SXT

Business Context and Reporting Period

Company: Sensient Technologies Corporation
Filing Type: Form 10-Q (Quarterly Report)
Reporting Period: Quarter and nine months ended September 30, 2006
Business Overview: Sensient Technologies is a global manufacturer of flavors, fragrances, and colors. The company operates through three primary segments: Flavors & Fragrances, Color, and Corporate & Other.

Key Financial Metrics

Liquidity: Cash and cash equivalents totaled $4.4 million as of September 30, 2006, down from $7.1 million at year-end 2005. Total current assets were $542.2 million against current liabilities of $259.1 million.

Material Changes vs. Prior Period

• Revenue Growth: Revenue increased 9.5% in the quarter and 7.1% year-to-date compared to 2005. The Flavors & Fragrances segment drove growth with an 11.1% quarterly increase, while the Color segment grew 6.1%.
• Profitability: Operating income rose 22.0% in the quarter and 19.9% year-to-date. Gross margins expanded due to higher volumes and selling prices, which offset increased raw material and energy costs.
• Expense Management: Selling and administrative expenses remained flat as a percentage of revenue (17.8%) in the quarter. Year-to-date expenses decreased as a percentage of revenue (18.1% vs 18.7%) due to a $1.2 million gain on the sale of a non-core minority interest and benefits from the 2005 cost reduction program.
• Debt Reduction: The debt-to-total capital ratio improved to 43.5% from 47.1% at the end of 2005, driven by a $26.0 million reduction in total debt and an increase in equity.

Guidance, Outlook, and Risks

Management Commentary: Management attributes performance improvements to volume growth, pricing strategies, and cost reduction initiatives. Foreign exchange rates had a favorable impact on revenue and operating profit in the quarter.

Outlook: Management expects the effective tax rate for the remainder of 2006 to be 31.5%, excluding discrete items. The company plans to use proceeds from a $152 million senior notes issuance (expected November 2006) to refinance maturing debt.

Risks and Contingencies:

• Environmental Litigation: The company faces EPA Notices of Violation regarding air emissions at a former Milwaukee facility and a Superfund claim in Camden, NJ, requesting $10.9 million in cleanup costs. The company disputes liability for the Superfund site. Estimated environmental liabilities range from $1.4 million to $15.8 million, with $2.5 million accrued.
• Commercial Litigation: Several lawsuits allege respiratory injuries from exposure to butter flavoring vapors. One case (Remmes) was settled with no payment required. Two others (Fults and Kuiper) remain pending; the company intends to vigorously defend these claims.
• Accounting Changes: The company adopted SFAS No. 123(R) for stock-based compensation in 2006, resulting in higher expenses compared to the prior year. The impact of new standards FIN 48 and SFAS No. 158 is currently being evaluated.

Investor Verification Checklist

• Debt Refinancing: Confirm the closing of the $152 million senior notes issuance in November 2006 and the terms of the refinancing.
• Environmental Exposure: Monitor the status of the EPA Superfund claim in Camden, NJ, and the potential for liability exceeding the current $2.5 million accrual.
• Flavor Litigation: Track the progress of the Fults and Kuiper lawsuits regarding butter flavoring exposure to assess potential future liabilities.
• Working Capital: Review the trend in accounts receivable, which increased by $15.0 million year-over-year, impacting operating cash flow.
• Tax Rate Volatility: Verify the actual effective tax rate in subsequent quarters against the 31.5% guidance, considering discrete tax items.