Eastman Chemical Company — 2012 Form 10-K
Business context and reporting period. Fiscal year ended December 31, 2012. Eastman is a global specialty chemicals company with five reportable segments. The July 2, 2012 acquisition of Solutia materially expanded the business; 2012 reported results include Solutia only from the acquisition date, so reported and pro forma comparisons differ. The filing’s fourth-quarter results are included below where notable.
Financial performance
- Revenue: $8.102 billion, up 13% from $7.178 billion in 2011, mainly from acquired Solutia businesses. On a pro forma combined basis, revenue was $9.120 billion, down 2% from $9.275 billion.
- Profit: GAAP operating earnings were $800 million, down 15%; continuing-operations earnings attributable to Eastman were $436 million and diluted EPS was $2.92, versus $606 million and $4.24 in 2011. Net earnings attributable to Eastman were $437 million. Management’s non-GAAP operating earnings were $1.319 billion versus $1.073 billion; adjusted continuing-operations earnings were $802 million, or $5.38 per diluted share. These non-GAAP figures exclude specified unusual items.
- Margins: Gross margin was approximately 21.7% and GAAP operating margin approximately 9.9%, compared with 21.9% and 13.1% in 2011. The reported figures reflect substantial acquisition-related, pension and restructuring charges.
- Cash flow and investment: Operating cash flow was $1.128 billion, up from $625 million. Investing activities used $2.962 billion, including the Solutia acquisition; capital expenditures were $465 million. Financing activities provided $1.504 billion. Cash and cash equivalents ended the year at $249 million.
- Debt and liquidity: Total borrowings were $4.783 billion, versus $1.598 billion at year-end 2011; cash-adjusted debt was approximately $4.534 billion. Current assets were $2.594 billion and current liabilities $1.364 billion (current ratio about 1.9). Eastman had an undrawn $750 million revolving facility and an undrawn $250 million accounts-receivable facility; it reported covenant compliance.
- Other measures: R&D expense was $198 million, up from $159 million. Dividends declared were $1.08 per share, versus $0.99. The reported fourth quarter recorded a $54 million loss from continuing operations attributable to Eastman; fourth-quarter gross profit was $325 million and asset impairment and restructuring charges were $83 million.
Material changes versus the prior comparable period
- Solutia contributed $969 million of post-acquisition sales and an operating loss of $25 million, including purchase-accounting inventory costs and restructuring. Pro forma results provide broader comparability but are not forecasts and exclude potential synergies.
- Reported operating earnings included $276 million of pension and other postretirement benefit mark-to-market losses, $79 million of acquired-inventory costs, $120 million of impairment and restructuring charges, and $44 million of Solutia transaction and integration costs. Acquisition financing costs were also incurred.
- Pro forma operating earnings excluding specified items rose to $1.489 billion from $1.428 billion, while pro forma revenue declined. The Advanced Materials segment’s pro forma operating earnings weakened notably amid lower demand and utilization; other segments’ results benefited from acquired businesses, lower input costs or higher volumes.
- Eastman changed pension and postretirement accounting to recognize actuarial gains and losses in the period incurred, generally through fourth-quarter mark-to-market adjustments; comparative periods were retrospectively revised. This increased reported earnings volatility.
Outlook, risks and unusual items
- 2013 outlook: Adjusted diluted EPS from continuing operations of $6.30–$6.40; operating cash flow of $1.2–$1.4 billion; capital spending of about $525 million; and an approximately 31% tax rate. EPS guidance excludes non-recurring and non-core items. Management expected net interest expense and depreciation and amortization to increase, principally from acquisition financing and a full year of Solutia assets.
- Management planned to use cash for dividends, debt repayment, targeted growth, pension funding and share repurchases primarily to offset dilution, and expected to significantly repay the five-year Solutia term loan by year-end 2013. U.S. defined-benefit pension funding was expected to be about $120 million.
- Key risks include uncertain global demand (especially Europe), chemical and olefins-cycle volatility, raw-material and energy cost or supply disruptions, foreign exchange, manufacturing interruptions, customer concentration, and execution, integration and financing risks from Solutia and other growth projects.
- Environmental remediation reserves totaled $394 million, including $365 million for remediation; estimated remediation costs ranged from $365 million to a reasonably possible maximum of $623 million. Shared-site remediation with Monsanto includes $229 million accrued for future costs. Environmental cash expenditures were $262 million in 2012 and expected to rise in 2013.
- Other unusual actions included $35 million of charges related to terminating the acquired Brazil site operating agreement, a China facility closure, discontinued renewable-chemicals R&D, a $17 million Perennial Wood restructuring charge and a $17 million impairment of boiler-compliance work after choosing a natural-gas conversion approach. The company also faces ordinary-course litigation and a DOJ Medicare reimbursement appeal concerning Solutia; management did not expect pending matters to materially affect overall financial condition, results or cash flows.
Important facts for investors to verify
- Whether Solutia integration delivers expected earnings, cash-flow benefits and synergies, and whether pro forma comparisons are being interpreted alongside reported results.
- Debt repayment progress, interest expense, covenant headroom and liquidity after the acquisition; the filing reported $950 million of credit-facility borrowings at year-end.
- Underlying segment demand, especially Advanced Materials and European markets, and whether lower utilization and volatile input costs persist.
- Actual 2013 performance against the adjusted EPS, cash-flow, capital-spending and tax-rate outlook, noting that guidance excludes specified items.
- Future pension mark-to-market impacts, required contributions, environmental remediation costs and the assumptions supporting the recorded reserves.
- Solutia control integration: management and the auditor excluded Solutia from their 2012 internal-control assessment because it was acquired during the year; the auditor otherwise reported effective internal control over financial reporting.