EASTMAN CHEMICAL CO - Quarter Report: 2020 March (Form 10-Q)
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
| (Mark One) | ||||||||
| ☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |||||||
| For the quarterly period ended | March 31, 2020 | |||||||
| OR | ||||||||
| ☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |||||||
| For the transition period from ______________ to ______________ | ||||||||
Commission file number 1-12626
EASTMAN CHEMICAL COMPANY
(Exact name of registrant as specified in its charter)
| Delaware | 62-1539359 | |||||||
| (State or other jurisdiction of | (I.R.S. Employer | |||||||
| incorporation or organization) | Identification no.) | |||||||
| 200 South Wilcox Drive | ||||||||
| Kingsport | Tennessee | 37662 | ||||||
| (Address of principal executive offices) | (Zip Code) | |||||||
Registrant's telephone number, including area code: (423) 229-2000
Securities registered pursuant to Section 12(b) of the Act:
| Title of each class | Trading Symbol(s) | Name of each exchange on which registered | ||||||||||||
| Common Stock, par value $0.01 per share | EMN | New York Stock Exchange | ||||||||||||
| 1.50% Notes Due 2023 | EMN23 | New York Stock Exchange | ||||||||||||
| 1.875% Notes Due 2026 | EMN26 | New York Stock Exchange | ||||||||||||
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 ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company," and "emerging growth company" in Rule 12b-2 of the Exchange Act.
| Large accelerated filer | ☒ | Accelerated filer | ☐ | |||||||||||
| Non-accelerated filer | ☐ | Smaller reporting company | ☐ | |||||||||||
| Emerging growth company | ☐ | |||||||||||||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ☐ No ☒
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.
| Class | Number of Shares Outstanding at March 31, 2020 | ||||
| Common Stock, par value $0.01 per share | 135,894,258 | ||||
--------------------------------------------------------------------------------------------------------------------------------
1
TABLE OF CONTENTS
| ITEM | PAGE | |||||||
PART I. FINANCIAL INFORMATION
PART II. OTHER INFORMATION
SIGNATURES
2
FORWARD-LOOKING STATEMENTS
Certain statements made or incorporated by reference in this Quarterly Report are "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act (Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities and Exchange Act of 1934, as amended). Forward-looking statements are all statements, other than statements of historical fact, that may be made by Eastman Chemical Company ("Eastman" or the "Company") from time to time. In some cases, you can identify forward-looking statements by terminology such as "anticipates", "believes", "estimates", "expects", "intends", "may", "plans", "projects", "forecasts", "will", "would", and similar expressions or expressions of the negative of these terms. Forward-looking statements may relate to, among other things, such matters as planned and expected capacity increases and utilization; anticipated capital spending; expected depreciation and amortization; environmental matters and opportunities (including potential risks associated with physical impacts of climate change and related voluntary and regulatory carbon requirements); exposure to, and effects of hedging of, raw material and energy prices and costs; foreign currencies and interest rates; disruption or interruption of operations and of raw material or energy supply; global and regional economic, political, and business conditions; competition; growth opportunities; supply and demand, volume, price, cost, margin and sales; pending and future legal proceedings; earnings, cash flow, dividends, stock repurchases and other expected financial results, events, decisions, and conditions; expectations, strategies, and plans for individual assets and products, businesses, and operating segments, as well as for the whole of Eastman; cash sources and requirements and uses of available cash; financing plans and activities; pension expenses and funding; credit ratings; anticipated and other future restructuring, acquisition, divestiture, and consolidation activities; cost reduction and control efforts and targets; the timing and costs of, benefits from the integration of, and expected business and financial performance of acquired businesses as well as the subsequent impairment assessments of acquired long-lived assets; strategic, technology, and product innovation initiatives and development, production, commercialization and acceptance of new products, services and technologies and related costs; asset, business, and product portfolio changes; and expected tax rates and interest costs.
Forward-looking statements are based upon certain underlying assumptions as of the date such statements were made. Such assumptions are based upon internal estimates and other analyses of current market conditions and trends, management expectations, plans, and strategies, economic conditions, and other factors. Forward-looking statements and the assumptions underlying them are necessarily subject to risks and uncertainties inherent in projecting future conditions and results. Actual results could differ materially from expectations expressed in the forward-looking statements if one or more of the underlying assumptions and expectations proves to be inaccurate or is unrealized. The most significant known factors, risks, and uncertainties that could cause actual results to differ materially from those in the forward-looking statements are identified and discussed under "Management's Discussion and Analysis of Financial Condition and Results of Operations - Risk Factors" in Part I, Item 2 of this Quarterly Report. Other factors, risks or uncertainties of which management is not aware, or presently deems immaterial, could also cause actual results to differ materially from those in the forward-looking statements.
The Company cautions you not to place undue reliance on forward-looking statements, which speak only as of the date such statements are made. Except as may be required by law, the Company undertakes no obligation to update or alter these forward-looking statements, whether as a result of new information, future events, or otherwise. Investors are advised, however, to consult any further public Company disclosures (such as filings with the Securities and Exchange Commission, Company press releases, or pre-noticed public investor presentations) on related subjects.
3
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
UNAUDITED CONSOLIDATED STATEMENTS OF EARNINGS,
COMPREHENSIVE INCOME AND RETAINED EARNINGS
| First Quarter | |||||||||||
| (Dollars in millions, except per share amounts) | 2020 | 2019 | |||||||||
| Sales | $ | 2,241 | $ | 2,380 | |||||||
| Cost of sales | 1,664 | 1,806 | |||||||||
| Gross profit | 577 | 574 | |||||||||
| Selling, general and administrative expenses | 160 | 187 | |||||||||
| Research and development expenses | 61 | 58 | |||||||||
| Asset impairments and restructuring charges, net | 14 | 32 | |||||||||
| Other components of post-employment (benefit) cost, net | (30) | (21) | |||||||||
| Other (income) charges, net | 4 | (2) | |||||||||
| Earnings before interest and taxes | 368 | 320 | |||||||||
| Net interest expense | 52 | 56 | |||||||||
| Earnings before income taxes | 316 | 264 | |||||||||
| Provision for income taxes | 56 | 55 | |||||||||
| Net earnings | 260 | 209 | |||||||||
| Less: Net earnings attributable to noncontrolling interest | 2 | — | |||||||||
| Net earnings attributable to Eastman | $ | 258 | $ | 209 | |||||||
| Basic earnings per share attributable to Eastman | $ | 1.90 | $ | 1.50 | |||||||
| Diluted earnings per share attributable to Eastman | $ | 1.89 | $ | 1.49 | |||||||
| Comprehensive Income | |||||||||||
| Net earnings including noncontrolling interest | $ | 260 | $ | 209 | |||||||
| Other comprehensive income (loss), net of tax: | |||||||||||
| Change in cumulative translation adjustment | 19 | 30 | |||||||||
| Defined benefit pension and other postretirement benefit plans: | |||||||||||
| Amortization of unrecognized prior service credits | (7) | (7) | |||||||||
| Derivatives and hedging: | |||||||||||
| Unrealized gain (loss) during period | 7 | 10 | |||||||||
| Reclassification adjustment for (gains) losses included in net income, net | (2) | (2) | |||||||||
| Total other comprehensive income (loss), net of tax | 17 | 31 | |||||||||
| Comprehensive income including noncontrolling interest | 277 | 240 | |||||||||
| Less: Comprehensive income attributable to noncontrolling interest | 2 | — | |||||||||
| Comprehensive income attributable to Eastman | $ | 275 | $ | 240 | |||||||
| Retained Earnings | |||||||||||
| Retained earnings at beginning of period | $ | 7,965 | $ | 7,573 | |||||||
| Cumulative effect adjustment resulting from adoption of new accounting standards | — | (20) | |||||||||
| Net earnings attributable to Eastman | 258 | 209 | |||||||||
| Cash dividends declared | (90) | (87) | |||||||||
| Retained earnings at end of period | $ | 8,133 | $ | 7,675 | |||||||
The accompanying notes are an integral part of these consolidated financial statements.
4
UNAUDITED CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
| March 31, | December 31, | ||||||||||
| (Dollars in millions, except per share amounts) | 2020 | 2019 | |||||||||
| Assets | |||||||||||
| Current assets | |||||||||||
| Cash and cash equivalents | $ | 680 | $ | 204 | |||||||
| Trade receivables, net of allowance for doubtful accounts | 1,045 | 980 | |||||||||
| Miscellaneous receivables | 391 | 395 | |||||||||
| Inventories | 1,659 | 1,662 | |||||||||
| Other current assets | 76 | 80 | |||||||||
| Total current assets | 3,851 | 3,321 | |||||||||
| Properties | |||||||||||
| Properties and equipment at cost | 13,082 | 12,904 | |||||||||
| Less: Accumulated depreciation | 7,584 | 7,333 | |||||||||
| Net properties | 5,498 | 5,571 | |||||||||
| Goodwill | 4,417 | 4,431 | |||||||||
| Intangible assets, net of accumulated amortization | 1,962 | 2,011 | |||||||||
| Other noncurrent assets | 737 | 674 | |||||||||
| Total assets | $ | 16,465 | $ | 16,008 | |||||||
| Liabilities and Stockholders' Equity | |||||||||||
| Current liabilities | |||||||||||
| Payables and other current liabilities | $ | 1,420 | $ | 1,618 | |||||||
| Borrowings due within one year | 895 | 171 | |||||||||
| Total current liabilities | 2,315 | 1,789 | |||||||||
| Long-term borrowings | 5,399 | 5,611 | |||||||||
| Deferred income tax liabilities | 924 | 915 | |||||||||
| Post-employment obligations | 968 | 1,016 | |||||||||
| Other long-term liabilities | 667 | 645 | |||||||||
| Total liabilities | 10,273 | 9,976 | |||||||||
| Stockholders' equity | |||||||||||
| Common stock ($0.01 par value – 350,000,000 shares authorized; shares issued – 220,050,159 and 219,638,646 for 2020 and 2019, respectively) | 2 | 2 | |||||||||
| Additional paid-in capital | 2,109 | 2,105 | |||||||||
| Retained earnings | 8,133 | 7,965 | |||||||||
| Accumulated other comprehensive income (loss) | (197) | (214) | |||||||||
| 10,047 | 9,858 | ||||||||||
| Less: Treasury stock at cost (84,206,699 shares for 2020 and 83,696,398 shares for 2019) | 3,930 | 3,900 | |||||||||
| Total Eastman stockholders' equity | 6,117 | 5,958 | |||||||||
| Noncontrolling interest | 75 | 74 | |||||||||
| Total equity | 6,192 | 6,032 | |||||||||
| Total liabilities and stockholders' equity | $ | 16,465 | $ | 16,008 | |||||||
The accompanying notes are an integral part of these consolidated financial statements.
5
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
| First Three Months | |||||||||||
| (Dollars in millions) | 2020 | 2019 | |||||||||
| Operating activities | |||||||||||
| Net earnings | $ | 260 | $ | 209 | |||||||
| Adjustments to reconcile net earnings to net cash provided by operating activities: | |||||||||||
| Depreciation and amortization | 139 | 155 | |||||||||
| Asset impairment charges | 9 | — | |||||||||
| Provision for deferred income taxes | 12 | 4 | |||||||||
| Changes in operating assets and liabilities, net of effect of acquisitions and divestitures: | |||||||||||
| (Increase) decrease in trade receivables | (72) | (149) | |||||||||
| (Increase) decrease in inventories | (18) | (122) | |||||||||
| Increase (decrease) in trade payables | (104) | (42) | |||||||||
| Pension and other postretirement contributions (in excess of) less than expenses | (52) | (36) | |||||||||
| Variable compensation (in excess of) less than expenses | (74) | (77) | |||||||||
| Other items, net | 71 | 53 | |||||||||
| Net cash provided by (used in) operating activities | 171 | (5) | |||||||||
| Investing activities | |||||||||||
| Additions to properties and equipment | (99) | (106) | |||||||||
| Acquisitions, net of cash acquired | — | (19) | |||||||||
| Other items, net | (2) | — | |||||||||
| Net cash used in investing activities | (101) | (125) | |||||||||
| Financing activities | |||||||||||
| Net increase (decrease) in commercial paper and other borrowings | 539 | 370 | |||||||||
| Proceeds from borrowings | — | 125 | |||||||||
| Repayment of borrowings | — | (175) | |||||||||
| Dividends paid to stockholders | (90) | (87) | |||||||||
| Treasury stock purchases | (30) | (125) | |||||||||
| Other items, net | (11) | (6) | |||||||||
| Net cash provided by financing activities | 408 | 102 | |||||||||
| Effect of exchange rate changes on cash and cash equivalents | (2) | (3) | |||||||||
| Net change in cash and cash equivalents | 476 | (31) | |||||||||
| Cash and cash equivalents at beginning of period | 204 | 226 | |||||||||
| Cash and cash equivalents at end of period | $ | 680 | $ | 195 | |||||||
The accompanying notes are an integral part of these consolidated financial statements.
6
| Page | ||||||||
7
1.SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying unaudited consolidated financial statements have been prepared by Eastman Chemical Company ("Eastman" or the "Company") in accordance and consistent with the accounting policies stated in the Company's 2019 Annual Report on Form 10-K, and should be read in conjunction with the consolidated financial statements in Part II, Item 8 of that report, with the exception of the items noted below. The December 31, 2019 financial position data included herein was derived from the audited consolidated financial statements included in the 2019 Annual Report on Form 10-K but does not include all disclosures required by accounting principles generally accepted in the United States ("GAAP").
In the opinion of management, the unaudited consolidated financial statements include all normal recurring adjustments necessary for fair statement of the interim financial information in conformity with GAAP. These statements contain some amounts that are based upon management estimates and judgments. Future actual results could differ from such current estimates. The unaudited consolidated financial statements include assets, liabilities, sales revenue, and expenses of all majority-owned subsidiaries and joint ventures in which a controlling interest is maintained. Eastman accounts for other joint ventures and investments where it exercises significant influence on the equity basis. Intercompany transactions and balances are eliminated in consolidation. Certain prior period data has been reclassified in the consolidated financial statements and accompanying footnotes to conform to current period presentation.
Recently Adopted Accounting Standards
Accounting Standards Update ("ASU") 2016-13 Financial Instruments - Credit Losses: On January 1, 2020, Eastman adopted this standard, and related releases, under the various required transition methods. The amendments require a financial asset (including trade receivables) to be presented at the net amount expected to be collected through the use of allowances for credit losses valuation account. The income statement will reflect the measurement of credit losses for newly recognized financial assets, as well as the expected increases or decreases of expected credit losses that have taken place during the period. The adoption of this standard did not result in a material impact on the Company's financial statements and related disclosures.
ASU 2018-13 Fair Value Measurement - Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement: On January 1, 2020, Eastman adopted this standard that is a part of the Financial Accounting Standards Board's ("FASB") disclosure framework project to improve the effectiveness of disclosures in the notes to financial statements. The primary changes applicable to Eastman in this update are the disclosures of fair value levels, assessment thereof, and transfers between those levels. The adoption under the various required transition methods did not impact the Company's related disclosures.
ASU 2018-18 Collaborative Arrangements - Clarifying the Interaction between Topic 808 (Collaborative Arrangements) and Topic 606 (Revenue from Contracts with Customers): On January 1, 2020, Eastman adopted this standard, retrospectively to the date of the initial application of Topic 606 on January 1, 2017, that provides clarification in regards to which contracts are accounted for under Topic 808 and Topic 606 as well as alignment of guidance between the two pronouncements. The adoption of this standard did not impact the Company's financial statements and related disclosures.
ASU 2019-01 Leases - Codification Improvements: On January 1, 2020, Eastman adopted this standard which was applied as of the adoption date and under the same transition methodology of ASU 2016-02 Lease previously adopted on January 1, 2019. The FASB issued this update in response to stakeholder inquiries regarding the new leasing standard. The adoption of this standard did not impact the Company's financial statements and related disclosures.
ASU 2020-04 Reference Rate Reform (Topic 848) - Facilitation of the Effects of Reference Rate Reform on Financial Reporting: Eastman adopted this standard when issued and effective on March 12, 2020. The FASB issued this update to provide optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform (the global financial markets transition in contracts, hedging relationships, and other transactions away from referencing the London Interbank Offered Rate (LIBOR) and other interbank offered rates and toward new reference rates) on financial reporting. As reference reform has not impacted Eastman as of the issuance and effective date, the adoption of this standard did not impact the Company's financial statements and related disclosures.
8
Accounting Standards Issued But Not Adopted as of March 31, 2020
ASU 2018-14 Retirement Benefits - Disclosure Framework - Changes to the Disclosure Requirements for Defined Benefit Plans: In August 2018, the FASB issued this update as a part of its disclosure framework project to improve the effectiveness of disclosures in the notes to financial statements. The primary change impacting Eastman is the addition of disclosures related to significant gains and losses related to changes in the benefit obligation for the period and weighted-average interest crediting rates for cash balance plans. This standard is effective for fiscal years ending after December 15, 2020 and early adoption is permitted. Upon adoption, this update is to be applied on a retrospective basis to all periods presented. Management does not expect that changes required by the new standard will materially impact the Company's related disclosures.
ASU 2019-12 Income Taxes - Simplifying the Accounting for Income Taxes: In December 2019, the FASB issued this update as part of its initiative to reduce complexity in accounting standards which removes certain exceptions and provides simplification to specific tax items. This standard is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2020. Early adoption is permitted, including adoption in any interim period for which financial statements have not yet been issued. Adoption methods vary based on the specific items impacted. Management is currently evaluating the impact on the Company's financial statements and related disclosures.
ASU 2020-01 Investments - Equity Securities (Topic 321), Investments - Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815) - Clarifying the Interactions between Topic 321, Topic 323, and Topic 815: In January 2020, the FASB issued a clarification that an entity should consider observable transactions that require the application or discontinuance of the equity method of accounting for the purposes of applying the measurement alternative and clarification that certain forward contracts and purchased options to purchase securities that, upon settlement, would be accounted for under the equity method of accounting. This standard is effective for fiscal years beginning after December 15, 2020, and interim periods within those fiscal years. Early adoption is permitted, including adoption in any interim period for which financial statements have not yet been issued. The update is to be applied prospectively. Management does not expect that changes required by the new standard will materially impact the Company's financial statements and related disclosures.
Working Capital Management and Off Balance Sheet Arrangements
In 2019, the Company expanded its off balance sheet, uncommitted accounts receivable factoring program under which entire invoices may be sold, without recourse, to third-party financial institutions. Under these agreements, the Company sells the invoices at face value, less a transaction fee, which substantially equals the carrying value and fair value with no gain or loss recognized and no credit loss exposure is retained. Available capacity under these agreements, which the Company uses as a source of working capital funding, is dependent on the level of accounts receivable eligible to be sold and the financial institutions' willingness to purchase such receivables. In addition, certain agreements also require that the Company continue to service, administer, and collect the sold accounts receivable at market rates. The total amount of receivables sold in first quarter 2020 and 2019 were $457 million and $101 million, respectively.
The Company works with suppliers to optimize payment terms and conditions on accounts payable to enhance timing of working capital and cash flows. As part of these efforts, in 2019, the Company introduced a voluntary supply chain finance program to provide suppliers with the opportunity to sell receivables due from Eastman to a participating financial institution. Eastman's responsibility is limited to making payments on the terms originally negotiated with suppliers, regardless of whether the suppliers sells their receivables to the financial institution. The range of payment terms Eastman negotiates with suppliers are consistent, regardless of whether a supplier participates in the program. All of Eastman's accounts payable and associated payments are reported consistently in the Company's Consolidated Statements of Financial Position and Consolidated Statements of Cash Flows regardless of whether they are associated with a vendor who participates in the program.
9
2.INVENTORIES
| March 31, | December 31, | ||||||||||
| (Dollars in millions) | 2020 | 2019 | |||||||||
| Finished goods | $ | 1,138 | $ | 1,114 | |||||||
| Work in process | 221 | 220 | |||||||||
| Raw materials and supplies | 548 | 576 | |||||||||
| Total inventories at FIFO or average cost | 1,907 | 1,910 | |||||||||
| Less: LIFO reserve | 248 | 248 | |||||||||
| Total inventories | $ | 1,659 | $ | 1,662 | |||||||
Inventories valued on the last-in, first-out ("LIFO") method were approximately 50 percent of total inventories at both March 31, 2020 and December 31, 2019.
3.PAYABLES AND OTHER CURRENT LIABILITIES
| March 31, | December 31, | ||||||||||
| (Dollars in millions) | 2020 | 2019 | |||||||||
| Trade creditors | $ | 770 | $ | 890 | |||||||
| Accrued payroll and variable compensation | 127 | 176 | |||||||||
| Accrued taxes | 79 | 89 | |||||||||
| Post-employment obligations | 84 | 93 | |||||||||
| Dividends payable to shareholders | 90 | 90 | |||||||||
| Other | 270 | 280 | |||||||||
| Total payables and other current liabilities | $ | 1,420 | $ | 1,618 | |||||||
"Other" consists primarily of accruals for interest payable, the current portion of operating lease liabilities, the current portion of derivative hedging liabilities, the current portion of environmental liabilities, and miscellaneous accruals.
4.INCOME TAXES
| First Quarter | |||||||||||||||||||||||
| (Dollars in millions) | 2020 | 2019 | |||||||||||||||||||||
| $ | % | $ | % | ||||||||||||||||||||
| Provision for income taxes and tax rate | $ | 56 | 18 | % | $ | 55 | 21 | % | |||||||||||||||
First quarter 2019 effective tax rate included adjustments to the tax provision to reflect planned amendments to and expected finalization of a prior year's income tax return in a foreign jurisdiction resulting in a higher effective tax rate compared to first quarter 2020.
At March 31, 2020, Eastman had $202 million in unrecognized tax benefits. At the end of the first quarter, it is reasonably possible that, as a result of the resolution of federal, state, and foreign examinations and appeals, and the expiration of various statutes of limitation, the total amounts of unrecognized tax benefits could decrease by $28 million within the next 12 months.
10
5.BORROWINGS
| March 31, | December 31, | ||||||||||
| (Dollars in millions) | 2020 | 2019 | |||||||||
| Borrowings consisted of: | |||||||||||
| 4.5% notes due January 2021 | $ | 185 | $ | 185 | |||||||
| 3.5% notes due December 2021 | 298 | 298 | |||||||||
| 3.6% notes due August 2022 | 741 | 741 | |||||||||
1.50% notes due May 2023 (1) | 821 | 840 | |||||||||
| 7 1/4% debentures due January 2024 | 198 | 198 | |||||||||
| 7 5/8% debentures due June 2024 | 43 | 43 | |||||||||
| 3.8% notes due March 2025 | 700 | 695 | |||||||||
1.875% notes due November 2026 (1) | 543 | 556 | |||||||||
| 7.60% debentures due February 2027 | 195 | 195 | |||||||||
| 4.5% notes due December 2028 | 493 | 493 | |||||||||
| 4.8% notes due September 2042 | 493 | 493 | |||||||||
| 4.65% notes due October 2044 | 874 | 874 | |||||||||
| Commercial paper and short-term borrowings | 310 | 171 | |||||||||
| Credit facilities borrowings | 400 | — | |||||||||
| Total borrowings | 6,294 | 5,782 | |||||||||
| Borrowings due within one year | 895 | 171 | |||||||||
| Long-term borrowings | $ | 5,399 | $ | 5,611 | |||||||
(1)The carrying value of the euro-denominated 1.50% notes due May 2023 and 1.875% notes due November 2026 will fluctuate with changes in the euro exchange rate. The carrying value of these euro-denominated borrowings have been designated as non-derivative net investment hedges of a portion of the Company's net investments in euro functional-currency denominated subsidiaries to offset foreign currency fluctuations.
Revolving Credit Facilities and Commercial Paper Borrowings
The Company has access to a $1.50 billion revolving credit agreement (the "Credit Facility") expiring October 2023. Borrowings under the Credit Facility are subject to interest at varying spreads above quoted market rates and a commitment fee is paid on the total unused commitment. The Credit Facility provides available liquidity for general corporate purposes and supports commercial paper borrowings. Commercial paper borrowings are classified as short-term. At March 31, 2020, the Company's borrowings under the Credit Facility were $400 million with an interest rate of 2.17 percent. At December 31, 2019, the Company had no outstanding borrowings under the Credit Facility. At March 31, 2020, the Company's commercial paper borrowings were $310 million with a weighted average interest rate of 3.13 percent. At December 31, 2019, the Company's commercial paper borrowings were $170 million with a weighted average interest rate of 2.03 percent.
The Company had access to up to $250 million under an accounts receivable securitization agreement (the "A/R Facility") which expired April 2020. Eastman Chemical Financial Corporation ("ECFC"), a subsidiary of the Company, had an agreement to sell interests in trade receivables under the A/R Facility to a third party purchaser. Third party creditors of ECFC had first priority claims on the assets of ECFC before those assets would be available to satisfy the Company's general obligations. Borrowings under the A/R Facility were subject to interest rates based on a spread over the lender's borrowing costs, and ECFC paid a fee to maintain availability of the A/R Facility. In first quarter 2020, the Company borrowed a total of $350 million under the A/R Facility and repaid a total of $350 million using available cash. At March 31, 2020 and December 31, 2019, the Company had no borrowings outstanding under the A/R Facility.
The Credit Facility and A/R Facility contain customary covenants, including requirements to maintain certain financial ratios, that determine the events of default, amounts available, and terms of borrowings. The Company was in compliance with all covenants at both March 31, 2020 and December 31, 2019.
11
Fair Value of Borrowings
Eastman has classified its total borrowings at March 31, 2020 and December 31, 2019 under the fair value hierarchy as defined in the accounting policies in Note 1, "Significant Accounting Policies", to the consolidated financial statements in Part II, Item 8 of the Company's 2019 Annual Report on Form 10-K. The fair value for fixed-rate debt securities is based on quoted market prices for the same or similar debt instruments and is classified as Level 2. The fair value for the Company's other borrowings, primarily under the Credit Facility and commercial paper, equals the carrying value and is classified as Level 2. At March 31, 2020 and December 31, 2019, the fair value of total borrowings was $6.606 billion and $6.275 billion, respectively. The Company had no borrowings classified as Level 3 as of March 31, 2020 and December 31, 2019.
Subsequent Actions
In April 2020, the Company borrowed $250 million under a new 364-Day Term Loan Credit Agreement (the "Term Loan") as a precautionary measure due to increased financial market volatility, particularly in the availability and terms of commercial paper, resulting from the COVID-19 coronavirus global pandemic ("COVID-19"). Borrowings under the Term Loan are subject to interest at varying spreads above quoted market rates depending on the Company's public debt rating and with principal and accrued interest payable April 2021. The Term Loan contains the same customary covenants and events of default, including maintenance of certain financial ratios, as the Credit Facility, with payment of customary fees.
Additionally, the Company amended the Credit Facility and the Term Loan maximum debt covenants to reflect the higher cash balance to enhance liquidity due to, and the expected negative impact on operating results of, COVID-19 and added a new restrictive covenant prohibiting stock repurchases until June 30, 2021 in the event certain financial ratios are exceeded.
6.DERIVATIVE AND NON-DERIVATIVE FINANCIAL INSTRUMENTS
Overview of Hedging Programs
Eastman is exposed to market risks, such as changes in foreign currency exchange rates, commodity prices, and interest rates. To mitigate these market risks and their effects on the cash flows of the underlying transactions and investments in foreign subsidiaries, the Company uses various derivative and non-derivative financial instruments, when appropriate, in accordance with the Company's hedging strategy and policies. Designation is performed on a specific exposure basis to support hedge accounting. The Company does not enter into derivative transactions for speculative purposes.
For further information on hedging programs, see Note 9, "Derivative and Non-Derivative Financial Instruments", to the consolidated financial statements in Part II, Item 8 of the Company's 2019 Annual Report on Form 10-K.
Cash Flow Hedges
Cash flow hedges are derivative instruments designated as and used to hedge the exposure to variability in expected future cash flows that are attributable to a particular risk. The derivative instruments that are designated and qualify as a cash flow hedge are reported on the balance sheet at fair value and the changes in fair value of these hedging instruments are offset in part or in whole by corresponding changes in the anticipated cash flows of the underlying exposures being hedged. The change in the hedge instrument is reported as a component of Accumulated other comprehensive income (loss) ("AOCI") located in the Unaudited Consolidated Statements of Financial Position and reclassified in earnings in the same period or periods during which the hedged transaction affects earnings. Cash flows from cash flow hedges are classified as operating activities in the Unaudited Consolidated Statements of Cash Flows.
In first quarter 2020, Eastman entered into a forward-starting interest rate swap with a total notional amount of $25 million to mitigate the risk of variability in interest rates for an expected long-term debt issuance by August 2022. This swap was designated as a cash flow hedge and will be settled upon debt issuance.
12
Fair Value Hedges
Fair value hedges are defined as derivative or non-derivative instruments designated as and used to hedge the exposure to changes in the fair value of an asset or a liability or an identified portion thereof that is attributable to a particular risk. The derivative instruments that are designated and qualify as fair value hedges are recognized on the balance sheet at fair value and the changes in fair value of these hedging instruments are offset in part or in whole by corresponding changes in the anticipated fair value of the underlying exposures being hedged. The net of the change in the hedge instrument and item being hedged for qualifying fair value hedges is recognized in earnings in the same period or periods during which the hedged transaction affects earnings. Cash flows from fair value hedges are classified as operating activities in the Unaudited Consolidated Statements of Cash Flows.
Net Investment Hedges
Net investment hedges are defined as derivative or non-derivative instruments designated as and used to hedge the foreign currency exposure of the net investments in certain foreign operations. The net of the change in the hedge instrument and item being hedged for qualifying net investment hedges is reported as a component of the "Cumulative Translation Adjustment" ("CTA") within AOCI located in the Unaudited Consolidated Statements of Financial Position. Cash flows from the CTA component are classified as operating activities in the Unaudited Consolidated Statements of Cash Flows. Recognition in earnings of amounts previously recognized in CTA is limited to circumstances such as complete or substantially complete liquidation of the net investment in the hedged foreign operation. In the event of a complete or substantially complete liquidation of the net investment, cash flows from net investment hedges are classified as investing activities in the Unaudited Consolidated Statements of Cash Flows.
For derivative cross-currency interest rate swap net investment hedges, gains and losses representing hedge components excluded from the assessment of effectiveness are recognized in CTA within AOCI and recognized in earnings through the periodic swap interest accruals. The cross-currency interest rate swaps designated as net investment hedges are included as part of "Other long-term liabilities" or "Other noncurrent assets" within the Unaudited Consolidated Statements of Financial Position. Cash flows from excluded components are classified as operating activities in the Unaudited Consolidated Statements of Cash Flows.
13
Summary of Financial Position and Financial Performance of Hedging Instruments
The following table presents the notional amounts outstanding at March 31, 2020 and December 31, 2019 associated with Eastman's hedging programs.
| Notional Outstanding | March 31, 2020 | December 31, 2019 | |||||||||||||||
| Derivatives designated as cash flow hedges: | |||||||||||||||||
| Foreign Exchange Forward and Option Contracts (in millions) | |||||||||||||||||
| EUR/USD (in EUR) | €585 | €630 | |||||||||||||||
| Commodity Forward and Collar Contracts | |||||||||||||||||
| Feedstock (in million barrels) | 1 | 1 | |||||||||||||||
| Energy (in million british thermal units) | 21 | 27 | |||||||||||||||
| Interest rate swaps for the future issuance of debt (in millions) | $25 | — | |||||||||||||||
| Derivatives designated as fair value hedges: | |||||||||||||||||
| Fixed-for-floating interest rate swaps (in millions) | $75 | $75 | |||||||||||||||
| Derivatives designated as net investment hedges: | |||||||||||||||||
| Cross-currency interest rate swaps (in millions) | |||||||||||||||||
| EUR/USD (in EUR) | €851 | €851 | |||||||||||||||
| Non-derivatives designated as net investment hedges: | |||||||||||||||||
| Foreign Currency Net Investment Hedges (in millions) | |||||||||||||||||
| EUR/USD (in EUR) | €1,243 | €1,243 | |||||||||||||||
Fair Value Measurements
All the Company's derivative assets and liabilities are currently classified as Level 2. Level 2 fair value is based on estimates using standard pricing models. These standard pricing models use inputs that are derived from or corroborated by observable market data such as interest rate yield curves and currency spot and forward rates. The fair value of commodity contracts is derived using forward curves supplied by an industry recognized and unrelated third party. In addition, on an ongoing basis, the Company tests a subset of its valuations against valuations received from transaction counterparties to validate the accuracy of its standard pricing models. Counterparties to these derivative contracts are highly rated financial institutions which the Company believes carry minimal risk of nonperformance, and the Company diversifies its positions among such counterparties to reduce its exposure to counterparty risk and credit losses. The Company monitors the creditworthiness of its counterparties on an ongoing basis. The Company did not recognize a credit loss during first quarter 2020 or 2019.
All the Company's derivative contracts are subject to master netting arrangements, or similar agreements, which provide for the option to settle contracts on a net basis when they settle on the same day and in the same currency. In addition, these arrangements provide for a net settlement of all contracts with a given counterparty in the event that the arrangement is terminated due to the occurrence of default or a termination event. The Company does not have any cash collateral due under such agreements.
14
The Company has elected to present derivative contracts on a gross basis within the Unaudited Consolidated Statements of Financial Position. The following table presents the financial assets and liabilities valued on a recurring and gross basis and includes where the financial assets and liabilities are located within the Unaudited Consolidated Statements of Financial Position as of March 31, 2020 and December 31, 2019.
| The Financial Position and Fair Value Measurements of Hedging Instruments on a Gross Basis | ||||||||||||||||||||
| (Dollars in millions) | ||||||||||||||||||||
| Derivative Type | Statements of Financial Position Classification | March 31, 2020 Level 2 | December 31, 2019 Level 2 | |||||||||||||||||
| Derivatives designated as cash flow hedges: | ||||||||||||||||||||
| Foreign exchange contracts | Other current assets | $ | 18 | $ | 13 | |||||||||||||||
| Foreign exchange contracts | Other noncurrent assets | 11 | 2 | |||||||||||||||||
| Derivatives designated as fair value hedges: | ||||||||||||||||||||
| Fixed-for-floating interest rate swap | Other noncurrent assets | 4 | 1 | |||||||||||||||||
| Derivatives designated as net investment hedges: | ||||||||||||||||||||
| Cross-currency interest rate swaps | Other current assets | 17 | — | |||||||||||||||||
| Cross-currency interest rate swaps | Other noncurrent assets | 110 | 68 | |||||||||||||||||
| Total Derivative Assets | $ | 160 | $ | 84 | ||||||||||||||||
| Derivatives designated as cash flow hedges: | ||||||||||||||||||||
| Commodity contracts | Payables and other current liabilities | $ | 22 | $ | 26 | |||||||||||||||
| Commodity contracts | Other long-term liabilities | 1 | 2 | |||||||||||||||||
| Foreign exchange contracts | Payables and other current liabilities | — | 1 | |||||||||||||||||
| Foreign exchange contracts | Other long-term liabilities | — | 2 | |||||||||||||||||
| Forward starting interest rate swap contracts | Other long-term liabilities | 1 | — | |||||||||||||||||
| Derivatives designated as fair value hedges: | ||||||||||||||||||||
| Fixed-for-floating interest rate swap | Long-term borrowings | — | 1 | |||||||||||||||||
| Total Derivative Liabilities | $ | 24 | $ | 32 | ||||||||||||||||
| Total Net Derivative Assets (Liabilities) | $ | 136 | $ | 52 | ||||||||||||||||
In addition to the fair value associated with derivative instruments designated as cash flow hedges, fair value hedges, and net investment hedges noted in the table above, the Company had non-derivative instruments designated as foreign currency net investment hedges with a carrying value of $1.4 billion at both March 31, 2020 and December 31, 2019. The designated foreign currency-denominated borrowings are included as part of "Long-term borrowings" within the Unaudited Consolidated Statements of Financial Position.
For additional fair value measurement information, see Note 1, "Significant Accounting Policies", and Note 9, "Derivative and Non-Derivative Financial Instruments", to the consolidated financial statements in Part II, Item 8 of the Company's 2019 Annual Report on Form 10-K.
15
As of March 31, 2020 and December 31, 2019, the following amounts were included on the Unaudited Consolidated Statements of Financial Position related to cumulative basis adjustments for fair value hedges.
| (Dollars in millions) | Carrying amount of the hedged liabilities | Cumulative amount of fair value hedging loss adjustment included in the carrying amount of the hedged liability | ||||||||||||||||||||||||
| Line item in the Unaudited Consolidated Statements of Financial Position in which the hedged item is included | March 31, 2020 | December 31, 2019 | March 31, 2020 | December 31, 2019 | ||||||||||||||||||||||
Long-term borrowings (1) | $ | 770 | $ | 763 | $ | (2) | $ | (7) | ||||||||||||||||||
(1)At March 31, 2020 and December 31, 2019, the cumulative amount of fair value hedging loss adjustment remaining for hedged liabilities for which hedge accounting has been discontinued was $6 million and $7 million, respectively.
The following table presents the effect of the Company's hedging instruments on "Other comprehensive income (loss), net of tax" ("OCI") and financial performance for first quarter 2020 and 2019.
| Change in amount of after tax gain (loss) recognized in OCI on derivatives | Pre-tax amount of gain (loss) reclassified from OCI into earnings | |||||||||||||||||||||||||
| (Dollars in millions) | First Quarter | First Quarter | ||||||||||||||||||||||||
| Hedging Relationships | 2020 | 2019 | 2020 | 2019 | ||||||||||||||||||||||
| Derivatives in cash flow hedging relationships: | ||||||||||||||||||||||||||
| Commodity contracts | $ | (9) | $ | 7 | $ | (1) | $ | (3) | ||||||||||||||||||
| Foreign exchange contracts | 13 | 1 | 6 | 6 | ||||||||||||||||||||||
| Forward starting interest rate and treasury lock swap contracts | 1 | 1 | (2) | (1) | ||||||||||||||||||||||
| Non-derivatives in net investment hedging relationships (pre-tax): | ||||||||||||||||||||||||||
| Net investment hedges | 33 | 26 | — | — | ||||||||||||||||||||||
| Derivatives in net investment hedging relationships (pre-tax): | ||||||||||||||||||||||||||
| Cross-currency interest rate swaps | 18 | 19 | — | — | ||||||||||||||||||||||
| Cross-currency interest rate swaps excluded component | 41 | 6 | — | — | ||||||||||||||||||||||
16
The following table presents the effect of fair value and cash flow hedge accounting on the Unaudited Consolidated Statements of Earnings, Comprehensive Income and Retained Earnings for first quarter 2020 and 2019.
| Location and Amount of Gain or (Loss) Recognized in Earnings on Fair Value and Cash Flow Hedging Relationships | ||||||||||||||||||||||||||||||||||||||
| First Quarter | ||||||||||||||||||||||||||||||||||||||
| 2020 | 2019 | |||||||||||||||||||||||||||||||||||||
| (Dollars in millions) | Sales | Cost of Sales | Net Interest Expense | Sales | Cost of Sales | Net Interest Expense | ||||||||||||||||||||||||||||||||
| Total amounts of income and expense line items presented in the Unaudited Consolidated Statements of Earnings, Comprehensive Income and Retained Earnings in which the effects of fair value or cash flow hedges are recognized | $ | 2,241 | $ | 1,664 | $ | 52 | $ | 2,380 | $ | 1,806 | $ | 56 | ||||||||||||||||||||||||||
| The effects of fair value and cash flow hedging: | ||||||||||||||||||||||||||||||||||||||
| Gain or (loss) on cash flow hedging relationships: | ||||||||||||||||||||||||||||||||||||||
| Interest contracts (forward starting interest rate and treasury lock swap contracts): | ||||||||||||||||||||||||||||||||||||||
| Amount reclassified from AOCI into earnings | (2) | (1) | ||||||||||||||||||||||||||||||||||||
| Commodity Contracts: | ||||||||||||||||||||||||||||||||||||||
| Amount reclassified from AOCI into earnings | (1) | (3) | ||||||||||||||||||||||||||||||||||||
| Foreign Exchange Contracts: | ||||||||||||||||||||||||||||||||||||||
| Amount reclassified from AOCI into earnings | 6 | 6 | ||||||||||||||||||||||||||||||||||||
The Company enters into foreign exchange derivatives denominated in multiple currencies which are transacted and settled in the same quarter. These derivatives are not designated as hedges due to the short-term nature and the gains or losses on these derivatives are marked-to-market in line item "Other (income) charges, net" of the Unaudited Consolidated Statements of Earnings, Comprehensive Income and Retained Earnings. The Company recognized a net gain on these derivatives of $7 million and a net loss on these derivatives of $3 million during first quarter 2020 and 2019, respectively.
Pre-tax monetized positions and mark-to-market gains and losses from raw materials and energy, currency, and certain interest rate hedges that were included in AOCI included net gains of $32 million and net losses of $50 million at March 31, 2020 and December 31, 2019, respectively. Gains recognized between March 31, 2020 and December 31, 2019 primarily resulted from a decrease in foreign currency exchange rates associated with the euro, partially offset by commodity price decreases. If recognized, approximately $29 million in pre-tax losses, as of March 31, 2020, would be reclassified into earnings during the next 12 months.
7.RETIREMENT PLANS
Defined Benefit Pension Plans and Other Postretirement Benefit Plans
Eastman maintains defined benefit pension plans that provide eligible employees with retirement benefits. In addition, Eastman provides life insurance for eligible retirees hired prior to January 1, 2007. The Company provides a subsidy for pre-Medicare health care and dental benefits to eligible retirees hired prior to January 1, 2007 that will end on December 31, 2021. Company funding is also provided for eligible Medicare retirees hired prior to January 1, 2007 with a health reimbursement arrangement. Costs recognized for these benefits are estimated amounts, which may change as actual costs for the year are determined.
For additional information regarding retirement plans, see Note 10, "Retirement Plans", to the consolidated financial statements in Part II, Item 8 of the Company's 2019 Annual Report on Form 10-K.
17
Components of net periodic benefit (credit) cost were as follows:
| First Quarter | |||||||||||||||||||||||||||||||||||
| Pension Plans | Other Postretirement Benefit Plans | ||||||||||||||||||||||||||||||||||
| 2020 | 2019 | 2020 | 2019 | ||||||||||||||||||||||||||||||||
| (Dollars in millions) | U.S. | Non-U.S. | U.S. | Non-U.S. | |||||||||||||||||||||||||||||||
| Service cost | $ | 7 | $ | 4 | $ | 7 | $ | 3 | $ | — | $ | — | |||||||||||||||||||||||
| Interest cost | 14 | 4 | 19 | 5 | 5 | 6 | |||||||||||||||||||||||||||||
| Expected return on assets | (34) | (8) | (32) | (8) | (1) | (1) | |||||||||||||||||||||||||||||
| Amortization of: | |||||||||||||||||||||||||||||||||||
| Prior service credit, net | — | — | — | — | (10) | (10) | |||||||||||||||||||||||||||||
| Net periodic benefit (credit) cost | $ | (13) | $ | — | $ | (6) | $ | — | $ | (6) | $ | (5) | |||||||||||||||||||||||
8.LEASES AND OTHER COMMITMENTS
Leases
There are two types of leases: finance and operating. Both types of leases have associated right-to-use assets and lease liabilities that are valued at the present value of the lease payments and recognized on the Unaudited Consolidated Statements of Financial Position. The discount rate used in the measurement of a right-to-use asset and lease liability is the rate implicit in the lease whenever that rate is readily determinable. If the rate implicit in the lease is not readily determinable, the collateralized incremental borrowing rate is used. The Company elected the accounting policy not to apply the recognition and measurement requirements to short-term leases with a term of 12 months or less and do not include a bargain purchase option.
The Company has operating leases, as a lessee, with customary terms that do not include: significant variable lease payments; significant reasonably certain extensions or options required to be included in the lease term; restrictions; or other covenants for real property, rolling stock, and machinery and equipment. Real property leases primarily consist of office space and rolling stock leases primarily for railcars and fleet vehicles. At March 31, 2020 and December 31, 2019, operating right-to-use assets of $187 million and $197 million, respectively, are included as a part of "Other noncurrent assets" in the Unaudited Consolidated Statements of Financial Position and includes $8 million at both periods of assets previously classified as lease intangibles. Operating lease liabilities are included as a part of "Payables and other current liabilities" and "Other long-term liabilities" in the Unaudited Consolidated Statements of Financial Position. As of March 31, 2020, reconciliation of lease payments and operating lease liabilities is provided below:
| (Dollars in millions) | Operating lease liabilities | |||||||
| Remainder of 2020 | $ | 47 | ||||||
| 2021 | 51 | |||||||
| 2022 | 40 | |||||||
| 2023 | 27 | |||||||
| 2024 | 16 | |||||||
| 2025 and beyond | 33 | |||||||
| Total lease payments | 214 | |||||||
| Less: amounts of lease payments representing interest | 28 | |||||||
| Present value of future lease payments | 186 | |||||||
| Less: current obligations under leases | 41 | |||||||
| Long-term lease obligations | $ | 145 | ||||||
18
The Company has operating leases, primarily leases for railcars, with terms that require the Company to guarantee a portion of the residual value of the leased assets upon termination of the lease that will expire beginning in first quarter 2021. Residual guarantee payments that become probable and estimable are recognized as rent expense over the remaining life of the applicable lease. Management's current expectation is that the likelihood of material residual guarantee payments is remote.
Lease costs during the period and other information is provided below:
| First Quarter | ||||||||||||||
| (Dollars in millions) | 2020 | 2019 | ||||||||||||
| Lease costs: | ||||||||||||||
| Operating lease costs | $ | 19 | $ | 15 | ||||||||||
| Short-term lease costs | 9 | 11 | ||||||||||||
| Sublease income | (1) | — | ||||||||||||
| Total | $ | 27 | $ | 26 | ||||||||||
| Other operating lease information: | ||||||||||||||
| Cash paid for amounts included in the measurement of lease liabilities | $ | 18 | $ | 17 | ||||||||||
| Right-to-use assets obtained in exchange for new lease liabilities | $ | 16 | $ | 11 | ||||||||||
| Weighted-average remaining lease term, in years | 5 | 5 | ||||||||||||
| Weighted-average discount rate | 3.9 | % | 4.2 | % | ||||||||||
Debt and Other Commitments
Eastman's obligations are summarized in the following table.
| (Dollars in millions) | Payments Due for | |||||||||||||||||||||||||||||||||||||||||||
| Period | Debt Securities | Credit Facilities and Other | Interest Payable | Purchase Obligations | Operating Leases | Other Liabilities | Total | |||||||||||||||||||||||||||||||||||||
| 2020 | $ | — | $ | 710 | $ | 154 | $ | 131 | $ | 47 | $ | 144 | $ | 1,186 | ||||||||||||||||||||||||||||||
| 2021 | 483 | — | 185 | 151 | 51 | 74 | 944 | |||||||||||||||||||||||||||||||||||||
| 2022 | 741 | — | 173 | 100 | 40 | 83 | 1,137 | |||||||||||||||||||||||||||||||||||||
| 2023 | 821 | — | 153 | 89 | 27 | 88 | 1,178 | |||||||||||||||||||||||||||||||||||||
| 2024 | 241 | — | 136 | 98 | 16 | 89 | 580 | |||||||||||||||||||||||||||||||||||||
| 2025 and beyond | 3,298 | — | 1,413 | 1,958 | 33 | 1,111 | 7,813 | |||||||||||||||||||||||||||||||||||||
| Total | $ | 5,584 | $ | 710 | $ | 2,214 | $ | 2,527 | $ | 214 | $ | 1,589 | $ | 12,838 | ||||||||||||||||||||||||||||||
Estimated future payments of debt securities assumes the repayment of principal upon stated maturity, and actual amounts and the timing of such payments may differ materially due to repayment or other changes in the terms of such debt prior to maturity.
The Company had various purchase obligations at March 31, 2020, totaling approximately $2.5 billion over a period of approximately 30 years for materials, supplies, and energy incident to the ordinary conduct of business.
Amounts in other liabilities represent the current estimated cash payments required to be made by the Company primarily for pension and other postretirement benefits, environmental loss contingency reserves, uncertain tax liabilities, accrued compensation benefits, commodity and foreign exchange hedging in the periods indicated. Due to uncertainties in the timing of the effective settlement of tax positions with respect to taxing authorities, management is unable to determine the timing of payments related to uncertain tax liabilities and these amounts are included in the "2025 and beyond" line item.
19
The amount and timing of pension and other postretirement benefit payments included in other liabilities is dependent upon interest rates, health care cost trends, actual returns on plan assets, retirement and attrition rates of employees, continuation or modification of the benefit plans, and other factors. Such factors can significantly impact the amount and timing of any future contributions by the Company. Excess contributions are periodically made by management in order to keep the plans' funded status above 80 percent under the funding provisions of the Pension Protection Act to avoid partial benefit restrictions on accelerated forms of payment. The Company's U.S. defined benefit pension plans are not currently under any benefit restrictions. See Note 7, "Retirement Plans".
The resolution of uncertainties related to environmental matters included in other liabilities may have a material adverse effect on the Company's consolidated results of operations in the period recognized, however, because of the availability of legal defenses, the Company's preliminary assessment of actions that may be required, and, if applicable, the expected sharing of costs, management does not believe that the Company's liability for these environmental matters, individually or in the aggregate, will be material to the Company's consolidated financial position, results or operations, or cash flows. See Note 1, "Significant Accounting Policies", to the consolidated financial statements in Part II, Item 8 of the Company's 2019 Annual Report on Form 10-K for the Company's accounting policy for environmental costs and see Note 9, "Environmental Matters and Asset Retirement Obligations".
Guarantees and claims also arise during the ordinary course of business from relationships with customers, suppliers, joint venture partners, and other parties when the Company undertakes an obligation to guarantee the performance of others if specified triggering events occur. Non-performance under a contract could trigger an obligation of the Company. The Company's current other guarantees include guarantees relating to intellectual property, environmental matters, and other indemnifications and have arisen through the normal course of business. The ultimate effect on future financial results is not subject to reasonable estimation because considerable uncertainty exists as to the final outcome of these claims, if they were to occur. These other guarantees have terms up to 30 years with maximum potential future payments of approximately $35 million in the aggregate, with none of these guarantees being individually significant to the Company's operating results, financial position, or liquidity. Management's current expectation is that future payment or performance related to non-performance under other guarantees is remote.
9.ENVIRONMENTAL MATTERS AND ASSET RETIREMENT OBLIGATIONS
Certain Eastman manufacturing facilities generate hazardous and nonhazardous wastes, the treatment, storage, transportation, and disposal of which are regulated by various governmental agencies. In connection with the cleanup of various hazardous waste sites, the Company, along with many other entities, has been designated a potentially responsible party ("PRP") by the U.S. Environmental Protection Agency under the Comprehensive Environmental Response, Compensation and Liability Act, which potentially subjects PRPs to joint and several liability for certain cleanup costs. In addition, the Company will incur costs for environmental remediation and closure and post-closure under the federal Resource Conservation and Recovery Act. Reserves for environmental contingencies have been established in accordance with Eastman's policies described in Note 1, "Significant Accounting Policies", to the consolidated financial statements in Part II, Item 8 of the Company's 2019 Annual Report on Form 10-K. The resolution of uncertainties related to environmental matters included in other liabilities may have a material adverse effect on the Company's consolidated results of operations in the period recognized, however, because of the availability of legal defenses, the Company's preliminary assessment of actions that may be required, and, if applicable, the expected sharing of costs, management does not believe that the Company's liability for these environmental matters, individually or in the aggregate, will be material to the Company's consolidated financial position, results or operations, or cash flows. The Company's total reserve for environmental loss contingencies was $285 million and $287 million at March 31, 2020 and December 31, 2019, respectively.
20
Environmental Remediation and Environmental Asset Retirement Obligations
The Company's total environmental reserve that management believes to be probable and reasonably estimable for environmental contingencies, including remediation costs and asset retirement obligations, is included as part of "Payables and other current liabilities" and "Other long-term liabilities" in the Unaudited Consolidated Statements of Financial Position as follows:
| (Dollars in millions) | March 31, 2020 | December 31, 2019 | |||||||||
| Environmental contingent liabilities, current | $ | 20 | $ | 20 | |||||||
| Environmental contingent liabilities, long-term | 265 | 267 | |||||||||
| Total | $ | 285 | $ | 287 | |||||||
Environmental Remediation
Estimated future environmental expenditures for undiscounted remediation costs ranged from the best estimate or minimum of $258 million to the maximum of $484 million at March 31, 2020 and from the best estimate or minimum of $260 million to the maximum of $487 million at December 31, 2019. The best estimate or minimum estimated future environmental expenditures are considered to be probable and reasonably estimable and include the amounts recognized at both March 31, 2020 and December 31, 2019.
Reserves for environmental remediation include liabilities expected to be paid within approximately 30 years. The amounts charged to pre-tax earnings for environmental remediation and related charges are included within "Cost of sales" in the Unaudited Consolidated Statements of Earnings, Comprehensive Income and Retained Earnings. Changes in the reserves for environmental remediation liabilities during first three months 2020 and full year 2019 are summarized below:
| (Dollars in millions) | Environmental Remediation Liabilities | ||||
| Balance at December 31, 2018 | $ | 271 | |||
| Changes in estimates recognized in earnings and other | 4 | ||||
| Cash reductions | (15) | ||||
| Balance at December 31, 2019 | 260 | ||||
| Changes in estimates recognized in earnings and other | 2 | ||||
| Cash reductions | (4) | ||||
| Balance at March 31, 2020 | $ | 258 | |||
Environmental Asset Retirement Obligations
An asset retirement obligation is an obligation for the retirement of a tangible long-lived asset that is incurred upon the acquisition, construction, development, or normal operation of that long-lived asset. The Company recognizes asset retirement obligations in the period in which they are incurred if a reasonable estimate of fair value can be made. The asset retirement obligations are discounted to expected present value and subsequently adjusted for changes in fair value. The associated estimated asset retirement costs are capitalized as part of the carrying value of the long-lived assets and depreciated over their useful life. Environmental asset retirement obligations consist primarily of closure and post-closure costs. For sites that have environmental asset retirement obligations, the best estimate recognized to date for these environmental asset retirement obligation costs was $27 million at both March 31, 2020 and December 31, 2019.
Non-Environmental Asset Retirement Obligations
The Company has contractual asset retirement obligations not associated with environmental liabilities. Eastman's non-environmental asset retirement obligations are primarily associated with the future closure of leased manufacturing assets at Pace, Florida and Oulu, Finland. These recognized non-environmental asset retirement obligations were $48 million at both March 31, 2020 and December 31, 2019, and is included as part of "Other long-term liabilities" in the Unaudited Consolidated Statements of Financial Position.
21
10.LEGAL MATTERS
From time to time, Eastman and its operations are parties to, or targets of, lawsuits, claims, investigations and proceedings, including product liability, personal injury, asbestos, patent and intellectual property, commercial, contract, environmental, antitrust, health and safety, and employment matters, which are handled and defended in the ordinary course of business. While the Company is unable to predict the outcome of these matters, it does not believe, based upon currently available facts, that the ultimate resolution of any such pending matters will have a material adverse effect on its overall financial condition, results of operations, or cash flows.
11.STOCKHOLDERS' EQUITY
Reconciliations of the changes in stockholders' equity for first quarter 2020 and 2019 are provided below:
| (Dollars in millions, except per share amount) | Common Stock at Par Value | Additional Paid-in Capital | Retained Earnings | Accumulated Other Comprehensive Income (Loss) | Treasury Stock at Cost | Total Eastman Stockholders' Equity | Noncontrolling Interest | Total Equity | |||||||||||||||||||||||||||||||||||||||
| Balance at December 31, 2019 | $ | 2 | $ | 2,105 | $ | 7,965 | $ | (214) | $ | (3,900) | $ | 5,958 | $ | 74 | $ | 6,032 | |||||||||||||||||||||||||||||||
| Net Earnings | — | — | 258 | — | — | 258 | 2 | 260 | |||||||||||||||||||||||||||||||||||||||
Cash Dividends Declared (1) ($0.66 per share) | — | — | (90) | — | — | (90) | — | (90) | |||||||||||||||||||||||||||||||||||||||
| Other Comprehensive Income (Loss) | — | — | — | 17 | — | 17 | — | 17 | |||||||||||||||||||||||||||||||||||||||
Share Based Compensation Expense (2) | — | 15 | — | — | — | 15 | — | 15 | |||||||||||||||||||||||||||||||||||||||
Other (3) | — | (11) | — | — | — | (11) | (1) | (12) | |||||||||||||||||||||||||||||||||||||||
| Share Repurchase | — | — | — | — | (30) | (30) | — | (30) | |||||||||||||||||||||||||||||||||||||||
| Balance at March 31, 2020 | $ | 2 | $ | 2,109 | $ | 8,133 | $ | (197) | $ | (3,930) | $ | 6,117 | $ | 75 | $ | 6,192 | |||||||||||||||||||||||||||||||
| (Dollars in millions, except per share amount) | Common Stock at Par Value | Additional Paid-in Capital | Retained Earnings | Accumulated Other Comprehensive Income (Loss) | Treasury Stock at Cost | Total Eastman Stockholders' Equity | Noncontrolling Interest | Total Equity | |||||||||||||||||||||||||||||||||||||||
| Balance at December 31, 2018 | $ | 2 | $ | 2,048 | $ | 7,573 | $ | (245) | $ | (3,575) | $ | 5,803 | $ | 75 | $ | 5,878 | |||||||||||||||||||||||||||||||
Cumulative Effect of Adoption of New Accounting Standards (4) | — | — | (20) | 20 | — | — | — | — | |||||||||||||||||||||||||||||||||||||||
| Net Earnings | — | — | 209 | — | — | 209 | — | 209 | |||||||||||||||||||||||||||||||||||||||
Cash Dividends Declared (1) ($0.62 per share) | — | — | (87) | — | — | (87) | — | (87) | |||||||||||||||||||||||||||||||||||||||
| Other Comprehensive Income (Loss) | — | — | — | 31 | — | 31 | — | 31 | |||||||||||||||||||||||||||||||||||||||
Share Based Compensation Expense (2) | — | 18 | — | — | — | 18 | — | 18 | |||||||||||||||||||||||||||||||||||||||
| Stock Option Exercises | — | 4 | — | — | — | 4 | — | 4 | |||||||||||||||||||||||||||||||||||||||
Other (3) | — | (10) | — | — | — | (10) | 1 | (9) | |||||||||||||||||||||||||||||||||||||||
| Share Repurchase | — | — | — | — | (125) | (125) | — | (125) | |||||||||||||||||||||||||||||||||||||||
| Balance at March 31, 2019 | $ | 2 | $ | 2,060 | $ | 7,675 | $ | (194) | $ | (3,700) | $ | 5,843 | $ | 76 | $ | 5,919 | |||||||||||||||||||||||||||||||
(1)Cash dividends declared consists of cash dividends paid and dividends declared but unpaid.
(2)Share-based compensation expense is the fair value of share-based awards.
(3)Additional paid-in capital consists of value of shares withheld for employees' taxes on vesting of share-based compensation awards.
(4)On January 1, 2019, Eastman adopted ASU 2018-02 Income Statement - Reporting Comprehensive Income resulting in the reclassification of $20 million of stranded tax expense from AOCI to retained earnings.
22
Accumulated Other Comprehensive Income (Loss), Net of Tax
| (Dollars in millions) | Cumulative Translation Adjustment | Benefit Plans Unrecognized Prior Service Credits | Unrealized Gains (Losses) on Derivative Instruments | Unrealized Losses on Investments | Accumulated Other Comprehensive Income (Loss) | ||||||||||||||||||||||||
| Balance at December 31, 2018 | $ | (309) | $ | 106 | $ | (41) | $ | (1) | $ | (245) | |||||||||||||||||||
Period change (1) | 45 | — | (14) | — | 31 | ||||||||||||||||||||||||
| Balance at December 31, 2019 | (264) | 106 | (55) | (1) | (214) | ||||||||||||||||||||||||
| Period change | 19 | (7) | 5 | — | 17 | ||||||||||||||||||||||||
| Balance at March 31, 2020 | $ | (245) | $ | 99 | $ | (50) | $ | (1) | $ | (197) | |||||||||||||||||||
(1)Benefit plans unrecognized prior service credits includes $29 million reclassification of stranded tax expense from AOCI to retained earnings and unrealized gains (losses) on derivative instruments includes $9 million reclassification of stranded tax benefit from AOCI to retained earnings.
Amounts of other comprehensive income (loss) are presented net of applicable taxes. Eastman recognizes deferred income taxes on the CTA related to branch operations and income from other entities included in the Company's consolidated U.S. tax return. No deferred income taxes are recognized on the CTA of other subsidiaries outside the United States, because the CTA is considered to be a component of indefinitely invested, unremitted earnings of these foreign subsidiaries.
Components of other comprehensive income recognized in the Unaudited Consolidated Statements of Earnings, Comprehensive Income and Retained Earnings are presented below, before tax and net of tax effects:
| First Quarter | |||||||||||||||||||||||
| 2020 | 2019 | ||||||||||||||||||||||
| (Dollars in millions) | Before Tax | Net of Tax | Before Tax | Net of Tax | |||||||||||||||||||
| Other comprehensive income (loss) | |||||||||||||||||||||||
| Change in cumulative translation adjustment | $ | 19 | $ | 19 | $ | 30 | $ | 30 | |||||||||||||||
| Defined benefit pension and other postretirement benefit plans: | |||||||||||||||||||||||
| Amortization of unrecognized prior service credits | (10) | (7) | (10) | (7) | |||||||||||||||||||
| Derivatives and hedging: | |||||||||||||||||||||||
| Unrealized gain (loss) during period | 10 | 7 | 13 | 10 | |||||||||||||||||||
| Reclassification adjustment for (gains) losses included in net income, net | (3) | (2) | (3) | (2) | |||||||||||||||||||
| Total other comprehensive income (loss) | $ | 16 | $ | 17 | $ | 30 | $ | 31 | |||||||||||||||
23
12.EARNINGS AND DIVIDENDS PER SHARE
The following table sets forth the computation of basic and diluted earnings per share ("EPS") which are calculated using the treasury stock method:
| First Quarter | |||||||||||
| (In millions, except per share amounts) | 2020 | 2019 | |||||||||
| Numerator | |||||||||||
| Earnings attributable to Eastman, net of tax | $ | 258 | $ | 209 | |||||||
| Denominator | |||||||||||
| Weighted average shares used for basic EPS | 136.0 | 139.0 | |||||||||
| Dilutive effect of stock options and other awards | 0.5 | 1.1 | |||||||||
| Weighted average shares used for diluted EPS | 136.5 | 140.1 | |||||||||
| (Calculated using whole dollars and shares) | |||||||||||
| EPS | |||||||||||
| Basic | $ | 1.90 | $ | 1.50 | |||||||
| Diluted | $ | 1.89 | $ | 1.49 | |||||||
Shares underlying stock options excluded from first quarter 2020 and 2019 calculations of diluted EPS were 3,921,686 and 2,261,873, respectively, because the grant price of these options was greater than the average market price of the Company's common stock and the effect of including them in the calculation of diluted EPS would have been antidilutive. First quarter 2020 and 2019 reflects share repurchases of 510,301 and 1,582,076, respectively.
The Company declared cash dividends of $0.66 and $0.62 per share in first quarter 2020 and 2019, respectively.
13.ASSET IMPAIRMENTS AND RESTRUCTURING CHARGES, NET
| First Quarter | |||||||||||
| (Dollars in millions) | 2020 | 2019 | |||||||||
| Fixed asset impairments | $ | 7 | $ | — | |||||||
| Intangible asset impairments | 2 | — | |||||||||
| Severance charges | 5 | 28 | |||||||||
| Other restructuring costs | — | 4 | |||||||||
| Total | $ | 14 | $ | 32 | |||||||
First quarter 2020 asset impairments and restructuring charges consisted of fixed asset impairment charges of $4 million and severance charges of $3 million in the Advanced Materials segment resulting from the closure of a manufacturing facility in North America and fixed asset impairment charges of $3 million and severance charges of $1 million in the Additives and Functional Products ("AFP") segment for a manufacturing facility in Asia Pacific, each part of ongoing site optimization actions. The Company also recognized an intangible asset impairment charge of $2 million in the AFP segment for customer relationships. In the Chemical Intermediates segment, the Company recognized severance charges of $1 million related to the previously disclosed plan to discontinue production of certain products at the Singapore manufacturing site by the end of 2020.
First quarter 2019 restructuring charges included $28 million for severance and related costs as part of business improvement and cost reduction initiatives and an additional $4 million restructuring charge related to a capital project in the AFP segment that was discontinued in 2016.
24
Changes in Reserves
The following table summarizes the changes in asset impairments and restructuring charges, the non-cash reductions attributable to asset impairments, and the cash reductions in restructuring reserves for severance costs and site closure costs paid in first three months 2020 and full year 2019:
| (Dollars in millions) | Balance at January 1, 2020 | Provision/ Adjustments | Non-cash Reductions/ Additions | Cash Reductions | Balance at March 31, 2020 | ||||||||||||||||||||||||
| Non-cash charges | $ | — | $ | 9 | $ | (9) | $ | — | $ | — | |||||||||||||||||||
| Severance costs | 17 | 5 | — | (5) | 17 | ||||||||||||||||||||||||
| Other restructuring costs | 11 | — | — | (1) | 10 | ||||||||||||||||||||||||
| Total | $ | 28 | $ | 14 | $ | (9) | $ | (6) | $ | 27 | |||||||||||||||||||
(Dollars in millions) | Balance at January 1, 2019 | Provision/ Adjustments | Non-cash Reductions/ Additions | Cash Reductions | Balance at December 31, 2019 | ||||||||||||||||||||||||
| Non-cash charges | $ | — | $ | 72 | $ | (72) | $ | — | $ | — | |||||||||||||||||||
| Severance costs | 6 | 45 | — | (34) | 17 | ||||||||||||||||||||||||
| Other restructuring costs | 8 | 9 | 1 | (7) | 11 | ||||||||||||||||||||||||
| Total | $ | 14 | $ | 126 | $ | (71) | $ | (41) | $ | 28 | |||||||||||||||||||
Substantially all severance costs remaining are expected to be applied to the reserves within one year.
14.SHARE-BASED COMPENSATION AWARDS
The Company utilizes share-based awards under employee and non-employee director compensation programs. These share-based awards have included restricted and unrestricted stock, restricted stock units, stock options, and performance shares. In first quarter 2020 and 2019, $15 million and $18 million, respectively, of compensation expense before tax were recognized in "Selling, general and administrative expenses" in the Unaudited Consolidated Statements of Earnings, Comprehensive Income and Retained Earnings for all share-based awards of which $3 million and $5 million, respectively, was for stock options. The compensation expense is recognized over the substantive vesting period, which may be shorter time period than the stated vesting period for qualifying termination eligible employees as defined in the award notices. For first quarter 2020 and 2019, $1 million and $3 million, respectively, of stock option compensation expense was recognized due to qualifying termination eligibility preceding the requisite service period. The impact on first quarter 2020 and 2019 net earnings of $11 million and $14 million, respectively, is net of deferred tax expense related to share-based award compensation for each period.
Stock Option Grants
In first quarter 2020 and 2019, the number of stock options granted under the 2017 Omnibus Stock Compensation Plan was approximately 622 thousand and 691 thousand, respectively. Options have an exercise price equal to the closing price of the Company's stock on the date of grant. The term of options is ten years with vesting periods that vary up to three years. Vesting usually occurs ratably over the vesting period or at the end of the vesting period. The Company utilizes the Black Scholes Merton option valuation model which relies on certain assumptions to estimate an option's fair value.
25
The assumptions used in the determination of fair value for stock options granted in first quarter 2020 and 2019 are provided in the table below:
| First Quarter | ||||||||||||||
| Assumptions | 2020 | 2019 | ||||||||||||
| Expected volatility rate | 21.56% | 19.61% | ||||||||||||
| Expected dividend yield | 3.30% | 2.41% | ||||||||||||
| Average risk-free interest rate | 0.94% | 2.56% | ||||||||||||
| Expected term years | 5.9 | 5.7 | ||||||||||||
The grant date exercise price and fair value of options granted during first quarter 2020 were $61.51 and $7.92, respectively, and first quarter 2019 were $82.69 and $13.60, respectively.
For options unvested at March 31, 2020, $6 million in compensation expense will be recognized over the next three years.
Other Share-Based Compensation Awards
In addition to stock option grants, the Company has awarded long-term performance shares, restricted stock and restricted stock units, and stock appreciation rights. The long-term performance share awards are based upon actual return on capital compared to a target return on capital and total stockholder return compared to a peer group ranking by total stockholder return over a three year performance period and pay out in unrestricted shares of common stock at the end of the performance period. The awards are valued using a Monte Carlo Simulation based model and vest pro-ratably over the three year performance period. The number of long-term performance share target awards during first quarter 2020 and 2019 for the 2020-2022 and 2019-2021 periods were approximately 423 thousand and 412 thousand, respectively. The target shares awarded are assumed to be 100 percent. At the end of the three-year performance period, the actual number of shares awarded can range from zero to 250 percent of the target shares based on the award notice. The number of restricted stock unit awards, which pay out in unrestricted shares of common stock at the end of the vesting and performance (if any) period, during first quarter 2020 and 2019 were approximately 123 thousand and 116 thousand, respectively. The fair value of a restricted stock unit award is equal to the closing stock price of the Company's stock on the award date and normally vests over a period of three years. In first quarter 2020 and 2019, $12 million and $13 million, respectively, was recognized as compensation expense before tax for these other share-based awards and was included in the total compensation expense noted above for all share-based awards. The unrecognized compensation expense before tax for these same type awards at March 31, 2020 was approximately $90 million and will be recognized primarily over a period of three years.
For additional information regarding share-based compensation plans and awards, see Note 17, "Share-Based Compensation Plans and Awards", to the consolidated financial statements in Part II, Item 8 of the Company's 2019 Annual Report on Form 10-K.
15.SUPPLEMENTAL CASH FLOW INFORMATION
Included in the line item "Other items, net" of the "Operating activities" section of the Unaudited Consolidated Statements of Cash Flows are the following changes to Unaudited Consolidated Statements of Financial Position:
| (Dollars in millions) | First Three Months | ||||||||||
| 2020 | 2019 | ||||||||||
| Other current assets | $ | 7 | $ | 2 | |||||||
| Other noncurrent assets | 9 | 6 | |||||||||
| Payables and other current liabilities | 58 | 59 | |||||||||
| Long-term liabilities and equity | (3) | (14) | |||||||||
| Total | $ | 71 | $ | 53 | |||||||
The above changes resulted primarily from accrued taxes, deferred taxes, environmental liabilities, monetized positions from raw material and energy, currency, and certain interest rate hedges, prepaid insurance, miscellaneous deferrals, value-added taxes, and other miscellaneous receivables and accruals.
26
16.SEGMENT AND REGIONAL SALES INFORMATION
Eastman's products and operations are managed and reported in four operating segments: Additives & Functional Products ("AFP"), Advanced Materials ("AM"), Chemical Intermediates ("CI"), and Fibers. The economic factors that impact the nature, amount, timing, and uncertainty of revenue and cash flows vary between the Company's business operating segments and the geographical regions in which they serve. For disaggregation of revenue by major product lines and regions for each business operating segment, see Note 19, "Segment and Regional Sales Information", to the consolidated financial statements in Part II, Item 8 of the Company's 2019 Annual Report on Form 10-K. For additional financial information for each segment, see Part I, Item 1, "Business - Business Segments", in the Company's 2019 Annual Report on Form 10-K.
| (Dollars in millions) | First Quarter | ||||||||||
| Sales by Segment | 2020 | 2019 | |||||||||
| Additives & Functional Products | $ | 822 | $ | 855 | |||||||
| Advanced Materials | 615 | 657 | |||||||||
| Chemical Intermediates | 592 | 655 | |||||||||
| Fibers | 212 | 213 | |||||||||
| Total Sales | $ | 2,241 | $ | 2,380 | |||||||
| (Dollars in millions) | First Quarter | ||||||||||
| Earnings Before Interest and Taxes by Segment | 2020 | 2019 | |||||||||
| Additives & Functional Products | $ | 143 | $ | 146 | |||||||
| Advanced Materials | 100 | 102 | |||||||||
| Chemical Intermediates | 80 | 73 | |||||||||
| Fibers | 53 | 42 | |||||||||
| Total Earnings Before Interest and Taxes by Operating Segment | 376 | 363 | |||||||||
| Other | |||||||||||
| Growth initiatives and businesses not allocated to operating segments | (23) | (27) | |||||||||
| Pension and other postretirement benefits income (expense), net not allocated to operating segments | 21 | 12 | |||||||||
| Asset impairments and restructuring charges, net | — | (28) | |||||||||
| Other income (charges), net not allocated to operating segments | (6) | — | |||||||||
| Total Earnings Before Interest and Taxes | $ | 368 | $ | 320 | |||||||
| (Dollars in millions) | March 31, | December 31, | |||||||||
Assets by Segment (1) | 2020 | 2019 | |||||||||
| Additives & Functional Products | $ | 6,375 | $ | 6,387 | |||||||
| Advanced Materials | 4,429 | 4,415 | |||||||||
| Chemical Intermediates | 2,703 | 2,775 | |||||||||
| Fibers | 1,020 | 1,014 | |||||||||
| Total Assets by Operating Segment | 14,527 | 14,591 | |||||||||
| Corporate Assets | 1,938 | 1,417 | |||||||||
| Total Assets | $ | 16,465 | $ | 16,008 | |||||||
(1)Segment assets include accounts receivable, inventory, fixed assets, goodwill, and intangible assets.
27
| (Dollars in millions) | First Quarter | ||||||||||
| Sales by Customer Location | 2020 | 2019 | |||||||||
| United States and Canada | $ | 980 | $ | 1,000 | |||||||
| Asia Pacific | 495 | 553 | |||||||||
| Europe, Middle East, and Africa | 631 | 689 | |||||||||
| Latin America | 135 | 138 | |||||||||
| Total Sales | $ | 2,241 | $ | 2,380 | |||||||
28
ITEM 2.MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Page
This Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") is based upon the consolidated financial statements of Eastman Chemical Company ("Eastman" or the "Company"), which have been prepared in accordance with accounting principles generally accepted in the United States ("GAAP"), and should be read in conjunction with the Company's audited consolidated financial statements, including related notes, and MD&A contained in the Company's 2019 Annual Report on Form 10-K, and the Company's unaudited consolidated financial statements, including related notes, included elsewhere in this Quarterly Report on Form 10-Q. All references to earnings per share ("EPS") contained in this report are diluted EPS unless otherwise noted.
29
 | ||||||||
CONDITION AND RESULTS OF OPERATIONS
NON-GAAP FINANCIAL MEASURES
Non-GAAP financial measures, and the accompanying reconciliations of the non-GAAP financial measures to the most comparable GAAP measures, are presented below in this section and in "Overview", "Results of Operations", "Summary by Operating Segment", and "Liquidity and Other Financial Information - Cash Flows" in this MD&A.
Management discloses non-GAAP financial measures, and the related reconciliations to the most comparable GAAP financial measures, because it believes investors use these metrics in evaluating longer term period-over-period performance, and to allow investors to better understand and evaluate the information used by management to assess the Company's and its operating segments' performances, make resource allocation decisions, and evaluate organizational and individual performances in determining certain performance-based compensation. Non-GAAP financial measures do not have definitions under GAAP, and may be defined differently by, and not be comparable to, similarly titled measures used by other companies. As a result, management cautions investors not to place undue reliance on any non-GAAP financial measure, but to consider such measures alongside the most directly comparable GAAP financial measure.
Company Use of Non-GAAP Financial Measures
Non-Core Items and any Unusual or Non-Recurring Items Excluded from Non-GAAP Earnings
In addition to evaluating Eastman's financial condition, results of operations, liquidity, and cash flows as reported in accordance with GAAP, management also evaluates Company and operating segment performance, and makes resource allocation and performance evaluation decisions, excluding the effect of transactions, costs, and losses or gains that do not directly result from Eastman's normal, or "core", business and operations or are otherwise of an unusual or non-recurring nature.
•Non-core transactions, costs, and losses or gains relate to, among other things, cost reductions, growth and profitability improvement initiatives, and other events outside of core business operations, and have included asset impairments and restructuring charges and gains, costs of and related to acquisitions, gains and losses from and costs related to dispositions, closure, or shutdowns of businesses or assets, financing transaction costs, and mark-to-market losses or gains for pension and other postretirement benefit plans.
•In first quarter 2019, the Company recognized an unusual net decrease to earnings from adjustments of the provision for income taxes resulting from tax law changes, primarily the 2017 Tax Cuts and Jobs Act ("Tax Reform Act") and related outside-U.S. entity reorganizations as part of the transition to an international treasury services center. Management considers these actions and associated costs and income unusual because of the infrequent nature of such changes in tax law and resulting actions and the significant one-time impacts on earnings.
Because non-core, unusual, or non-recurring transactions, costs, and losses or gains may materially affect the Company's, or any particular operating segment's, financial condition or results in a specific period in which they are recognized, management believes it is appropriate to evaluate both the financial measures prepared and calculated in accordance with GAAP and the related non-GAAP financial measures excluding the effect on the Company's results of these non-core, unusual, or non-recurring items. In addition to using such measures to evaluate results in a specific period, management evaluates such non-GAAP measures, and believes that investors may also evaluate such measures, because such measures may provide more complete and consistent comparisons of the Company's and its segments' operational performance on a period-over-period historical basis and, as a result, provide a better indication of expected future trends.
30
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
Adjusted Tax Rate and Provision for Income Taxes
In interim periods, Eastman discloses non-GAAP earnings with an adjusted effective tax rate and a resulting adjusted provision for income taxes using the Company's forecasted tax rate for the full year as of the end of the interim period. The adjusted effective tax rate and resulting adjusted provision for income taxes are equal to the Company's projected full year effective tax rate and provision for income taxes on earnings excluding non-core, unusual, or non-recurring items for completed periods. The adjusted effective tax rate and resulting adjusted provision for income taxes may fluctuate during the year for changes in events and circumstances that change the Company's forecasted annual effective tax rate and resulting provision for income taxes excluding non-core, unusual, or non-recurring items. Management discloses this adjusted effective tax rate, and the related reconciliation to the GAAP effective tax rate, to provide investors more complete and consistent comparisons of the Company's operational performance on a period-over-period interim basis and on the same basis as management evaluates quarterly financial results to provide a better indication of expected full year results.
Non-GAAP Cash Flow Measure
Eastman regularly evaluates and discloses to investors and securities analysts an alternative non-GAAP measure of "free cash flow", which management defines as cash provided by or used in operating activities less the amount of net capital expenditures (typically the GAAP measure additions to properties and equipment). Such net capital expenditures are generally funded from available cash and, as such, management believes they should be considered in determining free cash flow. Management believes this is an appropriate metric to assess the Company's ability to fund priorities for uses of available cash. The priorities for cash after funding operations include payment of quarterly dividends, repayment of debt, funding targeted growth opportunities, and repurchasing shares. Management believes this metric is useful to investors and securities analysts to provide them with information similar to that used by management in evaluating financial performance and potential future cash available for various initiatives and assessing organizational performance in determining certain performance-based compensation and because management believes investors and securities analysts often use a similar measure of free cash flow to compare the results, and value, of comparable companies. In addition, Eastman may disclose to investors and securities analysts an alternative non-GAAP measure of "free cash flow yield", which management defines as annual free cash flow divided by the Company's market capitalization. Management believes this metric is useful to investors and securities analysts in comparing cash flow generation with that of peer and other companies.
Non-GAAP Measures in this Quarterly Report
The following non-core item is excluded by management in its evaluation of certain earnings results in this Quarterly Report:
•Asset impairments and restructuring charges, net.
The following unusual items are excluded by management in its evaluation of certain earnings results in this Quarterly Report:
•Adjustments to the provision for income taxes resulting from fourth quarter 2017 tax law changes, primarily the Tax Reform Act, and related outside-U.S. entity reorganizations.
As described above, the alternative non-GAAP measure of cash flow, free cash flow, is presented in this Quarterly Report.
31
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
Excluded Non-Core and Unusual Items and Adjustments to Provision for Income Taxes
| First Quarter | |||||||||||
| (Dollars in millions) | 2020 | 2019 | |||||||||
| Non-core item impacting earnings before interest and taxes: | |||||||||||
| Asset impairments and restructuring charges, net | $ | 14 | $ | 32 | |||||||
| Total non-core items impacting earnings before interest and taxes | 14 | 32 | |||||||||
| Less: Items impacting provision for income taxes: | |||||||||||
| Tax effect of non-core items | 3 | 6 | |||||||||
| Adjustments from tax law changes and outside-U.S. entity reorganizations | — | (10) | |||||||||
| Interim adjustment to tax provision | (8) | (3) | |||||||||
| Total items impacting provision for income taxes | (5) | (7) | |||||||||
| Total items impacting net earnings attributable to Eastman | $ | 19 | $ | 39 | |||||||
This MD&A includes an analysis of the effect of the foregoing on the following GAAP financial measures:
•Earnings before interest and taxes ("EBIT"),
•Provision for income taxes,
•Net earnings attributable to Eastman,
•Diluted EPS, and
•Net cash provided by (used in) operating activities.
Other Non-GAAP Financial Measures
Alternative Non-GAAP Cash Flow Measures
In addition to the non-GAAP measures presented in this Quarterly Report and other periodic reports, management occasionally has evaluated and disclosed to investors and securities analysts the non-GAAP measure cash provided by or used in operating activities excluding certain non-core, unusual, or non-recurring sources or uses of cash or including cash from or used by activities that are managed as part of core business operations ("adjusted cash provided by or used in operating activities") when analyzing, among other things, business performance, liquidity and financial position, and performance-based compensation. Management has used this non-GAAP measure in conjunction with the GAAP measure cash provided by or used in operating activities because it believes it is an appropriate metric to evaluate the cash flows from Eastman's core operations that are available for organic and inorganic growth initiatives and because it allows for a more consistent period-over-period presentation of such amounts. In its evaluation, management generally excludes the impact of certain non-core activities and decisions of management that it considers not core, ongoing components of operations and the decisions to undertake or not to undertake such activities may be made irrespective of the cash generated from operations, and generally includes cash from or used in activities that are managed as operating activities and in business operating decisions. Management has disclosed this non-GAAP measure and the related reconciliation to investors and securities analysts to allow them to better understand and evaluate the information used by management in its decision-making processes and because management believes investors and securities analysts use similar measures to assess Company performance, liquidity, and financial position over multiple periods and to compare these with other companies.
32
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
Alternative Non-GAAP Earnings Measures
From time to time, Eastman may also disclose to investors and securities analysts the non-GAAP earnings measures "EBIT Margin", "Adjusted EBITDA", "EBITDA Margin", and "Return on Invested Capital" (or "ROIC"). Management defines EBIT Margin as the GAAP measure EBIT adjusted to exclude the same non-core, unusual, or non-recurring items as are excluded from the Company's other non-GAAP earnings measures for the same periods divided by the GAAP measure sales revenue in the Company's income statement for the same period. Adjusted EBITDA is EBITDA (net earnings before interest, taxes, depreciation and amortization) adjusted to exclude the same non-core, unusual, or non-recurring items as are excluded from the Company's other non-GAAP earnings measures for the same periods. EBITDA Margin is Adjusted EBITDA divided by the GAAP measure sales revenue in the Company's income statement for the same periods. Management defines ROIC as net earnings plus interest expense after tax divided by average total borrowings plus average stockholders' equity for the periods presented, each derived from the GAAP measures in the Company's financial statements for the periods presented. Management believes that EBIT Margin, Adjusted EBITDA, EBITDA Margin, and ROIC are useful as supplemental measures in evaluating the performance of and returns from Eastman's operating businesses, and from time to time uses such measures in internal performance calculations. Further, management understands that investors and securities analysts often use similar measures of EBIT Margin, Adjusted EBITDA, EBITDA Margin, and ROIC to compare the results, returns, and value of the Company with those of peer and other companies.
OVERVIEW
Eastman's products and operations are managed and reported in four operating segments: Additives & Functional Products ("AFP"), Advanced Materials ("AM"), Chemical Intermediates ("CI"), and Fibers. Eastman uses an innovation-driven growth model which consists of leveraging world class scalable technology platforms, delivering differentiated application development capabilities, and relentlessly engaging the market. The Company's world class technology platforms form the foundation of sustainable growth by differentiated products through significant scale advantages in research and development ("R&D") and advantaged global market access. Differentiated application development converts market complexity into opportunities for growth and accelerates innovation by enabling a deeper understanding of the value of Eastman's products and how they perform within customers' and end-user products. Key areas of application development include thermoplastic conversion, functional films, coatings formulations, rubber additive formulations, adhesives formulations, nonwovens and textiles, animal nutrition, and chemical and plastics recycling technologies. The Company engages the market by working directly with customers and downstream users, targeting attractive niche markets, and leveraging disruptive macro trends. Management believes that these elements of the Company's innovation-driven growth model, combined with disciplined portfolio management and balanced capital deployment, will result in consistent, sustainable earnings growth and strong cash flow.
The Company generated sales revenue of $2.2 billion and $2.4 billion in first quarter 2020 and 2019, respectively. EBIT was $368 million and $320 million in first quarter 2020 and 2019, respectively. Excluding the non-core and unusual items identified in "Non-GAAP Financial Measures", adjusted EBIT was $382 million and $352 million in first quarter 2020 and 2019, respectively. Discussion of sales revenue and EBIT changes is presented in "Results of Operations" and "Summary by Operating Segment" in this MD&A.
Net earnings and EPS and adjusted net earnings and EPS were as follows:
| First Quarter | |||||||||||||||||||||||
| 2020 | 2019 | ||||||||||||||||||||||
| (Dollars in millions, except EPS) | $ | EPS | $ | EPS | |||||||||||||||||||
| Net earnings attributable to Eastman | $ | 258 | $ | 1.89 | $ | 209 | $ | 1.49 | |||||||||||||||
| Total non-core and unusual items, net of tax | 11 | 0.08 | 36 | 0.25 | |||||||||||||||||||
| Interim adjustment to tax provision | 8 | 0.06 | 3 | 0.03 | |||||||||||||||||||
| Adjusted net earnings | $ | 277 | $ | 2.03 | $ | 248 | $ | 1.77 | |||||||||||||||
Cash provided by operating activities was $171 million in first three months 2020 and cash used in operating activities was $5 million in first three months 2019. Free cash flow was $72 million and $(111) million in first three months 2020 and 2019, respectively.
33
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
COVID-19 Coronavirus Pandemic Response and Impact
Following the outbreak of the COVID-19 coronavirus global pandemic ("COVID-19") in early 2020, in March 2020 the U.S. Centers for Disease Control issued guidelines to mitigate the spread and health consequences of COVID-19. The Company implemented changes to its operations and business practices to follow the guidelines and minimize physical interaction, including using technology to allow employees to work from home when possible and altering production procedures and schedules. As previously reported, as a precautionary measure due to increased financial market volatility resulting from COVID-19, Eastman took certain liquidity actions, including borrowing $400 million under the revolving credit agreement (the "Credit Facility") in March 2020 and $250 million under a new 364-Day Term Loan Credit Agreement (the "Term Loan") in April 2020. The Company's cash balance as of March 31, 2020 was $680 million. See "Liquidity and Other Financial Information" for additional information. In addition to these liquidity actions, the Company plans approximately $150 million of cost reductions in 2020 primarily by changes to operations in response to weakened demand, deferring planned manufacturing asset maintenance, and limiting discretionary spending. See "Outlook" for additional information.
While COVID-19 is having a negative impact on overall business and market conditions and market demand for certain Eastman products, the impact on first quarter 2020 business and financial results was limited, with certain operating segments benefiting and others negatively impacted. See "Summary by Operating Segment" in this MD&A for additional information. The negative impact of COVID-19 remains uncertain, including on overall business and market conditions; Eastman manufacturing sites and distribution, sales, and service facilities closure or reduced availability; and Eastman products market demand weakness and supply chain disruption. See "Outlook" in this MD&A for additional information.
RESULTS OF OPERATIONS
Sales
| First Quarter | |||||||||||||||||||||||
| Change | |||||||||||||||||||||||
| (Dollars in millions) | 2020 | 2019 | $ | % | |||||||||||||||||||
| Sales | $ | 2,241 | $ | 2,380 | $ | (139) | (6) | % | |||||||||||||||
| Volume / product mix effect | 13 | 1 | % | ||||||||||||||||||||
| Price effect | (135) | (6) | % | ||||||||||||||||||||
| Exchange rate effect | (17) | (1) | % | ||||||||||||||||||||
Sales revenue decreased in first quarter 2020 compared to first quarter 2019 as a result of decreases in all operating segments. Further discussion by operating segment is presented in "Summary by Operating Segment" in this MD&A.
Gross Profit
| First Quarter | |||||||||||||||||
| (Dollars in millions) | 2020 | 2019 | Change | ||||||||||||||
| Gross profit | $ | 577 | $ | 574 | 1 | % | |||||||||||
Gross profit increased in first quarter 2020 compared to first quarter 2019 as a result of increases in the Fibers and CI operating segments offsetting declines in the AFP and AM operating segments. Further discussion by operating segment is presented in "Summary by Operating Segment" in this MD&A.
34
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
Selling, General and Administrative Expenses
| First Quarter | |||||||||||||||||
| (Dollars in millions) | 2020 | 2019 | Change | ||||||||||||||
| Selling, general and administrative expenses | $ | 160 | $ | 187 | (14) | % | |||||||||||
Selling, General and Administrative ("SG&A") expenses decreased in first quarter 2020 compared to first quarter 2019 primarily as a result of lower variable compensation costs for deferred compensation with returns based on financial market performance.
Research and Development Expenses
| First Quarter | |||||||||||||||||
| (Dollars in millions) | 2020 | 2019 | Change | ||||||||||||||
| Research and development expenses | $ | 61 | $ | 58 | 5 | % | |||||||||||
R&D expenses increased slightly in first quarter 2020 compared to first quarter 2019 primarily due to higher costs of growth initiatives.
Asset Impairments and Restructuring Charges, Net
| First Quarter | |||||||||||
| (Dollars in millions) | 2020 | 2019 | |||||||||
| Fixed asset impairments | $ | 7 | $ | — | |||||||
| Intangible asset impairments | 2 | — | |||||||||
| Severance charges | 5 | 28 | |||||||||
| Other restructuring costs | — | 4 | |||||||||
| Total | $ | 14 | $ | 32 | |||||||
First quarter 2020 asset impairments and restructuring charges included fixed asset impairment charges of $4 million and severance charges of $3 million in the AM segment resulting from the closure of a manufacturing facility in North America and fixed asset impairment charges of $3 million and severance charges of $1 million in the AFP segment for a manufacturing facility in Asia Pacific, each as part of ongoing site optimization actions. The Company also recognized an intangible asset impairment charge of $2 million in the AFP segment for customer relationships. In the CI segment, the Company recognized severance charges of $1 million related to the previously disclosed plan to discontinue production of certain products at the Singapore manufacturing site by the end of 2020.
First quarter 2019 restructuring charges included $28 million for severance and related costs as part of business improvement and cost reduction initiatives. Management anticipated and recognized total cost savings from these actions of approximately $50 million mostly in 2019 primarily in cost of sales and SG&A expenses. First quarter 2019 also included an additional $4 million restructuring charge related to a capital project in the AFP segment that was discontinued in 2016.
For more information regarding asset impairments and restructuring charges, net see Note 13, "Asset Impairments and Restructuring Charges, Net", to the Company's unaudited consolidated financial statements in Part I, Item 1 of this Quarterly Report on Form 10-Q.
Other Components of Post-employment (Benefit) Cost, Net
| First Quarter | |||||||||||
| (Dollars in millions) | 2020 | 2019 | |||||||||
| Other components of post-employment (benefit) cost, net | $ | (30) | $ | (21) | |||||||
For more information regarding other components of post-employment (benefit) cost, net see Note 7, "Retirement Plans", to the Company's unaudited consolidated financial statements in Part I, Item 1 of this Quarterly Report on Form 10-Q.
35
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
Other (Income) Charges, Net
| First Quarter | |||||||||||
| (Dollars in millions) | 2020 | 2019 | |||||||||
| Foreign exchange transaction (gains) losses, net | $ | 5 | $ | — | |||||||
| (Income) loss from equity investments and other investment (gains) losses, net | (3) | (3) | |||||||||
| Other, net | 2 | 1 | |||||||||
| Other (income) charges, net | $ | 4 | $ | (2) | |||||||
Earnings Before Interest and Taxes
| First Quarter | |||||||||||||||||
| (Dollars in millions) | 2020 | 2019 | Change | ||||||||||||||
| Earnings before interest and taxes | $ | 368 | $ | 320 | 15 | % | |||||||||||
| Asset impairments and restructuring charges, net | 14 | 32 | |||||||||||||||
| Earnings before interest and taxes excluding non-core item | $ | 382 | $ | 352 | 9 | % | |||||||||||
Net Interest Expense
| First Quarter | |||||||||||||||||
| (Dollars in millions) | 2020 | 2019 | Change | ||||||||||||||
| Gross interest costs | $ | 54 | $ | 58 | (7) | % | |||||||||||
| Less: Capitalized interest | 1 | 1 | |||||||||||||||
| Interest expense | 53 | 57 | |||||||||||||||
| Less: Interest income | 1 | 1 | |||||||||||||||
| Net interest expense | $ | 52 | $ | 56 | (7) | % | |||||||||||
Net interest expense decreased primarily as a result of reduced public debt and commercial paper borrowings.
Provision for Income Taxes
| First Quarter | |||||||||||||||||||||||
| 2020 | 2019 | ||||||||||||||||||||||
| (Dollars in millions) | $ | % | $ | % | |||||||||||||||||||
| Provision for income taxes and effective tax rate | $ | 56 | 18 | % | $ | 55 | 21 | % | |||||||||||||||
Tax provision for non-core and unusual items (1) | 3 | 6 | |||||||||||||||||||||
| Adjustments from tax law changes and outside-U.S. entity reorganizations | — | (10) | |||||||||||||||||||||
Interim adjustment to tax provision (2) | (8) | (3) | |||||||||||||||||||||
| Adjusted provision for income taxes and effective tax rate | $ | 51 | 16 | % | $ | 48 | 17 | % | |||||||||||||||
(1)Provision for income taxes for non-core and unusual items is calculated using the tax rate for the jurisdiction where the gains are taxable and the expenses are deductible.
(2)First quarter 2020 and 2019 provision for income taxes were adjusted to reflect the then current forecasted full year effective tax rate. The adjusted provision for income taxes for first three months 2020 and 2019 are calculated applying the forecasted full year effective tax rates as shown below.
36
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
First Three Months (1) | |||||||||||
| 2020 | 2019 | ||||||||||
| Effective tax rate | 18 | % | 21 | % | |||||||
Discrete tax items (2) | (1) | % | — | % | |||||||
Tax impact of non-core and unusual items (3) | 1 | % | (2) | % | |||||||
| Forecasted full year impact of expected tax events | (2) | % | (2) | % | |||||||
| Forecasted full year effective tax rate | 16 | % | 17 | % | |||||||
(1)Effective tax rate percentages are rounded to the nearest whole percent. The forecasted full year effective tax rates are 15.5 percent and 16.5 percent for first three months 2020 and 2019, respectively.
(2)"Discrete tax items" are items that are excluded from a company's estimated annual effective tax rate and recognized entirely in the quarter in which the item occurs. Discrete items for first three months 2020 are for share based compensation expense and interest expense on uncertain tax positions.
(3)Provision for income taxes for non-core and unusual items is calculated using the tax rate for the jurisdiction where the gains are taxable and the expenses are deductible.
Net Earnings Attributable to Eastman and Diluted Earnings per Share
| First Quarter | |||||||||||||||||||||||
| 2020 | 2019 | ||||||||||||||||||||||
| (Dollars in millions, except EPS) | $ | EPS | $ | EPS | |||||||||||||||||||
| Net earnings and diluted earnings per share attributable to Eastman | $ | 258 | $ | 1.89 | $ | 209 | $ | 1.49 | |||||||||||||||
Non-core item, net of tax: (1) | |||||||||||||||||||||||
| Asset impairments and restructuring charges, net | 11 | 0.08 | 26 | 0.18 | |||||||||||||||||||
Unusual items, net of tax: (1) | |||||||||||||||||||||||
| Adjustments from tax law changes and outside-U.S. entity reorganizations | — | — | 10 | 0.07 | |||||||||||||||||||
| Interim adjustment to tax provision | 8 | 0.06 | 3 | 0.03 | |||||||||||||||||||
| Adjusted net earnings and diluted earnings per share attributable to Eastman | $ | 277 | $ | 2.03 | $ | 248 | $ | 1.77 | |||||||||||||||
(1)Provision for income taxes for non-core and unusual items is calculated using the tax rate for the jurisdiction where the gains are taxable and the expenses are deductible.
37
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
SUMMARY BY OPERATING SEGMENT
Eastman's products and operations are managed and reported in four operating segments: Additives & Functional Products ("AFP"), Advanced Materials ("AM"), Chemical Intermediates ("CI"), and Fibers. For additional financial and product information for each operating segment, see Part I, Item 1, "Business - Business Segments" and Part II, Item 8, Note 19, "Segment and Regional Sales Information", in the Company's 2019 Annual Report on Form 10-K.
Additives & Functional Products Segment
| First Quarter | |||||||||||||||||||||||
| Change | |||||||||||||||||||||||
| 2020 | 2019 | $ | % | ||||||||||||||||||||
| (Dollars in millions) | |||||||||||||||||||||||
| Sales | $ | 822 | $ | 855 | $ | (33) | (4) | % | |||||||||||||||
| Volume / product mix effect | 27 | 3 | % | ||||||||||||||||||||
| Price effect | (52) | (6) | % | ||||||||||||||||||||
| Exchange rate effect | (8) | (1) | % | ||||||||||||||||||||
| Earnings before interest and taxes | $ | 143 | $ | 146 | $ | (3) | (2) | % | |||||||||||||||
| Asset impairments and restructuring charges, net | 6 | 4 | 2 | ||||||||||||||||||||
| Earnings before interest and taxes excluding non-core items | 149 | 150 | (1) | (1) | % | ||||||||||||||||||
Sales revenue in first quarter 2020 decreased compared to first quarter 2019 due to lower selling prices across the segment and an unfavorable shift in foreign currency exchange rates, partially offset by higher sales volume. Lower selling prices were due to increased competitive activity for certain adhesives resins, tire additives, and animal nutrition products constituting the approximately one-third of segment revenue for which management is evaluating strategic alternatives. Lower raw material prices also contributed to price declines, particularly for care chemicals cost-pass-through contracts. Changes in demand as a result of COVID-19 resulted in higher sales volume of care chemicals and adhesives resins products used in certain consumable and personal care end markets and lower sales volume of coatings and inks additives and tire additives in the China automotive end market and specialty fluids in the aviation end market, resulting in less favorable product mix.
First quarter 2020 EBIT included asset impairments and restructuring charges of $4 million for a manufacturing facility in Asia Pacific as part of ongoing site optimization actions and an intangible asset impairment charge of $2 million for customer relationships. First quarter 2019 EBIT included a restructuring charge related to a capital project. Excluding these non-core items, EBIT decreased in first quarter 2020 compared to first quarter 2019 primarily due to higher sales volume more than offset by less favorable product mix, totaling $10 million, partially offset by lower variable compensation costs of $9 million. Lower selling prices were offset by lower raw material and energy costs.
38
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
Advanced Materials Segment
| First Quarter | |||||||||||||||||||||||
| Change | |||||||||||||||||||||||
| 2020 | 2019 | $ | % | ||||||||||||||||||||
| (Dollars in millions) | |||||||||||||||||||||||
| Sales | $ | 615 | $ | 657 | $ | (42) | (7) | % | |||||||||||||||
| Volume / product mix effect | (17) | (3) | % | ||||||||||||||||||||
| Price effect | (19) | (3) | % | ||||||||||||||||||||
| Exchange rate effect | (6) | (1) | % | ||||||||||||||||||||
| Earnings before interest and taxes | $ | 100 | $ | 102 | $ | (2) | (2) | % | |||||||||||||||
| Asset impairments and restructuring charges, net | 7 | — | 7 | ||||||||||||||||||||
| Earnings before interest and taxes excluding non-core item | 107 | 102 | 5 | 5 | % | ||||||||||||||||||
Sales revenue in first quarter 2020 decreased compared to first quarter 2019 due to lower selling prices, less favorable product mix, and an unfavorable shift in foreign currency exchange rates. Lower selling prices were primarily due to lower raw material prices. Changes in demand as a results of COVID-19 resulted in lower advanced interlayers and performance films sales volume primarily in automotive end markets and increased sales volume of certain standard copolyester products used in consumable and health and wellness products, resulting in a less favorable product mix.
First quarter 2020 EBIT included asset impairments and restructuring charges resulting from the closure of a manufacturing facility in North America as part of ongoing site optimization actions. Excluding this non-core item, EBIT in first quarter 2020 increased compared to first quarter 2019 due to lower raw material costs more than offsetting lower selling prices by $10 million and lower variable compensation costs of $10 million. These were partially offset by higher sales volume more than offset by less favorable product mix, totaling $7 million, higher R&D costs of $3 million, and an unfavorable shift in foreign currency exchange rates of $3 million.
Chemical Intermediates Segment
| First Quarter | |||||||||||||||||||||||
| Change | |||||||||||||||||||||||
| 2020 | 2019 | $ | % | ||||||||||||||||||||
| (Dollars in millions) | |||||||||||||||||||||||
| Sales | $ | 592 | $ | 655 | $ | (63) | (9) | % | |||||||||||||||
| Volume / product mix effect | — | — | % | ||||||||||||||||||||
| Price effect | (60) | (9) | % | ||||||||||||||||||||
| Exchange rate effect | (3) | — | % | ||||||||||||||||||||
| Earnings before interest and taxes | $ | 80 | $ | 73 | $ | 7 | 10 | % | |||||||||||||||
| Asset impairments and restructuring charges, net | 1 | — | 1 | ||||||||||||||||||||
| Earnings before interest and taxes excluding non-core item | 81 | 73 | 8 | 11 | % | ||||||||||||||||||
Sales revenue in first quarter 2020 decreased compared to first quarter 2019 primarily due to lower selling prices across the segment resulting from lower raw material prices.
39
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
First quarter 2020 EBIT included restructuring charges related to the previously disclosed plan to discontinue production of certain products at the Singapore manufacturing facility by the end of 2020. Excluding this non-core item, EBIT increased compared to first quarter 2019 primarily due to lower SG&A costs, mostly variable compensation costs of $6 million. Lower selling prices were offset by lower raw material and energy costs. EBIT included recognition of technology licensing earnings.
Fibers Segment
| First Quarter | |||||||||||||||||||||||
| Change | |||||||||||||||||||||||
| 2020 | 2019 | $ | % | ||||||||||||||||||||
| (Dollars in millions) | |||||||||||||||||||||||
| Sales | $ | 212 | $ | 213 | $ | (1) | — | % | |||||||||||||||
| Volume / product mix effect | 3 | 1 | % | ||||||||||||||||||||
| Price effect | (4) | (1) | % | ||||||||||||||||||||
| Exchange rate effect | — | — | % | ||||||||||||||||||||
| Earnings before interest and taxes | $ | 53 | $ | 42 | $ | 11 | 26 | % | |||||||||||||||
Sales revenue in first quarter 2020 was relatively unchanged compared to first quarter 2019. Acetate tow sales volume was stable while lower textile products sales volume was primarily attributed to the impact of COVID-19.
First quarter 2020 EBIT increased compared to first quarter 2019 primarily due to lower raw material and energy costs of $5 million and lower variable compensation cost of $5 million.
Other
| First Quarter | |||||||||||
| 2020 | 2019 | ||||||||||
| (Dollars in millions) | |||||||||||
| Loss before interest and taxes | |||||||||||
| Growth initiatives and businesses not allocated to operating segments | $ | (23) | $ | (27) | |||||||
| Pension and other postretirement benefits income (expense), net not allocated to operating segments | 21 | 12 | |||||||||
| Asset impairments and restructuring charges, net | — | (28) | |||||||||
| Other income (charges), net not allocated to operating segments | (6) | — | |||||||||
| Loss before interest and taxes | $ | (8) | $ | (43) | |||||||
| Asset impairments and restructuring charges, net | — | 28 | |||||||||
| Loss before interest and taxes excluding non-core items | (8) | (15) | |||||||||
Costs related to growth initiatives, R&D costs, certain components of pension and other postretirement benefits, and other expenses and income not identifiable to an operating segment are not included in operating segment results for any of the periods presented and are included in "Other".
40
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
SALES BY CUSTOMER LOCATION
| Sales Revenue | |||||||||||||||||||||||
| First Quarter | |||||||||||||||||||||||
| Change | |||||||||||||||||||||||
| (Dollars in millions) | 2020 | 2019 | $ | % | |||||||||||||||||||
| United States and Canada | $ | 980 | $ | 1,000 | $ | (20) | (2) | % | |||||||||||||||
| Asia Pacific | 495 | 553 | (58) | (10) | % | ||||||||||||||||||
| Europe, Middle East, and Africa | 631 | 689 | (58) | (8) | % | ||||||||||||||||||
| Latin America | 135 | 138 | (3) | (2) | % | ||||||||||||||||||
| Total Eastman Chemical Company | $ | 2,241 | $ | 2,380 | $ | (139) | (6) | % | |||||||||||||||
Sales revenue in United States and Canada decreased in first quarter 2020 compared to first quarter 2019 primarily due to lower selling prices in all operating segments, partially offset by higher sales volume in all operating segments.
Sales revenue in Asia Pacific decreased in first quarter 2020 compared to first quarter 2019 primarily due to lower selling prices in all operating segments, particularly in the AFP and CI segments, and lower sales volume in all operating segments except the Fibers segment.
Sales revenue in Europe, Middle East, and Africa decreased in first quarter 2020 compared to first quarter 2019 primarily due to lower selling prices and unfavorable foreign currency exchange in all operating segments.
Sales revenue in Latin America decreased in first quarter 2020 compared to first quarter 2019 primarily due to lower selling prices in most operating segments, mostly offset by higher AFP segment sales volume.
LIQUIDITY AND OTHER FINANCIAL INFORMATION
COVID-19 Liquidity Actions
As described below, during first quarter and April 2020, Eastman took certain liquidity actions as a precautionary measure due to increased financial market volatility resulting from COVID-19 including borrowing $400 million under the Credit Facility and $250 million under a new Term Loan and amending covenants in both loan agreements.
Cash Flows
Cash flows from operations, cash and cash equivalents, and other sources of liquidity are expected to be available and sufficient to meet foreseeable cash requirements. However, the Company's cash flows from operations can be affected by numerous factors including risks associated with global operations, raw material availability and cost, demand for and pricing of Eastman's products, capacity utilization, and other factors described under "Risk Factors" in this MD&A. Management believes maintaining a financial profile consistent with an investment grade credit rating is important to its long-term strategic and financial flexibility.
| First Three Months | |||||||||||
| (Dollars in millions) | 2020 | 2019 | |||||||||
| Net cash provided by (used in) | |||||||||||
| Operating activities | $ | 171 | $ | (5) | |||||||
| Investing activities | (101) | (125) | |||||||||
| Financing activities | 408 | 102 | |||||||||
| Effect of exchange rate changes on cash and cash equivalents | (2) | (3) | |||||||||
| Net change in cash and cash equivalents | 476 | (31) | |||||||||
| Cash and cash equivalents at beginning of period | 204 | 226 | |||||||||
| Cash and cash equivalents at end of period | $ | 680 | $ | 195 | |||||||
41
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
Cash provided by operating activities was $171 million in first three months 2020 compared with $5 million cash used in operating activities in first three months 2019. The increase was due to higher net earnings and lower increases in net working capital (trade receivables, inventories, and trade payables).
Cash used in investing activities decreased $24 million in first three months 2020 compared with first three months 2019 due to lower additions to properties and equipment and an acquisition in the AFP business segment in the first three months 2019.
Cash provided by financing activities increased $306 million in first three months 2020 compared with first three months 2019 due to higher net proceeds from borrowings primarily from borrowings of $400 million under the revolving credit agreement as a precautionary measure due to increased financial market volatility, particularly in the availability and terms of commercial paper, resulting from COVID-19, and lower share repurchases. In addition, on April 9, 2020 the Company borrowed an additional $250 million under the new Term Loan agreement.
| First Three Months | |||||||||||
| (Dollars in millions) | 2020 | 2019 | |||||||||
| Net cash provided by (used in) operating activities | $ | 171 | $ | (5) | |||||||
| Capital expenditures | (99) | (106) | |||||||||
| Free cash flow | $ | 72 | $ | (111) | |||||||
Working Capital Management and Off Balance Sheet Arrangements
Eastman applies a proactive and disciplined approach to working capital management to optimize cash flow and to enable a full range of capital allocation options in support of the Company's strategy. Eastman expects to continue utilizing the programs described below to support free cash flow consistent with our past practices.
In 2019, the Company expanded its off balance sheet, uncommitted accounts receivable factoring program under which entire invoices may be sold, without recourse, to third-party financial institutions. Available capacity under these agreements, which the Company uses as a source of working capital funding, is dependent on the level of accounts receivable eligible to be sold and the financial institutions' willingness to purchase such receivables. The total amount of receivables sold in first quarter 2020 and 2019 were $457 million and $101 million, respectively. Based on the original terms of receivables sold for certain agreements and actual outstanding balance of receivables under service agreements, the Company estimates that $250 million and $169 million of these receivables would have been outstanding as of March 31, 2020 and December 31, 2019, respectively, had they not been sold under these factoring agreements.
Eastman works with suppliers to optimize payment terms and conditions on accounts payable to enhance timing of working capital and cash flows. As part of these efforts, in 2019, the Company introduced a voluntary supply chain finance program to provide suppliers with the opportunity to sell receivables due from Eastman to a participating financial institution. See Note 1, "Significant Accounting Policies", to the Company's unaudited consolidated financial statements in Part I, Item 1 of this Quarterly Report on Form 10-Q for additional information regarding the program.
Revolving Credit Facilities and Commercial Paper Borrowings
The Company has access to a $1.50 billion Credit Facility expiring October 2023. Borrowings under the Credit Facility are subject to interest at varying spreads above quoted market rates and a commitment fee is paid on the total unused commitment. The Credit Facility provides available liquidity for general corporate purposes and supports commercial paper borrowings. At March 31, 2020, the Company's borrowings under the Credit Facility were $400 million with an interest rate of 2.17 percent. At March 31, 2020, the Company's commercial paper borrowings were $310 million with a weighted average interest rate of 3.13 percent. See Note 5, "Borrowings", to the Company's unaudited consolidated financial statements in Part I, Item 1 of this Quarterly Report on Form 10-Q.
42
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
The Company had access to $250 million under an accounts receivable securitization agreement (the "A/R Facility") that expired April 2020. Eastman Chemical Financial Corporation ("ECFC"), a subsidiary of the Company, had an agreement to sell interests in trade receivables under the A/R Facility to a third party purchaser. Third party creditors of ECFC had first priority claims on the assets of ECFC before those assets would be available to satisfy the Company's general obligations. Borrowings under the A/R Facility were subject to interest rates based on a spread over the lender's borrowing costs, and ECFC paid a fee to maintain availability of the A/R Facility. See Note 5, "Borrowings", to the Company's unaudited consolidated financial statements in Part I, Item 1 of this Quarterly Report on Form 10-Q. In April 2020, the Company made the decision not to renew the A/R Facility.
The Credit Facility and A/R Facility contain customary covenants, including requirements to maintain certain financial ratios, that determine the events of default, amounts available, and terms of borrowings. The Company was in compliance with all covenants at both March 31, 2020 and December 31, 2019. The total amount of available borrowings under the Credit Facility and A/R Facility was approximately $1.35 billion as of March 31, 2020.
As previously reported, in April 2020, the Company amended the Credit Facility and the Term Loan maximum debt covenants to reflect the higher cash balance to enhance liquidity due to, and the expected negative impact on operating results of, COVID-19 and added a new restrictive covenant prohibiting stock repurchases until June 30, 2021 in the event certain financial ratios are exceeded. See the Current Report on Form 8-K filed May 6, 2020 for additional information on the amendments to the Credit Facility and the Term Loan.
Debt and Other Commitments
| (Dollars in millions) | Payments Due for | |||||||||||||||||||||||||||||||||||||||||||
| Period | Debt Securities | Credit Facilities and Other | Interest Payable | Purchase Obligations | Operating Leases | Other Liabilities | Total | |||||||||||||||||||||||||||||||||||||
| 2020 | $ | — | $ | 710 | $ | 154 | $ | 131 | $ | 47 | $ | 144 | $ | 1,186 | ||||||||||||||||||||||||||||||
| 2021 | 483 | — | 185 | 151 | 51 | 74 | 944 | |||||||||||||||||||||||||||||||||||||
| 2022 | 741 | — | 173 | 100 | 40 | 83 | 1,137 | |||||||||||||||||||||||||||||||||||||
| 2023 | 821 | — | 153 | 89 | 27 | 88 | 1,178 | |||||||||||||||||||||||||||||||||||||
| 2024 | 241 | — | 136 | 98 | 16 | 89 | 580 | |||||||||||||||||||||||||||||||||||||
| 2025 and beyond | 3,298 | — | 1,413 | 1,958 | 33 | 1,111 | 7,813 | |||||||||||||||||||||||||||||||||||||
| Total | $ | 5,584 | $ | 710 | $ | 2,214 | $ | 2,527 | $ | 214 | $ | 1,589 | $ | 12,838 | ||||||||||||||||||||||||||||||
As previously reported, in April 2020, the Company borrowed $250 million under a new Term Loan as a precautionary measure due to increased financial market volatility, particularly in the availability and terms of commercial paper, resulting from COVID-19. Borrowings under the Term Loan are subject to interest at varying spreads above quoted market rates depending on the Company's public debt rating and with principal and accrued interest payable April 2021. The Term Loan contains the same customary covenants and events of default, including maintenance of certain financial ratios, as the Credit Facility, with payment of customary fees. Estimated future payments of debt securities assumes the repayment of principal upon stated maturity, and actual amounts and the timing of such payments may differ materially due to repayment or other changes in the terms of such debt prior to maturity. For information on debt securities, credit facilities and other, and interest payable, see Note 5, "Borrowings", to the Company's unaudited consolidated financial statements in Part I, Item 1 of this Quarterly Report on Form 10-Q.
For information about purchase obligations and operating leases, see Note 8, "Leases and Other Commitments", to the Company's unaudited consolidated financial statements in Part I, Item 1 of this Quarterly Report on Form 10-Q.
43
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
Amounts in other liabilities represent the current estimated cash payments required to be made by the Company primarily for pension and other postretirement benefits, environmental loss contingency reserves, uncertain tax liabilities, accrued compensation benefits, commodity and foreign exchange hedging in the periods indicated. Due to uncertainties in the timing of the effective settlement of tax positions with respect to taxing authorities, management is unable to determine the timing of payments related to uncertain tax liabilities and these amounts are included in the "2025 and beyond" line item. See Note 7, "Retirement Plans" and Note 9, "Environmental Matters and Asset Retirement Obligations", to the Company's unaudited consolidated financial statements in Part I, Item 1 of this Quarterly Report on Form 10-Q, for more information regarding pension and other postretirement benefit obligations and outstanding environmental matters and asset retirement obligations, respectively.
Capital Expenditures
Capital expenditures were $99 million and $106 million in first three months 2020 and 2019, respectively. Capital expenditures in first three months 2020 were primarily for targeted growth initiatives and site modernization projects at the Kingsport, Tennessee manufacturing site. The Company expects that 2020 capital expenditures will be between $325 million and $375 million, primarily for targeted growth initiatives and maintenance.
Stock Repurchases and Dividends
In February 2018, the Company's Board of Directors authorized the repurchase of up to $2 billion of the Company's outstanding common stock at such times, in such amounts, and on such terms, as determined by management to be in the best interest of the Company. As of March 31, 2020, a total of 7,263,465 shares have been repurchased under this authorization for a total amount of $603 million.
The Board of Directors declared a cash dividend of $0.66 per share during the second quarter of 2020, payable on July 10, 2020 to stockholders of record on June 15, 2020.
CRITICAL ACCOUNTING ESTIMATES
In preparing the consolidated financial statements in conformity with GAAP, management must make decisions which impact the reported amounts and the related disclosures. Such decisions include the selection of the appropriate accounting principles to be applied and assumptions on which to base estimates and judgments that affect the reported amounts of assets, liabilities, sales revenue and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, Eastman evaluates its estimates, including those related to impairment of long-lived assets, environmental costs, pension and other postretirement benefits, litigation and contingent liabilities, and income taxes. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Management believes the critical accounting estimates described in Part II, Item 7 of the Company's 2019 Annual Report on Form 10-K are the most important to the fair presentation of the Company's financial condition and results. These estimates require management's most significant judgments in the preparation of the Company's consolidated financial statements.
Impairment of Long-Lived Assets
Goodwill
Goodwill is an asset determined as the residual of the purchase price over the fair value of identified assets and liabilities acquired in a business combination. As of March 31, 2020, the goodwill balance as reported on the Unaudited Consolidated Statements of Financial Position is $4.4 billion. In accordance with GAAP, Eastman conducts testing of goodwill annually in the fourth quarter of each year or more frequently when events and circumstances indicate an impairment may have occurred. As a result of impact on the Company of market deterioration resulting from COVID-19, the Company considered whether these conditions indicated that it was more likely than not that goodwill was impaired for each of its reporting units. As of March 31, 2020, the Company's market capitalization based on its stock price was above the book value of equity. Management does not believe it is more likely than not that goodwill was impaired for each of its reporting units as of March 31, 2020.
44
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
However, the decrease in forecasted revenue and EBIT for the tire additives reporting unit (part of the Additives & Functional Products operating segment as described in Part I, Item 1, "Business", of the Company's 2019 Annual Report on Form 10-K) reduced the fair value such that the estimated fair value only slightly exceeded the carrying value. The decrease in forecasted revenue and EBIT for the tire additives reporting unit is primarily a result of decreased demand in automotive markets due to COVID-19. Additional declines in the market conditions or forecasted revenue and EBIT could result in an impairment of indefinite-lived intangible assets or goodwill, especially for the tire additives reporting unit. The Company will continue to monitor goodwill for any indication of events, including the continued impact of COVID-19, which might require additional testing before the next annual impairment test and could result in material impairment charges.
RECENTLY ISSUED ACCOUNTING STANDARDS
For information regarding the impact of recently issued accounting standards, see Note 1, "Significant Accounting Policies", to the Company's unaudited consolidated financial statements in Part I, Item 1 of this Quarterly Report on Form 10-Q.
OUTLOOK
The negative impact of COVID-19 remains uncertain, including on overall business and market conditions; Eastman manufacturing sites and distribution, sales, and service facilities closure or reduced availability; and Eastman products market demand weakness and supply chain disruption. The extent of the impact of these and other consequences is uncertain. Accordingly, management has withdrawn the previous 2020 earnings and cash flow forecasts and underlying expectations disclosed in Part II, Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations - Outlook" in the Company's 2019 Annual Report on Form 10-K.
In addition to the business and financial actions taken in first quarter and April 2020, the Company plans to take the following actions to mitigate the impact of COVID-19 on its markets, business, and financial position and results:
•increasing cost reduction targets to approximately $150 million of net savings;
•significantly reducing discretionary spending and deferring some planned manufacturing asset maintenance;
•reducing capital expenditures by approximately $100 million to between $325 million and $375 million;
•leveraging working capital to be a source of more than $250 million of cash flow beyond previous expectations;
•reducing debt substantially more than the original target of $400 million; and
•limiting share repurchases to offset dilution.
See "Risk Factors" below.
RISK FACTORS
In addition to factors described elsewhere in this Quarterly Report, the following are the most significant known factors, risks, and uncertainties that could cause actual results to differ materially from those in the forward-looking statements made in this Quarterly Report and elsewhere from time to time. See "Forward-Looking Statements".
Continued uncertain conditions in the global economy and the financial markets could negatively impact the Company.
The Company's business and operating results were impacted by the last global recession, and its related impacts, such as the credit market crisis, declining consumer and business confidence, fluctuating commodity prices, volatile exchange rates, and other challenges that impacted the global economy. Similarly, continued uncertainty in the global economy and global capital markets resulting from the current COVID-19 coronavirus global pandemic have adversely impacted and are expected to continue to adversely impact demand for certain Eastman products and, accordingly results of operations, and may adversely impact the Company's financial condition and cash flows and ability to access the credit and capital markets under attractive rates and terms and negatively impact the Company's liquidity or ability to pursue certain growth initiatives.
45
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
Volatility in costs for strategic raw material and energy commodities or disruption in the supply of these commodities could adversely impact the Company's financial results.
Eastman is reliant on certain strategic raw material and energy commodities for its operations and utilizes risk management tools, including hedging, as appropriate, to mitigate market fluctuations in raw material and energy costs. These risk mitigation measures do not eliminate all exposure to market fluctuations and may limit the Company from fully benefiting from lower raw material costs and, conversely, offset the impact of higher raw material costs. In addition, the ongoing COVID-19 coronavirus global pandemic has adversely impacted and is expected to continue to impact, and natural disasters, plant interruptions, changes in laws or regulations, war or other outbreak of hostilities or terrorism, and breakdown or degradation of transportation and supply chain infrastructure used for delivery of strategic raw material and energy commodities could adversely impact, both the cost and availability of these commodities.
Loss or financial weakness of any of the Company's largest customers could adversely impact the Company's financial results.
Although Eastman has an extensive customer base, loss of, or material financial weakness of, certain of the Company's largest customers could adversely impact the Company's financial condition and results of operations until such business is replaced. No assurances can be made that the Company would be able to regain or replace any lost customers.
The Company's business is subject to operating risks common to chemical manufacturing businesses, including cyber security risks, any of which could disrupt manufacturing operations or related infrastructure and adversely impact results of operations.
As a global specialty chemicals manufacturing company, Eastman's business is subject to operating risks common to chemical manufacturing, storage, handling, and transportation, including explosions, fires, inclement weather, natural disasters, mechanical failure, unscheduled downtime, transportation and supply chain interruptions, remediation, chemical spills, discharges or releases of toxic or hazardous substances or gases. Significant limitation on the Company's ability to manufacture products due to disruption of manufacturing operations or related infrastructure could have a material adverse impact on the Company's sales revenue, costs, results of operations, credit ratings, and financial condition. Disruptions could occur due to internal factors such as computer or equipment malfunction (accidental or intentional), operator error, or process failures; or external factors such as supply chain disruption due to the ongoing COVID-19 coronavirus global pandemic, computer or equipment malfunction at third-party service providers, natural disasters, changes in laws or regulations, war or other outbreak of hostilities or terrorism, cyber attacks, or breakdown or degradation of transportation and supply chain infrastructure used for delivery of supplies to the Company or for delivery of products to customers. The Company has in the past experienced cyber attacks and breaches of its computer information systems, although none of these have had a material adverse impact on the Company's operations. While the Company remains committed to managing cyber related risk, no assurances can be provided that any future disruptions due to these, or other, circumstances will not have a material impact on operations. Unplanned disruptions of manufacturing operations or related infrastructure could be significant in scale and could negatively impact operations, neighbors, and the environment, and could have a negative impact on the Company's results of operations. As previously reported, manufacturing operations and earnings have been negatively impacted by the second quarter 2018 third-party supplier operational disruptions at the Texas City and Longview, Texas manufacturing facilities.
46
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
Growth initiatives may not achieve desired business or financial objectives and may require significant resources in addition to or different from those available or in excess of those estimated or budgeted for such initiatives.
Eastman continues to identify and pursue growth opportunities through both organic and inorganic initiatives. These growth opportunities include development and commercialization or licensing of innovative new products and technologies and related employee leadership, expertise, skill development and retention, expansion into new markets and geographic regions, alliances, ventures, and acquisitions that complement and extend the Company's portfolio of businesses and capabilities. Such initiatives are necessarily constrained by available and development of additional resources, including development, attraction, and retention of employee leadership, application development, and sales and marketing talent and capabilities. There can be no assurance that such innovation, development and commercialization or licensing efforts, investments, or acquisitions and alliances (including integration of acquired businesses) will result in financially successful commercialization of products, or acceptance by existing or new customers, or successful entry into new markets or otherwise achieve their underlying strategic business objectives or that they will be beneficial to the Company's results of operations. There also can be no assurance that capital projects for growth efforts can be completed within the time or at the costs projected due, among other things, to demand for and availability of construction materials and labor and obtaining regulatory approvals and operating permits and reaching agreement on terms of key agreements and arrangements with potential suppliers and customers. Any such delays or cost overruns or the inability to obtain such approvals or to reach such agreements on acceptable terms could negatively impact the returns from any proposed or current investments and projects.
The Company's substantial global operations subject it to risks of doing business in other countries, including U.S. and non-U.S. trade relations, which could adversely impact its business, financial condition, and results of operations.
More than half of Eastman's sales for 2019 were to customers outside of North America. The Company expects sales from international markets to continue to represent a significant portion of its sales. Also, a significant portion of the Company's manufacturing capacity is located outside of the United States. Accordingly, the Company's business is subject to risks related to the differing legal, political, cultural, social and regulatory requirements, and economic conditions of many jurisdictions. Fluctuations in exchange rates may impact product demand and may adversely impact the profitability in U.S. dollars of products and services provided in foreign countries. In addition, the U.S. or foreign countries have imposed and may impose additional taxes or otherwise tax Eastman's foreign income, or adopt or increase restrictions on foreign trade or investment, including currency exchange controls, tariffs or other taxes, or limitations on imports or exports (including recent and proposed changes in U.S. trade policy and resulting retaliatory actions by other countries, including China, which have recently reduced and which may increasingly reduce demand for and increase costs of impacted products or result in U.S.-based trade counterparties limiting trade with U.S.-based companies or non-U.S. customers limiting their purchases from U.S.-based companies). Certain legal and political risks are also inherent in the operation of a company with Eastman's global scope. For example, it may be more difficult for Eastman to enforce its agreements or collect receivables through foreign legal systems, and the laws of some countries may not protect the Company's intellectual property rights to the same extent as the laws of the U.S. Failure of foreign countries to have laws to protect Eastman's intellectual property rights or an inability to effectively enforce such rights in foreign countries could result in loss of valuable proprietary information. There is also risk that foreign governments may nationalize private enterprises in certain countries where Eastman operates. Social and cultural norms in certain countries may not support compliance with Eastman's corporate policies including those that require compliance with substantive laws and regulations. Also, changes in general economic and political conditions (including the U.K. departure from the European Union, also known as "Brexit") in countries where Eastman operates are a risk to the Company's financial performance. As Eastman continues to operate its business globally, its success will depend, in part, on its ability to anticipate and effectively manage these and other related risks. There can be no assurance that the consequences of these and other factors relating to its multinational operations will not have an adverse impact on Eastman's business, financial condition, or results of operations.
47
| ||||||||
CONDITION AND RESULTS OF OPERATIONS
Legislative, regulatory, or voluntary actions could increase the Company's future health, safety, and environmental compliance costs.
Eastman and its facilities and businesses are subject to complex health, safety, and environmental laws, regulations and related voluntary actions, both in the U.S. and internationally, which require and will continue to require significant expenditures to remain in compliance with such laws, regulations, and voluntary actions. The Company's accruals for such costs and associated liabilities are subject to changes in estimates on which the accruals are based. For example, any amount accrued for environmental matters reflects the Company's assumptions about remediation requirements at the contaminated site, the nature of the remedy, the outcome of discussions with regulatory agencies and other potentially responsible parties at multi-party sites, and the number of and financial viability of other potentially responsible parties. Changes in the estimates on which the accruals are based, unanticipated government enforcement action, or changes in health, safety, environmental, chemical control regulations and actions, and testing requirements could result in higher costs. Specifically, future changes in legislation and regulation and related voluntary actions associated with physical impacts of climate change may increase the likelihood that the Company's manufacturing facilities will in the future be impacted by carbon requirements, regulation of greenhouse gas emissions, and energy policy, and may result in capital expenditures, increases in costs for raw materials and energy, limitations on raw material and energy source and supply choices, and other direct compliance costs.
Significant acquisitions expose the Company to risks and uncertainties, the occurrence of any of which could materially adversely impact the Company's business, financial condition, and results of operations.
While acquisitions have been and continue to be a part of Eastman's growth strategy, acquisitions of large companies and businesses (such as the previous acquisitions of Taminco Corporation and Solutia, Inc.) subject the Company to a number of risks and uncertainties, the occurrence of any of which could have a material adverse impact on Eastman. These include, but are not limited to, the possibilities that the actual and projected future financial performance of the acquired business may be significantly worse than expected and that, as reported in "Critical Accounting Estimates - Impairment of Long-Lived Assets - Goodwill" in Part I, Item 2 of this Quarterly Report, the carrying values of certain assets from acquisitions may be impaired resulting in charges to future earnings; that significant additional indebtedness may constrain the Company's ability to access the credit and capital markets at attractive interest rates and favorable terms, which may negatively impact the Company's liquidity or ability to pursue certain growth initiatives; that the Company may not be able to achieve the cost, revenue, tax, or other "synergies" expected from any acquisition, or that there may be delays in achieving any such synergies; that management's time and effort may be dedicated to the new business resulting in a loss of focus on the successful operation of the Company's existing businesses; and that the Company may be required to expend significant additional resources in order to integrate any acquired business into Eastman or that the integration efforts will not achieve the expected benefits.
In addition to the foregoing most significant known risk factors to the Company, there may be other factors, not currently known to the Company, which could, in the future, materially adversely impact the Company, its business, financial condition, or results of operations. The foregoing discussion of the most significant risk factors to the Company does not necessarily present them in order of importance. This disclosure, including information under "Outlook" and other forward-looking statements and related disclosures made by the Company in this Quarterly Report and elsewhere from time to time, represents management's best judgment as of the date the information is given. The Company does not undertake responsibility for updating any of such information, whether as a result of new information, future events, or otherwise, except as required by law. Investors are advised, however, to consult any further public Company disclosures (such as in filings with the Securities and Exchange Commission or in Company press releases) on related subjects.
48
ITEM 3.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Eastman has exposure to various market risks principally due to changes in foreign currency exchange rates, the pricing of various commodities, and interest rates. In an effort to manage these risks, the Company employs various strategies, including pricing, inventory management, and hedging. The Company enters into derivative contracts which are governed by policies, procedures, and internal processes set forth by its Board of Directors.
The Company determines its exposures to market risk by utilizing sensitivity analyses, which measure the potential losses in fair value resulting from one or more selected hypothetical changes in foreign currency exchange rates, commodity prices, or interest rates. For more information regarding exposures, refer to Part II, Item 7A of the Company's 2019 Annual Report on Form 10-K.
The Company had variable interest rate borrowings (including credit facility borrowings and commercial paper borrowings) of $710 million and $171 million at March 31, 2020 and December 31, 2019, respectively. The borrowings represented approximately 11 percent and 3 percent of total outstanding debt with weighted average interest rates of 2.59 percent and 2.03 percent at March 31, 2020 and December 31, 2019, respectively. A hypothetical 10 percent increase in the average interest rate applicable to these borrowings would change annualized interest expense by approximately $2 million as of March 31, 2020 compared to an immaterial impact on the annualized interest expense as of December 31, 2019.
Other than the interest rate risk related to variable interest rate borrowings discussed above, there have been no material changes to the Company's market risks from those disclosed in Part II, Item 7A of the Company's 2019 Annual Report on Form 10-K.
ITEM 4.CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
Eastman maintains a set of disclosure controls and procedures designed to ensure that information required to be disclosed by the Company in reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized, and reported within the time periods specified in Securities and Exchange Commission rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to provide reasonable assurance that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 is accumulated and communicated to the Company's management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. An evaluation was carried out under the supervision and with the participation of the Company's management, including the Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO"), of the effectiveness of the Company's disclosure controls and procedures. Based on that evaluation, the CEO and CFO have concluded that as of March 31, 2020, the Company's disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed was accumulated and communicated to management as appropriate to allow timely decisions regarding required disclosure.
Changes in Internal Control Over Financial Reporting
There has been no change in the Company's internal control over financial reporting that occurred during the first quarter of 2020 that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting.
49
PART II.OTHER INFORMATION
ITEM 1.LEGAL PROCEEDINGS
General
From time to time, Eastman and its operations are parties to, or targets of, lawsuits, claims, investigations and proceedings, including product liability, personal injury, asbestos, patent and intellectual property, commercial, contract, environmental, antitrust, health and safety, and employment matters, which are handled and defended in the ordinary course of business. While the Company is unable to predict the outcome of these matters, it does not believe, based upon currently available facts, that the ultimate resolution of any such pending matters will have a material adverse effect on its overall financial condition, results of operations, or cash flows.
Solutia Legacy Torts Claims Litigation
Pursuant to an Amended and Restated Settlement Agreement effective February 28, 2008 between Solutia, Inc. ("Solutia") and Monsanto Company ("Monsanto") in connection with Solutia's emergence from Chapter 11 bankruptcy proceedings (the "Monsanto Settlement Agreement"), Monsanto is responsible for the defense and indemnification of Solutia against any Legacy Tort Claims (as defined in the Monsanto Settlement Agreement) and Solutia has agreed to retain responsibility for certain tort claims, if any, that may arise from Solutia's conduct after its spinoff from Pharmacia Corporation (f/k/a Monsanto), which occurred on September 1, 1997. Solutia, which became a wholly-owned subsidiary of Eastman upon Eastman's acquisition of Solutia in July 2012, has been named as a defendant in several such proceedings, and has submitted the matters to Monsanto, which was acquired by Bayer AG in June 2018, as Legacy Tort Claims. To the extent these matters are not within the meaning of Legacy Tort Claims, Solutia could potentially be liable thereunder. In connection with the completion of its acquisition of Solutia, Eastman guaranteed the obligations of Solutia and Eastman was added as an indemnified party under the Monsanto Settlement Agreement.
Trenton, Michigan Environmental Proceeding
In December 2018, Solutia, a wholly-owned subsidiary of the Company, received a Notice and Finding of Violations from the United States Environmental Protection Agency's Region 5 Office ("EPA") alleging that Solutia's Trenton, Michigan manufacturing operation violated certain federal air quality regulations and certain provisions in the site's Clean Air Act Title V permit. Company representatives recently met with EPA and have determined that it is not reasonably likely that any civil penalty assessed by EPA will be less than $100,000. While the Company intends to vigorously defend against these allegations, this disclosure is made pursuant to Securities and Exchange Commission Regulation S-K, Item 103, Instruction 5.C., which requires disclosure of administrative proceedings commenced under environmental laws that involve governmental authorities as parties and potential monetary sanctions in excess of $100,000. The Company believes that the ultimate resolution of this proceeding will not have a material impact on the Company's financial condition, results of operations, or cash flows.
ITEM 1A.RISK FACTORS
For identification and discussion of the most significant risks applicable to the Company and its business, see "Risk Factors" in Management's Discussion and Analysis of Financial Condition and Results of Operations in Part I, Item 2 of this Quarterly Report on Form 10-Q.
50
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
(c) Purchases of Equity Securities by the Issuer
In February 2018, the Company's Board of Directors authorized the repurchase of up to an additional $2 billion of Company's outstanding common stock at such times, in such amounts, and on such terms, as determined by management to be in the best interest of the Company. As of March 31, 2020, a total of 7,263,465 shares have been repurchased under this authorization for a total amount of $603 million. During first three months 2020, the Company repurchased 510,301 shares of common stock for a cost of $30 million. For additional information, see Note 11, "Stockholders' Equity", to the Company's unaudited consolidated financial statements in Part I, Item 1 of this Quarterly Report on Form 10-Q.
| Period | Total Number of Shares Purchased | Average Price Paid Per Share (1) | Total Number of Shares Purchased as Part of Publicly Announced Plan or Program | Approximate Dollar Value that May Yet Be Purchased Under the Plan or Program | ||||||||||
| January 1 - 31, 2020 | — | $ | — | — | $ | 1.427 | billion | |||||||
| February 1 - 29, 2020 | — | $ | — | — | $ | 1.427 | billion | |||||||
| March 1 - 31, 2020 | 510,301 | $ | 58.79 | 510,301 | $ | 1.397 | billion | |||||||
| Total | 510,301 | $ | 58.79 | 510,301 | ||||||||||
(1)Average price paid per share reflects the weighted average purchase price paid for shares.
51
ITEM 6.EXHIBITS
Exhibits filed as part of this report are listed in the Exhibit Index.
| EXHIBIT INDEX | ||||||||
| Exhibit Number | Description | |||||||
| 3.01 | ||||||||
| 3.02 | ||||||||
| 4.01 | ||||||||
| 4.02 | Indenture, dated as of January 10, 1994, between Eastman Chemical Company and The Bank of New York, as Trustee (incorporated herein by reference to Exhibit 4(a) to the Company's Current Report on Form 8-K dated January 10, 1994) | |||||||
| 4.03 | ||||||||
| 4.04 | Form of 7 1/4% Debentures due January 15, 2024 (incorporated herein by reference to Exhibit 4(d) to the Company's Current Report on Form 8-K dated January 10, 1994) | |||||||
| 4.05 | Officers' Certificate pursuant to Sections 201 and 301 of the Indenture related to 7 5/8% Debentures due 2024 (incorporated herein by reference to Exhibit 4(a) to the Company's Current Report on Form 8-K dated June 8, 1994) | |||||||
| 4.06 | Form of 7 5/8% Debentures due June 15, 2024 (incorporated herein by reference to Exhibit 4(b) to the Company's Current Report on Form 8-K dated June 8, 1994) | |||||||
| 4.07 | ||||||||
| 4.08 | ||||||||
| 4.09 | ||||||||
| 4.10 | ||||||||
| 4.11 | ||||||||
| 4.12 | ||||||||
| 4.13 | ||||||||
52
| EXHIBIT INDEX | ||||||||
| Exhibit Number | Description | |||||||
| 4.14 | ||||||||
| 4.15 | ||||||||
| 4.16 | ||||||||
| 4.17 | ||||||||
| 4.18 | ||||||||
| 10.01 | ||||||||
| 10.02 | ||||||||
| 10.03 | ||||||||
| 31.01 * | ||||||||
| 31.02 * | ||||||||
| 32.01 * | ||||||||
| 32.02 * | ||||||||
| 101.INS | Inline XBRL Instance Document (the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document) | |||||||
| 101.SCH * | Inline XBRL Taxonomy Extension Schema Document | |||||||
| 101.CAL * | Inline XBRL Taxonomy Calculation Linkbase Document | |||||||
| 101.DEF * | Inline XBRL Definition Linkbase Document | |||||||
| 101.LAB * | Inline XBRL Taxonomy Label Linkbase Document | |||||||
| 101.PRE * | Inline XBRL Presentation Linkbase Document | |||||||
| 104 | Cover Page Interactive Data File (formatted as inline XBRL and contained in Exhibit 101) | |||||||
* Denotes exhibit filed or furnished herewith.
53
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| Eastman Chemical Company | |||||||||||
| Date: | May 11, 2020 | By: | /s/ William T. McLain, Jr. | ||||||||
| William T. McLain, Jr. | |||||||||||
| Senior Vice President and Chief Financial Officer | |||||||||||
54