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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 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 March 31, 2008
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission file number 1-12387
TENNECO INC.
(Exact name of registrant as specified in its charter)
DELAWARE 76-0515284
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
500 NORTH FIELD DRIVE, LAKE FOREST, 60045
ILLINOIS
(Address of principal executive offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (847) 482-5000
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer,
an accelerated filer, a non-accelerated filer, or a smaller reporting company.
See the definitions of "large accelerated filer," "accelerated filer" and
"smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer [X] Accelerated filer [ ] Non-accelerated filer [ ]
Smaller reporting company [ ]
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's classes
of common stock as of the latest practicable date.
Common Stock, par value $.01 per share: 46,601,468 shares as of April 30,
2008.
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TABLE OF CONTENTS
PAGE
----
PART I -- FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited).............................. 4
Tenneco Inc. and Consolidated Subsidiaries --
Report of Independent Registered Public Accounting Firm.......... 4
Condensed Consolidated Statements of Income...................... 5
Condensed Consolidated Balance Sheets............................ 6
Condensed Consolidated Statements of Cash Flows.................. 7
Condensed Consolidated Statements of Changes in Shareholders'
Equity........................................................ 8
Condensed Consolidated Statements of Comprehensive Income........ 9
Notes to Condensed Consolidated Financial Statements............. 10
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations.......................................... 31
Item 3. Quantitative and Qualitative Disclosures About Market Risk.... 51
Item 4. Controls and Procedures....................................... 52
PART II -- OTHER INFORMATION
Item 1. Legal Proceedings............................................. *
Item 1A. Risk Factors.............................................. 54
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds... 54
Item 3. Defaults Upon Senior Securities............................... *
Item 4. Submission of Matters to a Vote of Security Holders........... *
Item 5. Other Information............................................. *
Item 6. Exhibits...................................................... 54
--------
* No response to this item is included herein for the reason that it is
inapplicable or the answer to such item is negative.
CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR"
PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
This Quarterly Report on Form 10-Q contains forward-looking statements
within the meaning of the Private Securities Litigation Reform Act of 1995
concerning, among other things, our prospects and business strategies. These
forward-looking statements are included in various sections of this report,
including "Management's Discussion and Analysis of Financial Condition and
Results of Operations" appearing in Part I, Item 2. The words "may," "will,"
"believe," "should," "could," "plans," "expect," "anticipated," "estimates," and
similar expressions (and variations thereof), identify these forward-looking
statements. Although we believe that the expectations reflected in these
forward-looking statements are based on reasonable assumptions, these
expectations may not prove to be correct. Because these forward-looking
statements are also subject to risks and uncertainties, actual results may
differ materially from the expectations expressed in the forward-looking
statements. Important factors that could cause actual results to differ
materially from the expectations reflected in the forward-looking statements
include:
- changes in consumer demand, prices and our ability to have our products
included on top selling vehicles, such as the recent shift in consumer
preferences from light trucks and SUVs to other vehicles in light of
higher fuel costs (because the percentage of our North American OE
revenues related to light trucks and SUVs is greater than the percentage
of the total North American light vehicle build rate represented by light
trucks and SUVs, our North American OE business is sensitive to this
change in consumer preferences), and other factors impacting the
cyclicality of automotive production and sales of automobiles which
include our products, and the potential negative impact on our revenues
and margins from such products;
1
- changes in automotive manufacturers' production rates and their actual
and forecasted requirements for our products;
- the overall highly competitive nature of the automotive parts industry,
and our resultant inability to realize the sales represented by our
awarded book of business (which is based on anticipated pricing for the
applicable program over its life, and is subject to increases or
decreases due to changes in customer requirements, customer and consumer
preferences, and the number of vehicles actually produced by customers);
- the loss of any of our large original equipment manufacturer ("OEM")
customers (on whom we depend for a substantial portion of our revenues),
or the loss of market shares by these customers if we are unable to
achieve increased sales to other OEMs;
- general economic, business and market conditions, including without
limitation the financial difficulties facing a number of companies in the
automotive industry and the potential impact thereof on labor unrest,
supply chain disruptions, weakness in demand and the collectibility of
any accounts receivable due us from such companies;
- labor disruptions at our facilities or any labor or other economic
disruptions at any of our significant customers or suppliers or any of
our customers' other suppliers (such as the recent strike at American
Axle, which disrupted our supply of products for significant General
Motors platforms);
- increases in the costs of raw materials, including our ability to
successfully reduce the impact of any such cost increases through
materials substitutions, cost reduction initiatives, low cost country
sourcing, and price recovery efforts with aftermarket and OE customers;
- the cyclical nature of the global vehicle industry, including the
performance of the global aftermarket sector and the longer product lives
of automobile parts;
- our continued success in cost reduction and cash management programs and
our ability to execute restructuring and other cost reduction plans and
to realize anticipated benefits from these plans;
- costs related to product warranties;
- the impact of consolidation among automotive parts suppliers and
customers on our ability to compete;
- operating hazards associated with our business;
- changes in distribution channels or competitive conditions in the markets
and countries where we operate, including the impact of changes in
distribution channels for aftermarket products on our ability to increase
or maintain aftermarket sales;
- the negative impact of higher fuel prices on discretionary purchases of
aftermarket products by consumers;
- the cost and outcome of existing and any future legal proceedings;
- economic, exchange rate and political conditions in the foreign countries
where we operate or sell our products;
- customer acceptance of new products;
- new technologies that reduce the demand for certain of our products or
otherwise render them obsolete;
- our ability to realize our business strategy of improving operating
performance;
- capital availability or costs, including changes in interest rates,
market perceptions of the industries in which we operate or ratings of
securities;
- our inability to successfully integrate any acquisitions that we
complete;
- changes by the Financial Accounting Standards Board or the Securities and
Exchange Commission of authoritative generally accepted accounting
principles or policies;
2
- potential legislation, regulatory changes and other governmental actions,
including the ability to receive regulatory approvals and the timing of
such approvals;
- the impact of changes in and compliance with laws and regulations,
including environmental laws and regulations, and environmental
liabilities in excess of the amount reserved;
- acts of war and/or terrorism, including, but not limited to, the events
taking place in the Middle East, the current military action in Iraq and
Afghanistan, the current situation in North Korea and the continuing war
on terrorism, as well as actions taken or to be taken by the United
States and other governments as a result of further acts or threats of
terrorism, and the impact of these acts on economic, financial and social
conditions in the countries where we operate; and
- the timing and occurrence (or non-occurrence) of other transactions,
events and circumstances which may be beyond our control.
The risks included here are not exhaustive. Refer to "Part I, Item
1A -- Risk Factors" in our annual report on Form 10-K for the year ended
December 31, 2007, for further discussion regarding our exposure to risks.
Additionally, new risk factors emerge from time to time and it is not possible
for us to predict all such risk factors, nor to assess the impact such risk
factors might have on our business or the extent to which any factor or
combination of factors may cause actual results to differ materially from those
contained in any forward-looking statements. Given these risks and
uncertainties, investors should not place undue reliance on forward-looking
statements as a prediction of actual results.
3
PART I.
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
TO THE BOARD OF DIRECTORS AND SHAREHOLDERS OF
TENNECO INC.
We have reviewed the accompanying condensed consolidated balance sheet of
Tenneco Inc. and consolidated subsidiaries (the "Company") as of March 31, 2008,
and the related condensed consolidated statements of income, cash flows,
comprehensive income, and changes in shareholders' equity for the three-month
periods ended March 31, 2008 and 2007. These interim financial statements are
the responsibility of the Company's management.
We conducted our reviews in accordance with the standards of the Public
Company Accounting Oversight Board (United States). A review of interim
financial information consists principally of applying analytical procedures and
making inquiries of persons responsible for financial and accounting matters. It
is substantially less in scope than an audit conducted in accordance with the
standards of the Public Company Accounting Oversight Board (United States), the
objective of which is the expression of an opinion regarding the financial
statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that
should be made to such condensed consolidated interim financial statements for
them to be in conformity with accounting principles generally accepted in the
United States of America.
We have previously audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the consolidated balance
sheet of Tenneco Inc. and consolidated subsidiaries as of December 31, 2007, and
the related consolidated statements of income (loss), cash flows, changes in
shareholders' equity, and comprehensive income (loss) for the year then ended
(not presented herein); and in our report dated February 29, 2008, we expressed
an unqualified opinion on those consolidated financial statements and financial
statement schedule and included an explanatory paragraph regarding the Company's
adoption of the measurement date provisions of Statement of Financial Accounting
Standards ("SFAS") No. 158, "Employers' Accounting for Defined Benefit Pension
and Other Postretirement Plans -- an amendment of FASB Statements No. 87, 88,
106 and 132(R)," on January 1, 2007. In our opinion, the information set forth
in the accompanying consolidated balance sheet as of December 31, 2007 is fairly
stated, in all material respects, in relation to the consolidated balance sheet
from which it has been derived.
DELOITTE & TOUCHE LLP
Chicago, Illinois
May 9, 2008
4
TENNECO INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
THREE MONTHS ENDED MARCH 31,
----------------------------
2008 2007
----------- -----------
(MILLIONS EXCEPT SHARE AND
PER SHARE AMOUNT)
REVENUES
Net sales and operating revenues....................... $ 1,560 $ 1,400
----------- -----------
COSTS AND EXPENSES
Cost of sales (exclusive of depreciation and
amortization shown below)........................... 1,326 1,179
Engineering, research, and development................. 36 27
Selling, general and administrative.................... 105 95
Depreciation and amortization of other intangibles..... 55 48
----------- -----------
1,522 1,349
----------- -----------
OTHER INCOME (EXPENSE)
Loss on sale of receivables............................ (2) (2)
Other income........................................... 3 --
----------- -----------
1 (2)
----------- -----------
INCOME BEFORE INTEREST EXPENSE, INCOME TAXES, AND
MINORITY INTEREST ..................................... 39 49
Interest expense (net of interest capitalized of $2
million and $1 million, respectively)............... 25 40
Income tax expense..................................... 5 2
Minority interest...................................... 3 2
----------- -----------
NET INCOME............................................... $ 6 $ 5
=========== ===========
EARNINGS PER SHARE
Weighted average shares of common stock outstanding --
Basic.................................................. 46,253,272 45,425,823
Diluted................................................ 47,737,835 47,320,779
Basic earnings per share of common stock................. $ 0.14 $ 0.11
Diluted earnings per share of common stock............... $ 0.13 $ 0.11
The accompanying notes to financial statements are an integral part of these
statements of income.
5
TENNECO INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
MARCH 31, DECEMBER 31,
2008 2007
--------- ------------
(MILLIONS)
ASSETS
Current assets:
Cash and cash equivalents................................. $ 161 $ 188
Receivables --
Customer notes and accounts, net....................... 834 732
Other.................................................. 21 25
Inventories --
Finished goods......................................... 240 212
Work in process........................................ 196 175
Raw materials.......................................... 122 111
Materials and supplies................................. 44 41
Deferred income taxes..................................... 39 36
Prepayments and other..................................... 143 121
------- -------
1,800 1,641
------- -------
Other assets:
Long-term notes receivable, net........................... 18 19
Goodwill.................................................. 209 208
Intangibles, net.......................................... 28 26
Deferred income taxes..................................... 340 370
Other..................................................... 146 141
------- -------
741 764
------- -------
Plant, property, and equipment, at cost..................... 3,116 2,978
Less -- Accumulated depreciation and amortization......... (1,884) (1,793)
------- -------
1,232 1,185
------- -------
$ 3,773 $ 3,590
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Short-term debt (including current maturities of long-term
debt).................................................. $ 44 $ 46
Trade payables............................................ 1,039 987
Accrued taxes............................................. 40 41
Accrued interest.......................................... 31 22
Accrued liabilities....................................... 206 213
Other..................................................... 53 49
------- -------
1,413 1,358
------- -------
Long-term debt.............................................. 1,419 1,328
------- -------
Deferred income taxes....................................... 76 114
------- -------
Postretirement benefits..................................... 290 288
------- -------
Deferred credits and other liabilities...................... 77 71
------- -------
Commitments and contingencies
Minority interest........................................... 34 31
------- -------
Shareholders' equity:
Common stock.............................................. -- --
Premium on common stock and other capital surplus......... 2,803 2,800
Accumulated other comprehensive loss...................... (19) (73)
Retained earnings (accumulated deficit)................... (2,080) (2,087)
------- -------
704 640
Less -- Shares held as treasury stock, at cost............ 240 240
------- -------
464 400
------- -------
$ 3,773 $ 3,590
======= =======
The accompanying notes to financial statements are an integral part of these
balance sheets.
6
TENNECO INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
THREE MONTHS
ENDED MARCH 31,
---------------
2008 2007
---- -----
(MILLIONS)
OPERATING ACTIVITIES
Net income........................................................ $ 6 $ 5
Adjustments to reconcile net income to cash provided (used) by
operating activities --
Depreciation and amortization of other intangibles.............. 55 48
Deferred income taxes........................................... (5) (3)
Stock-based compensation........................................ 3 2
Loss on sale of assets.......................................... 2 2
Changes in components of working capital --
(Increase) decrease in receivables........................... (87) (201)
(Increase) decrease in inventories........................... (43) (74)
(Increase) decrease in prepayments and other current assets.. (18) (11)
Increase (decrease) in payables.............................. 16 150
Increase (decrease) in accrued taxes......................... (1) (4)
Increase (decrease) in accrued interest...................... 9 (5)
Increase (decrease) in other current liabilities............. (15) 6
Other........................................................... 11 (8)
---- -----
Net cash used by operating activities............................. (67) (93)
---- -----
INVESTING ACTIVITIES
Proceeds from the sale of assets.................................. 1 --
Cash payments for plant, property, and equipment.................. (63) (39)
Cash payments for software related intangible assets.............. (5) (7)
Investments and other............................................. -- 1
---- -----
Net cash used by investing activities............................. (67) (45)
---- -----
FINANCING ACTIVITIES
Issuance of common shares......................................... 1 2
Issuance of long-term debt........................................ -- 150
Debt issuance cost of long-term debt.............................. -- (6)
Retirement of long-term debt...................................... (3) (357)
Net increase (decrease) in revolver borrowings and short-term debt
excluding current maturities of long-term debt.................. 91 280
Distributions to minority interest partners....................... (2) (1)
Other............................................................. -- 1
---- -----
Net cash provided by financing activities......................... 87 69
---- -----
Effect of foreign exchange rate changes on cash and cash
equivalents..................................................... 20 3
Decrease in cash and cash equivalents............................. (27) (66)
Cash and cash equivalents, January 1.............................. 188 202
---- -----
Cash and cash equivalents, March 31 (Note)........................ $161 $ 136
==== =====
SUPPLEMENTAL CASH FLOW INFORMATION
Cash paid during the period for interest.......................... $ 22 $ 42
Cash paid during the period for income taxes (net of refunds)..... $ 12 $ 8
NON-CASH INVESTING AND FINANCING ACTIVITIES
Period ended balance of payables for plant, property, and
equipment....................................................... $ 29 $ 17
--------
NOTE: Cash and cash equivalents include highly liquid investments with a
maturity of three months or less at the date of purchase.
The accompanying notes to financial statements are an integral part of these
statements of cash flows.
7
TENNECO INC.
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
(UNAUDITED)
THREE MONTHS ENDED MARCH 31,
-------------------------------------------
2008 2007
-------------------- --------------------
SHARES AMOUNT SHARES AMOUNT
---------- ------- ---------- -------
(MILLIONS EXCEPT SHARE AMOUNTS)
COMMON STOCK
Balance January 1............................ 47,892,532 $ -- 47,085,274 $ --
Issued (Reacquired) pursuant to benefit
plans................................... 231,646 -- 287,160 --
Stock options exercised.................... 43,824 -- 192,563 --
---------- ------- ---------- -------
Balance March 31............................. 48,168,002 -- 47,564,997 --
========== ==========
PREMIUM ON COMMON STOCK AND OTHER CAPITAL
SURPLUS
Balance January 1............................ 2,800 2,790
Premium on common stock issued pursuant to
benefit plans........................... 3 1
------- -------
Balance March 31............................. 2,803 2,791
------- -------
ACCUMULATED OTHER COMPREHENSIVE LOSS
Balance January 1............................ (73) (252)
Measurement date implementation of SFAS No.
158, net of tax of $7 million........... -- 14
Other comprehensive income................. 54 12
------- -------
Balance March 31............................. (19) (226)
------- -------
RETAINED EARNINGS (ACCUMULATED DEFICIT)
Balance January 1............................ (2,087) (2,072)
Net income................................. 6 5
Measurement date implementation of SFAS No.
158, net of tax......................... -- (5)
Other...................................... 1 (1)
------- -------
Balance March 31............................. (2,080) (2,073)
------- -------
LESS -- COMMON STOCK HELD AS TREASURY STOCK,
AT COST
Balance January 1 and March 31............... 1,294,692 240 1,294,692 240
========== ------- ========== -------
Total................................... $ 464 $ 252
======= =======
The accompanying notes to financial statements are an integral part
of these statements of changes in shareholders' equity.
8
TENNECO INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)
THREE MONTHS ENDED MARCH 31,
------------------------------------------------------------
2008 2007
---------------------------- -----------------------------
ACCUMULATED ACCUMULATED
OTHER OTHER
COMPREHENSIVE COMPREHENSIVE
INCOME COMPREHENSIVE INCOME COMPREHENSIVE
(LOSS) INCOME (LOSS) INCOME
------------- ------------- ------------- -------------
(MILLIONS)
NET INCOME............................ $ 6 $ 5
--- ---
ACCUMULATED OTHER COMPREHENSIVE INCOME
(LOSS)
CUMULATIVE TRANSLATION ADJUSTMENT
Balance January 1................... $ 85 $ (53)
Translation of foreign currency
statements..................... 54 54 12 12
----- -----
Balance March 31.................... 139 (41)
----- -----
ADDITIONAL LIABILITY FOR PENSION
BENEFITS
Balance January 1................... (158) (199)
Measurement date implementation of
SFAS No. 158, net of tax of $7
million.......................... -- -- 14 --
----- -----
Balance March 31.................... (158) (185)
----- -----
Balance March 31...................... $ (19) $(226)
===== --- ===== ---
OTHER COMPREHENSIVE INCOME............ 54 12
--- ---
COMPREHENSIVE INCOME.................. $60 $17
=== ===
The accompanying notes to financial statements are an integral part
of these statements of comprehensive income.
9
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) As you read the accompanying financial statements you should also read
our Annual Report on Form 10-K for the year ended December 31, 2007.
In our opinion, the accompanying unaudited financial statements contain all
adjustments (consisting of normal recurring adjustments) necessary to present
fairly Tenneco Inc.'s financial position, results of operations, cash flows,
changes in shareholders' equity, and comprehensive income (loss) for the periods
indicated. We have prepared the unaudited condensed consolidated financial
statements pursuant to the rules and regulations of the U.S. Securities and
Exchange Commission for interim financial information. Accordingly, they do not
include all of the information and footnotes required by accounting principles
generally accepted in the United States of America ("GAAP") for annual financial
statements.
Our condensed consolidated financial statements include all majority-owned
subsidiaries. We carry investments in 20 percent to 50 percent owned companies
as an equity method investment, at cost plus equity in undistributed earnings
since the date of acquisition and cumulative translation adjustments. We have
eliminated intercompany transactions.
In September 2006, the Financial Accounting Standards Board (FASB) issued
Statement No. 158 "Employers' Accounting for Defined Benefit and Other
Postretirement Plans." Effective January 1, 2007, Tenneco elected to early-adopt
the measurement date provisions of SFAS No. 158. We previously presented the
transition adjustment as part of other comprehensive income in our statement of
comprehensive income and statement of changes in shareholders' equity for the
three month period ended March 31, 2007. The transition adjustment should have
been reported as a direct adjustment to the balance of accumulated other
comprehensive income (loss) as of March 31, 2007. Comprehensive income for the
three month period ended March 31, 2007 was previously reported as $31 million.
The amount of comprehensive income for the three month period should have been
reported as $17 million. The previously reported amount of other comprehensive
income for the three month period ended March 31, 2007 was $26 million and the
amount that should have been reported is $12 million. We have revised the
presentation of comprehensive income and other comprehensive income for 2007 in
the accompanying financial statements in this Form 10-Q. The statement of
income, balance sheet and statement of cash flows were not affected.
(2) In September 2006, the FASB issued Statement of Financial Accounting
Standards (SFAS) No. 157 "Fair Value Measurement" which is effective for
financial statements issued for fiscal years beginning after November 15, 2007.
We adopted SFAS No. 157 on January 1, 2008, with the exception of the
application of this statement to non-recurring, nonfinancial assets and
liabilities. The adoption of SFAS No. 157 did not have a material impact on our
fair value measurements. SFAS No. 157 defines fair value as the price that would
be received for an asset or paid to transfer a liability (an exit price) in the
principal most advantageous market for the asset or liability in an orderly
transaction between market participants. SFAS No. 157 establishes a fair value
hierarchy, which prioritizes the inputs used in measuring fair value into the
following levels:
Level 1 -- Quoted prices in active markets for identical assets or
liabilities.
Level 2 -- Inputs, other than quoted prices in active markets, that are
observable either directly or indirectly.
Level 3 -- Unobservable inputs based on our own assumptions.
The fair value of our recurring financial assets and liabilities at March
31, 2008 are as follows:
LEVEL 1 LEVEL 2 LEVEL 3
------- ------- -------
(MILLIONS)
FINANCIAL ASSETS:
Interest rate swaps........................................ $ -- $ 4 $ --
FINANCIAL LIABILITIES:
Foreign exchange forward contracts......................... $ -- $10 $ --
10
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
Interest rate swaps -- In April 2004, we entered into fixed-to-floating
interest rate swaps covering $150 million of our fixed interest rate debt. The
fair value of our interest rate swap agreements are based on an internally
developed model which incorporates observable inputs including LIBOR yield
curves, the credit standing of the counterparties, nonperformance risk for
similar cancelable forward option contracts, and discounted future expected cash
flows utilizing market interest rates based on instruments with similar credit
quality and maturities. The change in fair value of these swaps is recorded as
part of interest expense and other long-term assets.
Foreign exchange forward contracts -- We use foreign exchange forward
purchase and sale contracts with terms of less than one year to hedge our
exposure to changes in foreign currency exchange rates. The fair value of our
foreign exchange forward contracts is based on an internally developed model
which incorporates observable inputs including quoted spot rates, forward
exchange rates and discounted future expected cash flows utilizing market
interest rates with similar quality and maturity characteristics. The change in
fair value of these foreign exchange forward contracts is recorded as part of
currency gains (losses) and other current liabilities.
(3) Our financing arrangements are primarily provided by a committed senior
secured financing arrangement with a syndicate of banks and other financial
institutions. The arrangement is secured by substantially all our domestic
assets and pledges of 66 percent of the stock of certain first-tier foreign
subsidiaries, as well as guarantees by our material domestic subsidiaries.
On November 20, 2007, we issued $250 million of 8 1/8 percent Senior Notes
due November 15, 2015 through a private placement offering. The offering and
related transactions were designed to (1) reduce our interest expense and extend
the maturity of a portion of our debt (by using the proceeds of the offering to
tender for $230 million of our outstanding $475 million 10 1/4 percent senior
secured notes due 2013), (2) facilitate the realignment of the ownership
structure of some of our foreign subsidiaries and (3) otherwise amend certain of
the covenants in the indenture for the senior secured notes to be consistent
with those contained in our 8 5/8 percent senior subordinated notes, including
conforming the limitation on incurrence of indebtedness and the absence of a
limitation on issuances or transfers of restricted subsidiary stock, and make
other minor modifications.
The ownership structure realignment is designed to more effectively align
our domestic and foreign assets and revenues with expenses in the appropriate
local currencies. Some of the desired results of the realignment will be to
allow us to more rapidly use our U.S. net operating losses and reduce our cash
tax payments. At present, the ownership structure realignment involves a new
European holding company which will own some of our foreign entities. We may
alter the components of the realignment from time to time. If market conditions
permit in 2008, we may offer debt issued by the new European holding company.
The proceeds of that debt would be used to repay any outstanding intercompany
debt and, in turn, to fund the redemption of any remaining senior secured notes.
This realignment utilized part of our U.S. net operating tax losses.
Consequently, we recorded a non-cash charge of $66 million in the fourth quarter
of 2007.
The offering of new notes and related repurchase of our senior secured
notes will reduce our annual interest expense by approximately $3 million for
2008 and increased our total debt outstanding to third-parties by approximately
$20 million. In connection with the offering and the related repurchase of our
senior secured notes, we also recorded non-recurring pre-tax charges related to
the tender premium and fees, the write-off of deferred debt issuance costs, and
the write-off of previously recognized issuance premium totaling $21 million in
the fourth quarter of 2007.
In March 2007 we refinanced our $831 million senior credit facility. This
transaction reduced the interest rates we pay on all portions of the facility.
While the total amount of the new senior credit facility is $830 million,
approximately the same as the previous facility, we changed the components of
the facility to enhance our financial flexibility. We increased the amount of
commitments under our revolving loan facility from $320 million to $550 million,
reduced the amount of commitments under our tranche B-1 letter of
credit/revolving loan facility from $155 million to $130 million and replaced
the $356 million term loan B with a $150 million term loan A. As of
11
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
March 31, 2008, the senior credit facility consisted of a five-year, $150
million term loan A maturing in March 2012, a five-year, $550 million revolving
credit facility maturing in March 2012, and a seven-year $130 million tranche B-
1 letter of credit/revolving loan facility maturing in March 2014.
The refinancing of the prior facility allowed us to: (i) amend the
consolidated net debt to EBITDA ratio, (ii) eliminate the fixed charge coverage
ratio, (iii) eliminate the restriction on capital expenditures, (iv) increase
the amount of acquisitions permitted to $250 million, (v) improve the
flexibility to repurchase and retire higher cost junior debt, (vi) increase our
ability to enter into capital leases, (vii) increase the ability of our foreign
subsidiaries to incur debt, (viii) increase our ability to pay dividends and
repurchase common stock, (ix) increase our ability to invest in joint ventures,
(x) allow for the increase in the existing tranche B-1 facility and/or the term
loan A or the addition of a new term loan of up to $275 million in order to
reduce our 10 1/4 percent senior secured notes, and (xi) make other
modifications.
Following the refinancing, the term loan A facility is payable in twelve
consecutive quarterly installments, commencing June 30, 2009 as follows: $6
million due each of June 30, September 30, December 31, 2009 and March 31, 2010,
$15 million due each of June 30, September 30, December 31, 2010 and March 31,
2011, and $17 million due each of June 30, September 30, December 31, 2011 and
March 16, 2012. The revolving credit facility requires that any amounts drawn,
be repaid by March 2012. Prior to that date, funds may be borrowed, repaid and
reborrowed under the revolving credit facility without premium or penalty.
Letters of credit may be issued under the revolving credit facility.
The tranche B-1 letter of credit/revolving loan facility requires that it
be repaid by March 2014. We can borrow revolving loans and issue letters of
credit under the $130 million tranche B-1 letter of credit/revolving loan
facility. The tranche B-1 letter of credit/revolving loan facility lenders have
deposited $130 million with the administrative agent, who has invested that
amount in time deposits. We do not have an interest in any of the funds on
deposit. When we draw revolving loans under this facility, the loans are funded
from the $130 million on deposit with the administrative agent. When we make
repayments, the repayments are redeposited with the administrative agent.
The tranche B-1 letter of credit/revolving loan facility is reflected as
debt on our balance sheet only if we borrow money under this facility or if we
use the facility to make payments for letters of credit. We will not be liable
for any losses to or misappropriation of any (i) return due to the
administrative agent's failure to achieve the return described above or to pay
all or any portion of such return to any lender under such facility or (ii)
funds on deposit in such account by such lender (other than the obligation to
repay funds released from such accounts and provided to us as revolving loans
under such facility).
We have three fixed-to-floating interest rate swaps that effectively
convert $150 million of our 10 1/4 percent fixed interest rate senior secured
notes into floating interest rate debt at an annual rate of LIBOR plus 5.68
percent. Based upon the current LIBOR rate of 4.08 percent (which is in effect
until July 15, 2008) these swaps are expected to decrease our interest expense
by $1 million in 2008 excluding any impact from marking the swaps to market.
Since entering into these swaps, we have realized a net cumulative benefit of $2
million through March 31, 2008, in reduced interest payments. The change in the
market value of these swaps is recorded as part of interest expense with an
offset to other long-term assets. As of March 31, 2008, the fair value of the
interest rate swaps was a asset of approximately $4 million which has been
recorded in other long-term assets.
(4) We have an agreement to sell an interest in some of our U.S. trade
accounts receivable to a third party. Receivables become eligible for the
program on a daily basis, at which time the receivables are sold to the third
party without recourse, net of a discount, through a wholly-owned subsidiary.
Under this agreement, as well as individual agreements with third parties in
Europe, we have sold accounts receivable of $171 million and $145 million at
March 31, 2008 and 2007, respectively. We recognized a loss of $2 million for
each of the three months ended March 31, 2008 and 2007, on these sales of trade
accounts, representing the discount from book values at which these receivables
were sold to the third party. The discount rate varies based on funding cost
12
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
incurred by the third party, which has averaged approximately five percent
during 2008. We retain ownership of the remaining interest in the pool of
receivables not sold to the third party. The retained interest represents a
credit enhancement for the program. We value the retained interest based upon
the amount we expect to collect from our customers, which approximates book
value.
(5) Over the past several years we have adopted plans to restructure
portions of our operations. These plans were approved by our Board of Directors
and were designed to reduce operational and administrative overhead costs
throughout the business. Prior to the change in accounting required for exit or
disposal activities, we recorded charges to income related to these plans for
costs that did not benefit future activities in the period in which the plans
were finalized and approved, while actions necessary to affect these
restructuring plans occurred over future periods in accordance with established
plans.
Our recent restructuring activities began in the fourth quarter of 2001,
when our Board of Directors approved a restructuring plan, a project known as
Project Genesis, which was designed to lower our fixed costs, relocate capacity,
reduce our work force, improve efficiency and utilization, and better optimize
our global footprint. We have subsequently engaged in various other
restructuring projects related to Project Genesis. In 2007, we incurred $25
million in restructuring and restructuring-related costs of which $22 million
was recorded in cost of sales, $2 million of which related to a charge for asset
impairments for the plant closure in France, and $3 million was recorded in
selling, general and administrative expense. The majority of the 2007 charges
were related to the planned closing of our emission control plant in
Wissembourg, France. In the first quarter of 2008, we incurred $4 million
restructuring and restructuring-related costs of which $3 million was recorded
in cost of sales and $1 million in selling, general and administrative expense.
Since Project Genesis was initiated, we have incurred costs of $159 million
through March 31, 2008.
Under the terms of our amended and restated senior credit agreement that
took effect on March 16, 2007, we are allowed to exclude $80 million of cash
charges and expenses, before taxes, related to cost reduction initiatives
excluding any charge for asset impairments incurred after March 16, 2007 from
the calculation of the financial covenant ratios required under our senior
credit facility. As of March 31, 2008, we have excluded $27 million in allowable
charges relating to restructuring initiatives against the $80 million available
under the terms of the March 2007 amended and restated senior credit facility.
In addition to the announced actions, we will continue to evaluate
additional opportunities and expect that we will initiate actions that will
reduce our costs through implementing the most appropriate and efficient
logistics, distribution and manufacturing footprint for the future. We expect to
continue to undertake additional restructuring actions as deemed necessary,
however, there can be no assurances we will undertake such actions. Actions that
we take, if any, will require the approval of our Board of Directors, or its
authorized committee. We plan to conduct any workforce reductions that result in
compliance with all legal and contractual requirements including obligations to
consult with workers' councils, union representatives and others.
(6) We are subject to a variety of environmental and pollution control laws
and regulations in all jurisdictions in which we operate. We expense or
capitalize, as appropriate, expenditures for ongoing compliance with
environmental regulations that relate to current operations. We expense costs
related to an existing condition caused by past operations that do not
contribute to current or future revenue generation. We record liabilities when
environmental assessments indicate that remedial efforts are probable and the
costs can be reasonably estimated. Estimates of the liability are based upon
currently available facts, existing technology, and presently enacted laws and
regulations taking into consideration the likely effects of inflation and other
societal and economic factors. We consider all available evidence including
prior experience in remediation of contaminated sites, other companies' cleanup
experiences and data released by the United States Environmental Protection
Agency or other organizations. These estimated liabilities are subject to
revision in future periods based on actual costs or new information. Where
future cash flows are fixed or reliably determinable, we have discounted the
liabilities. All other environmental liabilities are recorded at their
undiscounted amounts. We evaluate recoveries separately from the liability
13
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
and, when they are assured, recoveries are recorded and reported separately from
the associated liability in our condensed consolidated financial statements.
As of March 31, 2008, we are designated as a potentially responsible party
in one Superfund site. Including the Superfund site, we may have the obligation
to remediate current or former facilities, and we estimate our share of
environmental remediation costs at these facilities to be approximately $11
million. For the Superfund site and the current and former facilities, we have
established reserves that we believe are adequate for these costs. Although we
believe our estimates of remediation costs are reasonable and are based on the
latest available information, the cleanup costs are estimates and are subject to
revision as more information becomes available about the extent of remediation
required. At some sites, we expect that other parties will contribute to the
remediation costs. In addition, at the Superfund site, the Comprehensive
Environmental Response, Compensation and Liability Act provides that our
liability could be joint and several, meaning that we could be required to pay
in excess of our share of remediation costs. Our understanding of the financial
strength of other potentially responsible parties at the Superfund site, and of
other liable parties at our current and former facilities, has been considered,
where appropriate, in our determination of our estimated liability. We believe
that any potential costs associated with our current status as a potentially
responsible party in the Superfund site, or as a liable party at our current or
former facilities, will not be material to our consolidated results of
operations, financial position or cash flows.
We also from time to time are involved in legal proceedings, claims or
investigations that are incidental to the conduct of our business. Some of these
proceedings allege damages against us relating to environmental liabilities
(including toxic tort, property damage and remediation), intellectual property
matters (including patent, trademark and copyright infringement, and licensing
disputes), personal injury claims (including injuries due to product failure,
design or warnings issues, and other product liability related matters), taxes,
employment matters, and commercial or contractual disputes, sometimes related to
acquisitions or divestitures. We vigorously defend ourselves against all of
these claims. In future periods, we could be subjected to cash costs or non-cash
charges to earnings if any of these matters is resolved on unfavorable terms.
However, although the ultimate outcome of any legal matter cannot be predicted
with certainty, based on current information, including our assessment of the
merits of the particular claim, we do not expect that these legal proceedings or
claims will have any material adverse impact on our future consolidated
financial position, results of operations or cash flows.
In addition, we are subject to a number of lawsuits initiated by a
significant number of claimants alleging health problems as a result of exposure
to asbestos. A small percentage of claims have been asserted by railroad workers
alleging exposure to asbestos products in railroad cars manufactured by The
Pullman Company, one of our subsidiaries. Nearly all of the claims are related
to alleged exposure to asbestos in our automotive emission control products.
Only a small percentage of these claimants allege that they were automobile
mechanics and a significant number appear to involve workers in other industries
or otherwise do not include sufficient information to determine whether there is
any basis for a claim against us. We believe, based on scientific and other
evidence, it is unlikely that mechanics were exposed to asbestos by our former
muffler products and that, in any event, they would not be at increased risk of
asbestos-related disease based on their work with these products. Further, many
of these cases involve numerous defendants, with the number of each in some
cases exceeding 200 defendants from a variety of industries. Additionally, the
plaintiffs either do not specify any, or specify the jurisdictional minimum,
dollar amount for damages. As major asbestos manufacturers continue to go out of
business or file for bankruptcy, we may experience an increased number of these
claims. We vigorously defend ourselves against these claims as part of our
ordinary course of business. In future periods, we could be subject to cash
costs or non-cash charges to earnings if any of these matters is resolved
unfavorably to us. To date, with respect to claims that have proceeded
sufficiently through the judicial process, we have regularly achieved favorable
resolution. Accordingly, we presently believe that these asbestos-related claims
will not have a material adverse impact on our future consolidated financial
condition, results of operations or cash flows.
14
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
We provide warranties on some of our products. The warranty terms vary but
range from one year up to limited lifetime warranties on some of our premium
aftermarket products. Provisions for estimated expenses related to product
warranty are made at the time products are sold or when specific warranty issues
are identified on OE products. These estimates are established using historical
information about the nature, frequency, and average cost of warranty claims. We
actively study trends of our warranty claims and take action to improve product
quality and minimize warranty claims. We believe that the warranty reserve is
appropriate; however, actual claims incurred could differ from the original
estimates, requiring adjustments to the reserve. The reserve is included in both
current and long-term liabilities on the balance sheet.
Below is a table that shows the activity in the warranty accrual accounts:
THREE MONTHS
ENDED MARCH 31,
---------------
2008 2007
---- ----
(MILLIONS)
Beginning Balance January 1,...................................... $25 $25
Accruals related to product warranties............................ 4 3
Reductions for payments made...................................... (2) (2)
--- ---
Ending Balance March 31,.......................................... $27 $26
=== ===
The current year increase in the warranty accrual is primarily driven by
higher unit pricing and product mix in the North American aftermarket.
(7) Earnings per share of common stock outstanding were computed as
follows:
THREE MONTHS ENDED MARCH 31,
----------------------------
2008 2007
----------- -----------
(MILLIONS EXCEPT SHARE AND
PER SHARE AMOUNTS)
Basic earnings per share --
Net Income............................................. $ 6 $ 5
=========== ===========
Average shares of common stock outstanding............. 46,253,272 45,425,823
=========== ===========
Earnings per average share of common stock............. $ 0.14 $ 0.11
=========== ===========
Diluted earnings per share --
Net Income............................................. $ 6 $ 5
=========== ===========
Average shares of common stock outstanding............. 46,253,272 45,425,823
Effect of dilutive securities:
Restricted stock....................................... 128,199 245,270
Stock options.......................................... 1,356,364 1,649,686
----------- -----------
Average shares of common stock outstanding including
dilutive securities.................................... 47,737,835 47,320,779
=========== ===========
Earnings per weighted average share of common stock...... $ 0.13 $ 0.11
=========== ===========
Options to purchase 1,297,863 and 770,848 shares of common stock were
outstanding at March 31, 2008 and 2007, respectively, but were not included in
the computation of diluted EPS because the options were anti-dilutive for the
quarters ended March 31, 2008 and 2007, respectively.
15
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
(8) Equity Plans -- In December 1996, we adopted the 1996 Stock Ownership
Plan, which permitted the granting of a variety of awards, including common
stock, restricted stock, performance units, stock equivalent units, stock
appreciation rights ("SARs"), and stock options to our directors, officers,
employees and consultants. The 1996 plan, which terminated as to new awards on
December 31, 2001, was renamed the "Stock Ownership Plan." In December 1999, we
adopted the Supplemental Stock Ownership Plan, which permitted the granting of a
variety of similar awards to our directors, officers, employees and consultants.
We were authorized to deliver up to about 1.1 million treasury shares of common
stock under the Supplemental Stock Ownership Plan, which also terminated as to
new awards on December 31, 2001. In March 2002, we adopted the 2002 Long-Term
Incentive Plan which permitted the granting of a variety of similar awards to
our officers, directors, employees and consultants. Up to 4 million shares of
our common stock were authorized for award under the 2002 Long-Term Incentive
Plan. In March 2006, we adopted the 2006 Long-Term Incentive Plan which replaced
the 2002 Long-Term Incentive Plan and permits the granting of a variety of
similar awards to directors, officers, employees and consultants. As of March
31, 2008, up to 1,143,426 shares of our common stock remain authorized for award
under the 2006 Long-Term Incentive Plan. Our nonqualified stock options have 7
to 20 year terms and vest equally over a three year service period from the date
of the grant.
We have granted restricted common stock to our directors and certain key
employees. These awards generally require, among other things, that the award
holder remains in service to our company during the restriction period. We have
also granted long-term performance units to certain key employees that are
payable in cash. In 2008, the awards that are outstanding contain an annual
stub-year grant payable in the first quarter of 2009, a three-year grant payable
in the first quarter of 2010 and a second three year grant payable in the first
quarter of 2011. Payment is based on the attainment of specified performance
goals. The grant value is indexed to the stock price. Each employee granted
long-term performance units will (based on the achievement of the applicable
goals) receive a percentage of the total grant's value. In addition, we have
granted SARs to certain key employees in our Asian operations that are payable
in cash after a three year service period. The grant value is indexed to the
stock price.
Accounting Methods -- Effective January 1, 2006, we adopted SFAS No.
123(R), "Share-Based Payment," using the modified prospective application
method. Under this transition method, compensation cost recognized for the three
months ended March 31, 2008 and 2007, respectively, includes the applicable
amounts of: (1) compensation cost of all unvested stock-based awards granted
prior to January 1, 2006, based upon the grant date fair value estimated in
accordance with the original provisions of SFAS No. 123 and previously presented
in pro-forma footnote disclosures, and (2) compensation cost for all stock-based
awards granted on or after January 1, 2006, based upon the grant date fair value
estimated in accordance with the new provisions of SFAS No. 123(R).
The impact of recognizing compensation expense related to nonqualified
stock options is contained in the table below.
THREE MONTHS
ENDED MARCH 31,
-----------------
2008 2007
------ ------
(MILLIONS)
Selling, general and administrative............................. $ 1 $ 1
------ ------
Loss before interest expense, income taxes and minority
interest...................................................... (1) (1)
Income tax benefit.............................................. -- --
------ ------
Net loss........................................................ $ (1) $ (1)
====== ======
Decrease in basic earnings per share............................ $(0.02) $(0.02)
Decrease in diluted earnings per share.......................... $(0.02) $(0.02)
16
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
For stock options awarded to retirement eligible employees we immediately
accelerate the recognition of any outstanding compensation cost when employees
become retiree eligible before the end of the explicit vesting period.
As of March 31, 2008, there was approximately $4 million, net of tax, of
total unrecognized compensation costs related to these stock-based awards that
we expect to recognize over a weighted average period of 1.5 years.
Compensation expense for restricted stock, long-term performance units and
SARs, net of tax, was approximately $2 million for the three months ended March
31, 2008 and 2007, and was recorded in selling, general, and administrative
expense on the statement of income.
SFAS No. 109, "Accounting for Income Taxes," discusses the deductibility of
transactions. We are allowed a tax deduction for compensation cost which is
calculated as the difference between the value of the stock at the date of grant
and the price upon exercise of a stock option. Under SFAS No. 123(R), excess tax
benefits, which are tax benefits we may realize upon the exercise of stock
options that are greater than the tax benefit recognized on the compensation
cost recorded in our income statement, are recorded as an addition to paid-in
capital. We would present cash retained as a result of excess tax benefits as
financing cash flows. Any write-offs of deferred tax assets related to
unrealized tax benefits associated with the recognized compensation cost would
be reported as income tax expense.
Cash received from option exercises for the three months ended March 31,
2008, was less than $1 million. Stock option exercises during the first three
months of 2008 generated an excess tax benefit of less than $1 million. Pursuant
to footnote 82 of SFAS No. 123(R), this benefit was not recorded as we have
federal and state net operating losses which are not currently being utilized.
As a result, the excess tax benefit had no impact on our financial position or
statement of cash flows.
Assumptions -- We calculated the fair values of stock option awards using
the Black-Scholes option pricing model with the weighted average assumptions
listed below. Determining the fair value of share-based awards requires judgment
in estimating employee and market behavior. If actual results differ
significantly from these estimates, stock-based compensation expense and our
results of operations could be materially impacted.
THREE MONTHS
ENDED
MARCH 31,
-------------
2008 2007
----- -----
Stock Options
Weighted average grant date fair value, per share................ $8.08 $9.83
Weighted average assumptions used:
Expected volatility.............................................. 37.7% 38.4%
Expected lives................................................... 4.1 4.1
Risk-free interest rates......................................... 2.8% 4.7%
Dividend yields.................................................. 0.0% 0.0%
Expected lives of options are based upon the historical and expected time
to post-vesting forfeiture and exercise. We believe this method is the best
estimate of the future exercise patterns currently available.
The risk-free interest rates are based upon the Constant Maturity Rates
provided by the U.S. Treasury. For our valuations, we used the continuous rate
with a term equal to the expected life of the options.
On January 10, 2001, we announced that our Board of Directors eliminated
the quarterly dividend on our common stock. As a result, there is no dividend
yield.
17
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
Stock Options -- The following table reflects the status and activity for
all options to purchase common stock for the period indicated:
THREE MONTHS ENDED MARCH 31, 2008
------------------------------------------------------
WEIGHTED AVG.
SHARES WEIGHTED AVG. REMAINING AGGREGATE
UNDER EXERCISE LIFE IN INTRINSIC
OPTION PRICES YEARS VALUE
--------- ------------- ------------- ----------
(MILLIONS)
Outstanding Stock Options
Outstanding, January 1, 2008.............. 2,820,889 $13.10 4.6 $46
Granted................................. 580,750 23.75
Canceled................................ -- --
Forfeited............................... (3,740) 22.50
Exercised............................... (43,824) 4.64 $ 1
---------
Outstanding, March 31, 2008............... 3,354,075 $15.05 5.0 $37
As previously disclosed, in certain years our administrative procedures for
determining the final allocation of the options granted to middle management
under our 2002 Long-Term Incentive Plan (the predecessor to our current equity
incentive plan) were not finalized until after the Board approved the grants and
set the exercise price. At the time the administrative procedures were
completed, the market values of some of the options were greater than the grant
prices. While these option-grant practices were not intended to avoid
regulations or gain unfair financial advantage, they did result in monetary
gains that current law (recently enacted Section 409A of the Internal Revenue
Code) would subject to additional taxes and penalties.
Restricted Stock -- The following table reflects the status for all
nonvested restricted shares for the period indicated:
THREE MONTHS ENDED
MARCH 31, 2008
------------------------
WEIGHTED AVG.
GRANT DATE
SHARES FAIR VALUE
-------- -------------
Nonvested Restricted Shares
Nonvested balance at January 1, 2008....................... 469,394 $24.91
Granted.................................................. 227,830 23.75
Vested................................................... (235,145) 24.10
Forfeited................................................ -- --
--------
Nonvested balance at March 31, 2008........................ 462,079 $24.75
The fair value of restricted stock grants is equal to the average market
price of our stock at the date of grant. As of March 31, 2008, approximately $11
million of total unrecognized compensation costs related to restricted stock
awards is expected to be recognized over a weighted-average period of
approximately 2.1 years.
Long-Term Performance Units and SARs -- Long-term performance units and
SARs are paid in cash and recognized as a liability based upon their fair value.
As of March 31, 2008, approximately $7 million of total unrecognized
compensation costs is expected to be recognized over the weighted-average period
of approximately 1.7 years.
18
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
(9) Net periodic pension costs (income) and postretirement benefit costs
(income) consist of the following components:
THREE MONTHS ENDED MARCH 31,
---------------------------------------------
POSTRETIRE-
PENSION MENT
----------------------------- -------------
2008 2007 2008 2007
------------- ------------- ---- ----
US FOREIGN US FOREIGN US US
--- ------- --- ------- ---- ----
(MILLIONS)
Service cost -- benefits earned during the
period..................................... $-- $ 2 $-- $ 2 $ 1 $ 1
Interest cost................................ 5 4 5 4 2 2
Expected return on plan assets............... (6) (5) (5) (4) -- --
Net amortization:
Actuarial loss............................. 1 1 1 1 1 1
Prior service cost......................... -- -- -- -- (1) (1)
--- --- --- --- --- ---
Net pension and postretirement costs......... $-- $ 2 $ 1 $ 3 $ 3 $ 3
=== === === === === ===
Effective January 1, 2007, we froze our defined benefit plans and replaced
them with additional contributions under defined contribution plans for nearly
all U.S.-based salaried and non-union hourly employees.
In September 2006, the FASB issued Statement No. 158 "Employers' Accounting
for Defined Benefit and Other Postretirement Plans." Effective January 1, 2007,
Tenneco elected to early-adopt the measurement date provisions of SFAS No. 158.
As a result, during the first quarter of 2007, the following adjustments were
made to retained earnings (accumulated deficit) and accumulated other
comprehensive income (both net of tax effects):
US FOREIGN
--- -------
Retained earnings (accumulated deficit)........................... (3) (2)
Accumulated other comprehensive income............................ 8 6
For the three months ended March 31, 2008, we made pension contributions of
approximately $1 million for our domestic pension plans and $4 million for our
foreign pension plans. Based on current actuarial estimates, we believe we will
be required to make approximately $24 million in contributions for the remainder
of 2008.
We made postretirement contributions of approximately $1 million during the
first three months of 2008. Based on current actuarial estimates, we believe we
will be required to make approximately $9 million in contributions for the
remainder of 2008.
(10) In March 2008, we entered into a purchase agreement with Delphi
Automotive Systems LLC to acquire certain ride control assets and inventory of
Delphi's Kettering, Ohio facility. This purchase agreement has been filed with
the bankruptcy court as part of Delphi's bankruptcy court proceedings. The
closing of this purchase is subject to certain closing conditions. On April 30,
2008, the agreement was approved by the bankruptcy court.
As part of the purchase agreement, we will be required to pay approximately
$11 million for existing ride control components inventory and approximately $8
million for certain machinery and equipment. Additionally, we will lease a
portion of the Kettering facility from Delphi.
In connection with the purchase agreement, we have entered into an
agreement with the International Union of Electrical Workers (IUE), which
represents the Delphi workforce at the Kettering plant. The agreement was
ratified by the IUE's rank and file in August 2007. Additionally, we have also
entered into a long-term supply agreement with General Motors Corporation to
continue to supply passenger car shock and strut business to General Motors from
the Kettering facility.
19
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
In September 2007, we acquired Combustion Components Associates' ELIM-
NOx(TM) technology for $16 million. The acquisition included a complete reactant
dosing system design and associated intellectual property including granted
patents and patent applications yet to be granted for selective catalytic
reduction emission control systems that reduce emissions of oxides of nitrogen
from diesel powered vehicles. The technology can be used for both urea and
hydrocarbon injection. We have recorded the acquisition as part of intangible
assets on our balance sheet. The final allocation of the purchase price for the
assets was completed this quarter and did not result in a significant change to
the assets initially recorded.
(11) In March 2008, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 161, "Disclosures about
Derivative Instruments and Hedging Activities, an amendment of FASB Statement
No. 133" (SFAS No. 161). SFAS No. 161 requires enhanced disclosures about an
entity's derivative and hedging activities including how and why an entity uses
derivative instruments, how an entity accounts for derivatives and hedges and
how derivative instruments and related hedged items affect an entity's financial
position, financial performance and cash flows. SFAS No. 161 is effective for
financial statements issued for fiscal years and interim periods beginning after
November 15, 2008. We are evaluating SFAS No. 161 to determine the effect on our
condensed consolidated financial statement disclosures.
In February 2008, the FASB issued FASB Staff Position (FSP) 140-3,
"Accounting for Transfers of Financial Assets and Repurchase Financing
Transactions." FSP 140-3 provides guidance on accounting for a transfer of a
financial asset and a repurchase financing which is a repurchase agreement that
relates to a previously transferred financial asset between the same
counterparties that is entered into contemporaneously with, or in contemplation
of, the initial transfer. FSP 140-3 is effective for financial statements issued
for fiscal years beginning after November 15, 2008, and interim periods within
those fiscal years. We are evaluating FSP 140-3 to determine the effect on our
condensed consolidated financial statements and related disclosures.
In February 2008, the FASB issued FSP 157-1, "Application of FASB Statement
No. 157 to FASB Statement No. 13 and Other Accounting Pronouncements That
Address Fair Value Measurements for Purposes of Lease Classification or
Measurement Under Statement 13." FSP 157-1 provides a scope exception to SFAS
No. 157 which does not apply under Statement 13 and other accounting
pronouncements that address fair value measurements for purposes of lease
classification or measurement under Statement 13. FSP 157-1 is effective upon
the initial adoption of SFAS No. 157. FSP 157-1 did not have a material impact
to our condensed consolidated financial statements.
In December 2007, the FASB issued SFAS No. 141 (Revised 2007), "Business
Combinations" (SFAS No. 141(R)). SFAS No. 141(R) requires an acquirer to
recognize the assets acquired, the liabilities assumed, contractual
contingencies and any noncontrolling interest in the acquiree at the acquisition
date at their fair values as of that date. SFAS No. 141(R) provides guidance on
the accounting for acquisition-related costs, restructuring costs related to the
acquisition and the measurement of goodwill and a bargain purchase. SFAS No.
141(R) applies prospectively to business combinations for which the acquisition
date is on or after December 15, 2008. We do not expect the adoption of this
statement to have a material impact to our condensed consolidated financial
statements.
In December 2007, the FASB issued SFAS No. 160, "Noncontrolling Interests
in Consolidated Financial Statements-an amendment of ARB No. 5." SFAS No. 160
amends ARB 51 to establish accounting and reporting standards for the
noncontrolling (minority) interest in a subsidiary and for the deconsolidation
of a subsidiary. It clarified that a noncontrolling interest in a subsidiary is
an ownership interest in the consolidated entity that should be reported as
equity in the consolidated financial statements, establishes a single method of
accounting for changes in a parent's ownership interest in a subsidiary that
does not result in deconsolidation and provides for expanded disclosure in the
consolidated financial statements relating to the interests of the parent's
owners and the interests of the noncontrolling owners of the subsidary. SFAS No.
160 applies prospectively (except for the presentation and disclosure
requirements) for fiscal years and interim periods within those fiscal years
beginning on or after December 15, 2008. The presentation and disclosure
requirements will be applied retrospectively for all periods
20
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
presented. We are evaluating this statement to determine the effect on our
condensed consolidated financial statements and related disclosures.
In December 2007, the Securities and Exchange Commission issued Staff
Accounting Bulleting No. 110 (SAB 110). SAB 110 amends and replaces Question 6
of Section D.2 Topic 14, "Share-Based Payment." Question 6 of Topic 14:D.2 (as
amended) expresses the views of the staff regarding the use of a "simplified"
method in developing an estimate of the expected term of "plain vanilla" share
options in accordance with SFAS No. 123 (revised 2004), "Share-Based Payment"
(SFAS No. 123(R)). SAB 110 is effective January 1, 2008. The adoption of SAB 110
had no impact to our condensed consolidated financial statements.
In September 2006, the FASB issued SFAS No. 157, "Fair Value Measurement."
This statement defines fair value, establishes a fair value hierarchy for
measuring fair value under generally accepted accounting principles and expands
disclosures about fair value measurements. SFAS No. 157 is effective for
financial statements issued for fiscal years beginning after November 15, 2007.
FSP 157-2 issued in February 2008 delays the effective date of SFAS No. 157 for
nonfinancial assets and nonfinancial liabilities to fiscal years beginning after
November 15, 2008 and interim periods within those fiscal years. We have adopted
the measurement and disclosure impact of SFAS No. 157 relating to our financial
assets and financial liabilities which are measured on a recurring basis (at
least annually) effective January 1, 2008. See Note 2 to the condensed
consolidated financial statements of Tenneco Inc. and Consolidated Subsidiaries.
We do not expect the adoption of the nonfinancial assets and nonfinancial
liabilities portion of SFAS No. 157 to have a material impact to our condensed
consolidated financial statements.
In June 2007, the Emerging Issues Task Force (EITF) issued EITF 06-11,
"Accounting for Income Tax Benefits of Dividends on Share-Based Payment Awards."
EITF 06-11 provides the final consensus on the application of paragraphs 62 and
63 of SFAS No. 123(R) on the accounting for income tax benefits relating to the
payment of dividends on equity-classified employee share-based payment awards
that are charged to retained earnings. EITF 06-11 affirms that the realized
income tax benefit from dividends or dividend equivalents that are charged to
retained earnings for equity classified nonvested equity shares, nonvested
equity share units, and outstanding equity share options should be recognized as
an increase in additional paid-in-capital. Additionally, EITF 06-11 provides
guidance on the amount of tax benefits from dividends that are reclassified from
additional paid-in-capital to the income statement when an entity's estimate of
forfeitures changes. EITF 06-11 is effective prospectively to the income tax
benefits that result from dividends on equity-classified employee share-based
payment awards that are declared in fiscal years beginning after December 15,
2007. The adoption of EITF 06-11, on January 1, 2008, did not have a material
impact on our condensed consolidated financial statements.
In June 2007, the EITF issued EITF 07-3, "Accounting for Nonrefundable
Advance Payments for Goods or Services Received for Use in Future Research and
Development Activities." EITF 07-3 requires the deferral and capitalization of
nonrefundable advance payments for goods or services that an entity will use in
research and development activities pursuant to an executory contractual
agreement. Expenditures which are capitalized under EITF 07-3 should be expensed
as the goods are delivered or the related services are performed. EITF 07-3 is
effective prospectively for fiscal years beginning after December 15, 2007 and
interim periods within those fiscal years. EITF 07-3 is applicable to new
contracts entered into after the effective date of this Issue. The adoption of
EITF 07-3 on January 1, 2008, did not have a material impact on our condensed
consolidated financial statements.
In April 2007, the FASB issued Interpretation No. 39-1, "Amendment of FASB
Interpretation No. 39" (FIN 39-1). This amendment allows a reporting entity to
offset fair value amounts recognized for derivative instruments with fair value
amounts recognized for the right to reclaim or realize cash collateral.
Additionally, this amendment requires disclosure of the accounting policy on the
reporting entity's election to offset or not offset amounts for derivative
instruments. FIN 39-1 is effective for fiscal years beginning after November 15,
2007. The adoption of FIN 39-1 did not have a material impact on our condensed
consolidated financial statements.
21
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities." This statement permits companies to
choose to measure at fair value many financial instruments and certain other
items that are not currently required to be measured at fair value. SFAS No. 159
is effective for financial statements issued for fiscal years beginning on or
after November 15, 2007. The adoption of SFAS 159 did not have a material effect
on our condensed consolidated financial statements and related disclosures.
In September 2006, the FASB issued SFAS No. 158, "Employers' Accounting for
Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB
Statements No. 87, 88, 106, and 132(R)." Part of this Statement was effective as
of December 31, 2006, and requires companies that have defined benefit pension
plans and other postretirement benefit plans to recognize the funded status of
those plans on the balance sheet on a prospective basis from the effective date.
The funded status of these plans is determined as of the plans' measurement
dates and represents the difference between the amount of the obligations owed
to participants under each plan (including the effects of future salary
increases for defined benefit plans) and the fair value of each plan's assets
dedicated to paying those obligations. To record the funded status of those
plans, unrecognized prior service costs and net actuarial losses experienced by
the plans will be recorded in the Accumulated Other Comprehensive Loss section
of shareholders' equity on the balance sheet. The initial adoption as of
December 31, 2006 resulted in a reduction of Accumulated Other Comprehensive
Loss in shareholders' equity of $59 million.
In addition, SFAS No. 158 requires that companies using a measurement date
for their defined benefit pension plans and other postretirement benefit plans
other than their fiscal year end, change the measurement date effective for
fiscal years ending after December 15, 2008. Effective January 1, 2007, we
elected to early adopt the measurement date provision of SFAS No. 158. Adoption
of this part of the statement was not material to our financial position and
results of operations.
(12) We occasionally provide guarantees that could require us to make
future payments in the event that the third party primary obligor does not make
its required payments. We have not recorded a liability for any of these
guarantees.
Additionally, we have from time to time issued guarantees for the
performance of obligations by some of our subsidiaries, and some of our
subsidiaries have guaranteed our debt. All of our existing and future material
domestic wholly-owned subsidiaries fully and unconditionally guarantee our
senior credit facility, our senior secured notes, our senior notes and our
senior subordinated notes on a joint and several basis. The arrangement for the
senior credit facility is also secured by first-priority liens on substantially
all our domestic assets and pledges of 66 percent of the stock of certain first-
tier foreign subsidiaries. The arrangement for the $245 million senior secured
notes is also secured by second-priority liens on substantially all our domestic
assets, excluding some of the stock of our domestic subsidiaries. No assets or
capital stock of our direct or indirect foreign subsidiaries secure these notes.
You should also read Note 14 of the condensed consolidated financial statements
of Tenneco Inc., where we present the Supplemental Guarantor Condensed
Consolidating Financial Statements.
We have issued guarantees through letters of credit in connection with some
obligations of our affiliates. As of March 31, 2008, we have guaranteed $42
million in letters of credit to support some of our subsidiaries' insurance
arrangements, foreign employee benefit programs, environmental remediation
activities, and cash management requirements.
Negotiable Financial Instruments -- One of our European subsidiaries
receives payment from one of its OE customers whereby the accounts receivable
are satisfied through the delivery of negotiable financial instruments. We may
collect these financial instruments before their maturity date by either selling
them at a discount or using them to satisfy accounts receivable that have
previously been sold to a European bank. Any of these financial instruments
which are not sold are classified as other current assets as they do not meet
our definition of cash equivalents. The amount of these financial instruments
that was collected before their maturity date totaled
22
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
$5 million as of March 31, 2008, compared with $27 million at the same date in
2007. No negotiable financial instruments were held by our European subsidiary
as of March 31, 2008 or March 31, 2007.
In certain instances several of our Chinese subsidiaries receive payment
from OE customers and satisfy vendor payments through the receipt and delivery
of negotiable financial instruments. Financial instruments used to satisfy
vendor payables and not redeemed totaled $18 million and $11 million at March
31, 2008 and 2007, respectively, and were classified as notes payable. Financial
instruments received from OE customers and not redeemed totaled $15 million and
$5 million at March 31, 2008 and 2007, respectively, and were classified as
other current assets. One of our Chinese subsidiaries that issues its own
negotiable financial instruments to pay its vendors is required to maintain a
cash balance at a financial institution that guarantees those financial
instruments. No financial instruments were outstanding at that Chinese
subsidiary as of March 31, 2008. As of March 31, 2007 the required cash balance
was approximately $1 million and was classified as cash and cash equivalents.
The negotiable financial instruments received by one of our European
subsidiaries and some of our Chinese subsidiaries are checks drawn by our OE
customers and guaranteed by their banks that are payable at a future date. The
use of these instruments for payment follows local commercial practice. Because
negotiable financial instruments are financial obligations of our customers and
are guaranteed by our customers' banks, we believe they represent a lower
financial risk than the outstanding accounts receivable that they satisfy which
are not guaranteed by a bank.
(13) We are a global manufacturer with three geographic reportable
segments: (1) North America, (2) Europe, South America and India ("Europe"), and
(3) Asia Pacific. Each segment manufactures and distributes ride control and
emission control products primarily for the automotive industry. We have not
aggregated individual operating segments within these reportable segments. We
evaluate segment performance based primarily on income before interest expense,
income taxes, and minority interest. Products are transferred between segments
and geographic areas on a basis intended to reflect as nearly as possible the
"market value" of the products.
The following table summarizes certain Tenneco Inc. segment information:
SEGMENT
-----------------------------------------------------
NORTH ASIA RECLASS &
AMERICA EUROPE PACIFIC ELIMS CONSOLIDATED
------- ------ ------- --------- ------------
(MILLIONS)
AT MARCH 31, 2008 AND FOR THE THREE MONTHS
THEN ENDED
Revenues from external customers............. $ 683 $ 736 $141 $ -- $1,560
Intersegment revenues........................ 2 67 4 (73) --
Income before interest expense, income taxes,
and minority interest...................... 9 25 5 -- 39
Total assets................................. 1,606 1,766 385 16 3,773
AT MARCH 31, 2007 AND FOR THE THREE MONTHS
THEN ENDED
Revenues from external customers............. $ 643 $ 644 $113 $ -- $1,400
Intersegment revenues........................ 2 99 3 (104) --
Income before interest expense, income taxes,
and minority interest...................... 30 13 6 -- 49
Total assets................................. 1,511 1,584 312 97 3,504
23
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
(14) Supplemental guarantor condensed consolidating financial statements
are presented below:
Basis of Presentation
Subject to limited exceptions, all of our existing and future material
domestic 100% owned subsidiaries (which are referred to as the Guarantor
Subsidiaries) fully and unconditionally guarantee our senior subordinated notes
due in 2014, our senior notes due in 2015 and our senior secured notes due 2013
on a joint and several basis. We have not presented separate financial
statements and other disclosures concerning each of the Guarantor Subsidiaries
because management has determined that such information is not material to the
holders of the notes. Therefore, the Guarantor Subsidiaries are combined in the
presentation below.
These condensed consolidating financial statements are presented on the
equity method. Under this method, our investments are recorded at cost and
adjusted for our ownership share of a subsidiary's cumulative results of
operations, capital contributions and distributions, and other equity changes.
You should read the condensed consolidating financial information of the
Guarantor Subsidiaries in connection with our condensed consolidated financial
statements and related notes of which this note is an integral part.
Distributions
There are no significant restrictions on the ability of the Guarantor
Subsidiaries to make distributions to us.
24
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
STATEMENT OF INCOME (LOSS)
FOR THE THREE MONTHS ENDED MARCH 31, 2008
---------------------------------------------------------------------
TENNECO INC.
GUARANTOR NONGUARANTOR (PARENT RECLASS &
SUBSIDIARIES SUBSIDIARIES COMPANY) ELIMS CONSOLIDATED
------------ ------------ ------------ --------- ------------
(MILLIONS)
REVENUES
Net sales and operating
revenues --
External........................ $664 $ 896 $ -- $ -- $1,560
Affiliated companies............ 30 183 -- (213) --
---- ------ ---- ----- ------
694 1,079 -- (213) 1,560
---- ------ ---- ----- ------
COSTS AND EXPENSES
Cost of sales (exclusive of
depreciation shown below)....... 587 952 -- (213) 1,326
Engineering, research, and
development..................... 15 21 -- -- 36
Selling, general, and
administrative.................. 37 67 1 -- 105
Depreciation and amortization of
other intangibles............... 21 34 -- -- 55
---- ------ ---- ----- ------
660 1,074 1 (213) 1,522
---- ------ ---- ----- ------
OTHER INCOME (EXPENSE)
Loss on sale of receivables........ -- (2) -- -- (2)
Other income (loss)................ 6 (1) (1) (1) 3
---- ------ ---- ----- ------
6 (3) (1) (1) 1
---- ------ ---- ----- ------
INCOME (LOSS) BEFORE INTEREST
EXPENSE, INCOME TAXES, MINORITY
INTEREST, AND EQUITY IN NET INCOME
FROM AFFILIATED COMPANIES.......... 40 2 (2) (1) 39
---- ------ ---- ----- ------
Interest expense --
External (net of interest
capitalized).................. -- -- 25 -- 25
Affiliated companies (net of
interest income).............. 38 (5) (33) -- --
Income tax expense (benefit)....... -- 2 3 -- 5
Minority interest.................. -- 3 -- -- 3
---- ------ ---- ----- ------
2 2 3 (1) 6
Equity in net income (loss) from
affiliated companies............ (6) -- 3 3 --
---- ------ ---- ----- ------
NET INCOME (LOSS).................... $ (4) $ 2 $ 6 $ 2 $ 6
==== ====== ==== ===== ======
25
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
STATEMENT OF INCOME (LOSS)
FOR THE THREE MONTHS ENDED MARCH 31, 2007
---------------------------------------------------------------------
TENNECO INC.
GUARANTOR NONGUARANTOR (PARENT RECLASS &
SUBSIDIARIES SUBSIDIARIES COMPANY) ELIMS CONSOLIDATED
------------ ------------ ------------ --------- ------------
(MILLIONS)
REVENUES
Net sales and operating
revenues --
External........................ $615 $785 $ -- $ -- $1,400
Affiliated companies............ 28 206 -- (234) --
---- ---- ---- ----- ------
643 991 -- (234) 1,400
---- ---- ---- ----- ------
COSTS AND EXPENSES
Cost of sales (exclusive of
depreciation shown below)....... 560 853 -- (234) 1,179
Engineering, research, and
development..................... 11 16 -- -- 27
Selling, general, and
administrative.................. 37 58 -- -- 95
Depreciation and amortization of
other intangibles............... 18 30 -- -- 48
---- ---- ---- ----- ------
626 957 -- (234) 1,349
---- ---- ---- ----- ------
OTHER INCOME (EXPENSE)
Loss on sale of receivables........ -- (2) -- -- (2)
Other income (loss)................ 1 (2) -- 1 --
---- ---- ---- ----- ------
1 (4) -- 1 (2)
---- ---- ---- ----- ------
INCOME (LOSS) BEFORE INTEREST
EXPENSE, INCOME TAXES, MINORITY
INTEREST, AND EQUITY IN NET INCOME
FROM AFFILIATED COMPANIES.......... 18 30 -- 1 49
---- ---- ---- ----- ------
Interest expense --
External (net of interest
capitalized).................. (1) 1 40 -- 40
Affiliated companies (net of
interest income).............. 45 (3) (42) -- --
Income tax expense (benefit)....... (12) 9 -- 5 2
Minority interest.................. -- 2 -- -- 2
---- ---- ---- ----- ------
(14) 21 2 (4) 5
Equity in net income (loss) from
affiliated companies............ 21 -- 3 (24) --
---- ---- ---- ----- ------
NET INCOME (LOSS).................... $ 7 $ 21 $ 5 $ (28) $ 5
==== ==== ==== ===== ======
26
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
BALANCE SHEET
MARCH 31, 2008
---------------------------------------------------------------------
TENNECO INC.
GUARANTOR NONGUARANTOR (PARENT RECLASS &
SUBSIDIARIES SUBSIDIARIES COMPANY) ELIMS CONSOLIDATED
------------ ------------ ------------ --------- ------------
(MILLIONS)
ASSETS
Current assets:
Cash and cash equivalents.......... $ 2 $ 159 $ -- $ -- $ 161
Receivables, net................... 389 1,046 29 (609) 855
Inventories........................ 223 379 -- -- 602
Deferred income taxes.............. 53 -- 4 (18) 39
Prepayments and other.............. 28 121 -- (6) 143
------ ------- ------ -------- -------
695 1,705 33 (633) 1,800
------ ------- ------ -------- -------
Other assets:
Investment in affiliated
companies....................... 645 -- 1,122 (1,767) --
Notes and advances receivable from
affiliates...................... 3,479 241 5,500 (9,220) --
Long-term notes receivable, net.... -- 18 -- -- 18
Goodwill........................... 135 74 -- -- 209
Intangibles, net................... 18 10 -- -- 28
Deferred income taxes.............. 280 60 230 (230) 340
Other.............................. 41 76 29 -- 146
------ ------- ------ -------- -------
4,598 479 6,881 (11,217) 741
------ ------- ------ -------- -------
Plant, property, and equipment, at
cost............................... 1,011 2,105 -- -- 3,116
Less -- Accumulated depreciation
and amortization................ (671) (1,213) -- -- (1,884)
------ ------- ------ -------- -------
340 892 -- -- 1,232
------ ------- ------ -------- -------
$5,633 $ 3,076 $6,914 $(11,850) $ 3,773
====== ======= ====== ======== =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Short-term debt (including current
maturities of long-term debt)
Short-term debt -- non-
affiliated...................... $ -- $ 44 $ -- $ -- $ 44
Short-term debt -- affiliated... 143 338 10 (491) --
Trade payables..................... 328 824 -- (113) 1,039
Accrued taxes...................... 42 -- 6 (8) 40
Other.............................. 109 172 30 (21) 290
------ ------- ------ -------- -------
622 1,378 46 (633) 1,413
------ ------- ------ -------- -------
Long-term debt -- non-affiliated..... -- 7 1,412 -- 1,419
Long-term debt -- affiliated......... 4,137 91 4,992 (9,220) --
Deferred income taxes................ 223 83 -- (230) 76
Postretirement benefits and other
liabilities........................ 272 88 -- 7 367
Commitments and contingencies
Minority interest.................... -- 34 -- -- 34
Shareholders' equity................. 379 1,395 464 (1,774) 464
------ ------- ------ -------- -------
$5,633 $ 3,076 $6,914 $(11,850) $ 3,773
====== ======= ====== ======== =======
27
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
BALANCE SHEET
DECEMBER 31, 2007
---------------------------------------------------------------------
TENNECO INC.
GUARANTOR NONGUARANTOR (PARENT RECLASS &
SUBSIDIARIES SUBSIDIARIES COMPANY) ELIMS CONSOLIDATED
------------ ------------ ------------ --------- ------------
(MILLIONS)
ASSETS
Current assets:
Cash and cash equivalents.......... $ 6 $ 182 $ -- $ -- $ 188
Receivables, net................... 385 1,090 148 (866) 757
Inventories........................ 198 341 -- -- 539
Deferred income taxes.............. 53 -- 3 (20) 36
Prepayments and other.............. 18 103 -- -- 121
------ ------- ------ -------- -------
660 1,716 151 (886) 1,641
------ ------- ------ -------- -------
Other assets:
Investment in affiliated
companies....................... 628 -- 1,083 (1,711) --
Notes and advances receivable from
affiliates...................... 3,607 232 5,383 (9,222) --
Long-term notes receivable, net.... -- 19 -- -- 19
Goodwill........................... 136 72 -- -- 208
Intangibles, net................... 17 9 -- -- 26
Deferred income taxes.............. 310 60 180 (180) 370
Other.............................. 40 76 25 -- 141
------ ------- ------ -------- -------
4,738 468 6,671 (11,113) 764
------ ------- ------ -------- -------
Plant, property, and equipment, at
cost............................... 994 1,984 -- -- 2,978
Less -- Accumulated depreciation
and amortization................ (658) (1,135) -- -- (1,793)
------ ------- ------ -------- -------
336 849 -- -- 1,185
------ ------- ------ -------- -------
$5,734 $ 3,033 $6,822 $(11,999) $ 3,590
====== ======= ====== ======== =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Short-term debt (including current
maturities of long-term debt)
Short-term debt -- non-
affiliated...................... $ -- $ 44 $ 2 $ -- $ 46
Short-term debt -- affiliated... 274 439 10 (723) --
Trade payables..................... 350 774 -- (137) 987
Accrued taxes...................... 27 16 -- (2) 41
Other.............................. 118 169 21 (24) 284
------ ------- ------ -------- -------
769 1,442 33 (886) 1,358
------ ------- ------ -------- -------
Long-term debt-non-affiliated........ -- 7 1,321 -- 1,328
Long-term debt-affiliated............ 4,100 54 5,068 (9,222) --
Deferred income taxes................ 213 81 -- (180) 114
Postretirement benefits and other
liabilities........................ 264 89 -- 6 359
Commitments and contingencies
Minority interest.................... -- 31 -- -- 31
Shareholders' equity................. 388 1,329 400 (1,717) 400
------ ------- ------ -------- -------
$5,734 $ 3,033 $6,822 $(11,999) $ 3,590
====== ======= ====== ======== =======
28
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
STATEMENT OF CASH FLOWS
THREE MONTHS ENDED MARCH 31, 2008
-----------------------------------------------------------------
TENNECO INC.
GUARANTOR NONGUARANTOR (PARENT RECLASS &
SUBSIDIARIES SUBSIDIARIES COMPANY) ELIMS CONSOLIDATED
------------ ------------ ------------ --------- ------------
(MILLIONS)
OPERATING ACTIVITIES
Net cash provided (used) by operating
activities........................... $(91) $(13) $ 37 $-- $(67)
---- ---- ----- --- ----
INVESTING ACTIVITIES
Proceeds from the sale of assets....... -- 1 -- -- 1
Cash payment for plant, property, and
equipment............................ (33) (30) -- -- (63)
Cash payment for software related
intangible assets.................... (3) (2) -- -- (5)
Investments and other.................. -- -- -- -- --
---- ---- ----- --- ----
Net cash used by investing activities.. (36) (31) -- -- (67)
---- ---- ----- --- ----
FINANCING ACTIVITIES
Issuance of common stock............... -- -- 1 -- 1
Issuance of long-term debt............. -- -- -- -- --
Debt issuance cost of long-term debt... -- -- -- -- --
Retirement of long-term debt........... -- (1) (2) -- (3)
Net increase (decrease) in revolver
borrowings and short-term debt
excluding current maturities of long-
term debt............................ -- -- 91 -- 91
Intercompany dividends and net increase
(decrease) in intercompany
obligations.......................... 123 4 (127) -- --
Distribution to minority interest
partners............................. -- (2) -- -- (2)
Other.................................. -- -- -- -- --
---- ---- ----- --- ----
Net cash provided (used) by financing
activities........................... 123 1 (37) -- 87
---- ---- ----- --- ----
Effect of foreign exchange rate changes
on cash and cash equivalents......... -- 20 -- -- 20
---- ---- ----- --- ----
Decrease in cash and cash equivalents.. (4) (23) -- -- (27)
Cash and cash equivalents, January 1... 6 182 -- -- 188
---- ---- ----- --- ----
Cash and cash equivalents, March 31
(Note)............................... $ 2 $159 $ -- $-- $161
==== ==== ===== === ====
NOTE: Cash and cash equivalents include highly liquid investments with a
maturity of three months or less at the date of purchase.
29
TENNECO INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(Unaudited)
STATEMENT OF CASH FLOWS
THREE MONTHS ENDED MARCH 31, 2007
---------------------------------------------------------------------
TENNECO INC.
GUARANTOR NONGUARANTOR (PARENT RECLASS &
SUBSIDIARIES SUBSIDIARIES COMPANY) ELIMS CONSOLIDATED
------------ ------------ ------------ --------- ------------
(MILLIONS)
OPERATING ACTIVITIES
Net cash provided (used) by operating
activities......................... $ 24 $(33) $ (82) $ (2) $ (93)
---- ---- ----- ---- -----
INVESTING ACTIVITIES
Proceeds from the sale of assets..... -- -- -- -- --
Cash payment for plant, property, and
equipment.......................... (16) (24) -- 1 (39)
Cash payment for software related
intangible assets.................. (5) (2) -- -- (7)
Investments and other................ -- -- -- 1 1
---- ---- ----- ---- -----
Net cash used by investing
activities......................... (21) (26) -- 2 (45)
---- ---- ----- ---- -----
FINANCING ACTIVITIES
Issuance of common shares............ -- -- 2 -- 2
Issuance of long-term debt........... -- -- 150 -- 150
Debt issuance cost of long-term
debt............................... -- -- (6) -- (6)
Retirement of long-term debt......... -- -- (357) -- (357)
Net increase (decrease) in revolver
borrowings and short-term debt
excluding current maturities of
long-term debt..................... -- 106 218 (44) 280
Intercompany dividends and net
increase (decrease) in intercompany
obligations........................ (59) (59) 74 44 --
Distribution to minority interest
partners........................... -- (1) -- -- (1)
Other................................ -- -- 1 -- 1
---- ---- ----- ---- -----
Net cash provided (used) by financing
activities......................... (59) 46 82 -- 69
---- ---- ----- ---- -----
Effect of foreign exchange rate
changes on cash and cash
equivalents........................ -- 3 -- -- 3
---- ---- ----- ---- -----
Decrease in cash and cash
equivalents........................ (56) (10) -- -- (66)
Cash and cash equivalents, January
1.................................. 56 146 -- -- 202
---- ---- ----- ---- -----
Cash and cash equivalents, March 31
(Note)............................. $ -- $136 $ -- $ -- $ 136
==== ==== ===== ==== =====
NOTE: Cash and cash equivalents include highly liquid investments with a
maturity of three months or less at the date of purchase.
30
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
As you read the following review of our financial condition and results of
operations, you should also read our condensed consolidated financial statements
and related notes beginning on page 4.
EXECUTIVE SUMMARY
We are one of the world's leading manufacturers of automotive emission
control and ride control products and systems. We serve both original equipment
(OE) vehicle designers and manufacturers and the repair and replacement markets,
or aftermarket, globally through leading brands, including Monroe(R), Rancho(R),
Clevite(R) Elastomers and Fric Rot(TM) ride control products and Walker(R),
Fonos(TM), and Gillet(TM) emission control products. Worldwide we serve more
than 39 different original equipment manufacturers, and our products or systems
are included on eight of the top 10 passenger car models produced for sale in
Europe and nine of the top 10 light truck and SUV models produced for sale in
North America for 2008. Our aftermarket customers are comprised of full-line and
specialty warehouse distributors, retailers, jobbers, installer chains and car
dealers. We operate 80 manufacturing facilities worldwide and employ
approximately 21,000 people to service our customers' demands.
Factors that are critical to our success include winning new business
awards, managing our overall global manufacturing footprint to ensure proper
placement and workforce levels in line with business needs, maintaining
competitive wages and benefits, maximizing efficiencies in manufacturing
processes and reducing overall costs. In addition, our ability to adapt to key
industry trends, such as a shift in consumer preferences to other vehicles in
response to higher fuel costs and other economic and social factors, increasing
technologically sophisticated content, changing aftermarket distribution
channels, increasing environmental standards and extended product life of
automotive parts, also play a critical role in our success. Other factors that
are critical to our success include adjusting to industry and economic
challenges such as increases in the cost of raw materials and our ability to
successfully reduce the impact of any such cost increases through material
substitutions, cost reduction initiatives and other methods.
We have a substantial amount of indebtedness. As such, our ability to
generate cash -- both to fund operations and service our debt -- is also a
significant area of focus for our company. See "Results from Operations for the
Three Months Ended March 31, 2008 and 2007 -- Cash Flows" and "Liquidity and
Capital Resources" below for further discussion of cash flows.
Total revenues for the first quarter of 2008 were $1,560 million, compared
to $1,400 million in the first quarter of 2007. Excluding the impact of currency
and substrate sales, revenue was nearly flat despite the lowest light vehicle
production level of any first quarter in the last 15 years in North America. A
significant contributing factor to the decline was the American Axle strike,
which reduced the production of significant General Motors vehicle platforms. In
addition, North American commercial vehicle (truck) production, which makes up
about 6 percent of our total revenue, declined 15 percent from last year's first
quarter. Increased sales in South America and Asia helped partially offset the
reduced North American production.
Gross margin in the first quarter of 2008 was 15.0 percent, down from 15.8
percent in 2007. Higher substrate sales, which typically carry lower margins,
diluted gross margin. We also saw our revenue mix shift from higher-margin
aftermarket revenues to OE revenues. Also negatively impacting gross margin was
the American Axle strike and increased steel and other material costs.
We reported selling, general, administrative and engineering expenses in
the first three months of 2008 of 9.0 percent of revenues, as compared to 8.7
percent of revenues for the first three months of 2007. The increase was mainly
due to higher investments in engineering for next-generation ride and emission
control technologies.
Earnings before interest expense, income taxes and minority interest
("EBIT") was $39 million for the first quarter of 2008, down $10 million from
the $49 million reported in 2007. Reduced North American OE production, lower
Aftermarket sales, increased spending on engineering, higher restructuring
charges and depreciation and amortization costs all drove the decline. Partially
offsetting the decline were benefits from the company's ongoing manufacturing
efficiency programs and favorable currency.
31
RESULTS FROM OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2008 AND 2007
NET SALES AND OPERATING REVENUES
The following tables reflect our revenues for the first quarter of 2008 and
2007. We present these reconciliations of revenues in order to reflect the trend
in our sales in various product lines and geographic regions separately from the
effects of doing business in currencies other than the U.S. dollar. We have not
reflected any currency impact in the 2007 table since this is the base period
for measuring the effects of currency during 2008 on our operations. We believe
investors find this information useful in understanding period-to-period
comparisons in our revenues.
Additionally, we show the component of our revenue represented by substrate
sales in the following table. While we generally have primary design,
engineering and manufacturing responsibility for OE emission control systems, we
do not manufacture substrates. Substrates are porous ceramic filters coated with
a catalyst -- precious metals such as platinum, palladium and rhodium. These are
supplied to us by Tier 2 suppliers and directed by our OE customers. We
generally earn a small margin on these components of the system. As the need for
more sophisticated emission control solutions increases to meet more stringent
environmental regulations, and as we capture more diesel after treatment
business, these substrate components have been increasing as a percentage of our
revenue. While these substrates dilute our gross margin percentage they are a
necessary component of an emission control system. We view the growth of
substrates as a key indicator that our value add content in an emission control
system is moving toward the higher technology hot-end gas and diesel business.
Our value-add content in an emission control system includes designing the
system to meet environmental regulations through integration of the substrates
into the system, maximizing use of thermal energy to heat up the catalyst
quickly, efficiently managing airflow to reduce back pressure as the exhaust
stream moves past the catalyst, managing the expansion and contraction of the
emission control system components due to temperature extremes experienced by an
emission control system, using advanced acoustic engineering tools to design the
desired exhaust sound, minimizing the opportunity for the fragile components of
the substrate to be damaged when we integrate it into the emission control
system and reducing unwanted noise, vibration and harshness transmitted through
the emission control system.
32
We present these substrate sales separately in the following table because
we believe investors utilize this information to understand the impact of this
portion of our revenues on our overall business and because it removes the
impact of potentially volatile precious metals pricing from our revenues. While,
generally, our original equipment customers assume the risk of precious metals
pricing volatility, it impacts our reported revenues. Excluding "substrate"
catalytic converter and diesel particulate filters sales removes this impact.
THREE MONTHS ENDED MARCH 31, 2008
----------------------------------------------------------
SUBSTRATE REVENUES
SALES EXCLUDING
REVENUES EXCLUDING CURRENCY AND
CURRENCY EXCLUDING CURRENCY SUBSTRATE
REVENUES IMPACT CURRENCY IMPACT SALES
-------- -------- --------- --------- ------------
(MILLIONS)
North America Original Equipment
Ride Control........................ $ 112 $ -- $ 112 $ -- $ 112
Emission Control.................... 438 2 436 217 219
------ ---- ------ ---- ------
Total North America Original
Equipment...................... 550 2 548 217 331
North America Aftermarket
Ride Control........................ 98 1 97 -- 97
Emission Control.................... 35 1 34 -- 34
------ ---- ------ ---- ------
Total North America Aftermarket.. 133 2 131 -- 131
Total North America............ 683 4 679 217 462
Europe Original Equipment
Ride Control........................ 129 17 112 -- 112
Emission Control.................... 426 55 371 134 237
------ ---- ------ ---- ------
Total Europe Original Equipment.. 555 72 483 134 349
Europe Aftermarket
Ride Control........................ 47 6 41 -- 41
Emission Control.................... 40 5 35 -- 35
------ ---- ------ ---- ------
Total Europe Aftermarket......... 87 11 76 -- 76
South America & India................. 94 11 83 13 70
Total Europe, South America &
India....................... 736 94 642 147 495
Asia.................................. 90 9 81 27 54
Australia............................. 51 7 44 6 38
------ ---- ------ ---- ------
Total Asia Pacific............. 141 16 125 33 92
------ ---- ------ ---- ------
Total Tenneco......................... $1,560 $114 $1,446 $397 $1,049
====== ==== ====== ==== ======
33
THREE MONTHS ENDED MARCH 31, 2007
----------------------------------------------------------
SUBSTRATE REVENUES
SALES EXCLUDING
REVENUES EXCLUDING CURRENCY AND
CURRENCY EXCLUDING CURRENCY SUBSTRATE
REVENUES IMPACT CURRENCY IMPACT SALES
-------- -------- --------- --------- ------------
(MILLIONS)
North America Original Equipment
Ride Control........................ $ 133 $-- $ 133 $ -- $ 133
Emission Control.................... 376 -- 376 166 210
------ --- ------ ---- ------
Total North America Original
Equipment...................... 509 -- 509 166 343
North America Aftermarket
Ride Control........................ 98 -- 98 -- 98
Emission Control.................... 36 -- 36 -- 36
------ --- ------ ---- ------
Total North America Aftermarket.. 134 -- 134 -- 134
Total North America............ 643 -- 643 166 477
Europe Original Equipment
Ride Control........................ 107 -- 107 -- 107
Emission Control.................... 387 -- 387 138 249
------ --- ------ ---- ------
Total Europe Original Equipment.. 494 -- 494 138 356
Europe Aftermarket
Ride Control........................ 39 -- 39 -- 39
Emission Control.................... 41 -- 41 -- 41
------ --- ------ ---- ------
Total Europe Aftermarket......... 80 -- 80 -- 80
South America & India................. 70 -- 70 8 62
Total Europe, South America &
India....................... 644 -- 644 146 498
Asia.................................. 70 -- 70 26 44
Australia............................. 43 -- 43 5 38
------ --- ------ ---- ------
Total Asia Pacific............. 113 -- 113 31 82
------ --- ------ ---- ------
Total Tenneco......................... $1,400 $-- $1,400 $343 $1,057
====== === ====== ==== ======
Revenues from our North American operations increased $40 million in the
first quarter of 2008 compared to the same period last year. Higher sales from
North American OE revenues more than offset lower aftermarket revenues. North
American OE emission control revenues were up $62 million in the first quarter
of 2008; excluding favorable currency and substrate sales, revenues were up $9
million compared to last year. This increase was primarily due to higher year-
over-year volumes on several early 2007 launches, strong volumes on GM's Epsilon
and Lambda platforms as well as Volkswagen's PQ35 platform and Chrysler's launch
of the JC49 platform, which is the Dodge Crew crossover. The benefits from these
platforms were partially offset by lower volumes on the Ford Expedition and
Navigator, GM's Chevy Colorado & Canyon, and Chrysler's Dodge Dakota and Ram.
North American OE ride control revenues for the first quarter of 2008 were down
$21 million from the prior year. The decline was driven by the shutdown of
production for the GMT900, due to the American Axle strike, where we have
content on the SUVs as well as the 1/2 ton and 3/4 ton pickups. Also,
commercial-vehicle production was down 15 percent from last year's first quarter
which significantly impacted our ride control performance. Our total North
American OE revenues, excluding substrate sales and currency, decreased four
percent in the first quarter of 2008 compared to first quarter of 2007 which
compares to the North American light vehicle production rate decrease of seven
percent. Aftermarket revenues for North America were $133 million in the first
quarter of 2008, a decrease of $1 million compared to the prior year. Excluding
$2 million in favorable currency, aftermarket revenues were down $3 million
driven by lower sales in both product lines due to soft market conditions. Net
of favorable currency, aftermarket ride control revenues decreased two percent
in the first quarter of 2008 while aftermarket emission control revenues
decreased five percent in the first quarter of 2008.
34
Our European, South American and Indian segment's revenues increased $92
million, or 14 percent, in the first quarter of 2008 compared to last year. The
first quarter total European light vehicle industry production was even with the
first quarter of 2007. Europe OE emission control revenues of $426 million in
the first quarter of 2008 were up 10 percent as compared to the first quarter of
last year. Excluding $55 million of favorable currency and a reduction in
substrate sales, Europe OE emission control revenues decreased five percent over
2007. Higher emission control volumes due primarily to our growing position on
the hot-end of emission control platforms were more than offset by lower
customer recovery of nickel surcharge because nickel surcharge costs were down
year over year. The volume increase came primarily from new platforms launched
in 2007 that continue to ramp up, including: BMW's new 1 and 3-Series and Mini,
the new Daimler Sprinter and Smart models, the Ford Mondeo, the Jaguar XF and
the Volvo V70. Europe OE ride control revenues of $129 million in the first
quarter of 2008 were up 20 percent year-over-year. Excluding currency, revenues
increased by four percent in the 2008 first quarter due to improved volumes on
the Volkswagen Golf and Caddy, Audi A3 platform, the new Suzuki Splash, the
Dacia Logan and the Mercedes C-Class with our electronic shock technology,
offsetting lower volumes on the Audi A4 and A6 and Ford's Mazda 2. European
aftermarket revenues increased $7 million in the first quarter of 2008 compared
to last year. When adjusted for currency, aftermarket revenues were down five
percent. Excluding the $6 million impact of currency, ride control aftermarket
revenues were up five percent due to strong volumes while emission control
aftermarket revenues were down 14 percent, excluding $5 million in currency
benefit, due to lower volumes. South American and Indian revenues were $94
million during the first quarter of 2008, compared to $70 million in the prior
year. This increase was due to stronger OE and aftermarket sales and currency
appreciation.
Revenues from our Asia Pacific segment, which includes Australia and Asia,
increased $28 million to $141 million in the first quarter of 2008 compared to
the same period last year. Excluding the impact of substrate sales and currency,
revenues increased to $92 million from $82 million in the prior year. Asian
revenues for the first quarter of 2008 were $90 million, up 28 percent from last
year. This increase was primarily due to higher OE sales in China driven by new
launches and higher emission control volumes on existing platforms. Excluding
higher substrate sales and $9 million of favorable currency, Asian revenue
increased $10 million when compared with last year. First quarter revenues for
Australia increased 21 percent to $51 million. Excluding higher substrate sales
and $7 million of favorable currency, Australian revenue was even with last
year.
EARNINGS BEFORE INTEREST EXPENSE, INCOME TAXES AND MINORITY INTEREST ("EBIT")
THREE MONTHS
ENDED MARCH 31,
---------------
2008 2007 CHANGE
---- ---- ------
(MILLIONS)
North America............................................... $ 9 $30 $(21)
Europe, South America & India............................... 25 13 12
Asia Pacific................................................ 5 6 (1)
--- --- ----
$39 $49 $(10)
=== === ====
The EBIT results shown in the preceding table include the following items,
discussed below under "Restructuring and Other Charges," which have an effect on
the comparability of EBIT results between periods:
THREE MONTHS
ENDED
MARCH 31,
-------------
2008 2007
---- ----
(MILLIONS)
North America
Restructuring and restructuring-related expenses................ $ 1 $ 1
Europe, South America & India
Restructuring and restructuring-related expenses................ 3 1
Asia Pacific
Restructuring and restructuring-related expenses................ -- --
35
EBIT for North American operations decreased to $9 million in the first
quarter of 2008, from $30 million one year ago. Earnings on new OE emission
control platforms launched in 2007 were more than offset by volume declines on
other emission control platforms which resulted in a $2 million decrease to
EBIT. Increased spending of $4 million on engineering to support future ride and
emission control platform launches and higher depreciation expense of $3
million, resulting from capital expenditures to support our 2007 emission
control platform launches, negatively impacted EBIT. In addition, soft
aftermarket sales and lower OE ride control volumes, due to reduced industry
light and commercial vehicle production, in particular the volumes related to
the American Axle strike, had a combined unfavorable impact to EBIT of $11
million. Currency had a $1 million favorable impact on North American EBIT.
Restructuring and restructuring-related expenses of $1 million were included in
first quarter EBIT for both periods.
Our European, South American and Indian segment's EBIT was $25 million for
the first quarter of 2008 compared to $13 million during the same period last
year. The improvement was driven by significant manufacturing efficiencies
across all regions which favorably impacted EBIT by $12 million. Lower net alloy
surcharges of $1 million and reduced selling, general and administrative
spending of $3 million also benefited EBIT. These improvements were partially
offset by increased spending of $2 million on engineering and higher steel costs
of $3 million. Included in first quarter 2008 European, South American and
Indian segment's EBIT was $3 million in restructuring and restructuring-related
expenses compared to $1 million for the first quarter of 2007.
EBIT for our Asia Pacific segment in the first quarter of 2008 was $5
million compared to $6 million in the first quarter of 2007. Volume increases,
primarily in China, and favorable currency of $1 million benefited EBIT. More
than offsetting the increases were higher selling, general and administrative
expenses due to a charge of $1 million related to the bankruptcy of a major
Australian aftermarket customer, manufacturing inefficiencies in Australia,
higher steel costs of $1 million and an increase in depreciation expense.
Currency had a $2 million favorable impact on overall company EBIT for the
three months ended March 31, 2008, as compared to the prior year.
EBIT AS A PERCENTAGE OF REVENUE
THREE MONTHS
ENDED
MARCH 31,
-------------
2008 2007
---- ----
North America..................................................... 1% 5%
Europe, South America & India..................................... 3% 2%
Asia Pacific...................................................... 4% 5%
Total Tenneco................................................... 3% 4%
In North America, EBIT as a percentage of revenue for the first quarter of
2008 was four percentage points less than last year. Lower OE ride control
volumes on light vehicle and commercial platforms, coupled with increased
expenditures on engineering, steel, selling, general and administrative and
depreciation, drove the decline. Partially offsetting the decline were higher OE
emission control volumes and favorable currency. During the first quarter of
2008, North American results included the same amount as last year for
restructuring and restructuring-related charges. In Europe, South America and
India, EBIT margin for the first quarter of 2008 was one percentage point better
than prior year. Manufacturing efficiencies in all regions were partially offset
by higher steel costs and spending on engineering. Restructuring and
restructuring-related expenses were higher than prior year. EBIT as a percentage
of revenue for our Asia Pacific segment decreased one percentage point in the
first quarter of 2008 versus the prior year. A charge related to the bankruptcy
of a major aftermarket customer along with manufacturing inefficiencies in
Australia more than offset volume increases in Asia, mainly China, and favorable
currency. There were no restructuring and restructuring-related expenses in
either quarter.
INTEREST EXPENSE, NET OF INTEREST CAPITALIZED
We reported interest expense of $25 million (all in our U.S. operations) in
the first quarter of 2008 compared to $40 million ($39 million in the U.S. and
$1 million in our foreign operations) in the prior year. The requirement to
36
mark to market the interest rate swaps described below decreased interest
expense by $5 million in the first quarter 2008 and decreased interest expense
by $1 million in the first quarter 2007. Included in the first quarter of 2007
results was a $5 million charge to expense for the unamortized portion of debt
issuance costs related to our previous senior credit facility due to our debt
refinancing in the first quarter of 2007. Interest expense also decreased as a
result of lower LIBOR rates on the variable interest rate portion of our debt.
We have three fixed-to-floating interest rate swaps that effectively
convert $150 million of our 10 1/4 percent fixed interest rate senior secured
notes into floating interest rates at an annual rate of LIBOR plus 5.68 percent.
Based upon the current LIBOR rate of 4.08 percent (which is in effect until July
15, 2008) these swaps are expected to decrease our interest expense by $1
million in 2008 excluding any impact from marking the swaps to market. Since
entering into these swaps, we have realized a net cumulative benefit of $2
million through March 31, 2008, in reduced interest payments. On March 31, 2008,
we had $1,009 million in long-term debt obligations that have fixed interest
rates. Of that amount, $245 million is fixed through July 2013, $500 million is
fixed through November 2014, $250 million is fixed through November 2015, and
the remainder is fixed from 2012 through 2025. Of the $245 million, $150 million
has been swapped to floating and we also have $410 million in long-term debt
obligations outstanding under our senior secured credit facility that are
subject to variable interest rates. See Note 3 to the condensed consolidated
financial statements of Tenneco Inc. and Consolidated Subsidiaries.
INCOME TAXES
We reported income tax expense of $5 million in the first quarter of 2008
which included a $1 million non-cash charge for changes in our estimates for tax
matters subject to audit. The effective tax rate for the first quarter of 2008
was 37 percent. We reported income tax expense of $2 million in the first
quarter of 2007. The effective tax rate for the first quarter of 2007 was 22
percent.
RESTRUCTURING AND OTHER CHARGES
Over the past several years we have adopted plans to restructure portions
of our operations. These plans were approved by our Board of Directors and were
designed to reduce operational and administrative overhead costs throughout the
business. Prior to the change in accounting required for exit or disposal
activities, we recorded charges to income related to these plans for costs that
did not benefit future activities in the period in which the plans were
finalized and approved, while actions necessary to affect these restructuring
plans occurred over future periods in accordance with established plans.
Our recent restructuring activities began in the fourth quarter of 2001,
when our Board of Directors approved a restructuring plan, a project known as
Project Genesis, which was designed to lower our fixed costs, relocate capacity,
reduce our work force, improve efficiency and utilization, and better optimize
our global footprint. We have subsequently engaged in various other
restructuring projects related to Project Genesis. In 2007, we incurred $25
million in restructuring and restructuring-related costs of which $22 million
was recorded in cost of sales, $2 million of which related to a charge for asset
impairments for the plant closure in France, and $3 million was recorded in
selling, general and administrative expense. The majority of the 2007 charges
were related to the planned closing of our emission control plant in
Wissembourg, France. In the first quarter of 2008, we incurred $4 million
restructuring and restructuring-related costs of which $3 million was recorded
in cost of sales and $1 million in selling, general and administrative expense.
Since Project Genesis was initiated, we have incurred costs of $159 million
through March 31, 2008. We estimate that our current annual savings rate for
completed projects is approximately $102 million. When all actions are complete,
we expect an additional $6 million of annual savings.
Under the terms of our amended and restated senior credit agreement that
took effect on March 16, 2007, we are allowed to exclude $80 million of cash
charges and expenses, before taxes, related to cost reduction initiatives
excluding any charge for asset impairments incurred after March 16, 2007 from
the calculation of the financial covenant ratios required under our senior
credit facility. As of March 31, 2008, we have excluded $27 million in allowable
charges relating to restructuring initiatives against the $80 million available
under the terms of the March 2007 amended and restated senior credit facility.
37
In addition to the announced actions, we will continue to evaluate
additional opportunities and expect that we will initiate actions that will
reduce our costs through implementing the most appropriate and efficient
logistics, distribution and manufacturing footprint for the future. We expect to
continue to undertake additional restructuring actions as deemed necessary,
however, there can be no assurances we will undertake such actions. Actions that
we take, if any, will require the approval of our Board of Directors, or its
authorized committee. We plan to conduct any workforce reductions that result in
compliance with all legal and contractual requirements including obligations to
consult with workers' councils, union representatives and others.
EARNINGS PER SHARE
We reported net income of $6 million or $0.13 per diluted common share for
the first quarter of 2008, as compared to net income of $5 million or $0.11 per
diluted common share for the first quarter of 2007. Included in the results for
the first quarter of 2008 were negative impacts from expenses related to our
restructuring activities and tax adjustments. The net impact of these items
decreased earnings per diluted share by $0.07. Included in the results for the
first quarter of 2007 were negative impacts from expenses related to our
restructuring activities and charges relating to refinancing activities. The net
impact of these items decreased earnings per diluted share by $0.09. Please read
the Notes to the condensed consolidated financial statements for more detailed
information on earnings per share.
CASH FLOWS
THREE MONTHS
ENDED MARCH 31,
---------------
2008 2007
---- ----
(MILLIONS)
Cash provided (used) by:
Operating activities............................................ $(67) $(93)
Investing activities............................................ (67) (45)
Financing activities............................................ 87 69
Operating Activities
For the three months ended March 31, 2008, operating activities used $67
million in cash compared to $93 million in cash used during the same period last
year. Cash used for working capital was $139 million for both three month
periods ended March 31, 2008 and 2007. Receivables were a use of cash of $87
million compared to a cash use of $201 million in the prior year. Inventory
represented a cash outflow of $43 million during the three months ended March
31, 2008, an improvement of $31 million over the prior year. The year-over-year
improvement in the use of cash for both accounts receivable and inventory was
primarily a result of working capital requirements for our new platform launches
in North America for 2007. Accounts payable provided cash of $16 million, a
decrease from last year's cash inflow of $150 million. This decrease also
primarily resulted from the working capital need for our new platform launches
in North America for 2007. Cash taxes were $12 million for the three months
ended March 31, 2008, compared to $8 million in the prior year.
One of our European subsidiaries receives payment from one of its OE
customers whereby the accounts receivable are satisfied through the delivery of
negotiable financial instruments. We may collect these financial instruments
before their maturity date by either selling them at a discount or using them to
satisfy accounts receivable that have previously been sold to a European bank.
Any of these financial instruments which are not sold are classified as other
current assets as they do not meet our definition of cash equivalents. The
amount of these financial instruments that was collected before their maturity
date totaled $5 million as of March 31, 2008, compared with $27 million at the
same date in 2007. No negotiable financial instruments were held by our European
subsidiary as of March 31, 2008 or March 31, 2007.
In certain instances several of our Chinese subsidiaries receive payment
from OE customers and satisfy vendor payments through the receipt and delivery
of negotiable financial instruments. Financial instruments used to satisfy
vendor payables and not redeemed totaled $18 million and $11 million at March
31, 2008 and 2007, respectively, and were classified as notes payable. Financial
instruments received from OE customers and not redeemed totaled
38
$15 million and $5 million at March 31, 2008 and 2007, respectively, and were
classified as other current assets. One of our Chinese subsidiaries that issues
its own negotiable financial instruments to pay its vendors is required to
maintain a cash balance at a financial institution that guarantees those
financial instruments. No financial instruments were outstanding at that Chinese
subsidiary as of March 31, 2008. As of March 31, 2007 the required cash balance
was approximately $1 million and was classified as cash and cash equivalents.
The negotiable financial instruments received by one of our European
subsidiaries and some of our Chinese subsidiaries are checks drawn by our OE
customers and guaranteed by their banks that are payable at a future date. The
use of these instruments for payment follows local commercial practice. Because
negotiable financial instruments are financial obligations of our customers and
are guaranteed by our customers' banks, we believe they represent a lower
financial risk than the outstanding accounts receivable that they satisfy which
are not guaranteed by a bank.
Investing Activities
Cash used for investing activities was $22 million higher in the first
quarter of 2008 compared to the same period a year ago. Cash payments for plant,
property and equipment were $63 million in the first quarter of 2008 versus
payments of $39 million in the first quarter of 2007. The increase of $24
million in cash payments for plant, property and equipment was to support new
business that has been awarded for 2010 and 2011. Cash payments for software-
related intangible assets were $5 million in the first three months of 2008
compared to $7 million in the first three months of 2007.
Financing Activities
Cash flow from financing activities was an $87 million inflow in the first
quarter of 2008 compared to an inflow of $69 million in the same period of 2007.
The primary reason for the change is attributable to an increase in borrowings
year-over-year.
OUTLOOK
We expect little change in general industry conditions for the remainder of
the year. In North America, uncertainty about the economic outlook for 2008 has
increased. That uncertainty in the auto sector has been compounded by labor
contract disputes. We believe that at some point these strikes will be resolved,
however we do not expect to see an overall improvement in market conditions in
North America this year. However, we believe that our strong performance in
Asia, South America and Europe will continue to help offset the weakness in
North America. In addition, we will continue to focus globally on increasing
productivity through Six Sigma, Lean manufacturing, restructuring activities and
cost improvements, including tight control of discretionary spending and
deferrals of advertising and promotional campaigns in the aftermarket.
Current second quarter industry projections are that North American OE
production levels will be down year-over-year, however, we anticipate a mix
improvement on the platforms we produce as current labor issues within the
industry are resolved. European production levels are estimated to remain
relatively stable in the second quarter, while South America and Asia markets
should continue to grow. Soft market conditions are expected to continue in the
global aftermarket.
For the second half of the year, industry projections continue to show
North American production volumes to be down compared to last year however, in
Asia, Europe and South America industry projections show production volumes to
be up year-over-year.
CRITICAL ACCOUNTING POLICIES
We prepare our condensed consolidated financial statements in accordance
with accounting principles generally accepted in the United States of America.
Preparing our condensed consolidated financial statements in accordance with
generally accepted accounting principles requires us to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of
39
the condensed consolidated financial statements and the reported amounts of
revenues and expenses during the reporting period. The following paragraphs
include a discussion of some critical areas where estimates are required.
Revenue Recognition
We recognize revenue for sales to our original equipment and aftermarket
customers when title and risk of loss passes to the customers under the terms of
our arrangements with those customers, which is usually at the time of shipment
from our plants or distribution centers. In connection with the sale of exhaust
systems to certain original equipment manufacturers, we purchase catalytic
converters and diesel particulate filters or components thereof including
precious metals ("substrates") on behalf of our customers which are used in the
assembled system. These substrates are included in our inventory and "passed
through" to the customer at our cost, plus a small margin, since we take title
to the inventory and are responsible for both the delivery and quality of the
finished product. Revenues recognized for substrate sales were $421 million, and
$343 million for the first three months of 2008 and 2007, respectively. For our
aftermarket customers, we provide for promotional incentives and returns at the
time of sale. Estimates are based upon the terms of the incentives and
historical experience with returns. Certain taxes assessed by governmental
authorities on revenue producing transactions, such as value added taxes, are
excluded from revenue and recorded on a net basis. Shipping and handling costs
billed to customers are included in revenues and the related costs are included
in cost of sales in our Statements of Income (Loss).
Warranty Reserves
Where we have offered product warranty, we also provide for warranty costs.
Those estimates are based upon historical experience and upon specific warranty
issues as they arise. While we have not experienced any material differences
between these estimates and our actual costs, it is reasonably possible that
future warranty issues could arise that could have a significant impact on our
consolidated financial statements.
Pre-production Design and Development and Tooling Assets
We expense pre-production design and development costs as incurred unless
we have a contractual guarantee for reimbursement from the original equipment
customer. We had long-term receivables of $18 million and $20 million on the
balance sheet at March 31, 2008 and December 31, 2007, respectively, for
guaranteed pre-production design and development reimbursement arrangements with
our customers. In addition, plant, property and equipment includes $60 million
and $62 million at March 31, 2008 and December 31, 2007, respectively, for
original equipment tools and dies that we own. Prepayments and other includes
$44 million and $33 million at March 31, 2008 and December 31, 2007,
respectively, for in-process tools and dies that we are building for our
original equipment customers.
Income Taxes
We have a U.S. Federal tax net operating loss carryforward ("NOL") at
December 31, 2007, of $518 million, which will expire in varying amounts from
2020 to 2027. The federal tax effect of that NOL is recorded as a deferred tax
asset on our balance sheet for $181 million at December 31, 2007. In the quarter
ended March 31, 2008, we recorded an additional $8 million in deferred tax
assets. We also have state NOL carryforwards at December 31, 2007 of $767
million, which will expire in various years through 2027. The tax effect of the
state NOL, net of a valuation allowance, is recorded as a deferred tax asset on
our balance sheet for $40 million at December 31, 2007 and $38 million at March
31, 2008. We estimate, based on available evidence both positive and negative,
that it is more likely than not that we will utilize these NOLs within the
prescribed carryforward period. That estimate is based upon our expectations
regarding future taxable income of our U.S. operations and the implementation of
available tax planning strategies that accelerate usage of the NOL.
Circumstances that could change that estimate include future U.S. earnings at
lower than expected levels or a majority ownership change as defined in the
rules of the U.S. tax law. If that estimate changed, we would be required to
cease recognizing an income tax benefit for any new NOL and could be required to
record a reserve for some or all of the asset currently recorded on our balance
sheet.
40
Stock-Based Compensation
Effective January 1, 2006, we began accounting for our stock-based
compensation plans in accordance with Statement of Financial Accounting
Standards ("SFAS") No. 123(R), "Share-Based Payment," which requires a fair
value method of accounting for compensation costs related to our stock-based
compensation plans. Under the fair value method recognition provision of the
statement, a share-based payment is measured at the grant date based upon the
value of the award and is recognized as expense over the vesting period.
Determining the fair value of share-based awards requires judgment in estimating
employee and market behavior. If actual results differ significantly from these
estimates, stock-based compensation expense and our results of operations could
be materially impacted. As of March 31, 2008, there is approximately $4 million,
net of tax, of total unrecognized compensation costs related to these stock-
based awards that is expected to be recognized over a weighted average period of
1.5 years as compared to $5 million, net of tax, and a weighted average period
of 1.6 years as of March 31, 2007.
Goodwill and Other Intangible Assets
We utilize an impairment-only approach to value our purchased goodwill in
accordance with SFAS No. 142, "Goodwill and Other Intangible Assets." Each year
in the fourth quarter, we perform an impairment analysis on the balance of
goodwill. Inherent in this calculation is the use of estimates as the fair value
of our designated reporting units is based upon the present value of our
expected future cash flows. In addition, our calculation includes our best
estimate of our weighted average cost of capital and growth rate. If the
calculation results in a fair value of goodwill which is less than the book
value of goodwill, an impairment charge would be recorded in the operating
results of the impaired reporting unit.
Pension and Other Postretirement Benefits
We have various defined benefit pension plans that cover substantially all
of our employees. We also have postretirement health care and life insurance
plans that cover a majority of our domestic employees. Our pension and
postretirement health care and life insurance expenses and valuations are
dependent on assumptions used by our actuaries in calculating those amounts.
These assumptions include discount rates, health care cost trend rates, long-
term return on plan assets, retirement rates, mortality rates and other factors.
Health care cost trend rate assumptions are developed based on historical cost
data and an assessment of likely long-term trends. Retirement rates are based
primarily on actual plan experience while mortality rates are based upon the
general population experience which is not expected to differ materially from
our experience.
Our approach to establishing the discount rate assumption for both our
domestic and foreign plans starts with high-quality investment-grade bonds
adjusted for an incremental yield based on actual historical performance. This
incremental yield adjustment is the result of selecting securities whose yields
are higher than the "normal" bonds that comprise the index. Based on this
approach, for 2008 we left the weighted average discount rate for all of our
pension plans unchanged at 5.9 percent. The discount rate for postretirement
benefits was also left unchanged at 6.2 percent for 2008.
Our approach to determining expected return on plan asset assumptions
evaluates both historical returns as well as estimates of future returns, and is
adjusted for any expected changes in the long-term outlook for the equity and
fixed income markets. As a result, our estimate of the weighted average long-
term rate of return on plan assets for all of our pension plans was left
unchanged at 8.2 percent for 2008.
Except in the U.K., our pension plans generally do not require employee
contributions. Our policy is to fund our pension plans in accordance with
applicable U.S. and foreign government regulations and to make additional
payments as funds are available to achieve full funding of the accumulated
benefit obligation. At March 31, 2008, all legal funding requirements had been
met. Other postretirement benefit obligations, such as retiree medical, and
certain foreign pension plans are not funded.
Effective December 31, 2006, we froze future accruals under our defined
benefit plans for substantially all U.S. salaried and non-union hourly employees
and replaced these benefits with additional contributions under defined
contribution plans. These changes reduced expense by approximately $11 million
in 2007. These changes
41
will continue to generate savings in future years but those savings will vary
based on many factors, including the performance of our pension fund
investments.
CHANGES IN ACCOUNTING PRONOUNCEMENTS
In March 2008, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 161, "Disclosures about
Derivative Instruments and Hedging Activities, an amendment of FASB Statement
No. 133" (SFAS No. 161). SFAS No. 161 requires enhanced disclosures about an
entity's derivative and hedging activities including how and why an entity uses
derivative instruments, how an entity accounts for derivatives and hedges and
how derivative instruments and related hedged items affect an entity's financial
position, financial performance and cash flows. SFAS No. 161 is effective for
financial statements issued for fiscal years and interim periods beginning after
November 15, 2008. We are evaluating SFAS No. 161 to determine the effect on our
financial statement disclosures.
In February 2008, the FASB issued FASB Staff Position (FSP) 140-3,
"Accounting for Transfers of Financial Assets and Repurchase Financing
Transactions". FSP 140-3 provides guidance on accounting for a transfer of a
financial asset and a repurchase financing which is a repurchase agreement that
relates to a previously transferred financial asset between the same
counterparties that is entered into contemporaneously with, or in contemplation
of, the initial transfer. FSP 140-3 is effective for financial statements issued
for fiscal years beginning after November 15, 2008, and interim periods within
those fiscal years. We are evaluating FSP 140-3 to determine the effect on our
financial statements and related disclosures.
In February 2008, the FASB issued FSP 157-1, "Application of FASB Statement
No. 157 to FASB Statement No. 13 and Other Accounting Pronouncements That
Address Fair Value Measurements for Purposes of Lease Classification or
Measurement Under Statement 13". FSP 157-1 provides a scope exception to SFAS
No. 157 which does not apply under Statement 13 and other accounting
pronouncements that address fair value measurements for purposes of lease
classification or measurement under Statement 13. FSP 157-1 is effective upon
the initial adoption of SFAS No. 157. FSP 157-1 did not have a material impact
to our condensed consolidated financial statements.
In December 2007, the FASB issued SFAS No. 141 (Revised 2007), "Business
Combinations" (SFAS No. 141(R)). SFAS No. 141(R) requires an acquirer to
recognize the assets acquired, the liabilities assumed, contractual
contingencies and any noncontrolling interest in the acquiree at the acquisition
date at their fair values as of that date. SFAS No. 141(R) provides guidance on
the accounting for acquisition-related costs, restructuring costs related to the
acquisition and the measurement of goodwill and a bargain purchase. SFAS No.
141(R) applies prospectively to business combinations for which the acquisition
date is on or after December 15, 2008. We do not expect the adoption of this
statement to have a material impact to our condensed consolidated financial
statements.
In December 2007, the FASB issued SFAS No. 160, "Noncontrolling Interests
in Consolidated Financial Statements-an amendment of ARB No. 5." SFAS No. 160
amends ARB 51 to establish accounting and reporting standards for the
noncontrolling (minority) interest in a subsidiary and for the deconsolidation
of a subsidiary. It clarified that a noncontrolling interest in a subsidiary is
an ownership interest in the consolidated entity that should be reported as
equity in the consolidated financial statements, establishes a single method of
accounting for changes in a parent's ownership interest in a subsidiary that
does not result in deconsolidation and provides for expanded disclosure in the
consolidated financial statements relating to the interests of the parent's
owners and the interests of the noncontrolling owners of the subsidiary. SFAS
No. 160 applies prospectively (except for the presentation and disclosure
requirements) for fiscal years and interim periods within those fiscal years
beginning on or after December 15, 2008. The presentation and disclosure
requirements will be applied retrospectively for all periods presented. We are
evaluating this statement to determine the effect on our financial statements
and related disclosures.
In December 2007, the Securities and Exchange Commission issued Staff
Accounting Bulleting No. 110 (SAB 110). SAB 110 amends and replaces Question 6
of Section D.2 Topic 14, "Share-Based Payment." Question 6 of Topic 14:D.2 (as
amended) expresses the views of the staff regarding the use of a "simplified"
method in developing an estimate of the expected term of "plain vanilla" share
options in accordance with SFAS No. 123 (revised 2004), "Share-Based Payment"
(SFAS No. 123(R)). SAB 110 is effective January 1, 2008. The adoption of SAB 110
had no impact to our condensed consolidated financial statements.
42
In September 2006, the FASB issued SFAS No. 157, "Fair Value Measurement."
This statement defines fair value, establishes a fair value hierarchy for
measuring fair value under generally accepted accounting principles and expands
disclosures about fair value measurements. SFAS No. 157 is effective for
financial statements issued for fiscal years beginning after November 15, 2007.
FSP 157-2 issued in February 2008 delays the effective date of SFAS No. 157 for
nonfinancial assets and nonfinancial liabilities to fiscal years beginning after
November 15, 2008 and interim periods within those fiscal years. We have adopted
the measurement and disclosure impact of SFAS No. 157 relating to our financial
assets and financial liabilities which are measured on a recurring basis (at
least annually) effective January 1, 2008. See Note 2 to the condensed
consolidated financial statements of Tenneco Inc. and Consolidated Subsidiaries.
We do not expect the adoption of the nonfinancial assets and nonfinancial
liabilities portion of SFAS No. 157 to have a material impact to our condensed
consolidated financial statements.
In June 2007, the Emerging Issues Task Force (EITF) issued EITF 06-11,
"Accounting for Income Tax Benefits of Dividends on Share-Based Payment Awards."
EITF 06-11 provides the final consensus on the application of paragraphs 62 and
63 of SFAS No. 123(R) on the accounting for income tax benefits relating to the
payment of dividends on equity-classified employee share-based payment awards
that are charged to retained earnings. EITF 06-11 affirms that the realized
income tax benefit from dividends or dividend equivalents that are charged to
retained earnings for equity classified nonvested equity shares, nonvested
equity share units, and outstanding equity share options should be recognized as
an increase in additional paid-in-capital. Additionally, EITF 06-11 provides
guidance on the amount of tax benefits from dividends that are reclassified from
additional paid-in-capital to the income statement when an entity's estimate of
forfeitures changes. EITF 06-11 is effective prospectively to the income tax
benefits that result from dividends on equity-classified employee share-based
payment awards that are declared in fiscal years beginning after December 15,
2007. The adoption of EITF 06-11, on January 1, 2008, did not have a material
impact on our condensed consolidated financial statements.
In June 2007, the EITF issued EITF 07-3, "Accounting for Nonrefundable
Advance Payments for Goods or Services Received for Use in Future Research and
Development Activities." EITF 07-3 requires the deferral and capitalization of
nonrefundable advance payments for goods or services that an entity will use in
research and development activities pursuant to an executory contractual
agreement. Expenditures which are capitalized under EITF 07-3 should be expensed
as the goods are delivered or the related services are performed. EITF 07-3 is
effective prospectively for fiscal years beginning after December 15, 2007 and
interim periods within those fiscal years. EITF 07-3 is applicable to new
contracts entered into after the effective date of this Issue. The adoption of
EITF 07-3 on January 1, 2008, did not have a material impact on our condensed
consolidated financial statements.
In April 2007, the FASB issued Interpretation No. 39-1, "Amendment of FASB
Interpretation No. 39" (FIN 39-1). This amendment allows a reporting entity to
offset fair value amounts recognized for derivative instruments with fair value
amounts recognized for the right to reclaim or realize cash collateral.
Additionally, this amendment requires disclosure of the accounting policy on the
reporting entity's election to offset or not offset amounts for derivative
instruments. FIN 39-1 is effective for fiscal years beginning after November 15,
2007. The adoption of FIN 39-1 did not have a material impact on our condensed
consolidated financial statements.
In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities." This statement permits companies to
choose to measure at fair value many financial instruments and certain other
items that are not currently required to be measured at fair value. SFAS No. 159
is effective for financial statements issued for fiscal years beginning on or
after November 15, 2007. The adoption of SFAS 159 did not have a material effect
on our condensed consolidated financial statements and related disclosures.
In September 2006, the FASB issued SFAS No. 158, "Employers' Accounting for
Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB
Statements No. 87, 88, 106, and 132(R)." Part of this Statement was effective as
of December 31, 2006, and requires companies that have defined benefit pension
plans and other postretirement benefit plans to recognize the funded status of
those plans on the balance sheet on a prospective basis from the effective date.
The funded status of these plans is determined as of the plans' measurement
dates and represents the difference between the amount of the obligations owed
to participants under each plan (including the effects of future salary
increases for defined benefit plans) and the fair value of each plan's assets
dedicated to paying those obligations. To record the funded status of those
plans, unrecognized prior service costs and net actuarial losses experienced by
the plans will be recorded in the Accumulated Other Comprehensive Loss section
of
43
shareholders' equity on the balance sheet. The initial adoption as of December
31, 2006 resulted in a reduction of Accumulated Other Comprehensive Loss in
shareholders' equity of $59 million.
In addition, SFAS No. 158 requires that companies using a measurement date
for their defined benefit pension plans and other postretirement benefit plans
other than their fiscal year end, change the measurement date effective for
fiscal years ending after December 15, 2008. Effective January 1, 2007, we
elected to early adopt the measurement date provision of SFAS No. 158. Adoption
of this part of the statement was not material to our financial position and
results of operations.
LIQUIDITY AND CAPITAL RESOURCES
CAPITALIZATION
MARCH 31, DECEMBER 31,
2008 2007 % CHANGE
--------- ------------ --------
(MILLIONS)
Short-term debt and current maturities.............. $ 44 $ 46 4%
Long-term debt...................................... 1,419 1,328 7
------ ------
Total debt.......................................... 1,463 1,374 6
------ ------
Total minority interest............................. 34 31 10
Shareholders' equity................................ 465 400 16
------ ------
Total capitalization................................ $1,962 $1,805 9
====== ======
General. Short-term debt, which includes the current portion of long-term
obligations and borrowings by foreign subsidiaries, was $44 million and $46
million as of March 31, 2008 and December 31, 2007, respectively. Borrowings
under our revolving credit facilities, which are classified as long-term debt,
were approximately $260 million and $169 million as of March 31, 2008 and
December 31, 2007, respectively. The overall increase in debt resulted primarily
from increased working capital levels.
The year-to-date increase in shareholders' equity primarily resulted from
$54 million of translation of foreign balances into U.S. dollars and net income
of $6 million. While our book equity balance was small at March 31, 2008, it had
no effect on our business operations. We have no debt covenants that are based
upon our book equity, and there are no other agreements that are adversely
impacted by our relatively low book equity.
Overview. Our financing arrangements are primarily provided by a committed
senior secured financing arrangement with a syndicate of banks and other
financial institutions. The arrangement is secured by substantially all our
domestic assets and pledges of 66 percent of the stock of certain first-tier
foreign subsidiaries, as well as guarantees by our material domestic
subsidiaries.
On November 20, 2007, we issued $250 million of 8 1/8 percent Senior Notes
due November 15, 2015 through a private placement offering. The offering and
related transactions were designed to (1) reduce our interest expense and extend
the maturity of a portion of our debt (by using the proceeds of the offering to
tender for $230 million of our outstanding $475 million 10 1/4 percent senior
secured notes due 2013), (2) facilitate the realignment of the ownership
structure of some of our foreign subsidiaries and (3) otherwise amend certain of
the covenants in the indenture for our 10 1/4 percent senior secured notes to be
consistent with those contained in our 8 5/8 percent senior subordinated notes,
including conforming the limitation on incurrence of indebtedness and the
absence of a limitation on issuances or transfers of restricted subsidiary
stock, and make other minor modifications.
The ownership structure realignment is designed to more effectively align
our domestic and foreign assets and revenues with expenses in the appropriate
local currencies. Some of the desired results of the realignment will be to
allow us to more rapidly use our U.S. net operating losses and reduce our cash
tax payments. At present, the ownership structure realignment involves a new
European holding company which will own some of our foreign entities. We may
alter the components of the realignment from time to time. If market conditions
permit in 2008, we may offer debt issued by the new European holding company.
The proceeds of that debt would be used to repay any outstanding intercompany
debt and, in turn, to fund the redemption of any remaining 10 1/4 percent senior
secured
44
notes. This realignment utilized part of our U.S. net operating tax losses.
Consequently, we recorded a non-cash charge of $66 million in the fourth quarter
of 2007.
The offering of new notes and related repurchase of our senior secured
notes will reduce our annual interest expense by approximately $3 million for
2008 and increased our total debt outstanding to third-parties by approximately
$20 million. In connection with the offering and the related repurchase of our
senior secured notes, we also recorded non-recurring pre-tax charges related to
the tender premium and fees, the write-off of deferred debt issuance costs, and
the write-off of previously recognized issuance premium totaling $21 million in
the fourth quarter of 2007.
In March 2007 we refinanced our $831 million senior credit facility. This
transaction reduced the interest rates we pay on all portions of the facility.
While the total amount of the new senior credit facility is $830 million,
approximately the same as the previous facility, we changed the components of
the facility to enhance our financial flexibility. We increased the amount of
commitments under our revolving loan facility from $320 million to $550 million,
reduced the amount of commitments under our tranche B-1 letter of
credit/revolving loan facility from $155 million to $130 million and replaced
the $356 million term loan B with a $150 million term loan A. As of March 31,
2008, the senior credit facility consisted of a five-year, $150 million term
loan A maturing in March 2012, a five-year, $550 million revolving credit
facility maturing in March 2012, and a seven-year $130 million tranche B-1
letter of credit/revolving loan facility maturing in March 2014.
The refinancing of the prior facility allowed us to: (i) amend the
consolidated net debt to EBITDA ratio, (ii) eliminate the fixed charge coverage
ratio, (iii) eliminate the restriction on capital expenditures, (iv) increase
the amount of acquisitions permitted to $250 million, (v) improve the
flexibility to repurchase and retire higher cost junior debt, (vi) increase our
ability to enter into capital leases, (vii) increase the ability of our foreign
subsidiaries to incur debt, (viii) increase our ability to pay dividends and
repurchase common stock, (ix) increase our ability to invest in joint ventures,
(x) allow for the increase in the existing tranche B-1 facility and/or the term
loan A or the addition of a new term loan of up to $275 million in order to
reduce our 10.25 percentage second lien notes, and (xi) make other
modifications.
Following the refinancing, the term loan A facility is payable in twelve
consecutive quarterly installments, commencing June 30, 2009 as follows: $6
million due each of June 30, September 30, December 31, 2009 and March 31, 2010,
$15 million due each of June 30, September 30, December 31, 2010 and March 31,
2011, and $17 million due each of June 30, September 30, December 31, 2011 and
March 16, 2012. The revolving credit facility requires that any amounts drawn,
be repaid by March 2012. Prior to that date, funds may be borrowed, repaid and
reborrowed under the revolving credit facility without premium or penalty.
Letters of credit may be issued under the revolving credit facility.
The tranche B-1 letter of credit/revolving loan facility requires that it
be repaid by March 2014. We can borrow revolving loans and issue letters of
credit under the $130 million tranche B-1 letter of credit/revolving loan
facility. The tranche B-1 letter of credit/revolving loan facility lenders have
deposited $130 million with the administrative agent, who has invested that
amount in time deposits. We do not have an interest in any of the funds on
deposit. When we draw revolving loans under this facility, the loans are funded
from the $130 million on deposit with the administrative agent. When we make
repayments, the repayments are redeposited with the administrative agent.
The tranche B-1 letter of credit/revolving loan facility is reflected as
debt on our balance sheet only if we borrow money under this facility or if we
use the facility to make payments for letters of credit. We will not be liable
for any losses to or misappropriation of any (i) return due to the
administrative agent's failure to achieve the return described above or to pay
all or any portion of such return to any lender under such facility or (ii)
funds on deposit in such account by such lender (other than the obligation to
repay funds released from such accounts and provided to us as revolving loans
under such facility).
Senior Credit Facility -- Interest Rates and Fees. As of March 31, 2008
borrowings under the term loan A facility and the tranche B-1 letter of
credit/revolving loan facility bore interest at an annual rate equal to, at our
option, either (i) the London Interbank Offering Rate plus a margin of 150 basis
points; or (ii) a rate consisting of the greater of the JP Morgan Chase prime
rate or the Federal Funds rate plus 50 basis points, plus a margin of 50 basis
points. The interest margin for borrowings under the term loan A are subject to
adjustment based on the
45
consolidated net leverage ratio (consolidated indebtedness net of cash divided
by consolidated EBITDA as defined in the senior credit facility agreement). The
margin we pay on the term loan A and the tranche B-1 facility is reduced by 25
basis points following each fiscal quarter for which the consolidated net
leverage ratio is less than 2.5 beginning in March 2007, and would increase by
25 basis points following each fiscal quarter for which the consolidated net
leverage ratio exceeds 3.5. There is no cost to us for issuing letters of credit
under the tranche B-1 letter of credit/revolving loan facility, however
outstanding letters of credit reduce our availability to borrow revolving loans
under this portion of the facility. If a letter of credit issued under this
facility is subsequently paid and we do not reimburse the amount paid in full,
then a ratable portion of each lender's deposit would be used to fund the letter
of credit. We pay the tranche B-1 lenders a fee which is equal to LIBOR plus 150
basis points. This fee is offset by the return on the funds deposited with the
administrative agent which earn interest at a per annum rate approximately equal
to LIBOR. Outstanding revolving loans reduce the funds on deposit with the
administrative agent which in turn reduce the earnings of those deposits and
effectively increases our interest expense at a per annum rate equal to LIBOR.
As of March 31, 2008 borrowings under the revolving credit facility bore
interest at an annual rate equal to, at our option, either (i) the London
Interbank Offering Rate plus a margin of 150 basis points; or (ii) a rate
consisting of the greater of the JP Morgan Chase prime rate or the Federal Funds
rate plus 50 basis points, plus a margin of 50 basis points. Letters of credit
issued under the revolving credit facility accrue a letter of credit fee at a
per annum rate of 150 basis points for the pro rata account of the lenders under
such facility and a fronting fee for the ratable account of the issuers thereof
at a per annum rate in an amount to be agreed upon payable quarterly in arrears.
We also pay a commitment fee of 35 basis points on the unused portion of the
revolving credit facility. The interest margins for borrowings and letters of
credit issued under the revolving credit facility are subject to adjustment
based on the consolidated net leverage ratio (consolidated indebtedness net of
cash divided by consolidated EBITDA as defined in the senior credit facility
agreement) measured at the end of each quarter. The margin we pay on the
revolving credit facility is reduced by 25 basis points and the commitment fee
we pay on the revolving credit facility is reduced by 5 basis points following
each fiscal quarter for which the consolidated net leverage ratio is less than
2.5 beginning in March 2007. The margin and the commitment fee would increase by
25 basis points and 2.5 basis points, respectively, following each fiscal
quarter for which the consolidated net leverage ratio exceeds 3.5.
Senior Credit Facility -- Other Terms and Conditions. As described above,
we are highly leveraged. Our refinanced senior credit facility requires that we
maintain financial ratios equal to or better than the following consolidated net
leverage ratio (consolidated indebtedness net of cash divided by consolidated
EBITDA, as defined in the senior credit facility agreement), and consolidated
interest coverage ratio (consolidated EBITDA divided by consolidated interest
expense, as defined under the senior credit facility agreement) at the end of
each period indicated. Failure to maintain these ratios will result in a default
under our senior credit facility. The financial ratios required under the
amended and restated senior credit facility and, the actual ratios we achieved
for the first quarter of 2008, are shown in the following tables:
QUARTER ENDED
-----------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
2008 2008 2008 2008
----------- -------- ------------- ------------
REQ. ACT. REQ. REQ. REQ.
---- ---- -------- ------------- ------------
Leverage Ratio (maximum).................. 4.00 2.79 4.00 4.00 4.00
Interest Coverage Ratio (minimum)......... 2.10 4.06 2.10 2.10 2.10
2009 2010 2011 2012
REQ. REQ. REQ. REQ.
---- ---- ---- ----
Leverage Ratio (maximum)................................. 3.75 3.50 3.50 3.50
Interest Coverage Ratio (minimum)........................ 2.25 2.40 2.55 2.75
The senior credit facility agreement provides the ability to refinance our
senior subordinated notes and/or our senior secured notes in an amount equal to
the sum of (i) the net cash proceeds of equity issued after the closing date
plus (ii) the portion of annual excess cash flow (as defined in the senior
credit facility agreement) that is not required to be applied to the payment of
the credit facilities and which is not used for other purposes, provided that
the amount of the subordinated notes and the aggregate amount of the senior
secured notes and the subordinated notes
46
that may be refinanced is capped based the pro forma consolidated leverage ratio
after giving effect to such refinancing as shown in the following table:
AGGREGATE SENIOR AND
PROFORMA CONSOLIDATED SUBORDINATED NOTES SUBORDINATE NOTE
LEVERAGE RATIO MAXIMUM AMOUNT MAXIMUM AMOUNT
--------------------- ------------------ --------------------
Greater than or equal to 3.0x $50 million $150 million
Greater than or equal to 2.5x $100 million $300 million
Less than 2.5x $125 million $375 million
In addition, the senior secured notes may be refinanced with (i) the net
cash proceeds of incremental facilities and permitted refinancing indebtedness
(as defined in the senior credit facility agreement), (ii) the net cash proceeds
of any new senior or subordinated unsecured indebtedness, (iii) proceeds of
revolving credit loans (as defined in the senior credit facility agreement),
(iv) up to E200 million of unsecured indebtedness of the company's foreign
subsidiaries and (v) cash generated by the company's operations.
The refinanced senior credit facility agreement also contains restrictions
on our operations that are customary for similar facilities, including
limitations on: (i) incurring additional liens; (ii) sale and leaseback
transactions (except for the permitted transactions as described in the amended
and restated agreement); (iii) liquidations and dissolutions; (iv) incurring
additional indebtedness or guarantees; (v) investments and acquisitions; (vi)
dividends and share repurchases; (vii) mergers and consolidations; and (viii)
refinancing of subordinated and 10.25 percent senior secured notes. Compliance
with these requirements and restrictions is a condition for any incremental
borrowings under the senior credit facility agreement and failure to meet these
requirements enables the lenders to require repayment of any outstanding loans.
As of March 31, 2008, we were in compliance with all the financial covenants and
operational restrictions of the facility.
Our senior credit facility does not contain any terms that could accelerate
the payment of the facility as a result of a credit rating agency downgrade.
Senior Secured, Senior and Subordinated Notes. Our outstanding debt also
includes $245 million of 10 1/4 percent senior secured notes due July 15, 2013,
$250 million of 8 1/8 percent senior notes due November 15, 2015, and $500
million of 8 5/8 percent senior subordinated notes due November 15, 2014. We can
redeem some or all of the notes at any time after July 15, 2008 in the case of
the senior secured notes, November 15, 2009 in the case of the senior
subordinated notes and November 15, 2011 in the case of the senior notes. If we
sell certain of our assets or experience specified kinds of changes in control,
we must offer to repurchase the notes. We are permitted to redeem up to 35
percent of the senior notes with the proceeds of certain equity offerings
completed before November 15, 2010.
Our senior secured, senior and subordinated notes require that, as a
condition precedent to incurring certain types of indebtedness not otherwise
permitted, our consolidated fixed charge coverage ratio, as calculated on a
proforma basis, be greater than 2.00. We have not incurred any of the types of
indebtedness not otherwise permitted by the indentures. The indentures also
contain restrictions on our operations, including limitations on: (i) incurring
additional indebtedness or liens; (ii) dividends; (iii) distributions and stock
repurchases; (iv) investments; (v) asset sales and (vi) mergers and
consolidations. Subject to limited exceptions, all of our existing and future
material domestic wholly owned subsidiaries fully and unconditionally guarantee
these notes on a joint and several basis. In addition, the senior secured notes
and related guarantees are secured by second priority liens, subject to
specified exceptions, on all of our and our subsidiary guarantors' assets that
secure obligations under our senior credit facility, except that only a portion
of the capital stock of our subsidiary guarantor's domestic subsidiaries is
provided as collateral and no assets or capital stock of our direct or indirect
foreign subsidiaries secure the notes or guarantees. There are no significant
restrictions on the ability of the subsidiaries that have guaranteed these notes
to make distributions to us. The senior subordinated notes rank junior in right
of payment to our senior credit facility and any future senior debt incurred. As
of March 31, 2008, we were in compliance with the covenants and restrictions of
these indentures.
Accounts Receivable Securitization. In addition to our senior credit
facility, senior secured notes, senior notes and senior subordinated notes, we
also sell some of our accounts receivable on a nonrecourse basis in North
America and Europe. In North America, we have an accounts receivable
securitization program with two commercial banks. We sell original equipment and
aftermarket receivables on a daily basis under this program. We
47
sold accounts receivable under this program of $99 million and $94 million as of
March 31, 2008 and 2007, respectively. This program is subject to cancellation
prior to its maturity date if we (i) fail to pay interest or principal payments
on an amount of indebtedness exceeding $50 million, (ii) default on the
financial covenant ratios under the senior credit facility, or (iii) fail to
maintain certain financial ratios in connection with the accounts receivable
securitization program. In January 2008, this program was renewed for 364 days
to January 26, 2009 at a facility size of $120 million. We also sell some
receivables in our European operations to regional banks in Europe. At March 31,
2008, we sold $72 million of accounts receivable in Europe up from $51 million
at March 31, 2007. The arrangements to sell receivables in Europe are not
committed and can be cancelled at any time. If we were not able to sell
receivables under either the North American or European securitization programs,
our borrowings under our revolving credit agreements may increase. These
accounts receivable securitization programs provide us with access to cash at
costs that are generally favorable to alternative sources of financing, and
allow us to reduce borrowings under our revolving credit agreements.
Capital Requirements. We believe that cash flows from operations, combined
with available borrowing capacity described above, assuming that we maintain
compliance with the financial covenants and other requirements of our loan
agreement, will be sufficient to meet our future capital requirements for the
following year. Our ability to meet the financial covenants depends upon a
number of operational and economic factors, many of which are beyond our
control. Factors that could impact our ability to comply with the financial
covenants include the rate at which consumers continue to buy new vehicles and
the rate at which they continue to repair vehicles already in service, as well
as our ability to successfully implement our restructuring plans and offset
higher raw material prices. Lower North American vehicle production levels,
weakening in the global aftermarket, or a reduction in vehicle production levels
in Europe, beyond our expectations, could impact our ability to meet our
financial covenant ratios. In the event that we are unable to meet these
financial covenants, we would consider several options to meet our cash flow
needs. These options could include renegotiations with our senior credit
lenders, additional cost reduction or restructuring initiatives, sales of assets
or common stock, or other alternatives to enhance our financial and operating
position. Should we be required to implement any of these actions to meet our
cash flow needs, we believe we can do so in a reasonable time frame.
DERIVATIVE FINANCIAL INSTRUMENTS
FOREIGN CURRENCY EXCHANGE RATE RISK
We use derivative financial instruments, principally foreign currency
forward purchase and sale contracts with terms of less than one year, to hedge
our exposure to changes in foreign currency exchange rates. Our primary exposure
to changes in foreign currency rates results from intercompany loans made
between affiliates to minimize the need for borrowings from third parties.
Additionally, we enter into foreign currency forward purchase and sale contracts
to mitigate our exposure to changes in exchange rates on certain intercompany
and third-party trade receivables and payables. We manage counter-party credit
risk by entering into derivative financial instruments with major financial
institutions that can be expected to fully perform under the terms of such
agreements. We do not enter into derivative financial instruments for
speculative purposes.
48
In managing our foreign currency exposures, we identify and aggregate
existing offsetting positions and then hedge residual exposures through third-
party derivative contracts. The following table summarizes by major currency the
notional amounts, weighted-average settlement rates, and fair value for foreign
currency forward purchase and sale contracts as of March 31, 2008. The fair
value of our foreign currency forward contracts is based on an internally
developed model which incorporates observable inputs including quoted spot
rates, forward exchange rates and discounted future expected cash flows
utilizing market interest rates with similar quality and maturity
characteristics. All contracts in the following table mature in 2008.
MARCH 31, 2008
------------------------------------------------------
NOTIONAL AMOUNT WEIGHTED AVERAGE FAIR VALUE IN
IN FOREIGN CURRENCY SETTLEMENT RATES U.S. DOLLARS
------------------- ---------------- -------------
(MILLIONS EXCEPT SETTLEMENT RATES)
Australian dollars................ --Purchase 13 0.914 $ 12
--Sell (4) 0.914 (4)
British pounds.................... --Purchase 63 1.985 125
--Sell (58) 1.985 (115)
European euro..................... --Purchase -- -- --
--Sell (100) 1.579 (158)
South African rand................ --Purchase 383 0.123 47
--Sell (81) 0.123 (10)
U.S. dollars...................... --Purchase 132 1.000 132
--Sell (43) 1.002 (43)
Other............................. --Purchase 414 0.010 4
--Sell -- -- --
-----
$ (10)
=====
INTEREST RATE RISK
Our financial instruments that are sensitive to market risk for changes in
interest rates are primarily our debt securities and our interest rate swaps. We
use our revolving credit facilities to finance our short-term and long-term
capital requirements. We pay a current market rate of interest on these
borrowings. Our long-term capital requirements have been financed with long-term
debt with original maturity dates ranging from five to ten years. On March 31,
2008, we had $1,009 million in long-term debt obligations that have fixed
interest rates. Of that amount, $245 million is fixed through July 2013, $500
million is fixed through November 2014, $250 million is fixed through November
2015, and the remainder is fixed from 2012 through 2025. Of the $245 million,
$150 million has been swapped to floating and we also have $410 million in long-
term debt obligations outstanding under our senior secured credit facility that
are subject to variable interest rates. See Note 3 to the condensed consolidated
financial statements of Tenneco Inc. and Consolidated Subsidiaries.
We estimate that the fair value of our long-term debt at March 31, 2008 was
about 97 percent of its book value. A one percentage point increase or decrease
in interest rates would increase or decrease the annual interest expense we
recognize in the income statement and the cash we pay for interest expense by
about $3 million after tax, excluding the effect of the interest rate swaps we
completed in April 2004.
The fair value of our interest rate swap agreements is $4 million. The fair
value is based on an internally developed model which incorporates observable
inputs including LIBOR yield curves, the credit standing of the counterparties,
nonperformance risk for similar cancelable forward option contracts, and
discounted future expected cash flows utilizing market interest rates based on
instruments with similar credit quality and maturities. A one percentage point
increase or decrease in interest rates on the swaps we completed in April 2004
would increase or decrease the annual interest expense we recognize in the
income statement and the cash we pay for interest expense by approximately $1
million after tax, excluding the effect on interest expense of marking the swaps
to market.
49
ENVIRONMENTAL AND OTHER MATTERS
We are subject to a variety of environmental and pollution control laws and
regulations in all jurisdictions in which we operate. We expense or capitalize,
as appropriate, expenditures for ongoing compliance with environmental
regulations that relate to current operations. We expense costs related to an
existing condition caused by past operations that do not contribute to current
or future revenue generation. We record liabilities when environmental
assessments indicate that remedial efforts are probable and the costs can be
reasonably estimated. Estimates of the liability are based upon currently
available facts, existing technology, and presently enacted laws and regulations
taking into consideration the likely effects of inflation and other societal and
economic factors. We consider all available evidence including prior experience
in remediation of contaminated sites, other companies' cleanup experiences and
data released by the United States Environmental Protection Agency or other
organizations. These estimated liabilities are subject to revision in future
periods based on actual costs or new information. Where future cash flows are
fixed or reliably determinable, we have discounted the liabilities. All other
environmental liabilities are recorded at their undiscounted amounts. We
evaluate recoveries separately from the liability and, when they are assured,
recoveries are recorded and reported separately from the associated liability in
our consolidated financial statements.
As of March 31, 2008, we are designated as a potentially responsible party
in one Superfund site. Including the Superfund site, we may have the obligation
to remediate current or former facilities, and we estimate our share of
environmental remediation costs at these facilities to be approximately $11
million. For the Superfund site and the current and former facilities, we have
established reserves that we believe are adequate for these costs. Although we
believe our estimates of remediation costs are reasonable and are based on the
latest available information, the cleanup costs are estimates and are subject to
revision as more information becomes available about the extent of remediation
required. At some sites, we expect that other parties will contribute to the
remediation costs. In addition, at the Superfund site, the Comprehensive
Environmental Response, Compensation and Liability Act provides that our
liability could be joint and several, meaning that we could be required to pay
in excess of our share of remediation costs. Our understanding of the financial
strength of other potentially responsible parties at the Superfund site, and of
other liable parties at our current and former facilities, has been considered,
where appropriate, in our determination of our estimated liability. We believe
that any potential costs associated with our current status as a potentially
responsible party in the Superfund site, or as a liable party at our current or
former facilities, will not be material to our results of operations or
consolidated financial position.
We also from time to time are involved in legal proceedings, claims or
investigations that are incidental to the conduct of our business. Some of these
proceedings allege damages against us relating to environmental liabilities
(including toxic tort, property damage and remediation), intellectual property
matters (including patent, trademark and copyright infringement, and licensing
disputes), personal injury claims (including injuries due to product failure,
design or warnings issues, and other product liability related matters), taxes,
employment matters, and commercial or contractual disputes, sometimes related to
acquisitions or divestitures. We vigorously defend ourselves against all of
these claims. In future periods, we could be subjected to cash costs or non-cash
charges to earnings if any of these matters is resolved on unfavorable terms.
However, although the ultimate outcome of any legal matter cannot be predicted
with certainty, based on current information, including our assessment of the
merits of the particular claim, we do not expect that these legal proceedings or
claims will have any material adverse impact on our future consolidated
financial position or results of operations.
In addition, we are subject to a number of lawsuits initiated by a
significant number of claimants alleging health problems as a result of exposure
to asbestos. A small percentage of claims have been asserted by railroad workers
alleging exposure to asbestos products in railroad cars manufactured by The
Pullman Company, one of our subsidiaries. Nearly all of the claims are related
to alleged exposure to asbestos in our automotive emission control products.
Only a small percentage of these claimants allege that they were automobile
mechanics and a significant number appear to involve workers in other industries
or otherwise do not include sufficient information to determine whether there is
any basis for a claim against us. We believe, based on scientific and other
evidence, it is unlikely that mechanics were exposed to asbestos by our former
muffler products and that, in any event, they would not be at increased risk of
asbestos-related disease based on their work with these products. Further, many
of these cases involve numerous defendants, with the number of each in some
cases exceeding 200 defendants from a variety of industries. Additionally, the
plaintiffs either do not specify any, or specify the jurisdictional minimum,
dollar
50
amount for damages. As major asbestos manufacturers continue to go out of
business or file for bankruptcy, we may experience an increased number of these
claims. We vigorously defend ourselves against these claims as part of our
ordinary course of business. In future periods, we could be subject to cash
costs or non-cash charges to earnings if any of these matters is resolved
unfavorably to us. To date, with respect to claims that have proceeded
sufficiently through the judicial process, we have regularly achieved favorable
resolution. During the first quarter of 2008, we were dismissed from over 600 of
such cases. Accordingly, we presently believe that these asbestos-related claims
will not have a material adverse impact on our future financial condition or
results of operations.
EMPLOYEE STOCK OWNERSHIP PLANS
We have established Employee Stock Ownership Plans for the benefit of our
employees. Under the plans, subject to limitations in the Internal Revenue Code,
participants may elect to defer up to 75 percent of their salary through
contributions to the plan, which are invested in selected mutual funds or used
to buy our common stock. We currently match in cash 50 percent of each
employee's contribution up to eight percent of the employee's salary. In
connection with freezing the defined benefit pension plans for nearly all U.S.
based salaried and hourly employees effective December 31, 2006, and the related
replacement of those defined benefit plans with defined contribution plans, we
are making additional contributions to the Employee Stock Ownership Plans. We
recorded expense for these matching contributions of approximately $4 million
for the three months ended March 31, 2008 as compared to $3 million for the
three months ended March 31, 2007. Matching contributions vest immediately.
Defined benefit replacement contributions fully vest on the employee's third
anniversary of employment.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For information regarding our exposure to interest rate risk and foreign
currency exchange risk, see the caption entitled "Derivative Financial
Instruments" in "Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations," which is incorporated herein by reference.
51
ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
An evaluation was carried out under the supervision and with the
participation of our management, including our Chief Executive Officer and Chief
Financial Officer, of the effectiveness of our disclosure controls and
procedures (as defined in Rule 13a-15(e) and Rule 15d-15(e) under the Securities
Exchange Act of 1934) as of the end of the period covered by this report. As of
December 31, 2007, we reported a material weakness in our internal control over
financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f))
based upon our evaluation pursuant to Section 404 of the Sarbanes-Oxley Act of
2002. We have taken actions to address the identified weaknesses, but due to the
nature of the material weakness, remediation will not be completed until the
annual tax processes are performed during the 2008 year end close. Consequently,
our March 31, 2008 evaluation concluded that our disclosure controls and
procedures were not effective for the reasons more fully described below related
to the unremediated material weakness. To address this control weakness, we
performed additional analysis and performed other procedures in order to prepare
the unaudited quarterly condensed consolidated financial statements in
accordance with accounting principles generally accepted in the United States of
America. Accordingly, we believe that the condensed consolidated financial
statements included in this Quarterly Report on Form 10-Q fairly present, in all
material respects, our financial condition, results of operations and cash flows
for the periods presented.
INTERNAL CONTROLS SURROUNDING THE ACCOUNTING FOR INCOME TAXES
A material weakness is a deficiency, or combination of control
deficiencies, such that there is a reasonable possibility that a material
misstatement of the annual or interim financial statements will not be prevented
or detected on a timely basis. Management identified a material weakness in our
internal control over financial reporting as of December 31, 2007, related to
our accounting for income taxes. We believe additional controls are needed
related to the oversight and review of tax coordination, documentation and
reporting. We also believe we did not maintain effective controls over the
monitoring of specific balance sheet accounts relating to obligations under a
tax sharing agreement with a former subsidiary, the foreign currency valuation
of foreign affiliate transactions which are subject to changes in exchange
rates, and the accuracy and completeness of the tax components of a foreign
affiliate.
This control deficiency resulted in audit adjustments to the tax accounts
for our financial statements as of December 31, 2007, as our internal controls
did not operate effectively to detect errors that were or could have been,
individually or in the aggregate, material.
REMEDIATION PLAN FOR MATERIAL WEAKNESS IN INTERNAL CONTROL OVER FINANCIAL
REPORTING
To address the material weakness in accounting for income taxes, we will
undertake the following actions during 2008:
1. We will require that all income tax entries approved for recording
at the consolidated level include supporting documentation which will be
provided to the local finance personnel with instructions for recording the
transactions on the local ledgers.
2. We will formalize a process for documenting decisions and journal
entries made based upon the review of tax packages or any other supporting
information provided.
3. Based on review of each entity's quarterly balance sheet and income
tax provision reconciliation, we will identify variances requiring
additional balance sheet and income tax provision reconciliations. The tax
department will institute a process whereby a member of the tax department
will work with the location to review the tax accounting if an analysis of
the balance sheet and income tax provision reconciliation identifies
multiple and/or significant tax reporting variances requiring further
analysis and training.
4. We will accelerate year end tax analysis and reporting activities
to periods earlier in the year in order to provide additional analysis and
reconciliation time.
52
We are in the process of developing additional remediation plans which will
be implemented to address the material weakness in internal controls in
accounting for income taxes. Although the remediation plans include accelerating
the occurrence of many of the controls to earlier in the year, many of the
controls and procedures will only be executed annually during the year-end
closing process. Our assessment of the remediation will remain open until that
time.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
Except as described above, there have been no changes in our internal
control over financial reporting during the quarter ended March 31, 2008, that
have materially affected, or are reasonably likely to materially affect, our
internal control over financial reporting.
53
PART II
ITEM 1A. RISK FACTORS
We are exposed to certain risks and uncertainties that could have a
material adverse impact on our business, financial condition and operating
results. There have been no material changes to the Risk Factors described in
Part I, Item 1A of our Annual Report on Form 10-K for the year ended December
31, 2007.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
(a) None.
(b) Not applicable.
(c) Purchase of equity securities by the issuer and affiliated
purchasers. The following table provides information relating to our purchase
of shares of our common stock in the first quarter of 2008. All of these
purchases reflect shares withheld upon vesting of restricted stock, to satisfy
statutory minimum tax withholding obligations.
TOTAL NUMBER OF AVERAGE
PERIOD SHARES PURCHASED PRICE PAID
------ ---------------- ----------
January 2008........................................ 62,668 $22.93
February 2008....................................... -- --
March 2008.......................................... 1,515 25.02
------
Total............................................. 64,183 $23.06
We presently have no publicly announced repurchase plan or program, but
intend to continue to satisfy statutory minimum tax withholding obligations in
connection with the vesting of outstanding restricted stock through the
withholding of shares.
ITEM 6. EXHIBITS
(a) Exhibits. The exhibits filed with this report are listed on the
Exhibit Index following the signature page of this report, which is incorporated
herein by reference.
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
Tenneco Inc. has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
TENNECO INC.
By: /s/ KENNETH R. TRAMMELL
------------------------------------
Kenneth R. Trammell
Executive Vice President and Chief
Financial Officer
Dated: May 12, 2008
55
INDEX TO EXHIBITS
TO
QUARTERLY REPORT ON FORM 10-Q
FOR QUARTER ENDED MARCH 31, 2008
EXHIBIT
NUMBER DESCRIPTION
------- -----------
*12 -- Computation of Ratio of Earnings to Fixed Charges.
*15 -- Letter of Deloitte and Touche LLP regarding interim financial
information.
*31.1 -- Certification of Gregg Sherrill under Section 302 of the Sarbanes-
Oxley Act of 2002.
*31.2 -- Certification of Kenneth R. Trammell under Section 302 of the
Sarbanes-Oxley Act of 2002.
*32.1 -- Certification of Gregg Sherrill and Kenneth R. Trammell under Section
906 of the Sarbanes-Oxley Act of 2002.
--------
* Filed herewith.
56