XXXXXX ALUMINUM CORPORATION AND SUBSIDIARY COMPANIES
M A N A G E M E N T ' S D I S C U S S I O N A N D A N A L Y S I S
O F F I N A N C I A L C O N D I T I O N A N D R E S U L T S
O P E R A T I O N S
Xxxxxx Aluminum Corporation ("Kaiser" or the "Company"), through
its wholly owned subsidiary, Xxxxxx Aluminum & Chemical
Corporation ("KACC"), operates in all principal aspects of the
aluminum industry through the following business segments:
Bauxite and alumina, Primary aluminum, Flat-rolled products and
Engineered products. The Company uses a portion of its bauxite,
alumina, and primary aluminum production for additional
processing at certain of its downstream facilities. Intersegment
transfers are valued at estimated market prices. The table below
provides selected operational and financial information on a
consolidated basis with respect to the Company for the years
ended December 31, 1998, 1997, and 1996. This information is
presented in a different format from that used in prior years as
a result of the Company's adoption of Statement of Financial
Accounting Standards No.131 as of December 31, 1998. Prior year
information has been restated to conform to the Company's new
presentation format. The following data should be read in
conjunction with the Company's consolidated financial statements
and the notes thereto, contained elsewhere herein. See Note 11
of Notes to Consolidated Financial Statements for further
information regarding segments. (All references to tons refer to
metric tons of 2,204.6 pounds.)
Year Ended December 31,
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(In millions of dollars, except shipments and prices) 1998 1997 1996
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Shipments: (000 tons)
Alumina
Third Party 2,250.0 1,929.8 2,073.7
Intersegment 750.7 968.0 912.4
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Total Alumina 3,000.7 2,897.8 2,986.1
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Primary Aluminum
Third Party 263.2 327.9 355.6
Intersegment 162.8 164.2 128.3
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Total Primary Aluminum 426.0 492.1 483.9
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Flat-Rolled Products 235.6 247.9 204.8
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Engineered Products 169.4 152.1 122.3
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Average Realized Third Party Sales Price: (1)
Alumina (per ton) $ 197 $ 198 $ 195
Primary Aluminum (per pound) $ 0.71 $ 0.75 $ 0.69
Net Sales:
Bauxite and Alumina
Third Party (includes net sales of bauxite) $ 472.7 $ 411.7 $ 431.0
Intersegment 135.8 201.7 194.1
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Total Bauxite & Alumina 608.5 613.4 625.1
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Primary Aluminum
Third Party 409.8 543.4 538.3
Intersegment 233.5 273.8 217.4
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Total Primary Aluminum 643.3 817.2 755.7
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Flat-Rolled Products 714.6 743.3 626.0
Engineered Products 581.3 581.0 504.4
Minority Interests 78.0 93.8 90.8
Eliminations (369.3) (475.5) (411.5)
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Total Net Sales $ 2,256.4 $ 2,373.2 $ 2,190.5
============== ============== ==============
Operating Income (Loss):
Bauxite & Alumina (2) $ 42.0 $ 54.2 $ 27.7
Primary Aluminum (2) 49.9 148.3 79.1
Flat-Rolled Products (2) (3) 70.8 28.2 35.3
Engineered Products (2) (3) 47.5 42.3 21.7
Micromill(TM) (4) (63.4) (24.5) (14.5)
Eliminations 8.9 (5.9) 8.3
Corporate (3) (65.1) (74.6) (59.8)
-------------- -------------- --------------
Total Operating Income $ 90.6 $ 168.0 $ 97.8
============== ============== ==============
Net Income $ .6 $ 48.0 $ 8.2
============== ============== ==============
Capital Expenditures $ 77.6 $ 128.5 $ 161.5
============== ============== ==============
(1) Average realized prices for the Company's Flat-rolled
products and Engineered products segments are not presented
as such prices are subject to fluctuations due to changes in
product mix. Average realized third party sales prices for
alumina and primary aluminum include the impact of hedging
activities.
(2) Fourth quarter 1998 results for the Bauxite and alumina,
Primary aluminum, Flat-rolled products and Engineered
products segments included unfavorable strike-related impacts of
approximately $10.0, $24.0, $13.0, and $3.0, respectively.
(3) Second quarter 1997 results included pre-tax charges of
$2.6, $12.5 and $4.6 related to restructuring of operations
for the Flat-rolled products, Engineered products and
Corporate segments, respectively.
(4) Fourth quarter 1998 results included a non-cash charge of
$45.0 related to impairment of the Company's Micromill
assets.
This section contains statements which constitute "forward-looking
statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. These statements appear in a
number of places in this section (see "Overview," "Results of
Operations," "Liquidity and Capital Resources" and "Other
Matters"). Such statements can be identified by the use of
forward-looking terminology such as "believes," "expects," "may,"
"estimates," "will," "should," "plans" or "anticipates" or the
negative thereof or other variations thereon or comparable
terminology, or by discussions of strategy. Readers are
cautioned that any such forward-looking statements are not
guarantees of future performance and involve significant risks
and uncertainties, and that actual results may vary materially
from those in the forward-looking statements as a result of
various factors. These factors include the effectiveness of
management's strategies and decisions, general economic and
business conditions, developments in technology, year 2000
technology issues, new or modified statutory or regulatory
requirements and changing prices and market conditions. This
section and the Company's Annual Report on Form 10-K each
identify other factors that could cause such differences. No
assurance can be given that these are all of the factors that
could cause actual results to vary materially from the forward-
looking statements.
OVERVIEW
MARKET-RELATED FACTORS
The Company's operating results are sensitive to changes in
prices of alumina, primary aluminum, and fabricated aluminum
products, and also depend to a significant degree on the volume
and mix of all products sold and on KACC's hedging strategies.
Primary aluminum prices have historically been subject to
significant cyclical price fluctuations. See Notes 1 and 10 of
the Notes to Consolidated Financial Statements for a discussion
of KACC's hedging activities.
During 1998, the Average Midwest United States transaction price
("AMT Price") per pound of primary aluminum experienced a steady
decline during the year, beginning the year in the $.70 to $.75
range and ending the year in the low $.60 range. During 1997,
the AMT Price remained in the $.75 to $.80 price range for the
first eleven months before declining to the low $.70 range in
December. The AMT Price for 1996 remained fairly stable,
generally in the $.70 to $.75 range, through June and then
declined during the second half of the year, reaching a low of
approximately $.65 per pound for October 1996, before recovering
late in the year.
Subsequent to December 31, 1998, the AMT Price has continued to
decline. At February 26, 1999, the AMT Price was approximately
$.58.
LABOR MATTERS
Substantially all of KACC's hourly workforce at the Gramercy,
Louisiana, alumina refinery, Xxxx and Tacoma, Washington,
aluminum smelters, Trentwood, Washington, rolling mill, and
Newark, Ohio, extrusion facility were covered by a master labor
agreement with the United Steelworkers of America (the "USWA")
which expired on September 30, 1998. The parties did not reach
an agreement prior to the expiration of the master agreement and
the USWA chose to strike. As previously announced, in January
1999 KACC declined an offer by the USWA to have the striking
workers return to work at the five plants without a new
agreement. KACC imposed a lock-out to support its bargaining
position and continues to operate the plants with salaried
employees and other workers as it has since the strike began.
Based on operating results to date, the Company believes that a
significant business interruption will not occur.
KACC and the USWA continue to communicate; however, no formal
schedule for bargaining sessions has been developed at this time.
The objective of the Company has been, and continues to be, to
negotiate a fair labor contract that is consistent with its
business strategy and the commercial realities of the
marketplace.
As a result of the USWA strike, the Company temporarily curtailed
three out of a total of eleven potlines at its Xxxx and Tacoma,
Washington, aluminum smelters at September 30, 1998. The
curtailed potlines represent approximately 70,000 tons of annual
production capacity out of a total combined production capacity
of 273,000 tons per year at the facilities. As previously
announced, in February 1999, KACC began restarting the two
curtailed potlines at its Xxxx smelter representing approximately
50,000 tons of the previously idle capacity. KACC has also
announced that it has completed preparations to restart 20,000
tons of idle capacity at its Tacoma smelter. However, the timing
for any restart of the Tacoma potline has yet to be determined
and will depend upon market conditions and other factors. Costs
associated with the preparation and restart of the potlines at
the Xxxx and Tacoma facilities are expected to adversely affect
the Company's first quarter results.
While the Company initially experienced an adverse strike-related
impact on its profitability in the fourth quarter of 1998, the
Company currently believes that KACC's operations at the affected
facilities have been substantially stabilized and will be able to
run at, or near, full capacity, and that the incremental costs
associated with operating the affected plants during the dispute
were eliminated or substantially reduced as of January 1999
(excluding the impacts of the restart costs discussed above and
the effect of market factors such as the continued market-related
curtailment at the Tacoma smelter). However, no assurances can
be given that KACC's efforts to run the plants on a sustained
basis, without a significant business interruption or material
adverse impact on the Company's operating results, will be
successful.
STRATEGIC INITIATIVES
The Company has previously disclosed that it set a goal of
achieving $120.0 million of pre-tax cost reductions and other
profit improvements, independent of metal price changes, with the
full effect planned to be realized in 1998 and beyond, measured
against 1996 results. The Company believes that KACC's
operations had achieved the run rate necessary to meet this
objective prior to the end of the third quarter of 1998, when the
impact of such items as smelter operating levels, the USWA strike
and foreign currency changes are excluded from the analysis.
Further, the Company believes that KACC has implemented the steps
that will allow it to sustain the stated goal over the long term.
The Company remains committed to sustaining the full $120.0
million improvement and to generating additional profit
improvements in future years; however, no assurances can be given
that the Company will be successful in this regard.
In addition to working to improve the performance of the
Company's existing assets, the Company has devoted significant
efforts analyzing its existing asset portfolio with the intent of
focusing its efforts and capital in sectors of the industry that
are considered most attractive, and in which the Company believes
it is well positioned to capture value. The initial steps of
this process resulted in the June 1997 acquisition of the
Bellwood extrusion facility, the May 1997 formation of AKW L.P.
("AKW"), a joint venture that designs, manufactures and sells
heavy duty aluminum wheels, the rationalization of certain of the
Company's engineered products operations and the Company's
investment to expand its capacity for heat treat flat-rolled
products at its Trentwood, Washington, rolling mill. The
restructuring activities resulted in the Company recording a net
pre-tax charge of $19.7 million in June 1997. See Notes 3 and 4
of Notes to Consolidated Financial Statements.
The portfolio analysis process also resulted in the Company's
fourth quarter 1998 decision to seek a strategic partner for
further development and deployment of KACC's Micromill(TM)
technology. While technological progress has been good,
management concluded that additional time and investment would be
required for success. Given the Company's other strategic
priorities, the Company believes that introducing added
commercial and financial resources is the appropriate course of
action for capturing the maximum long term value. This change in
strategic course required a different accounting treatment, and
the Company correspondingly recorded a $45.0 million impairment
charge to reduce the carrying value of the Micromill assets to
approximately $25.0 million.
Another area of emphasis has been a continuing focus on managing
the Company's legacy liabilities. One element of this process
has been actively pursuing claims in respect of insurance
coverage for certain incurred and future environmental costs.
During the fourth quarter of 1998, XXXX received recoveries
totalling approximately $35.0 million related to current and
future claims against certain of its insurers. Recoveries of
$12.0 million were deemed to be allocable to previously accrued
(expensed) items and were reflected in earnings during the fourth
quarter of 1998. The remaining recoveries were offset against
increases in the total amount of environmental reserves. No
assurances can be given that the Company will be successful in
other attempts to recover incurred or future costs from other
insurers or that the amount of any recoveries received will
ultimately be adequate to cover costs incurred. See Note 9 of
Notes to Consolidated Financial Statements.
Additional portfolio analysis and initiatives are continuing.
In early 1999, the Company's program to focus its efforts and
capital in sectors of the industry which it considers to be the
most attractive, and in which the Company believes it is well
positioned to capture value, has resulted in an agreement to sell
one joint venture interest and a separate agreement to purchase
another. As previously announced, in January 1999, KACC signed a
letter of intent to sell its 50% interest in AKW to its joint
venture partner. The transaction, which would result in the
Company recognizing a substantial gain, is currently expected to
close on or about March 31, 1999. However, as the transaction is
subject to negotiation of a definitive purchase agreement, no
assurances can be given that this transaction will be
consummated. Also, in February 1999, as previously announced,
KACC completed the acquisition of the remaining 45% interest in
Kaiser XxXxxxx Hydrate Partners, an alumina marketing venture,
from its joint venture partner for a cash purchase price of
approximately $10.0 million. See Note 12 of Notes to
Consolidated Financial Statements.
VALCO OPERATING LEVEL
During most of 1998, the Company's 90%-owned Volta Aluminium
Company Limited ("Valco") smelter in Ghana operated only one of
its five potlines, as compared to 1997, when Valco operated four
potlines. Each of Valco's potlines produces approximately 40,000
tons of primary aluminum per year. Valco received compensation
(in the form of energy credits to be utilized over the last half
of 1998 and during 1999) from the Volta River Authority ("VRA")
in lieu of the power necessary to run two of the potlines that
were curtailed during 1998. The compensation substantially
mitigated the financial impact of the curtailment of such lines.
Valco did not receive any compensation from the VRA for one
additional potline which was curtailed in January 1998. Based on
Xxxxx's proposed 1999 power allocation from the VRA, Xxxxx has
announced that it expects to operate three lines during 1999.
The decision to operate at that level was based on the power
allocation that Xxxxx has received from the VRA as well as
consideration of market and other factors. As previously
announced, Xxxxx has notified the VRA that it believes it had the
contractual rights at the beginning of 1998 to sufficient energy
to run four and one-half potlines for the balance of the year.
Valco continues to seek compensation from the VRA with respect to
the January 1998 reduction of its power allocation. Valco and
the VRA also are in continuing discussions concerning other
matters, including steps that might be taken to reduce the
likelihood of power curtailments in the future. No assurances
can be given as to the success of these discussions.
RESULTS OF OPERATIONS
1998 AS COMPARED TO 1997
Summary - The Company reported net income of $.6 million, or $.01
per common share, for 1998 compared to net income of $48.0
million, or $.57 per common share, for 1997. Net sales in 1998
totaled $2,256.4 million compared to $2,373.2 million in 1997.
Net income for 1998 included the effect of certain non-recurring
items, including approximately $60.0 million of pre-tax
incremental expense and the earnings impact of lost volume
associated with a strike by members of the USWA (more fully
discussed above), a $45.0 million pre-tax non-cash charge to
reduce the carrying value of the Company's Micromill assets and
an $8.3 million non-cash tax benefit resulting from the
resolution of certain tax matters. Net income for 1997 included
the effect of two essentially offsetting non-recurring items: a
$19.7 million pre-tax restructuring charge and an approximate
$12.5 million non-cash tax benefit related to settlement of
certain tax matters.
Bauxite and Alumina - Third party net sales of alumina were up
16% in 1998 as compared to 1997 primarily due to a 17% increase
in third party shipments. The increase in 1998 third party
shipments (and offsetting decrease in 1998 intersegment
shipments) resulted from reduced shipments to Valco, due to the
production curtailment more fully discussed above and to a lesser
extent, the fourth quarter strike-related curtailment of three
potlines at the Company's Washington smelters. The average
realized price for third party alumina sales was down only
slightly as the allocated net gains from the Company's hedging
activities substantially offset the decline in market prices
related to the Company's primary aluminum-linked customer sales
contracts. In addition to being impacted by the reduced
shipments to Valco and the Washington smelters as discussed
above, intersegment sales were adversely affected by a
substantial market-related decline in intersegment average sales
prices.
Segment operating income was essentially unchanged, excluding the
impact of the approximate $11.0 million of incremental strike-related
costs. The adverse impact of reduced intersegment
realized prices was essentially offset by improved operating
performance resulting from higher production as well as lower
energy costs.
Primary Aluminum - 1998 third party net sales of primary aluminum
were down 25% as compared to 1997 primarily as a result of a 20%
reduction in shipments, caused by the 1998 potline curtailments
at Valco and the Washington smelters. A 5% reduction in average
realized third party sales prices between 1998 and 1997
(reflecting lower market prices offset, in part, by allocated net
gains from KACC's hedging activities), also adversely impacted
third party net sales. Intersegment net sales were down
approximately 15% between 1998 and 1997. While intersegment
shipments were essentially unchanged from the prior year, average
realized prices dropped by 14% reflecting lower market prices for
primary aluminum.
Segment operating income in 1998 was down significantly from
1997. The operating income impact of the Valco potline
curtailments was partially mitigated by the compensation from the
VRA for two of the three curtailed potlines. In addition to the
impact of the one uncompensated potline curtailment at Valco,
1998 results were also negatively affected by the impact of the
potline curtailments at the Company's Washington smelters,
reduced average realized prices (primarily on intersegment
sales), and an adverse strike-related impact of approximately
$29.0 million.
Flat-Rolled Products - Net sales of flat-rolled products
decreased by 4% during 1998 as compared to 1997 as a 5% reduction
in product shipments was modestly offset by the price impact of
changes in product mix. The mix of product shipments in 1998
reflects a higher demand for heat treat products, primarily in
the first half of the year, offset by reduced can sheet shipments
and an increased level of tolling, all as compared to 1997.
Segment operating income increased significantly in 1998
primarily as a result of the increased demand for heat treat
products in the first half of 1998 and improved operating
efficiencies. Segment results for 1998 were particularly strong
in light of the unfavorable strike-related impact of
approximately $16.0 million. Segment results for 1997 included a
non-cash charge recorded in the second quarter of 1997 in
connection with restructuring activities.
Engineered Products - Net sales of engineered products were
relatively flat year to year. An 11% increase in product
shipments was effectively offset by market-related reductions in
product prices as well as by the price impact of changes in
product mix. The increase in year-over-year shipments is in part
due to the impact of the Company's ownership of the Bellwood
extrusion facility in Richmond, Virginia, for all of 1998 versus
only half of 1997. This was, in part, offset by a decline in
year-over-year sales, attributable to the AKW wheels joint
venture formation in May 1997 and reduced shipments caused by
labor difficulties at two major customers.
Segment operating income declined by approximately 6% in 1998 as
compared to 1997, excluding the 1997 pre-tax net charge related
to restructuring of operations and approximately $4.0 million of
adverse incremental strike-related impact in 1998, as a result of
the market impact of the previously mentioned labor difficulties
at two major customers and due to an overall softening in demand,
particularly in the second half of the year.
Eliminations - Eliminations of intersegment profit vary from
period to period depending on fluctuations in market prices as
well as the amount and timing of the affected segments'
production and sales.
Corporate and Other - Corporate operating expenses represent
corporate general and administrative expenses which are not
allocated to the Company's business segments. Excluding the 1997
pre-tax charge associated with the Company's restructuring of
operations, corporate expenses were lower in 1998 than in 1997
primarily as a result of lower consulting and other costs
associated with the Company's ongoing profit improvement program
and portfolio review initiatives.
1997 AS COMPARED TO 1996
Summary - The Company reported net income of $48.0 million, or
$.57 per common share, for 1997 compared to net income of $8.2
million, or $.00 per common share, for 1996. Net income for 1997
included the effect of two essentially offsetting non-recurring
items: a $19.7 million pre-tax restructuring and an approximate
$12.5 million non-cash tax benefit related to settlement of
certain tax matters. Net sales in 1997 totaled $2,373.2 million
compared to $2,190.5 million in 1996.
Bauxite and Alumina - Third party net sales of alumina in 1997
decreased by 4% as compared to 1996 as a 7% decline in third
party shipments more than offset a 2% increase in average
realized prices. Third party shipment volumes were down as
compared to 1996 as a result of the timing of shipments and a 6%
increase in intersegment transfers, primarily due to the
operation in 1997 of an additional one-half of a potline at Valco
over the 1996 operating level. Intersegment net sales increased
by approximately 4% between 1996 and 1997 as a result of the
previously mentioned increase in intersegment shipments offset by
a 2% decline in intersegment prices.
Segment operating income improved substantially in 1997 from
1996, despite the reduced level of shipments and certain
increased costs in part resulting from a slowdown at the
Company's 49%-owned Kaiser Jamaica Bauxite Company, prior to the
signing of a new labor contract in December 1997, primarily due
to lower overall operating costs.
Primary Aluminum - Third party net sales of primary aluminum were
up only slightly in 1997 as compared to 1996 as a 9% increase in
average realized prices was substantially offset by an 8% decline
in third party shipments. Intersegment net sales were up 26%
year-over-year as a result of a 28% increase in intersegment
shipments offset, in part by a 2% decline in intersegment prices.
The change in intersegment shipments of primary aluminum between
1996 and 1997 was attributable to increased requirements of the
flat-rolled and engineered products segments.
Segment operating income improved significantly in 1997 from 1996
as a result of the aforementioned volume and price effects as
well as reduced power, raw material and supply costs and improved
operating efficiencies. Segment operating income for 1997 also
included $10.3 million related to the settlement of certain
energy service contract issues.
Flat-Rolled Products - Net sales of flat-rolled products in 1997
increased by 19% over 1996 levels as a 21% increase in product
shipments was only slightly offset by the pricing impact of
changes in product mix. The increase in 1997 product shipments
over 1996 was primarily the result of the increased international
shipments of can sheet and increased shipments of heat treat
products reflecting in part, increased aerospace demand.
Segment operating income in 1997 declined as a result of a second
quarter pre-tax charge related to restructuring of operations
together with reduced profitability of international can sheet
sales.
Engineered Products - Net sales of engineered products increased
15% year-to-year as a 24% increase in product shipments was
partially offset by the price impact of changes in product mix.
The increase in 1997 shipments over 1996 levels was primarily the
result of the Company's June 1997 acquisition of the Bellwood
extrusion facility in Richmond, Virginia, offset, in part, by the
formation of AKW in May 1997.
Segment operating income improved substantially over 1996,
despite a second quarter 1997 pre-tax net charge related to
restructuring of operations, as a result of the aforementioned
volume and product mix effects along with improved operating
efficiencies.
Eliminations - Eliminations of intersegment profit vary from
period to period depending on fluctuations in market prices as
well as the amount and timing of the affected segments'
production and sales.
Corporate and Other - Corporate operating results for 1997
included a second quarter pre-tax charge associated with the
Company's restructuring of operations. Corporate operating
expenses for the year ended December 31, 1997, also include
consulting and other costs associated with the Company's ongoing
profit improvement program and portfolio review initiatives.
LIQUIDITY AND CAPITAL RESOURCES
See Note 5 of Notes to Consolidated Financial Statements for a
listing of the Company's indebtedness and information concerning
certain restrictive debt covenants.
OPERATING ACTIVITIES
Cash provided by operating activities was $170.7, $45.0 and $21.9
million in 1998, 1997 and 1996, respectively. The improvement in
cash flows from operating activities between 1998 and 1997 was
due primarily to a reduced investment in working capital
(excluding cash), the receipt of $35.0 million of environmental
insurance recoveries and the impact of current year results
(excluding non-cash charges). The improvement in cash flows from
operating activities between 1996 and 1997 was primarily due to
higher earnings resulting from increased product prices and
increased sales of fabricated products partially offset by
increased investment in working capital.
INVESTING ACTIVITIES
Total consolidated capital expenditures were $77.6, $128.5 and
$161.5 million in 1998, 1997 and 1996, respectively (of which
$7.2, $6.6 and $7.4 million were funded by the minority partners
in certain foreign joint ventures), and were made primarily to
improve production efficiency, reduce operating costs, expand
capacity at existing facilities and construct or acquire new
facilities. Total consolidated capital expenditures are
currently expected to be between $70 and $90 million per annum in
each of 1999 through 2001 (of which approximately 8% is expected
to be funded by the Company's minority partners in certain
foreign joint ventures). Management continues to evaluate
numerous projects, all of which would require substantial
capital, both in the United States and overseas. The level of
capital expenditures may be adjusted from time to time depending
on the Company's price outlook for primary aluminum and other
products, KACC's ability to assure future cash flows through
hedging or other means, the Company's financial position and
other factors.
A substantial portion of the increase in capital expenditures in
1996 was attributable to the development and construction of the
Company's proprietary Micromill technology for the production of
can sheet and other sheet products from molten metal. During
1998, the Micromill facility, near Reno, Nevada, commenced
product shipments to customers, but the amount of such shipments
was nominal. As previously announced, in order to attempt to
capture the maximum long-term value and given other strategic
priorities, the Company has decided to seek a strategic partner
for the further development and deployment of the Micromill
technology. As more fully discussed in Note 3 of Notes to
Consolidated Financial Statements, this change in strategic
course required a different accounting treatment, and
accordingly, the Company recorded a $45.0 million non-cash charge
to reduce the carrying value of the Micromill assets. There can
be no assurances regarding whether the future development or
deployment of the Micromill technology will be successful.
FINANCING ACTIVITIES AND LIQUIDITY
The Company and KACC have a credit agreement (as amended, the
"Credit Agreement") under which KACC is able to borrow by means
of revolving credit advances and letters of credit (up to $125.0
million) an aggregate amount equal to the lesser of $325.0
million or a borrowing base relating to eligible accounts
receivable and eligible inventory. The Credit Agreement, which
matures in August 2001, is guaranteed by the Company and by
certain significant subsidiaries of KACC. The Credit Agreement
requires KACC to comply with certain financial covenants, places
significant restrictions on the Company and KACC, and is secured
by a substantial majority of the Company's and KACC's assets.
The Credit Agreement does not permit the Company or KACC to pay
any dividends on their common stock. KACC's public indebtedness
also include various restrictions on KACC and its subsidiaries
and repurchase obligations upon a Change of Control.
As of December 31, 1998, the Company's total consolidated
indebtedness was $963.0 million. No amounts were outstanding
under the revolving credit facility of the Credit Agreement.
KACC had $274.1 million of unused availability remaining under
the Credit Agreement at February 28, 1999, after allowances of
$50.9 million for outstanding letters of credit.
Management believes that the Company's existing cash resources,
together with cash flows from operations and borrowings under the
Credit Agreement, will be sufficient to satisfy its working
capital and capital expenditure requirements for the next year.
With respect to long-term liquidity, management believes that
operating cash flow, together with the ability to obtain both
short and long-term financing, should provide sufficient funds to
meet the Company's working capital and capital expenditure
requirements.
CAPITAL STRUCTURE
MAXXAM Inc. ("MAXXAM") and one of its wholly owned subsidiaries
collectively own approximately 63% of the Company's Common Stock,
with the remaining approximately 37% of the Company's Common
Stock being publicly held. Certain of the shares of the
Company's Common Stock beneficially owned by MAXXAM are subject
to certain pledge agreements. See Note 8 of Notes to
Consolidated Financial Statements for a further description of
the pledge agreements.
During August 1997, the remaining 8,673,850 shares of outstanding
PRIDES were converted into 7,227,848 shares of the Company's
Common Stock pursuant to the PRIDES Certificate of Designations.
See Note 8 of Notes to Consolidated Financial Statements.
The Company has an effective "shelf" registration statement
covering the offering from time to time of up to $150.0 million
of equity securities. Any such offering will only be made by
means of a prospectus. The Company also has an effective "shelf"
registration statement covering the offering of up to 10,000,000
shares of the Company's Common Stock that are owned by MAXXAM.
The Company will not receive any of the net proceeds from any
transaction initiated by MAXXAM pursuant to this registration
statement.
See Note 8 of Notes to Consolidated Financial Statements.
COMMITMENTS AND CONTINGENCIES
The Company and KACC are subject to a number of environmental
laws, to fines or penalties assessed for alleged breaches of the
environmental laws, and to claims and litigation based upon such
laws. KACC currently is subject to a number of lawsuits and,
along with certain other entities, has been named as a
potentially responsible party for remedial costs at certain
third-party sites listed on the National Priorities List under
CERCLA. Based on the Company's current evaluation of these and
other environmental matters, the Company has established
environmental accruals of $50.7 million at December 31, 1998.
KACC is also a defendant in a number of lawsuits, some of which
involve claims of multiple persons, in which the plaintiffs
allege that certain of their injuries were caused by, among other
things, exposure to asbestos during, and as a result of, their
employment or association with KACC or exposure to products
containing asbestos produced or sold by KACC. The lawsuits
generally relate to products KACC has not sold for at least 20
years. Based on past experience and reasonably anticipated
future activity, the Company has established a $186.2 million
accrual for estimated asbestos-related costs for claims filed and
estimated to be filed through 2008, before consideration of
insurance recoveries. However, the Company believes that
substantial recoveries from insurance carriers are probable. The
Company reached this conclusion based on prior insurance-related
recoveries in respect of asbestos-related claims, existing
insurance policies and the advice of outside counsel with respect
to applicable insurance coverage law relating to the terms and
conditions of these policies. Accordingly, the Company has
recorded an estimated aggregate insurance recovery of $152.5
million (determined on the same basis as the asbestos-related
cost accrual) at December 31, 1998. Although the Company has
settled asbestos-related coverage matters with certain of its
insurance carriers, other carriers have not yet agreed to
settlements. The timing and amount of future recoveries from
these carriers will depend on the pace of claims review and
processing by such carriers and on the resolution of any disputes
regarding coverage under such policies that may arise.
While uncertainties are inherent in the final outcome of these
matters and it is presently impossible to determine the actual
costs that ultimately may be incurred and insurance recoveries
that ultimately may be received, management currently believes
that the resolution of these uncertainties and the incurrence of
related costs, net of any related insurance recoveries, should
not have a material adverse effect on the Company's consolidated
financial position, results of operations, or liquidity.
In connection with the USWA strike and subsequent "lock-out" by
KACC, certain allegations of unfair labor practices ("ULPs") have
been filed with the National Labor Relations Board by the USWA
and its members. KACC has responded to all such allegations and
believes that they are without merit. If the allegations were
sustained, KACC could be required to make locked-out employees
whole for back wages from the date of the lock-out in January
1999. While uncertainties are inherent in the final outcome of
such matters, the Company believes that the resolution of the
alleged ULPs should not result in a material adverse impact on
the Company's financial position, results of operations, or
liquidity.
See Note 9 of Notes to Consolidated Financial Statements for a
more detailed discussion of these contingencies and the factors
affecting management's beliefs. See also "Overview."
OTHER MATTERS
YEAR 2000 READINESS DISCLOSURE
The Company utilizes software and related technologies throughout
its business that will be affected by the date change to the year
2000. There may also be technology embedded in certain of the
equipment owned or used by the Company that is susceptible to the
year 2000 date change as well. The Company has implemented a
company-wide program to coordinate the year 2000 efforts of its
individual business units and to track their progress. The
intent of the program is to make sure that critical items are
identified on a sufficiently timely basis to assure that the
necessary resources can be committed to address any material risk
areas that could prevent the Company's systems and assets from
being able to meet the Company's business needs and objectives.
Year 2000 progress and readiness has also been the subject of the
Company's normal, recurring internal audit function.
Each of the Company's business units has developed, or is
completing, year 2000 plans specifically tailored to their
individual situations. A wide range of solutions is being
implemented, including modifying existing systems and, in limited
cases where it is cost effective, purchasing new systems. Total
spending related to these projects, which began in 1997 and is
expected to continue through 1999, is currently estimated to be
in the $10-15 million range. Approximately half of the year 2000
expenditures are expected to be made during 1999. System
modification costs are being expensed as incurred. Costs
associated with new systems are being capitalized and will be
amortized over the life of the product. The Company has
established an internal goal of having all necessary system
changes in place and tested by mid-year 1999. The Company plans
to commit the necessary resources to meet this deadline.
In addition to addressing the Company's internal systems, the
company-wide program involves identification of key suppliers,
customers, and other third-party relationships that could be
impacted by year 2000 issues. A general survey has been
conducted of the Company's supplier and customer base. Direct
contact has been made, or is in progress, with parties which are
deemed to be particularly critical including financial
institutions, power suppliers, and customers, with which the
Company has a material relationship.
Each business unit, including the corporate group, is developing
a contingency plan covering the steps that would be taken if a
year 2000 problem were to occur despite the Company's best
efforts to identify and remediate all critical at-risk items.
Each contingency plan will address, among other things, matters
such as alternative suppliers for critical inputs, incremental
standby labor requirements at the millennium to address any
problems as they occur, and backup processing capabilities for
critical equipment or processes. The goal of the contingency
plans will be to minimize any business interruptions and the
associated financial implications.
While the Company believes that its program is sufficient to
identify the critical issues and associated costs necessary to
address possible year 2000 problems in a timely manner, there can
be no assurances that the program, or underlying steps
implemented, will be successful in resolving all such issues by
the Company's mid-1999 goal or prior to the year 2000. If the
steps taken by the Company (or critical third parties) are not
made in a timely manner, or are not successful in identifying and
remediating all significant year 2000 issues, business
interruptions or delays could occur and could have a material
adverse impact on the Company's results and financial condition.
However, based on the information the Company has gathered to
date and the Company's expectations of its ability to remediate
problems encountered, the Company currently believes that
significant business interruptions that would have a material
impact on the Company's results or financial condition will not
be encountered.
RECENT ACCOUNTING PRONOUNCEMENTS
The Company adopted Statement of Financial Accounting Standards
No. 130, Reporting Comprehensive Income ("SFAS No. 130") as of
January 1, 1998. SFAS No. 130 requires the presentation of an
additional income measure (termed "comprehensive income"), which
adjusts traditional net income for certain items that previously
were only reflected as direct charges to equity (such as minimum
pension liabilities).
Statement of Financial Accounting Standards No. 133, Accounting
for Derivative Instruments and Hedging Activities ("SFAS No.
133") was issued in June 1998 and requires companies to recognize
all derivative instruments as assets or liabilities in the
balance sheet and to measure those instruments at fair value.
SFAS No. 133 must be adopted by the Company no later than January
1, 2000, although earlier application is permitted. The Company
is currently evaluating how and when to implement SFAS No. 133.
Currently, the dollar amount of the Company's comprehensive
income adjustments is not significant so there is not a
significant difference between "traditional" net income and
comprehensive income. However, differences between comprehensive
income and traditional net income may become significant in
future periods as a result of SFAS No. 133. As discussed more
fully in Notes 1 and 10 of Notes to Consolidated Financial
Statements, the intent of the Company's hedging program is to
"lock-in" a price (or range of prices) for products sold/used so
that earnings and cash flows are subject to reduced risk of
volatility. Under SFAS No. 133, the Company will be required to
"mark-to-market" its hedging positions at each period end in
advance of reflecting the physical transaction to which the hedge
relates. Pursuant to SFAS No. 130, the Company will reflect
changes in the fair value of its open hedging positions as an
increase or reduction in stockholders' equity through
comprehensive income. Under SFAS No. 130, the impact of the
changes in fair value of financial instruments will reverse out
of comprehensive income (net of any fluctuations in other "open"
positions) and will be reflected in traditional net income when
the subsequent physical transaction occurs.
The combined effect of SFAS No's. 130 and 133 will result in
fluctuations in comprehensive income and stockholders' equity in
periods of price volatility, despite the fact that the Company's
cash flow and earnings will be "fixed" to the extent hedged. The
amount of such fluctuations could be significant.
INCOME TAX MATTERS
The Company's net deferred income tax assets as of December 31,
1998, were $378.2 million, net of valuation allowances of $107.7
million. The Company believes a long-term view of profitability
is appropriate and has concluded that these net deferred income
tax assets will more likely than not be realized. See Note 6 of
Notes to Consolidated Financial Statements for a discussion of
these and other income tax matters.
