to debts, contracts, liabilities, engagements or torts of any Participants. If any Participant shall attempt to anticipate, alienate, sell, transfer, assign, pledge, encumber or charge any of his rights or interests under the Plan (including without limitation, any Incentive Award payable under the Plan), then the Committee may hold or apply such benefit or any part thereof to or for the benefit of such Participant or his Beneficiary, his spouse, children, blood relatives or other dependents, or any -14- of them in such manner and in such proportions as the Committee may consider proper. Section 17.6 Withholding Taxes The Company shall deduct, or cause to be deducted, from all distributions pursuant to Incentive Awards, all Federal, state and local taxes that the Company is required by any law to withhold on such payments. Restricted Common Stock that is distributed in settlement or partial settlement of Incentive Awards shall be subject to the applicable tax withholding provisions of the Long-Term Incentive Compensation Plan. Cash distributions that are deferred as permitted by Section 17.3 shall be subject to the tax withholding provisions of the applicable deferred compensation plan. Section 17.7 Designation of Beneficiaries 17.7.1: Each Participant shall be permitted to file with the Company a written designation, on such form and in accordance with such procedures and rules as the Committee may prescribe, of one or more persons (each, a "Beneficiary") to receive the Incentive Award, if any, payable under the Plan upon the Participant's death. If a Participant has filed more than one such designation, the designation most recently received by the Company shall be controlling; provided, however, that no designation, change or revocation thereof shall be effective unless received by the Company prior to the Participant's death. If no such Beneficiary designation is in effect at the time of a Participant's death, or if no designated Beneficiary survives a Participant, all distributions of that Participant's Incentive Awards shall be made to the Participant's estate. 17.7.2: The Committee may disregard the provisions of Section 17.7.1 to the extent distributions of Incentive Awards of a deceased Participant are required to be made in some other manner pursuant to applicable law. If the Committee is in doubt as to the right of any person to receive such Incentive Award, the Company may retain such Incentive Award, without liability for any interest thereon, until the Committee determines the rights thereto, or the Company may pay such Incentive Award to any court of appropriate jurisdiction and such payment shall be a complete discharge of the liability of the Company therefor. Section 17.8 No Right to an Incentive Award Payment or to Continued Employment Eligibility for Incentive Awards is determined annually. No Participant or other person shall have any claim or right to be granted an Incentive Award under the Plan or to receive a distribution pursuant to an Incentive Award. Neither the action of the Company in establishing the Plan nor any provisions hereof, nor any action taken by the Company, any Participating Subsidiary, the Committee or the CEO, or any of their respective delegees, pursuant to such provisions shall be construed as creating in any employee or class of employees any right with respect to continuation of employment by the Company or any of the Participating -15- Subsidiaries, and they shall not be deemed to interfere in any way with the Company's or any Participating Subsidiary's right to employ, discipline, discharge, terminate, lay off or retire any Participant with or without cause, to discipline any Participant, or to otherwise affect the Company's right to make employment decisions with respect to any Participant. Section 17.9 Indemnification and Exculpation 17.9.1: Indemnification. Each person who is or shall have been a member of the Committee and each director, officer or employee of the Company or any Participating Subsidiary to whom any duty or power related to the administration or interpretation of the Plan may be delegated, shall be indemnified and held harmless by the Company against and from any and all loss, cost, liability or expense that may be imposed upon or reasonably incurred by him in connection with or resulting from any claim, action, suit or proceeding to which he may be or become a party or in which he may be or become involved by reason of any action taken or failure to act under the Plan and against and from any and all amounts paid by him in settlement thereof (with the Company's written approval) or paid by him in satisfaction of a judgment in any such action, suit or proceeding, except a judgment in favor of the Company based upon a finding of his bad faith; subject, however, to the condition that upon the institution of any claim, action, suit or proceeding against him, he shall in writing give the Company an opportunity, at its own expense, to handle and defend the same before he undertakes to handle and defend it on his own behalf. The foregoing right of indemnification shall not be exclusive of any other right to which such person may be entitled under the Company's Restated Certificate of Incorporation, as a matter of law or otherwise, or any power that the Company may have to indemnify him or hold him harmless. 17.9.2: Exculpation. Each member of the Committee, and each director, officer and employee of the Company or of any Participating Subsidiary shall be fully justified in relying or acting upon in good faith any information furnished in connection with the administration of the Plan by any appropriate person or persons other than himself. In no event shall any person who is or shall have been a member of the Committee, or a director, officer or employee of the Company or any Participating Subsidiary be liable for any determination made or other action taken or any omission to act in reliance upon such report or information, or for any action (including the furnishing of information) taken or any failure to act, if in good faith. Section 17.10 Communications 17.10.1: Communications by the Committee. All notices, statements, reports and other communications made, delivered or transmitted to a Participant, Beneficiary or other person under the Plan shall be deemed to have been duly given, made or transmitted when delivered to, or when mailed by first-class mail, postage -16- prepaid and addressed to such Participant, Beneficiary or other person at his address last appearing on the records of the Committee. 17.10.2: Communications by the Participants and Others. All elections, designations, requests, notices, instructions and other communications made, delivered or transmitted by the Company or a Participating Subsidiary, Participant, Beneficiary or other person to the Committee required or permitted under the Plan shall be in such form as is prescribed from time to time by each such Committee, shall be mailed by first-class mail or delivered to such location as shall be specified by each such Committee, and shall be deemed to have been given and delivered only upon actual receipt thereof by such Committee at such location. Section 17.11 Parties in Interest The provisions of the Plan and the terms and conditions of any Incentive Award shall, in accordance with their terms, be binding upon, and inure to the benefit of, all successors of each Participant, including, without limitation, such Participant's estate and the executors, administrators, or trustees thereof, heirs and legatees, and any receiver, trustee in bankruptcy or representative of creditors of such Participant. The terms of the Plan shall be binding upon the Company and its successors and assigns. Section 17.12 No Strict Construction No rule of strict construction shall be implied against the Company, the Committee or any other person in the interpretation of any of the terms of the Plan, any Incentive Award granted under the Plan or any rule or procedure established by the Committee. Section 17.13 Governing Law All questions pertaining to the validity, construction and administration of the Plan shall be determined with reference to, and the provisions of the Plan shall be governed by, and shall be construed in conformity with, the internal laws of the State of Delaware. -17- EX-10.B 4 w86579exv10wb.txt HERCULES DEFERRED COMPENSATION PLAN Exhibit 10-B HERCULES DEFERRED COMPENSATION PLAN GENERAL OVERVIEW The Plan provides eligible employees with the opportunity to defer the receipt of a portion of compensation to (1) a date or dates beginning after the employee's retirement or (2) such other designated dates as provided hereunder. Amounts deferred will be credited each quarter with interest based on the Morgan Guaranty Trust Company prime rate. The total amount deferred, including interest credits, will be paid in accordance with the terms of settlement options elected by the employee. ELIGIBILITY Eligibility to participate in this Plan shall normally be limited to those executives who receive awards under the Hercules Long-Term Incentive Compensation Plan, during the calendar year prior to the deferral period. However, others may become eligible upon the approval of the Chief Executive Officer. COMPENSATION For purposes of the Plan, compensation means base monthly salary and bonus payouts, if any, applicable to awards made pursuant to the Management Incentive Compensation Plan (MICP). DEFERRAL ELECTIONS Prior to December 15 of each year, eligible employees shall elect, on a form provided by the Company, the percentage of their compensation for the ensuing year that is to be deferred. The form shall provide for separate deferral percentage elections for base monthly salary and the "Target" portion payout applicable to future awards under the Management Incentive Compensation Plan (MICP), if any. The annual election to defer the MICP payout up to Target shall be irrevocable. The annual election to defer a portion of base monthly salary shall also be irrevocable; however, eligible employees may once during each calendar year elect to change such deferral percentage. The election to change the deferral percentage shall be prospective, in writing, and must be received by the Company prior to the beginning of the month for which such change is to take effect. Deferral percentages cannot be less than 5% or more than 60% of base monthly salary but may be up to 100% (in 5% increments) of the Target portion of the MICP payout, if any. Deferred Compensation Plan - 1 - December 1995 DEFERRED ACCOUNTS AND INTEREST CREDITS The Company shall establish and maintain a deferral account in the name of each participant. Every account shall be credited monthly with the base monthly salary deferred and/or, at the time an MICP award becomes payable, with the amount of MICP payout deferred. Participant accounts shall be credited quarterly with interest based on the Morgan Guaranty Trust Company prime rate of interest. NON-QUALIFIED SAVINGS PLAN ACCOUNT To the extent participation in the Hercules Deferred Compensation Plan reduces the amount which an eligible participant may contribute to the Hercules Incorporated Savings and Investment Plan, a Non-Qualified Savings Plan account shall be established and maintained within this Plan. This account will consist of the following: 1. The Company matching contribution applicable to the amount of the reduction in the employee's contribution to the Hercules Incorporated Savings and Investment Plan with respect to the deferral election. 2. Participants in the Hercules Savings and Investment Plan who reach the before-tax savings limit imposed by the 1986 Tax Reform Act may elect a special salary deferral up to 6% of benefit base which becomes effective when the limit is reached in the Hercules Savings and Investment Plan. If so elected, the amount of employee contributions up to 6% of the employee's benefit base and applicable Company matching contribution of 50% thereon which would have been contributed had no limitations been imposed by the 1986 Tax Reform Act. 3. The applicable Company matching contribution referenced in 1 and 2 above shall be credited to the participant's account at the end of each calendar year. 4. Once credited to a participant's account, employee and Company matching contributions shall be credited quarterly with interest based on the Morgan Guaranty prime rate of interest. Deferred Compensation Plan - 2 - December 1995 EXCHANGE ELECTION Subject to the approval of the Company, and based upon the period of election stated under "Deferral Elections", a participant may elect to have his or her account balance exchanged for Restricted Stock under the applicable "Exchange Awards" provisions of the Hercules Incorporated Long-Term Incentive Compensation Plan. Subject to the approval of the Company, and based upon the period of election stated under "Deferral Elections", a participant in "Non-Qualified Savings Plan Account" may elect to exchange all or part of his or her account balance for Restricted Stock under the applicable "Exchange Awards" provisions of the Hercules Incorporated Long-Term Incentive Compensation Plan. SETTLEMENT OF DEFERRED ACCOUNTS AT TERMINATION When an eligible employee terminates employment with the company, other than for retirement pursuant to Schedule B, Articles II, III and IV of The Pension Plan of Hercules Incorporated or becoming eligible to receive benefits under the Hercules Incorporated Long-Term Disability Plan, the amount of his or her deferred account, including interest pro-rated to the date of termination, shall become immediately payable. Those eligible employees retiring under Schedule B, Articles II, III and IV of The Pension Plan of Hercules Incorporated may elect to have their deferred accounts settled in one or any combination of the following options: Option 1: A percentage in 10% increments ranging from 10% to 100% of the amount in the deferred account, including credited interest, shall be paid as a lump sum on a date specified by the participant between the effective date of the retirement and ten (10) years from that date not to exceed the date the participant reaches age 70-1/2. The percentage shall be applied against the account balance on the effective date of retirement. Option 2: A percentage of the amount in the deferred account representing the balance left over from Option 1, if any, including credited interest shall be paid in from one (1) to ten (10) annual installments beginning on a date specified by the participant between the effective date of the retirement and ten (10) years from that date not to exceed the date the participant reaches age 70-1/2. The percentage shall be applied against the account balance on the effective date of retirement. Calculation of the annual installment shall be as follows: the first payment shall be the value of the account on the first payout date divided by the number of installments that the participant has chosen. Each succeeding payment shall equal the account balance (including credited interest) on each anniversary installment date divided by number of payments remaining to be paid. The applicable option shall be elected, on a form provided by the Company, at least Deferred Compensation Plan - 3 - December 1995 60 days prior to the effective retirement date. Those participants who become eligible for benefits under the Hercules Long-Term Disability Plan (LTD) may elect to defer settlement of their accounts to the date their pension under the Hercules Pension Plan becomes effective, in which case and at that time, the participant shall be eligible to elect either the Options 1 and 2 above. If a participant who is eligible for benefits under the Hercules Incorporated Long-Term Disability Plan ceases to be eligible for LTD benefits prior to being eligible to retire under the Hercules Pension Plan, Schedule B, Articles II, III and IV, such participant's account hereunder shall become immediately payable. In the event of the death of any eligible employee prior to his or her retirement date or specified payout date, the beneficiary or beneficiaries designated on the deferral election form shall within 60 days from the date of death receive the total amount of the deferred account including interest pro-rated to the date of payment. However, the beneficiary or beneficiaries may, prior to the 60th day following the date of death, by written election, select one of the settlement options available to eligible employees retiring under Schedule B, Articles II, III, and IV of The Pension Plan of Hercules Incorporated. In the event of the death of an eligible employee subsequent to his or her date of retirement, the designated beneficiary or beneficiaries shall replace the eligible employee under the option selected by the eligible employee at the date of retirement. The designated beneficiary or beneficiaries may, however, within 60 days of the date of death of the eligible employee, elect to receive an immediate lump-sum payment of the deferred account or, where installment payments were in process, the commuted value of remaining payments. OTHER TERMS AND CONDITIONS Participation in the Plan is strictly voluntary. Amounts deferred under this Plan do not qualify as earnings for purposes of calculating benefits under The Pension Plan of Hercules Incorporated or the Hercules Savings and Investment Plan. Pension benefits otherwise accrued under the Hercules Incorporated Pension Restoration Plan applicable to amounts deferred under this Plan shall be governed by the terms and conditions of the Hercules Incorporated Pension Restoration Plan. Benefits foregone under the Hercules Savings & Investment Plan due to participation hereunder shall be restored as defined hereunder. Deferred Compensation Plan - 4 - December 1995 The Compensation Committee shall have the sole responsibility for administering and interpreting the provisions of the Plan and shall also have the authority to do those things necessary and possible to achieve the deferred receipt of income intended for eligible employees under this Plan. All amounts paid under the Plan shall be made from the general assets of the Company. Participants shall have no secured interest in any asset of the Company, including, without limitations, investments of the Company, if any, intended to retire its obligations under the Plan. Deferred Compensation Plan - 5 - December 1995 EX-10.C 5 w86579exv10wc.txt EMPLOYMENT OFFER LETTER - FRED G. AANONSEN EXHIBIT 10-C June 27, 2001 Mr. Fred G. Aanonsen 14 Meadow Ridge Lane New Milford, CT 06776 Dear Fred: I am pleased to confirm the terms and conditions of your offer to join Hercules Incorporated in the position of Vice President and Controller of Hercules, effective July 2, 2001. This position will report to the Chief Executive Officer. Our offer includes the following components: 1. Annual Base Salary: $260,000 payable in 12 equal monthly installments. Pursuant to our salary administration policy, salary reviews are conducted each March 1st. 2. Annual Incentive Compensation: Your target annual incentive opportunity under the Hercules Management Incentive Compensation Plan (MICP) is for 2001, 60% of your base salary and will be prorated for the number of months from your start date to the end of the year. The maximum payout is 200% of the target and, of course, the minimum is zero. Any payouts above the target amount may be made in discounted restricted stock. 3. Long-Term Incentive: In this position, you are eligible to receive annual grants under the Hercules Long-Term Incentive Compensation Plan (LTICP). The value of the 2001 award is set at 80% of your base annual salary subject to a pro-rata adjustment for the partial year. Upon commencing employment, you will receive a stock options, the number of which will be based upon the fair market value as of that date and a Black Scholes Valuation methodology. 4. Benefits: Your service with Union Carbide will be recognized for purposes of eligibility to receive benefits and vesting. You will accrue benefits pursuant to the terms of the Pension Plan of Hercules Incorporated. Benefits will be funded to the extent legally possible under the qualified pension plan trust with the balance paid under the unfunded non-qualified pension restoration plan. Fred G. Aanonsen June 27, 2001 Page 2 5. Special Pension Bridge: You will be eligible to receive an annual credit to the Deferred Compensation Plan equal to 10% of your gross annual Union Carbide pension. This credit will continue for the lesser of the term of employment or 5 years. 6. Deferred Compensation: Beginning calendar year 2002, you become eligible to participate in the Hercules Deferred Compensation Plan. This plan provides the option to defer before-tax salary and/or target MICP amounts. More information will be provided to you on this plan when you become eligible to participate. 7. Executive Stock Purchase Program: Beginning calendar year 2002, you will become eligible to participate in the Executive Stock Purchase Program. This program, under the LTICP, provides you with the option of converting salary, target MICP amounts, and Nonqualified Pension benefits into Hercules Restricted Stock at a 15% discount. The program also provides for the exchange of Nonqualified Savings Plan balances for restricted stock with no discount. More information will be provided to you on this program through the Corporate Human Resources Department. 8. Temporary Housing: You will be eligible for company paid housing for a period not to exceed one year from the date a lease is signed subject to a limit of $1700 per month. 9. Change in Control: You are eligible for a Change in Control Agreement which triggers upon a Change in Control at Hercules Incorporated. Upon a qualifying Change in Control, if within the three year period beginning the date a Change in Control occurs, there is a defined diminution of duty, compensation, or a required transfer, you will receive 3 years' salary and the greater of 3 years target bonus or most recent bonus received. The Change in Control Agreement shall also provide that you will receive at least 60% of the value of your 2001 Long-Term Incentive stock option grant if a change in control occurs within the first 12 months of employment where the Company Stock is purchased for cash or for no consideration and without being replaced by comparable new stock options. 10. Car Allowance: If required, we will provide a rental car for up to 3 months. 11. Commuting Costs: To the extent a pool car is not available, we will reimburse weekly and holiday returns to your home limited to advance purchase coach air travel. Fred G. Aanonsen June 27, 2001 Page 3 This offer is contingent upon your passing our standard pre-placement physical examination before your anticipated starting date. (Part of this examination will be a test to detect the use of drugs or alcohol. If you are currently using prescription drugs, please bring your prescription with you to the physical.) Plus, we must verify employment eligibility under the Immigration Reform and Control Act. Fred, we enthusiastically welcome you to the Hercules management team. I look forward to working with you to make this a personally and professionally rewarding opportunity. To indicate your review and acceptance with the above terms please sign a copy of this letter and return it to me within three days. Best regards, Edward V. Carrington Office of the Chairman Corporate Resources Group Accepted by: - ----------------------- Fred G. Aanonsen Enclosure EX-10.D 6 w86579exv10wd.txt EMPLOYMENT OFFER LETTER - ROBERT C. FLEXON EXHIBIT 10-D May 12, 2000 Mr. Robert C. Flexon 4000 Pacific Avenue, #303 Marina del Rey, CA 90292 Dear Bob: I am pleased to confirm the terms and conditions of your offer to join Hercules Incorporated in the position of Vice President, Business Analysis within the Finance Division of Hercules. This position will report to George MacKenzie, Executive Vice President and Chief Financial Officer. Our offer includes the following components: 1. Annual Base Salary: $240,000 payable in 12 equal monthly installments. Pursuant to our salary administration policy, salary reviews are conducted each March 1st. 2. 2000 MICP Target Opportunity: Your target annual incentive opportunity under the Hercules Management Incentive Compensation Plan (MICP) is 50% of your base salary and will be prorated for the number of months from your start date to the end of the year. The maximum payout is 200% and, of course, the minimum is zero. Any payouts above the target amount are made in discounted restricted stock. 3. Long-Term Incentive: In this position, you are eligible to receive annual grants under the Hercules Long-Term Incentive Compensation Plan (LTICP). The 2000 award was for 35,500 non-qualified stock options. Upon commencing employment, you will receive a pro-rated number of options based on the number of months from your start date to the end of the year with the exercise priced determined on the first day of the month following your start date. 4. Benefits: Your benefits will be covered under the current Hercules Incorporated plan per the enclosed Benefits overview. 5. Deferred Compensation: In the fall of 2000, you become eligible to participate in the Hercules Deferred Compensation Plan. This plan provides the option to defer before-tax salary and/or target MICP amounts. More information will be provided to you on this plan when you become eligible to participate. Robert C. Flexon May 12, 2000 2 6. Executive Stock Purchase Program: In the fall of 2000, you will become eligible to participate in the Executive Stock Purchase Program. This program, under the LTICP, provides you with the option of converting salary, target MICP amounts, and Nonqualified Pension benefits into Hercules Restricted Stock at a 15% discount. The program also provides for the exchange of Nonqualified Savings Plan balances for restricted stock with no discount. More information will be provided to you on this program through the Corporate Human Resources Department. 7. Relocation: You will be eligible for the Hercules relocation policy applicable to homeowners if you complete a move of your principal residence to the Wilmington area anytime within the next year. 8. Financial Planning: You will be reimbursed for Financial / Tax planning or Tax preparation up to $5,000 annually. Our preferred providers are PricewaterhouseCoopers and AYCO, however, you may select a vendor of your choice. Please contact Richard Fluri, vice president, Human Resources, for program details. 9. Signing Bonus: You will receive as part of your offer an award of 10,000 non-qualified stock options with an exercise price determined on the first day of the month following your start date. In the event that your position is eliminated, you will be eligible to receive one year of severance. Should an enhanced severance program be offered in the future, this severance benefit is not additive, but rather the program that is most favorable will prevail. This benefit is triggered by Hercules and will not be paid in the event that you resign. You are also eligible for a special severance of two years in the event of a Change of Control at Hercules Incorporated. Program details will be provided upon employment. This offer is contingent upon two issues. You must successfully pass our standard pre-placement physical examination before your anticipated starting date. A part of this examination will be a test to detect the use of drugs or alcohol. If you are currently using prescription drugs, please bring your prescription with you to the physical. In addition, we must verify employment eligibility under the Immigration Reform and Control Act. Bob, I am excited about having you as part of the Hercules team in this critical role. I look forward to working with you to make this a personally and professionally rewarding opportunity. Robert C. Flexon May 12, 2000 3 To indicate your review and acceptance with the above terms please sign a copy of this letter and return it to me within three days. Best regards, June B. Barry Executive Vice President, Corporate Resources Group Accepted by: - ----------------------- Robert C. Flexon Enclosure EX-10.E 7 w86579exv10we.txt HERCULES EXECUTIVE SURVIVOR BENEFIT PLAN II EXHIBIT 10-E (PLAN II) THE HERCULES EXECUTIVE SURVIVOR BENEFIT PLAN Plan II Benefit Structure adopted January 1, 1987(1) (See Plan I filed March 27, 1981 for Plan I Benefit Structure) The Hercules Executive Survivor Benefit Plan (HESBP) provides selected executives with an opportunity to financially protect their survivors in the event of death. The benefits offered by this plan are of two types: preretirement and postretirement death benefits. Preretirement Death Benefits If you die prior to retiring from Hercules, your survivor(s) will receive a lump sum equal to your life insurance selection in the Flex Benefits Plan plus another one times your annual compensation. (For the purpose of this plan, compensation is defined as base annual compensation for the previous calendar year plus the average Bonus or Incentive paid for the past two full calendar years of employment.) This benefit comes from two sources: the broad-based Hercules Group Life Insurance Plan and Hercules' general assets. For the purpose of calculating survivor benefits, compensation is limited to $500,000, resulting in a maximum net benefit of $1,500,000. Hercules will provide your survivors, through the Group Life Insurance Plan, with an amount equal to the amount you selected in the Flex Benefits Plan. The Flex Plan provides you with credits equal to two times your annual compensation. Ordinary income taxes will not be due on that payment since it is funded through life insurance. Your heirs also will receive a payment equal to one times annual compensation from the general assets of Hercules. This payment will be increased (grossed up) to reimburse your beneficiaries for the ordinary income taxes that will be due on that payment. You will be reimbursed twice annually (in July and January) for reportable, or imputed income, which is the value assigned by the Internal Revenue Service for Company-provided life insurance in excess of $50,000. Postretirement Death Benefit The postretirement death benefits offered by Hercules Executive Survivor Benefit Plan are provided through two sources: the Hercules Group Life Insurance Plan and Hercules' general assets. From the Hercules Group Life Insurance Plan, your beneficiary(s) will receive a lump sum payment of $5,000 if you selected $50,000, 1 times pay or 2 times pay in the Flex Plan. If you select 3, 4, or 5 times pay in Flex, you will receive $5,000 plus 1, 2 or 3 times pay. At age 65 any optional coverage (3, 4, or 5 times pay) will decrease to 1 times pay. At age 66, and each year thereafter, this remaining amount will decreased by 20% of the original balance to a minimum of $20,000. The HESBP will supplement the Hercules Group Life Insurance by providing 2 times pay to your beneficiary at your death following retirement regardless of the level of coverage selected under the Flex Plan. 1 Designation of Beneficiaries The current beneficiary designations under the Hercules Group Life Insurance Plan will be recognized under the Executive Survivor Benefit Plan. In the event a participant has designated different beneficiaries for the different units of coverage under the current Hercules Group Life Insurance Plan, a percentage allocation of proceeds under the Hercules Executive Survivor Benefit Plan will be made accordingly. A new participant who previously has not participated in the Hercules Group Life Insurance Plan will be given a beneficiary designation form under the Hercules Executive Survivor Benefit Plan. The participant may change his/her beneficiary(s) by completing the appropriate beneficiary designation form. Beneficiaries may be any individual, estate, trust, or other legally recognized beneficiary as designated by the participant. Administration of Claims Claims by your beneficiary(s) will be handled through the guidelines established through Hercules Group Life Insurance Plan. Plan Document The information in this brochure is intended to explain the benefits offered by the Hercules Executive Survivor Benefit Plan. Your specific rights to benefits under this plan are governed by the official plan document. As with all benefit plans, Hercules has taken steps to ensure that this plan complies with changes in tax laws, regulations, rulings, and their interpretations. While we intend to maintain this plan indefinitely, Hercules retains the right to amend, modify, or terminate this plan. Please contact the Human Resources Department if you have any questions. (1) This Plan was adopted January 1987 as a result of tax law changes (Deficit Reduction Act of 1984). Changes from Plan I include a reduction in active employee coverage (from 3 times compensation to 2 times compensation) and a reduction in the after tax post-retirement benefits. 2 EX-99.1 8 w86579exv99w1.txt CERTIFICATION OF CHAIRMAN AND CEO HERCULES INCORPORATED EXHIBIT 99.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of Hercules Incorporated (the "Company") on Form 10-Q for the period ending March 31, 2003 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, William H. Joyce, Chairman and Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. /s/ William H. Joyce - ------------------------------------ William H. Joyce Chairman and Chief Executive Officer May 15, 2003 A signed original of this written statement required by Section 906 has been provided to and will be retained by Hercules Incorporated and furnished to the Securities and Exchange Commission or its staff upon request. 35 EX-99.2 9 w86579exv99w2.txt CERTIFICATION OF VICE PRESIDENT AND CONTROLLER EXHIBIT 99.2 HERCULES INCORPORATED CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of Hercules Incorporated (the "Company") on Form 10-Q for the period ending March 31, 2003 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Fred G. Aanonsen, Vice President and Controller of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. /s/ Fred G. Aanonsen - ----------------------------- Fred G. Aanonsen Vice President and Controller May 15, 2003 A signed original of this written statement required by Section 906 has been provided to and will be retained by Hercules Incorporated and furnished to the Securities and Exchange Commission or its staff upon request. 36 -----END PRIVACY-ENHANCED MESSAGE-----