10-Q 1 j8733601e10-q.txt FORM 10-Q 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 ------------------ FORM 10-Q (Mark One) [ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JANUARY 31, 2001 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NUMBER -- 0-20490 -------------------- THE CARBIDE/GRAPHITE GROUP, INC. (Exact Name of Registrant as Specified in Charter) Delaware 25-1575609 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Code) One Gateway Center, 19th Floor Pittsburgh, PA 15222 (412) 562-3700 (Address, including zip code, and telephone number, including area code, of principal executive offices) 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 ----- ------ As of the close of business on March 16, 2001, there were 8,331,342 shares of the Registrant's $0.01 par value Common Stock outstanding. 2 THE CARBIDE/GRAPHITE GROUP, INC. INDEX TO FORM 10-Q
ITEM DESCRIPTION PAGE --------- ---------------------------------------------------------------- --------- PART I 1 Index to Financial Statements ................................... 2 2 Management's Discussion and Analysis of Financial Condition and Results of Operations ........................ 17 3 Quantitative and Qualitative Disclosure About Market Risk .......................................... 23 PART II 1 Legal Proceedings ............................................... 24 2 Changes in Securities ........................................... * 3 Defaults Upon Senior Securities ................................. * 4 Submission of Matters to a Vote of Security Holders ............. * 5 Other Information ............................................... * 6 Index to Exhibits and Reports on Form 8-K ....................... 27 Signatures ...................................................... 28
-------------- * Item not applicable to the Registrant for this filing on Form 10-Q. 1 3 PART I Item 1 INDEX TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
PAGE ---- Condensed Consolidated Balance Sheets as of January 31, 2001 and July 31, 2000 ........................................ 3 Unaudited Condensed Consolidated Statements of Operations for the Quarters and Six Months Ended January 31, 2001 and 2000 ................. 4 Unaudited Condensed Consolidated Statement of Stockholders' Equity for the Six Months Ended January 31, 2001 ....................................... 5 Unaudited Condensed Consolidated Statements of Cash Flows for the Quarters and Six Months Ended January 31, 2001 and 2000 ................. 6 Footnotes to Unaudited Condensed Consolidated Financial Statements ................... 7
2 4 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS as of January 31, 2001 and July 31, 2000 (in thousands, except share information)
January 31, July 31, 2001 2000 * ------------ ----------- (Unaudited) ASSETS Current assets: Accounts receivable -- trade, net of allowance for doubtful accounts: $1,097 at January 31 and $977 at July 31 ................. $ 35,441 $ 40,775 Inventories (Note 2) .................................................... 65,075 66,575 Income taxes receivable ................................................. -- 4,299 Deferred income taxes ................................................... 3,587 3,999 Fair value of derivative financial instruments (Note 1) ................. 753 -- Other current assets .................................................... 3,778 2,787 --------- --------- Total current assets ................................................ 108,634 118,435 Property, plant and equipment, net .......................................... 121,830 124,910 Deferred income taxes ....................................................... 4,712 -- Other assets ................................................................ 7,777 7,149 --------- --------- Total assets .................................................... $ 242,953 $ 250,494 ========= ========= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accrued expenses: Overdrafts ............................................................ $ 2,604 $ 1,236 Accounts payable, trade ............................................... 20,031 24,148 Antitrust claims reserve (Note 4) ..................................... 2,747 2,857 Income taxes payable .................................................. 1,639 -- Other current liabilities ............................................. 12,716 17,418 --------- --------- Total current liabilities ........................................... 39,737 45,659 Long-term debt (Note 5) ..................................................... 123,137 120,800 Deferred income taxes ....................................................... -- 229 Other liabilities ........................................................... 12,305 12,336 --------- --------- Total liabilities ................................................. 175,179 179,024 --------- --------- Stockholders' equity: Preferred stock, $0.01 par value; 2,000,000 shares authorized ........... -- -- Common stock, $0.01 par value; 18,000,000 shares authorized; shares issued: 9,955,542 at January 31 and July 31; shares outstanding: 8,331,342 at January 31 and July 31 ............... 99 99 Additional paid-in capital, net of $1,398 equity issue costs ............ 36,712 36,712 Retained earnings ....................................................... 40,415 45,866 Common stock to be issued under warrants (Note 5) ....................... 1,604 -- Other comprehensive income .............................................. 151 -- Treasury stock .......................................................... (11,207) (11,207) --------- --------- Total stockholders' equity ....................................... 67,774 71,470 --------- --------- Total liabilities and stockholders' equity ...................... $ 242,953 $ 250,494 ========= =========
* Condensed from audited fiscal 2000 balance sheet. The accompanying notes are an integral part of the Unaudited Condensed Consolidated Financial Statements. 3 5 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS for the quarters and six months ended January 31, 2001 and 2000 (in thousands, except share and per share data)
Quarter Ended January 31, Six Months Ended January 31, ----------------------------------- -------------------------------- 2001 2000 2001 2000 -------------- --------------- -------------- ------------- (Unaudited) (Unaudited) Net sales .................................... $ 47,798 $ 53,634 $ 96,977 $ 104,757 Operating costs and expenses: Cost of goods sold (Note 2) .............. 45,248 54,942 92,277 99,645 Selling, general and administrative ...... 2,853 3,243 5,927 6,223 ----------- ----------- ----------- ----------- Operating income (loss) .............. (303) (4,551) (1,227) (1,111) Other costs and expenses: Interest expense, net (including $1,604 in non-cash warrant amortization in the quarter and six months ended January 31, 2001) (Note 5) ............. 5,142 2,459 8,236 4,551 Other expense (income) (Note 1) .......... 182 -- (995) -- ----------- ----------- ----------- ----------- Income (loss) before income taxes .... (5,627) (7,010) (8,468) (5,662) Benefit from taxes (Note 3) .................. (2,023) (2,454) (3,017) (1,998) ----------- ----------- ----------- ----------- Net income (loss) .................... $ (3,604) $ (4,556) $ (5,451) $ (3,664) =========== =========== =========== =========== Earnings per share information (Note 1): Weighted average common shares outstanding ................................ 8,331,342 8,314,509 8,331,342 8,326,175 ----------- ----------- ----------- ----------- Weighted average common and common equivalent shares outstanding .............. -- -- -- -- ----------- ----------- ----------- ----------- Net income (loss): Basic .................................... $ (0.43) $ (0.55) $ (0.65) $ (0.44) =========== =========== =========== =========== Diluted .................................. $ (0.43) $ (0.55) $ (0.65) $ (0.44) =========== =========== =========== ===========
The accompanying notes are an integral part of the Unaudited Condensed Consolidated Financial Statements. 4 6 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES UNAUDITED CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY for the six months ended January 31, 2001 (in thousands, except share amounts)
Common Stock Additional Other Other ------------------------ Paid-In Retained Comprehensive Stockholders' Shares Amount Capital Earnings Income Equity Items ------ ------ ------- -------- ------ ------------ Balance at July 31, 2000 *.......... 9,955,542 $99 $36,712 $45,866 -- $(11,207) Cumulative effect of change in accounting principle, net of tax of $808 (Note 1) ............... $ 1,501 Net change in other comprehensive income related to hedging activities (Note 1)... (1,350) Warrant amortization (Note 5) .... 1,604 Net loss ......................... (5,451) ---------- --- ------- ------- ------- -------- Balance at January 31, 2001 (Unaudited) ................ 9,955,542 $99 $36,712 $40,415 $ 151 $ (9,603) =========== === ======= ======= ======= ========
---------- * Condensed from audited fiscal year 2000 statement of stockholders' equity. The accompanying notes are an integral part of the Unaudited Condensed Consolidated Financial Statements. 5 7 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS for the quarters and six months ended January 31, 2001 and 2000 (in thousands)
Quarter Ended January 31, Six Months Ended January 31, -------------------------- ----------------------------- 2001 2000 2001 2000 -------- --------- -------- --------- (Unaudited) (Unaudited) Net loss ....................................................... $ (3,604) $ (4,556) $ (5,451) $ (3,664) Adjustments for non-cash transactions: Depreciation and amortization ................................ 3,982 4,888 8,023 9,835 Amortization of debt issuance costs .......................... 187 66 277 119 Amortization of common stock warrant expense ................. 1,604 66 1,604 119 Amortization of intangible assets ............................ 28 16 40 29 Changes in deferred taxes .................................... (4,124) 4,038 (5,071) 4,038 Other ........................................................ 182 -- (995) -- Increase (decrease) in cash from changes in: Accounts receivable .......................................... 3,558 1,558 5,214 (1,180) Inventories .................................................. (913) 12,234 1,500 10,522 Income taxes ................................................. 1,639 (4,850) 5,938 2,417 Other current assets ......................................... (579) 992 (1,002) 1,706 Accounts payable and accrued expenses ........................ (4,517) (10,664) (8,929) (20,578) Other non-current assets and liabilities, net ................ (740) (87) (856) (424) -------- -------- -------- -------- Net cash provided by (used for) operations ............... (3,297) 3,635 292 2,820 -------- -------- -------- -------- Investing activities: Capital expenditures ......................................... (2,215) (1,892) (4,943) (5,010) Proceeds from the settlement of derivative contracts, net ............................... 946 -- 946 -- -------- -------- -------- -------- Net cash used for investing activities ................... (1,269) (1,892) (3,997) (5,010) Financing activities: Proceeds from revolving credit facility ...................... 60,868 26,750 82,918 48,250 Repayment on revolving credit facility ....................... (56,731) (28,950) (80,581) (47,750) Overdrafts and other ......................................... 429 457 1,368 1,690 -------- -------- -------- -------- Net cash provided by (used for) financing activities .................... 4,566 (1,743) 3,705 2,190 -------- -------- -------- -------- Net change in cash and cash equivalents ........................ -- -- -- -- Cash and cash equivalents, beginning of period ................. -- -- -- -- -------- -------- -------- -------- Cash and cash equivalents, end of period ....................... -- -- -- -- ======== ======== ======== ========
The accompanying notes are an integral part of the Unaudited Condensed Consolidated Financial Statements. 6 8 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES FOOTNOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The Carbide/Graphite Group, Inc. and Subsidiaries herein are referenced as the "Company." The Company's current fiscal year ends July 31, 2001. 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: INTERIM ACCOUNTING The Company's Annual Report on Form 10-K for its fiscal year ended July 31, 2000 includes additional information about the Company, its operations and its consolidated financial statements, and contains a summary of significant accounting policies followed by the Company in preparation of its consolidated financial statements and should be read in conjunction with this quarterly report on Form 10-Q. These policies were also followed in preparing the Unaudited Condensed Consolidated Financial Statements included herein. The 2000 year-end consolidated balance sheet data contained herein were derived from audited financial statements, but does not include all disclosures required by generally accepted accounting principles. In the opinion of management, all adjustments that are of a normal and recurring nature necessary for a fair statement of the results of operations of these interim periods have been included. The net loss for the six months ended January 31, 2001 is not necessarily indicative of the results to be expected for the full fiscal year. The Management Discussion and Analysis that follows these notes contains additional information on the results of operations and financial position of the Company. These comments should be read in conjunction with these financial statements. EARNINGS PER SHARE The following tables provide a reconciliation of the income and share amounts for the basic and diluted earnings per share computations for the quarters and six months ended January 31, 2001 and 2000 (dollar amounts in thousands):
For the quarters ended January 31, -------------------------------------------------------------------------------------- 2001 2000 ----------------------------------------- ----------------------------------------- Weighted Per Weighted Per Income Average Share Income Average Share (Loss) Shares Amount (Loss) Shares Amount ------ ------ ------ ------ ------ ------ Basic earnings per share ..... ($3,604) 8,331,342 $(0.43) $(4,556) 8,314,509 $(0.55) Effect of dilutive securities: Options for common stock .... -- -- -- -- ------- --------- ------- --------- Diluted earnings per share ... $(3,604) 8,331,342 $(0.43) $(4,556) 8,314,509 $(0.55) ======= ========= ====== ======= ========= ======
7 9 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES FOOTNOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED
For the six months ended January 31, ------------------------------------------------------------------------------------ 2001 2000 ------------------------------------ ---------------------------------------- Weighted Per Weighted Per Income Average Share Income Average Share (Loss) Shares Amount (Loss) Shares Amount ------ ------- ----- ------ ------- ----- Basic earnings per share....... $(5,451) 8,331,342 $(0.65) $(3,664) 8,326,175 $(0.44) ====== ====== Effect of dilutive securities: Options for common stock..... -- -- -- -- ------- --------- ------- --------- Diluted earnings per share .... $(5,451) 8,331,342 $(0.65) $(3,664) 8,326,175 $(0.44) ======= ========= ====== ======= ========= ======
The weighted-average number of options for common stock outstanding for both the quarter and six months ended January 31, 2001 was 858,400, versus 688,900 for both the quarter and six months ended January 31, 2000, respectively. Since the Company's results were a net loss for the quarter and six months ended January 31, 2001 and 2000, common equivalent shares were excluded from the diluted earnings per share computation for those periods as their effect would have been anti-dilutive. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS Effective August 1, 2000, the Company adopted Statement of Financial Accounting Standards (SFAS) #133, "Accounting for Derivative Instruments and Hedging Activities." The adoption of SFAS #133 resulted in a net of tax transition gain of $1.5 million recorded by the Company as a cumulative-effect adjustment to accumulated other comprehensive income to recognize the fair value of all derivatives. The Company's derivatives consist of foreign exchange forward contracts, oil futures and swap contracts and interest rate caps and swap contracts; all were designated as cash-flow hedges at adoption. The Company formally documents all relationships between hedging instruments and hedged items, as well as its risk-management objective and strategy for undertaking various hedge transactions. In this documentation, the Company identifies the asset, liability, firm commitment, or forecasted transaction that has been designated as a hedged item and states how the hedging instrument is expected to hedge the risks related to the hedged item. The Company formally measures effectiveness of its hedging relationships both at the hedge inception and on an ongoing basis in accordance with its risk management policy. During the six months ended January 31, 2001, the Company recognized $1.0 million in other income in the consolidated statement of operations related to the accounting for its derivatives under SFAS #133. Of the $1.0 million in income, $0.9 million was associated with interest rate derivatives which no longer qualified for hedge accounting under SFAS #133 as a result of an amendment to the Company's revolving credit facility (See note 5). The remaining $0.1 million was the ineffective portion of oil derivatives outstanding as of January 31, 2001. Based on forward oil commodity pricing and the maturity of the Company's derivative financial instruments, the Company expects to recognize the $0.2 million net gain currently deferred in accumulated other comprehensive income into its results of operations over the next twelve months. In December 1999, the staff of the SEC issued Staff Accounting Bulletin ("SAB") 101, "Revenue Recognition in Financial Statements." SAB 101 outlines the basic criteria that must be met to recognize revenue, and provides guidelines for disclosure related to revenue recognition policies. This guidance is 8 10 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES FOOTNOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED required to be implemented in the fourth quarter of fiscal 2001. The Company is currently reviewing this guidance in order to determine the impact of its provisions, if any, on the consolidated financial statements. COMPREHENSIVE INCOME Comprehensive income (loss) for the quarters and six months ended January 31, 2001 and 2000 included the following (in thousands):
Quarter Ended January 31, Six Months Ended January 31, --------------------------- --------------------------- 2001 2000 2001 2000 ------- ------- ------- ------- Net income (loss) ......................... $(3,604) $(4,556) $(5,451) $(3,664) Cumulative effect of change in accounting principle, net of tax ........ -- -- 1,501 -- Increase in unrealized gain on derivatives accounted for as cash flow hedges, net of tax ............ 151 -- 764 -- Reclassification of gains associated with matured derivatives, net of tax ..... (1,006) -- (1,431) -- Reclassification of gains associated with discontinued cash flow hedges, net of tax .............................. -- -- (683) -- ------- ------- ------- ------- Comprehensive income (loss) ........... $(4,459) $(4,556) $(5,300) $(3,664) ======= ======= ======= =======
Components of accumulated other comprehensive income as of January 31, 2001 and July 31, 2000 included the following (in thousands): January 31, July 31, 2001 2000 ----------- -------- Unrealized gain on derivatives accounted for as cash flow hedges, net of tax ....................... $151 -- ---- ---- Other comprehensive income ..... $151 -- ==== ==== 9 11 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES FOOTNOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED 2. INVENTORIES: Inventories consisted of the following (in thousands): January 31, July 31, 2001 2000 --------- --------- Finished goods .................. $ 19,894 $ 18,907 Work in process ................. 37,046 34,602 Raw materials ................... 10,579 16,747 --------- --------- 67,519 70,256 LIFO reserve .................... (14,505) (14,749) --------- --------- 53,014 55,507 Supplies ........................ 12,061 11,068 --------- --------- $ 65,075 $ 66,575 ========= ========= 3. INCOME TAXES: The provision for income taxes for the quarters and six months ended January 31, 2001 and 2000 are summarized by the following effective tax rate reconciliations:
Quarter Ended Six Months Ended January 31, January 31, ---------------------- ------------------------ 2001 2000 2001 1999 ---- ---- ---- ---- Federal statutory tax rate ................ (35.0)% (35.0)% (35.0)% (35.0)% Effect of: State taxes, net of federal benefit ... 1.4 1.4 1.4 1.4 Foreign sales corporation benefit ..... (1.6) (1.6) (1.6) (1.6) Other ................................ (0.8) 0.2 (0.4) (0.1) ------ ------ ------ ------ Effective tax rate ................. (36.0)% (35.0)% (35.6)% (35.3)% ====== ====== ====== ======
The income tax benefits for the quarter and six months ended January 31, 2001 were recorded based on the Company's projected effective income tax rate for the fiscal year ending July 31, 2001. All of the Company's federal income tax returns through its fiscal year ended July 31, 2000 have been settled with the Internal Revenue Service (the IRS). As a result of a review of the Company's federal return for the fiscal years ended July 31, 2000 and 1999 and the impact of alternative minimum tax provisions, the Company is required to refund to the IRS $1.6 million in net operating loss carryback proceeds previously paid to the Company. Such amounts will be refunded to the IRS over an eighteen month period beginning in the Company's fiscal quarter ending April 30, 2001. Such refunds will increase net operating loss carryforwards available to the Company to reduce future taxable income. 10 12 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES FOOTNOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED 4. CONTINGENCIES: In May 1997, the Company was served with a subpoena issued by a Grand Jury empanelled by the United States District Court for the Eastern District of Pennsylvania. The Company was advised by attorneys for the Department of Justice (DOJ) that the Grand Jury was investigating price fixing by producers of graphite products in the United States and abroad during the period 1992 to 1997. The Company has cooperated with the DOJ in the investigation. The DOJ has granted the Company and certain former and present senior executives the opportunity to participate in its Corporate Leniency Program and the Company has entered into an agreement with the DOJ under which the Company and such executives who cooperate will not be subject to criminal prosecution with respect to the investigation. Under the agreement, the Company has agreed to use its best efforts to provide for restitution to its domestic customers for actual damages if any conduct of the Company which violated the federal antitrust laws in the manufacture and sale of such graphite products caused damage to such customers. Subsequent to the initiation of the DOJ investigation, four civil cases were filed in the United States District Court for the Eastern District of Pennsylvania in Philadelphia asserting claims on behalf of a class of purchasers for violations of the Sherman Act. These cases, which have been consolidated, name the Company, UCAR International Inc. (UCAR), SGL Carbon Corporation (SGL Corp.) and SGL Carbon AG (SGL) as defendants (together, the Named Defendants) and seek treble damages. On March 30, 1998, a number of purchasers who were previously included in the purported class of plaintiffs covered by the consolidated case initiated a separate action in the same District Court which asserted substantially the same claims and sought the same relief as the consolidated case and named the Named Defendants, as well as Showa Denko Carbon, Inc. (Showa Denko). Thereafter, seven additional groups of purchasers who were previously included in the purported class of plaintiffs covered by the consolidated case instituted their own actions against the Named Defendants, Showa Denko and, in several cases, certain present or former related parties of UCAR and Showa Denko, asserting substantially the same claims and seeking the same relief as in the consolidated case. Four such actions were filed in the United States District Court for the Eastern District of Pennsylvania on April 3, 1998, May 14, 1998, May 28, 1998 and March 31, 1999, respectively. One such action was filed in the United States District Court for the Northern District of Ohio on April 17, 1998 but was transferred to the Eastern District of Pennsylvania for pre-trial proceedings. Another such action was filed in the United States District Court for the Western District of Pennsylvania on June 17, 1998 but was transferred to the Eastern District of Pennsylvania for pre-trial proceedings. Another such action was filed in the United States District court of the Middle District of Pennsylvania on April 10, 2000, but was transferred to the Eastern District of Pennsylvania for pre-trial proceedings. The complaints or amended complaints in some of the cases have also named as defendants other companies including Mitsubishi Corporation, Tokai Carbon U.S.A., Inc. and related companies. On December 7, 1998, the Company was served with a complaint filed by Chaparral Steel Company against the Named Defendants, Showa Denko and parties related to Showa Denko and UCAR in state court in Ellis County, Texas alleging violations of various Texas state antitrust laws and seeking treble damages. Chaparral Steel Company has filed an amended complaint adding two additional related plaintiffs, a second amended complaint adding additional defendants Nippon Carbon Co., Ltd., SEC Corporation, Tokai Carbon Company, Ltd., Tokai Carbon USA, Inc., VAW Aktiengesellscheft and VAW Carbon GMBH, and third, fourth and fifth amended complaints. The Company has reached settlement agreements representing approximately 96% of domestic antitrust claims with the class plaintiffs and the plaintiffs that filed lawsuits on March 30, 1998, April 3, 1998, April 17, 1998, May 14, 1998, May 28, 1998, June 17, 1998 and March 31, 1999 and other purchasers who had yet to file lawsuits. The settlement agreement with the class has been approved by the Court. Although various of the settlements are unique, in the aggregate they consist generally of current and deferred cash payments and, in a number of cases, provisions which provide for additional payments under certain circumstances ("most favored nations" provisions). In addition to the settlements discussed above, the Company may also settle with various additional purchasers. 11 13 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES FOOTNOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED On February 10, 1999, a U.S. corporation which allegedly made purchases on behalf of two foreign entities and a group of 22 foreign purchasers which are based in several foreign countries filed a complaint against the Company, UCAR, SGL, Tokai Carbon Co., Ltd., Tokai Carbon U.S.A., Inc., Nippon Carbon Co., Ltd., SEC Corporation and certain present and former related parties of UCAR in United States District Court for the Eastern District of Pennsylvania. This complaint has been amended to add four additional plaintiffs. On September 24, 1999, three Australian companies and one New Zealand company filed a complaint against the same parties as are named in the lawsuit filed on February 10, 1999. These cases assert substantially the same claims and seek the same relief as the consolidated case. Other foreign purchasers have also made similar claims against the Company but have not filed lawsuits. The Company understands that defendants UCAR, SGL and Showa Denko have reached settlement agreements with the class action plaintiffs, which have been approved by the court, and have also settled claims brought by various individual purchasers. The Company further understands that UCAR, Robert P. Krass, Robert J. Hart, SGL, Robert J. Koehler, Showa Denko, Tokai, SEC Corporation and Nippon Carbon Co. have pleaded guilty to antitrust conspiracy charges filed by the DOJ and have agreed to pay fines and, in the cases of Messrs. Krass and Hart, to serve prison sentences, in connection with those guilty pleas. The Company also understands that the DOJ has indicted Georges Schwegler, a former UCAR employee. The Company also understands that the DOJ indicted Mitsubishi Corporation on February 12, 2001. The Company has also advised the Commission of the European Communities (the European Commission) that it wishes to invoke its Leniency Notice. Generally under these guidelines, the European Commission may reduce fines and other penalties if a company sufficiently cooperates with the European Commission. On January 24, 2000, the European Commission adopted a Statement of Objections against the Company, SGL, UCAR, VAW Aluminum AG, Showa Denko KK, Tokai Carbon Co. Ltd., Nippon Carbon Co. Ltd. and SEC Corporation. The Company has prepared and submitted to the European Commission a response to the Statement of Objections and has appeared at a hearing regarding the imposition of fines. The Company understands that the European Commission will determine fines, if any, at the completion of its proceedings. On June 18, 1998, a group of Canadian purchasers filed a lawsuit in the Ontario Court (General Division) claiming a conspiracy and violations of the Canadian Competition Act. The Canadian lawsuit names the Named Defendants and Showa Denko, as well as several present or former parents, subsidiaries and/or affiliates of UCAR, SGL and Showa Denko. The Canadian Competition and Consumer Law Division (Canadian Division) has initiated an inquiry and the Company is cooperating fully with the authorities conducting that inquiry pursuant to an agreement with the Director of Research and Investigation of the Canadian Division under which the Company and its present and former officers, directors and employees will not be subject to criminal prosecution. During fiscal 1998, the Company recorded a $38 million pre-tax charge ($25 million after expected tax benefits) for potential liabilities resulting from civil lawsuits, claims, legal costs and other expenses associated with the pending antitrust matters (the Initial Antitrust Charge). During fiscal 1999, the Company recorded an additional $7 million charge ($4.5 million after expected tax benefits) for such potential liabilities (the Supplemental Antitrust Charge). The combined $45 million charge (the Antitrust Charge) represents the Company's estimate, based on current facts and circumstances, of the expected cost to resolve pending antitrust claims. The Company understands that defendants UCAR, SGL and Showa Denko have reached settlements with the class action plaintiffs and various individual purchasers at amounts substantially higher than the levels contemplated in the Antitrust Charge. In light of these and other developments including: (a) possible future settlements with other purchasers, (b) the outcome of the European Commission antitrust investigation, 12 14 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES FOOTNOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (c) potential additional lawsuits by foreign purchasers, (d) the failure to satisfy the conditions to the class action settlement, and (e) adverse rulings or judgments in pending litigation, including an adverse final determination as to the right of the foreign purchasers to relief under U.S. antitrust laws, the antitrust matters could result in aggregate liabilities and costs which could differ materially and adversely from the Antitrust Charge and could affect the Company's financial condition and its ability to service its currently planned liquidity needs. As of January 31, 2001, $42.2 million in antitrust settlements and costs have been paid. SGL Corp. has filed a lawsuit against the Company in North Carolina state court claiming that the Company breached a non-competition agreement signed in connection with the Company's sale of its specialty graphite machining operations to SGL Corp. SGL Corp. seeks damages for the Company's claimed breach of the agreement, interference with SGL Corp.'s business prospects, misappropriation of confidential information and unfair trade practices. The Company has denied these claims. The Company is also party to various legal proceedings considered incidental to the conduct of its business or otherwise not material in the judgment of management. Management does not believe that its loss exposure related to these cases is materially greater than amounts provided in the consolidated balance sheet as of January 31, 2001. As of January 31, 2001, a $0.2 million reserve has been recorded to provide for estimated exposure on claims for which a loss is deemed probable. 5. LONG-TERM DEBT: In connection with the tender of substantially all of the Company's 11.5% Senior Notes in fiscal 1998 (the Tender), the Company entered into an agreement with a consortium of banks led by PNC Bank (the Bank Group) for a $150 million revolving credit facility with a $15 million sub-limit for letters of credit which will expire in December, 2003 (as amended, the 1997 Revolving Credit Facility). The Company and the Bank Group reduced the amount available under the 1997 Revolving Credit Facility to $135.0 million as of July 31, 2000. As of January 31, 2001, the Company had $5.5 million in availability under the 1997 Revolving Credit Facility. Borrowings outstanding were $123.1 million and letters of credit were $6.4 million as of January 31, 2001. The 1997 Revolving Credit Facility is collateralized with the Company's receivables, inventory and property, plant and equipment. As a result of the decline in the Company's operating results, coupled with the increased capital needs during fiscal 2000, the Company was not in compliance with the financial covenants required to be maintained under the 1997 Revolving Credit Facility for the reporting period ended July 31, 2000. On November 13, 2000 (the Waiver Effective Date), the Company and the Bank Group agreed to an amendment and waiver with respect to the 1997 Revolving Credit Facility (the Amendment and Waiver) under which the covenant violations discussed above were waived until August 6, 2001. In connection with the Amendment and Waiver, the Company has agreed to issue to the Bank Group warrants for the Company's Common Stock. Warrants exercisable for nominal consideration representing 15% of the Company's Common Stock outstanding (1,249,701 shares) were fully earned on the Waiver Effective Date. The Company can earn back 10% of such warrants (warrants representing 833,134 shares) if it is able to reduce the commitment under the 1997 Revolving Credit Facility to $110.0 million on or before March 31, 2001. The Company can earn back the remaining 5% of such warrants (warrants representing 416,567 shares) if it is able to reduce the commitment under the 1997 Revolving Credit Facility to $85.0 million (if the commitment was reduced to $110.0 million on or before March 31, 2001) or $110.0 million (if the commitment was not already reduced to $110.0 million on or before March 31, 2001) on or before July 31, 2001. The fee associated with the Amendment and Waiver is 200 basis points, or $2.7 million, fully earned as of the Waiver Effective Date and payable as follows: $0.3 million on the Waiver Effective Date; $0.7 million on April 1, 2001; $1.0 million on May 1, 2001; and $0.7 million on June 1, 2001. The fee is reduced 13 15 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES FOOTNOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED to 100 basis points, or $1.35 million, if the 1997 Revolving Credit Facility is fully repaid by April 30, 2001. As a result of the Amendment and Waiver, interest costs under the 1997 Revolving Credit Facility are computed at a rate of PNC Bank's prime rate plus a spread of 100 basis points (currently 10.5%). Such spread increases to 200 basis points if the Company does not reduce the commitment under the 1997 Revolving Credit Facility by $25 million on March 31, 2001. The issuance of the warrants associated with the Amendment and Waiver resulted in a $3.4 million non-cash charge which will be amortized into interest expense over the vesting period of the warrants which ends on July 31, 2001. Warrant expense included in interest expense for the quarter and six months ended January 31, 2001 totaled $1.6 million. The $2.7 million amendment fee has been capitalized as a deferred debt issuance cost and will be amortized into interest expense over the remaining life of the 1997 Revolving Credit Facility. As a result of the Amendment and Waiver, the commitment under the 1997 Revolving Credit Facility will be reduced by $0.5 million per month beginning on April 1, 2001. In addition, the Company has agreed to further reduce the commitment under the 1997 Revolving Credit Facility by an amount equal to the amount by which the Company's accounts receivable and inventory in total fall below certain thresholds, as more fully described in the Amendment and Waiver. Also, the commitment under the 1997 Revolving Credit Facility will be reduced by two-thirds of any indemnity reimbursements received by the Company from BOC related to the installation of a sulfur dioxide air emissions scrubbing unit at the Company's St. Marys, Pennsylvania facility. During the waiver period, the Company is restricted from issuing any equity (other than preferred share purchase rights) in the Company unless 100% of the net proceeds of any such issuance is used to repay and reduce the commitment under the 1997 Revolving Credit Facility. Any reduction in commitment arising as a result of these provisions is credited toward the $50 million reduction in commitment required to avoid the vesting of the warrants as outlined above. In connection with the Amendment and Waiver, the Company is required to achieve minimum monthly and quarterly EBITDA levels through July 2001, as well as sales commitment targets for needle coke and graphite electrodes for calendar 2001, all as more fully described in the Amendment and Waiver. Also, the Company must not allow its accounts receivable and inventory amounts in total to exceed certain thresholds and must maintain certain financial ratios with respect to accounts receivable and inventory, all as more fully described in the Amendment and Waiver. As a result of weaker-than-expected operating results, such covenants have been further modified by amendments to the Amendment and Waiver agreed to by the Bank Group and the Company in March 2001. In connection with and as a requirement of the Amendment and Waiver, the Company has engaged Bear Stearns & Company to assist the Company in identifying strategic options or potential sources of financing to affect the $50 million reduction in commitment under the 1997 Revolving Credit Facility described above or otherwise refinance the 1997 Revolving Credit Facility. While the Company believes that there are certain strategic options or potential sources of financing available to the Company, there can be no assurance that the Company will be successful in reducing the commitment under the 1997 Revolving Credit Facility by $50 million to avoid the significant financial cost of not meeting the commitment reduction. The Company's expected operating results and cash flows from operations could be negatively impacted if demand for the Company's products weakens, if the U.S. dollar continues to strengthen versus the Euro or if increased oil costs continue for an extended period of time without increased product pricing. The negative impact of the operating factors noted above may continue to impact the Company's compliance with the financial covenants in the 1997 Revolving Credit Facility in the future. If the Company is not in compliance with such covenants in the future, the Company would have to obtain additional covenant violation waivers and amendments from its lenders, refinance the 1997 Revolving Credit Facility and/or obtain additional sources of financing. Terms and conditions of any settlements of pending antitrust claims may also adversely impact the Company's expected liquidity needs in the future. In the event that the Company's capital resources are not 14 16 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES FOOTNOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED sufficient to fund the Company's planned capital expenditures, service its indebtedness, fund its working capital needs and pay any other obligation including those that may arise from pending legal proceedings and the resolution of current antitrust matters, the Company may be required to refinance or renegotiate the 1997 Revolving Credit Facility, obtain additional funding or further delay discretionary capital projects. If the Company were required to refinance or renegotiate the 1997 Revolving Credit Facility or obtain additional funding to satisfy its liquidity needs, there can be no assurance that funds would be available in amounts sufficient for the Company to meet its obligations or on terms favorable to the Company. 15 17 THE CARBIDE/GRAPHITE GROUP, INC. AND SUBSIDIARIES FOOTNOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED 6. SEGMENT INFORMATION: Information about the Company's reportable segments as of January 31, 2001 and July 31, 2000 and for the quarters and six months ended January 31, 2001 and 2000 follows (amounts in thousands):
Quarter Ended Six Months Ended January 31, January 31, ------------------------ ------------------------- 2001 2000 2001 2000 -------- -------- -------- --------- (Unaudited) (Unaudited) Net sales to customers: Graphite electrode products ...................... $36,089 $41,935 $72,679 $ 81,589 Calcium carbide products ......................... 11,709 11,699 24,298 23,168 ------- ------- ------- -------- Total net sales to customers ................. 47,798 53,634 96,977 104,757 ------- ------- ------- -------- Intercompany sales, at market prices: Graphite electrode products ...................... 21 26 43 50 Eliminations ..................................... (21) (26) (43) (50) ------- ------- ------- -------- Total net sales .............................. $47,798 $53,634 $96,977 $104,757 ------- ------- ------- -------- Operating income (loss): Graphite electrode products ...................... 562 $(3,378) $ (90) $ 298 Calcium carbide products ......................... 306 202 1,196 1,064 Unallocated corporate ............................ (1,171) (1,375) (2,333) (2,473) ------- ------- ------- -------- Operating income (loss) ...................... $ (303) $(4,551) $(1,227) $ (1,111) ------- ------- ------- -------- Depreciation and amortization: Graphite electrode products ...................... $ 3,600 $ 4,456 $ 7,246 $ 8,963 Calcium carbide products ......................... 373 404 757 815 Unallocated corporate ............................ 39 43 62 85 ------- ------- ------- -------- Depreciation and amortization ................ $ 4,012 $ 4,903 $ 8,065 $ 9,863 ======= ======= ======= ======== EBITDA: (a) Graphite electrode products ...................... $ 4,211 $ 1,078 $ 7,332 $ 9,261 Calcium carbide products ......................... 679 606 1,953 1,879 Unallocated corporate ............................ (1,132) (1,332) (2,271) (2,388) ------- ------- ------- -------- EBITDA ....................................... $ 3,758 $ 352 $ 7,014 $ 8,752 ======= ======= ======= ======== January 31, July 31, Total assets: 2001 2000 ----------- ---------- Graphite electrode products ................ $205,383 $213,273 Calcium carbide products ................... 24,073 24,689 Unallocated corporate ...................... 13,497 12,532 -------- -------- Total assets ........................... $242,953 $250,494 ======== ========
------------ (a) EBITDA is defined as operating income (loss) before depreciation and amortization and unusual, non-recurring items included in operating income (loss). EBITDA also includes any income or expense associated with hedging ineffectiveness. EBITDA is not presented as a measure of operating results under generally accepted accounting principles. However, management believes that EBITDA is an appropriate measure of the Company's ability to service its cash requirements. EBITDA is an important measure in assessing the performance of the Company's business segments. 16 18 PART I Item 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS The following table sets forth certain financial information for the quarters and six months ended January 31, 2001 and 2000 and should be read in conjunction with the unaudited condensed consolidated financial statements, including the notes thereto, appearing elsewhere in this Quarterly Report on Form 10-Q:
Quarter Ended Six Months Ended January 31, January 31, ------------------------ --------------------------- 2001 2000 2001 2000 -------- --------- ---------- ---------- (Unaudited) (Unaudited) Net sales: Graphite electrode products .............. $36,089 $41,935 $72,679 $81,589 Calcium carbide products ................. 11,709 11,699 24,298 23,168 ------- ------- ------- -------- Total net sales .................... $47,798 $53,634 $96,977 $104,757 ======= ======= ======= ======== Percentage of net sales: Graphite electrode products .............. 75.5% 78.2% 74.9% 77.9% Calcium carbide products ................. 24.5 21.8 25.1 22.1 ------- ------- ------- -------- Total net sales .................... 100.0% 100.0% 100.0% 100.0% ======= ======= ======= ======== Gross profit (loss) as a percentage of segment net sales: Graphite electrode products .............. 5.6% (4.9)% 4.0% 3.7% Calcium carbide products ................. 6.8 6.3 9.1 9.1 Percentage of total net sales: Total gross profit (loss) margin ......... 5.3% (2.4)% 4.8% 4.9% Selling, general and administrative ...... 6.0 6.0 6.1 5.9 Operating income (loss) .................. (0.6) (8.5) (1.3) (1.1) Net income (loss) ......................... (7.5) (8.5) (5.6) (3.5)
Net sales for the quarter ended January 31, 2001 were $47.8 million versus $53.6 million in the prior year comparable quarter. Graphite electrode product sales for the quarter ended January 31, 2001 were $36.1 million versus $41.9 million in the prior year comparable quarter. Calcium carbide product sales were $11.7 million in each of the quarters ended January 31, 2001 and 2000. Net sales for the six months ended January 31, 2001 were $97.0 million versus $104.8 million in the prior year comparable period. For the six months ended January 31, 2001, graphite electrode product sales were $72.7 million compared to $81.6 million in last year's comparable period, while calcium carbide product sales were $24.3 million compared to $23.2 million last year. Within the graphite electrode products segment, graphite electrode net sales were $23.2 million, a 27.6% decrease from last year's second quarter resulting primarily from a 25.9% decrease in electrode shipments. Graphite electrode shipments totaled 21.2 million pounds versus 28.6 million pounds in last year's second quarter. Domestic and foreign electrode shipments as a percentage of total electrode shipments for the quarter 17 19 ended January 31, 2001 were 54.3% and 45.7%, respectively, versus 55.5% and 44.5%, respectively, in last year's second quarter. The decline in shipments was due primarily to weakness in electric arc furnace steel production during the latter part of calendar 2000. Such weakness may continue into calendar 2001 and, potentially, beyond. In addition, the Company has reduced its graphite electrode production rates to approximately 90 to 95 million pounds per annum, contributing to the lower levels of shipments. In addition, graphite electrode net prices declined 1.8% to $1.10 per pound, primarily due to lower domestic prices. Domestic graphite electrode prices declined 3.2% as compared to last year's second quarter, while foreign electrode prices were unchanged. Due to weakness in the global steel industry, and particularly in the U.S., the Company expects net prices for graphite electrodes to decline slightly from current levels for calendar 2001. Needle coke sales were $8.5 million in the current quarter versus $4.9 million a year ago, with the increase resulting from a 67.3% increase in needle coke shipments and a 3.9% increase in average needle coke prices. Shipments and average prices for needle coke were higher during the current quarter due to improvements in demand for needle coke from foreign customers. The Company expects average needle coke prices to increase approximately 3% during the second half of the fiscal year ending July 31, 2001 as compared to price realizations during the current quarter due primarily to increased demand for needle coke from foreign customers. Graphite specialty product sales during the quarter ended January 31, 2001 were $4.4 million versus $5.1 million in the prior year comparable quarter, with the decline resulting from lower granular graphite sales. Sales of bulk graphite increased 17.2% due primarily to increased shipments. For the six months ended January 31, 2001, graphite electrode sales were $49.3 million, a 21.1% decrease from the prior year comparable period resulting primarily from a 17.2% decline in electrode shipments during the current period. In addition, graphite electrode net prices were 4.4% lower in the current period due to weaker domestic pricing, coupled with the negative impact of the strong U.S. dollar against the Euro on net foreign prices. Shipments of graphite electrodes for the six months ended January 31, 2001 were 45.8 million pounds versus 55.3 million pounds in last year's comparable period. Domestic and foreign electrode shipments as a percentage of total electrode shipments for the six months ended January 31, 2001 were 52.8% and 47.2%, respectively, versus 55.1% and 44.9%, respectively, in the prior year comparable period. The domestic electrode price was down 3.2% while the average foreign electrode price was down 5.1%. Needle coke sales for the six months ended January 31, 2001 were $14.2 million versus $9.7 million in the prior year comparable period. The increase in needle coke sales was due to a 43.2% increase in needle coke shipments, coupled with a 1.8% increase in average needle coke prices. Graphite specialty product sales for the six months ended January 31, 2001 were $9.2 million versus $9.4 million in the prior year comparable period. Improvements in sales of bulk graphite essentially offset lower sales of granular graphite. Within the calcium carbide products segment, acetylene sales (which includes pipeline acetylene and calcium carbide for fuel gas applications) increased 21.7% to $6.8 million for the quarter ended January 31, 2001. The increase was primarily due to an increase in shipments of both pipeline acetylene and calcium carbide for fuel gas applications. Sales of calcium carbide for metallurgical applications were $3.8 million which was 16.8% lower than last year's comparable quarter. Weakness in the domestic steel market continues to have a negative impact on demand for calcium carbide for metallurgical applications. Net sales of calcium carbide for metallurgical applications could remain at lower levels throughout fiscal 2001 and, potentially, beyond primarily as a result of weak demand. For the six months ended January 31, 2001, acetylene sales were $13.4 million, a 21.5% increase over the prior year comparable period resulting from higher sales of both pipeline acetylene and calcium carbide for fuel gas applications. Sales of calcium carbide for metallurgical applications were $8.3 million, an 8.6% decrease from a year ago resulting primarily from lower shipments and selling prices. The gross profit margin on graphite electrode product sales for the quarter ended January 31, 2001 was 5.6% versus a negative 4.9% in last year's comparable quarter. The effects of the Company's working capital improvement program implemented during last year's fiscal second quarter negatively impacted the gross profit margin. The Company temporarily reduced graphite electrode and needle coke production to lower inventory 18 20 levels. The Company estimates that its cost of goods sold for last year's fiscal second quarter included approximately $7 million in fixed costs that would have been capitalized into inventory had the Company been operating at normal production levels. Excluding the estimated impact of the working capital improvement program, last year's gross profit margin percentage was approximately 11.8%. The gross profit margin on graphite electrode product sales for the six months ended January 31, 2001 was 4.0% versus 3.7% for last year's comparable period. Excluding the estimated impact of the working capital improvement program, the gross profit margin for last year's comparable period was approximately 12.3%. Lower shipments and average prices for graphite electrodes contributed to the lower gross profit margins in both periods. Also, the cost of decant oil, the primary raw material in the production of needle coke, increased 47.6% and 59.3% during the current quarter and six-month period, contributing to the lower gross profit margin. The Company's hedging program partially mitigated the negative impact of the rising feedstock costs through the end of the Company's fiscal second quarter ended January 31, 2001. As most of the Company's favorable hedging contracts expired at the end of calendar 2000, feedstock costs indicative of current world petroleum prices will begin to negatively impact the Company's results in its fiscal third quarter ending April 30, 2001. Partially offsetting the negative impact of the factors noted above was the improved sales volume and prices for needle coke, coupled with lower labor, benefits and maintenance costs in graphite electrodes. In addition, results for the quarter and six months ended January 31, 2001 included a favorable LIFO adjustment of $0.4 million and $0.6 million, respectively, based on inventory levels projected for the end of fiscal 2001. Gross profit as a percentage of calcium carbide product sales for the quarter ended January 31, 2001 was 6.8% versus 6.3% in the prior year comparable quarter. Gross profit as a percentage of calcium carbide product sales for the six months ended January 31, 2001 was 9.1%, unchanged from last year's comparable period. The increase in the gross profit margin during the current quarter was due primarily to improved sales levels, partially offset by increased energy and transportation costs during the current period. Selling, general and administrative expenditures for the quarter ended January 31, 2001 were $2.9 million versus $3.2 million in the comparable quarter a year ago. Selling, general and administrative expenditures for the six months ended January 31, 2001 were $5.9 million versus $6.2 million in the comparable period a year ago. The decrease in expenditures for both periods was due primarily to lower departmental operating costs achieved as a result of the Company's cost saving programs. Net interest expense for the quarter ended January 31, 2001 was $5.1 million, including $3.3 million in interest expense associated with the Company's revolving credit facility and $1.8 million in non-cash amortization, including $1.6 million in amortization associated with common stock warrants issued to the Company's lenders in connection with a waiver and amendment to the Company's credit facility in November 2000. Net interest expense for the quarter ended January 31, 2000 was $2.5 million, including $2.4 million of interest expense associated with the Company's revolving credit facility and $0.1 million in bank fees. Net interest expense for the six months ended January 31, 2001 was $8.2 million, including $6.3 million in interest expense associated with the Company's revolving credit facility and $1.9 million in non-cash amortization. Net interest expense for the six months ended January 31, 2000 was $4.6 million, including $4.4 million of interest expense associated with the Company's revolving credit facility and $0.2 million in bank fees. The income tax benefit for the quarter and six months ended January 31, 2001 was recorded based on the Company's projected effective income tax rate for the fiscal year ending July 31, 2001. The current year effective rate differs from the federal statutory rate due primarily to state taxes, offset by benefits derived from the Company's foreign sales corporation. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS Effective August 1, 2000, the Company adopted Statement of Financial Accounting Standards (SFAS) #133, "Accounting for Derivative Instruments and Hedging Activities." The adoption of SFAS #133 resulted 19 21 in a net of tax transition gain of $1.5 million recorded by the Company as a cumulative-effect adjustment to accumulated other comprehensive income to recognize the fair value of all derivatives. The Company's derivatives consist of foreign exchange forward contracts, oil futures and swap contracts and interest rate caps and swap contracts; all were designated as cash-flow hedges at adoption. The Company formally documents all relationships between hedging instruments and hedged items, as well as its risk-management objective and strategy for undertaking various hedge transactions. In this documentation, the Company identifies the asset, liability, firm commitment, or forecasted transaction that has been designated as a hedged item and states how the hedging instrument is expected to hedge the risks related to the hedged item. The Company formally measures effectiveness of its hedging relationships both at the hedge inception and on an ongoing basis in accordance with its risk management policy. During the six months ended January 31, 2001, the Company recognized $1.0 million in other income in the consolidated statement of operations related to the accounting for its derivatives under SFAS #133. Of the $1.0 million in income, $0.9 million was associated with interest rate derivatives which no longer qualified for hedge accounting under SFAS #133 as a result of an amendment to the Company's revolving credit facility (See note 5). The remaining $0.1 million was the ineffective portion of oil derivatives outstanding as of January 31, 2001. Based on forward oil commodity pricing and the maturity of the Company's derivative financial instruments, the Company expects to recognize the $0.2 million net gain currently deferred in accumulated other comprehensive income into its results of operations over the next twelve months. In December 1999, the staff of the SEC issued Staff Accounting Bulletin ("SAB") 101, "Revenue Recognition in Financial Statements." SAB 101 outlines the basic criteria that must be met to recognize revenue, and provides guidelines for disclosure related to revenue recognition policies. This guidance is required to be implemented in the fourth quarter of fiscal 2001. The Company is currently reviewing this guidance in order to determine the impact of its provisions, if any, on the consolidated financial statements. LIQUIDITY AND CAPITAL RESOURCES LIQUIDITY The Company's liquidity needs are primarily for capital expenditures, working capital (including antitrust settlements) and debt service on its revolving credit facility. The weakness in certain regions of the global economy and its impact on demand for the Company's products has resulted in the deferment of certain discretionary capital projects. The Company currently estimates that it will spend approximately $10 million in capital improvements during its fiscal year ending July 31, 2001. This projection includes $1.6 million for a hydrodesulfurization (HDS) project for the Company's needle coke affiliate, Seadrift Coke, L.P (Seadrift). The HDS project in total is expected to cost approximately $30 million, approximately $5.0 million of which has been spent as of January 31, 2001. The implementation of the HDS project is contingent upon securing adequate financing to fund the remaining costs of the project. The capital spending forecast also includes $4.0 million for an air emissions scrubbing unit for the Company's St. Marys, PA production facility. The Company believes that certain costs are subject to reimbursement under an environmental indemnity agreement with its former owner, The BOC Group, plc (BOC). However, BOC disputes this claim and is seeking declaratory judgement in the above matter. In addition, the increased price of decant oil (a major raw material for Seadrift) has also resulted in an increased working capital requirement for this raw material. In connection with the tender of substantially all of the Company's 11.5% Senior Notes in fiscal 1998 (the Tender), the Company entered into an agreement with a consortium of banks led by PNC Bank (the Bank Group) for a $150 million revolving credit facility with a $15 million sub-limit for letters of credit which will expire in December, 2003 (as amended, the 1997 Revolving Credit Facility). The Company and the Bank Group reduced the amount available under the 1997 Revolving Credit Facility to $135.0 million as of July 31, 2000. As of January 31, 2001, the Company had $5.5 million in availability under the 1997 Revolving Credit Facility. 20 22 Borrowings outstanding were $123.1 million and letters of credit were $6.4 million as of January 31, 2001. The 1997 Revolving Credit Facility is collateralized with the Company's receivables, inventory and property, plant and equipment. As a result of the decline in the Company's operating results, coupled with the increased capital needs during fiscal 2000, the Company was not in compliance with the financial covenants required to be maintained under the 1997 Revolving Credit Facility for the reporting period ended July 31, 2000. On November 13, 2000 (the Waiver Effective Date), the Company and the Bank Group agreed to an amendment and waiver with respect to the 1997 Revolving Credit Facility (the Amendment and Waiver) under which the covenant violations discussed above were waived until August 6, 2001. In connection with the Amendment and Waiver, the Company has agreed to issue to the Bank Group warrants for the Company's Common Stock. Warrants exercisable for nominal consideration representing 15% of the Company's Common Stock outstanding (1,249,701 shares) were fully earned on the Waiver Effective Date. The Company can earn back 10% of such warrants (warrants representing 833,134 shares) if it is able to reduce the commitment under the 1997 Revolving Credit Facility to $110.0 million on or before March 31, 2001. The Company can earn back the remaining 5% of such warrants (warrants representing 416,567 shares) if it is able to reduce the commitment under the 1997 Revolving Credit Facility to $85.0 million (if the commitment was reduced to $110.0 million on or before March 31, 2001) or $110.0 million (if the commitment was not already reduced to $110.0 million on or before March 31, 2001) on or before July 31, 2001. The fee associated with the Amendment and Waiver is 200 basis points, or $2.7 million, fully earned as of the Waiver Effective Date and payable as follows: $0.3 million on the Waiver Effective Date; $0.7 million on April 1, 2001; $1.0 million on May 1, 2001; and $0.7 million on June 1, 2001. The fee is reduced to 100 basis points, or $1.35 million, if the 1997 Revolving Credit Facility is fully repaid by April 30, 2001. As a result of the Amendment and Waiver, interest costs under the 1997 Revolving Credit Facility are computed at a rate of PNC Bank's prime rate plus a spread of 100 basis points (currently 10.5%). Such spread increases to 200 basis points if the Company does not reduce the commitment under the 1997 Revolving Credit Facility by $25 million on March 31, 2001. The issuance of the warrants associated with the Amendment and Waiver resulted in a $3.4 million non-cash charge which will be amortized into interest expense over the vesting period of the warrants which ends on July 31, 2001. Warrant expense included in interest expense for the quarter and six months ended January 31, 2001 totaled $1.6 million. The $2.7 million amendment fee has been capitalized as a deferred debt issuance cost and will be amortized into interest expense over the remaining life of the 1997 Revolving Credit Facility. As a result of the Amendment and Waiver, the commitment under the 1997 Revolving Credit Facility will be reduced by $0.5 million per month beginning on April 1, 2001. In addition, the Company has agreed to further reduce the commitment under the 1997 Revolving Credit Facility by an amount equal to the amount by which the Company's accounts receivable and inventory in total fall below certain thresholds, as more fully described in the Amendment and Waiver. Also, the commitment under the 1997 Revolving Credit Facility will be reduced by two-thirds of any indemnity reimbursements received by the Company from BOC related to the installation of a sulfur dioxide air emissions scrubbing unit at the Company's St. Marys, Pennsylvania facility. During the waiver period, the Company is restricted from issuing any equity (other than preferred share purchase rights) in the Company unless 100% of the net proceeds of any such issuance is used to repay and reduce the commitment under the 1997 Revolving Credit Facility. Any reduction in commitment arising as a result of these provisions is credited toward the $50 million reduction in commitment required to avoid the vesting of the warrants as outlined above. In connection with the Amendment and Waiver, the Company is required to achieve minimum monthly and quarterly EBITDA levels through July 2001, as well as sales commitment targets for needle coke and graphite electrodes for calendar 2001, all as more fully described in the Amendment and Waiver. Also, the Company must not allow its accounts receivable and inventory amounts in total to exceed certain thresholds and must maintain certain financial ratios with respect to accounts receivable and inventory, all as more fully described in the Amendment and Waiver. As a result of weaker-than-expected operating results, such covenants have been further modified by amendments to the Amendment and Waiver agreed to by the Bank Group and the Company in March 2001. 21 23 In connection with and as a requirement of the Amendment and Waiver, the Company has engaged Bear Stearns & Company to assist the Company in identifying strategic options or potential sources of financing to affect the $50 million reduction in commitment under the 1997 Revolving Credit Facility described above or otherwise refinance the 1997 Revolving Credit Facility. While the Company believes that there are certain strategic options or potential sources of financing available to the Company, there can be no assurance that the Company will be successful in reducing the commitment under the 1997 Revolving Credit Facility by $50 million to avoid the significant financial cost of not meeting the commitment reduction. The Company's expected operating results and cash flows from operations could be negatively impacted if demand for the Company's products weakens, if the U.S. dollar continues to strengthen versus the Euro or if increased oil costs continue for an extended period of time without increased product pricing. The negative impact of the operating factors noted above may continue to impact the Company's compliance with the financial covenants in the 1997 Revolving Credit Facility in the future. If the Company is not in compliance with such covenants in the future, the Company would have to obtain additional covenant violation waivers and amendments from its lenders, refinance the 1997 Revolving Credit Facility and/or obtain additional sources of financing. Terms and conditions of any settlements of pending antitrust claims may also adversely impact the Company's expected liquidity needs in the future. In the event that the Company's capital resources are not sufficient to fund the Company's planned capital expenditures, service its indebtedness, fund its working capital needs and pay any other obligation including those that may arise from pending legal proceedings and the resolution of current antitrust matters, the Company may be required to refinance or renegotiate the 1997 Revolving Credit Facility, obtain additional funding or further delay discretionary capital projects. If the Company were required to refinance or renegotiate the 1997 Revolving Credit Facility or obtain additional funding to satisfy its liquidity needs, there can be no assurance that funds would be available in amounts sufficient for the Company to meet its obligations or on terms favorable to the Company. CASH FLOW INFORMATION Cash flow provided used by operations for the quarter ended January 31, 2001 was $3.3 million. Cash inflows from net loss plus non-cash items of $2.4 million (excluding taxes) were reduced by $5.7 million in net cash outflows associated with changes in working capital. Major cash inflows included $3.6 million from customer accounts receivable. Major cash outflows included $0.9 million associated with increases in inventory and $4.5 million associated with reduced accounts payable and accrued expenses. Cash flow provided by operations for the six months ended January 31, 2001 was $0.3 million. Cash inflows from net loss plus non-cash items of $3.5 million (excluding taxes) were offset by a $3.2 million net cash outflow from changes in working capital items. Major cash inflows included $5.2 million from reductions in accounts receivable, $1.5 million from reductions in inventory and a $4.2 million income tax refund. Offsetting these working capital cash inflows were $8.9 million in net outflows associated with reduced accounts payable and accrued expenses. Investing activities for the quarter and six months ended January 31, 2001 included $2.2 million and $4.9 million, respectively, in capital expenditures. In addition, the Company received $0.9 million during the quarter ended January 31, 2001 associated with derivative financial instruments no longer accounted for as cash flow hedges. Cash flow provided by financing activities for the quarter ended January 31, 2001 was $4.6 million, including a $4.1 million net inflow from increased borrowings under the 1997 Revolving Credit Facility. Cash flow provided by financing activities for the six months ended January 31, 2001 was $3.7 million, including a $2.3 million net inflow from increased borrowings under the 1997 Revolving Credit Facility. 22 24 OTHER ITEMS ENVIRONMENTAL In the process of developing permit applications for facility upgrades at the St. Marys, PA graphite plant, the Company determined that certain parameters in its air permits do not reflect current operations. The Company has advised the appropriate state environmental authorities. The Company is in the process of implementing a plan of action to achieve resolution of this issue. Such plan of action includes the installation and ongoing operation of an air emissions scrubbing unit. The cost estimate for this unit is approximately $4.0 million installed, with an additional $0.5 million per year in ongoing cash operating costs. The facility improvements are expected to be made during the Company's fiscal year ending July 31, 2001. The Company believes that certain costs are subject to reimbursement under the BOC Environmental Indemnity Agreement. However, BOC disputes this claim and is seeking declaratory judgement in the above matter. The Company expects that the fine to be levied in connection with this issue will be immaterial. FORWARD-LOOKING STATEMENTS This report may contain forward-looking statements that are based on current expectations, estimates and projections about the industries in which the Company operates, management's beliefs and assumptions made by management. Words such as "expects," "anticipates," "intends," "plans," "believes," "estimates" and variations of such words and similar expressions are intended to identify such forward-looking statements. These statements constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, and are subject to the safe harbor created thereby. These statements are based on a number of assumptions that could ultimately prove inaccurate and, therefore, there can be no assurance that such statements will prove to be accurate. Factors that could affect actual future results include the developments relating to the antitrust investigations by the Department of Justice, the antitrust enforcement authorities of the European Union or related civil lawsuits as well as the assertion of other claims relating to such investigations or lawsuits or the subject matter thereof. While the Company believes that its Antitrust Reserve is adequate, there can be no assurance that agreements in principle will be finalized or that future developments or other factors might not adversely affect current estimates. Such factors also include the possibility that forecasted demand or prices for the Company's products may not occur or continue, changing economic and competitive conditions (including currency exchange rate and commodity pricing fluctuations), technological risks and other risks, costs and delays associated with the start-up and operation of major capital projects, changing governmental regulations (including environmental rules and regulations) and other risks and uncertainties, including those detailed in the Company's filings with the Securities and Exchange Commission. The Company does not undertake to publicly update any forward-looking statement, whether as a result of new information, future events or otherwise. Item 3 QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK There have not been any material changes in the Company's exposures to market risk during the quarter or six months ended January 31, 2001 which would require an update to the disclosures provided in the Company's Annual Report on Form 10-K for the fiscal year ended July 31, 2000. 23 25 PART II Item 1 LEGAL PROCEEDINGS In May 1997, the Company was served with a subpoena issued by a Grand Jury empanelled by the United States District Court for the Eastern District of Pennsylvania. The Company was advised by attorneys for the Department of Justice (DOJ) that the Grand Jury was investigating price fixing by producers of graphite products in the United States and abroad during the period 1992 to 1997. The Company has cooperated with the DOJ in the investigation. The DOJ has granted the Company and certain former and present senior executives the opportunity to participate in its Corporate Leniency Program and the Company has entered into an agreement with the DOJ under which the Company and such executives who cooperate will not be subject to criminal prosecution with respect to the investigation. Under the agreement, the Company has agreed to use its best efforts to provide for restitution to its domestic customers for actual damages if any conduct of the Company which violated the federal antitrust laws in the manufacture and sale of such graphite products caused damage to such customers. Subsequent to the initiation of the DOJ investigation, four civil cases were filed in the United States District Court for the Eastern District of Pennsylvania in Philadelphia asserting claims on behalf of a class of purchasers for violations of the Sherman Act. These cases, which have been consolidated, name the Company, UCAR International Inc. (UCAR), SGL Carbon Corporation (SGL Corp.) and SGL Carbon AG (SGL) as defendants (together, the Named Defendants) and seek treble damages. On March 30, 1998, a number of purchasers who were previously included in the purported class of plaintiffs covered by the consolidated case initiated a separate action in the same District Court which asserted substantially the same claims and sought the same relief as the consolidated case and named the Named Defendants, as well as Showa Denko Carbon, Inc. (Showa Denko). Thereafter, seven additional groups of purchasers who were previously included in the purported class of plaintiffs covered by the consolidated case instituted their own actions against the Named Defendants, Showa Denko and, in several cases, certain present or former related parties of UCAR and Showa Denko, asserting substantially the same claims and seeking the same relief as in the consolidated case. Four such actions were filed in the United States District Court for the Eastern District of Pennsylvania on April 3, 1998, May 14, 1998, May 28, 1998 and March 31, 1999, respectively. One such action was filed in the United States District Court for the Northern District of Ohio on April 17, 1998 but was transferred to the Eastern District of Pennsylvania for pre-trial proceedings. Another such action was filed in the United States District Court for the Western District of Pennsylvania on June 17, 1998 but was transferred to the Eastern District of Pennsylvania for pre-trial proceedings. Another such action was filed in the United States District court of the Middle District of Pennsylvania on April 10, 2000, but was transferred to the Eastern District of Pennsylvania for pre-trial proceedings. The complaints or amended complaints in some of the cases have also named as defendants other companies including Mitsubishi Corporation, Tokai Carbon U.S.A., Inc. and related companies. On December 7, 1998, the Company was served with a complaint filed by Chaparral Steel Company against the Named Defendants, Showa Denko and parties related to Showa Denko and UCAR in state court in Ellis County, Texas alleging violations of various Texas state antitrust laws and seeking treble damages. Chaparral Steel Company has filed an amended complaint adding two additional related plaintiffs, a second amended complaint adding additional defendants Nippon Carbon Co., Ltd., SEC Corporation, Tokai Carbon Company, Ltd., Tokai Carbon USA, Inc., VAW Aktiengesellscheft and VAW Carbon GMBH, and third, fourth and fifth amended complaints. The Company has reached settlement agreements representing approximately 96% of domestic antitrust claims with the class plaintiffs and the plaintiffs that filed lawsuits on March 30, 1998, April 3, 1998, April 17, 1998, May 14, 1998, May 28, 1998, June 17, 1998 and March 31, 1999 and other purchasers who had yet to file lawsuits. The settlement agreement with the class has been approved by the Court. Although various of the settlements are unique, in the aggregate they consist generally of current and deferred cash payments and, in a number of cases, provisions which provide for additional payments under certain circumstances ("most favored nations" provisions). In addition to the settlements discussed above, the Company may also settle with various additional purchasers. 24 26 On February 10, 1999, a U.S. corporation which allegedly made purchases on behalf of two foreign entities and a group of 22 foreign purchasers which are based in several foreign countries filed a complaint against the Company, UCAR, SGL, Tokai Carbon Co., Ltd., Tokai Carbon U.S.A., Inc., Nippon Carbon Co., Ltd., SEC Corporation and certain present and former related parties of UCAR in United States District Court for the Eastern District of Pennsylvania. This complaint has been amended to add four additional plaintiffs. On September 24, 1999, three Australian companies and one New Zealand company filed a complaint against the same parties as are named in the lawsuit filed on February 10, 1999. These cases assert substantially the same claims and seek the same relief as the consolidated case. Other foreign purchasers have also made similar claims against the Company but have not filed lawsuits. The Company understands that defendants UCAR, SGL and Showa Denko have reached settlement agreements with the class action plaintiffs, which have been approved by the court, and have also settled claims brought by various individual purchasers. The Company further understands that UCAR, Robert P. Krass, Robert J. Hart, SGL, Robert J. Koehler, Showa Denko, Tokai, SEC Corporation and Nippon Carbon Co. have pleaded guilty to antitrust conspiracy charges filed by the DOJ and have agreed to pay fines and, in the cases of Messrs. Krass and Hart, to serve prison sentences, in connection with those guilty pleas. The Company also understands that the DOJ has indicted Georges Schwegler, a former UCAR employee. The Company also understands that the DOJ indicted Mitsubishi Corporation on February 12, 2001. The Company has also advised the Commission of the European Communities (the European Commission) that it wishes to invoke its Leniency Notice. Generally under these guidelines, the European Commission may reduce fines and other penalties if a company sufficiently cooperates with the European Commission. On January 24, 2000, the European Commission adopted a Statement of Objections against the Company, SGL, UCAR, VAW Aluminum AG, Showa Denko KK, Tokai Carbon Co. Ltd., Nippon Carbon Co. Ltd. and SEC Corporation. The Company has prepared and submitted to the European Commission a response to the Statement of Objections and has appeared at a hearing regarding the imposition of fines. The Company understands that the European Commission will determine fines, if any, at the completion of its proceedings. On June 18, 1998, a group of Canadian purchasers filed a lawsuit in the Ontario Court (General Division) claiming a conspiracy and violations of the Canadian Competition Act. The Canadian lawsuit names the Named Defendants and Showa Denko, as well as several present or former parents, subsidiaries and/or affiliates of UCAR, SGL and Showa Denko. The Canadian Competition and Consumer Law Division (Canadian Division) has initiated an inquiry and the Company is cooperating fully with the authorities conducting that inquiry pursuant to an agreement with the Director of Research and Investigation of the Canadian Division under which the Company and its present and former officers, directors and employees will not be subject to criminal prosecution. During fiscal 1998, the Company recorded a $38 million pre-tax charge ($25 million after expected tax benefits) for potential liabilities resulting from civil lawsuits, claims, legal costs and other expenses associated with the pending antitrust matters (the Initial Antitrust Charge). During fiscal 1999, the Company recorded an additional $7 million charge ($4.5 million after expected tax benefits) for such potential liabilities (the Supplemental Antitrust Charge). The combined $45 million charge (the Antitrust Charge) represents the Company's estimate, based on current facts and circumstances, of the expected cost to resolve pending antitrust claims. The Company understands that defendants UCAR, SGL and Showa Denko have reached settlements with the class action plaintiffs and various individual purchasers at amounts substantially higher than the levels contemplated in the Antitrust Charge. In light of these and other developments including: (a) possible future settlements with other purchasers, (b) the outcome of the European Commission antitrust investigation, (c) potential additional lawsuits by foreign purchasers, (d) the failure to satisfy the conditions to the class action settlement, and (e) adverse rulings or judgments in pending litigation, including an adverse final determination as to the right of the foreign purchasers to relief under U.S. antitrust laws, the antitrust matters could result in 25 27 aggregate liabilities and costs which could differ materially and adversely from the Antitrust Charge and could affect the Company's financial condition and its ability to service its currently planned liquidity needs. As of January 31, 2001, $42.2 million in antitrust settlements and costs have been paid. SGL Corp. has filed a lawsuit against the Company in North Carolina state court claiming that the Company breached a non-competition agreement signed in connection with the Company's sale of its specialty graphite machining operations to SGL Corp. SGL Corp. seeks damages for the Company's claimed breach of the agreement, interference with SGL Corp.'s business prospects, misappropriation of confidential information and unfair trade practices. The Company has denied these claims. The Company is also party to various legal proceedings considered incidental to the conduct of its business or otherwise not material in the judgment of management. Management does not believe that its loss exposure related to these cases is materially greater than amounts provided in the consolidated balance sheet as of January 31, 2001. As of January 31, 2001, a $0.2 million reserve has been recorded to provide for estimated exposure on claims for which a loss is deemed probable. 26 28 PART II Item 6 EXHIBITS AND REPORTS ON FORM 8-K A. INDEX TO EXHIBITS 10.11(e) Letter Amendment to Amendment and Waiver among The Carbide/Graphite Group, Inc., the Lenders which are Parties thereto, and PNC Bank, N.A., as the Issuing Bank and as the Agent for the Lenders dated March 16, 2001 10.11(f) Letter Amendment to Amendment and Waiver among The Carbide/Graphite Group, Inc., the Lenders which are Parties thereto, and PNC Bank, N.A., as the Issuing Bank and as the Agent for the Lenders dated March 23, 2001 B. REPORTS ON FORM 8-K None. 27 29 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this report to be signed on its behalf by the following authorized officers on March 23, 2001.
SIGNATURE TITLE ------------------------------------------------------------------------------------------------------------- /S/ WALTER B. FOWLER CHIEF EXECUTIVE OFFICER (PRINCIPAL EXECUTIVE OFFICER) --------------------------------------- (WALTER B. FOWLER) /S/ WILLIAM M. THALMAN VICE PRESIDENT - TREASURER --------------------------------------- (PRINCIPAL FINANCIAL OFFICER) (WILLIAM M. THALMAN) /S/ JEFFREY T. JONES VICE PRESIDENT - CONTROLLER - CORPORATE FINANCE --------------------------------------- (PRINCIPAL ACCOUNTING OFFICER) (JEFFREY T. JONES) /S/ STEPHEN D. WEAVER SENIOR VICE PRESIDENT AND GENERAL MANAGER, --------------------------------------- ELECTRODES AND GRAPHITE SPECIALTY PRODUCTS (STEPHEN D. WEAVER) /S/ ARARAT HACETOGLU VICE PRESIDENT AND GENERAL MANAGER, --------------------------------------- CARBIDE PRODUCTS (ARARAT HACETOGLU) /S/ JIM J. TRIGG VICE PRESIDENT AND GENERAL MANAGER, --------------------------------------- SEADRIFT COKE, L.P. (JIM J. TRIGG)
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