10-Q 1 jun2001edgar.txt CURRENT REPORT ON FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarterly Period Ended June 30, 2001 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 1-3939 KERR-McGEE CORPORATION (Exact Name of Registrant as Specified in its Charter) A Delaware Corporation 73-0311467 (State or Other Jurisdiction of (I.R.S. Employer Incorporation or Organization) Identification No.) Kerr-McGee Center, Oklahoma City, Oklahoma 73102 (Address of Principal Executive Offices and Zip Code) Registrant's telephone number, including area code (405) 270-1313 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --- --- Number of shares of common stock, $1.00 par value, outstanding as of June 30, 2001: 95,116,303 PART I - FINANCIAL INFORMATION Item 1. Financial Statements. KERR-McGEE CORPORATION AND SUBSIDIARY COMPANIES CONSOLIDATED STATEMENT OF INCOME (UNAUDITED)

KERR-McGEE CORPORATION AND SUBSIDIARY COMPANIES CONSOLIDATED BALANCE SHEET (UNAUDITED)

KERR-McGEE CORPORATION AND SUBSIDIARY COMPANIES CONSOLIDATED STATEMENT OF CASH FLOWS (UNAUDITED)

KERR-McGEE CORPORATION AND SUBSIDIARY COMPANIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 2001 A. The condensed financial statements included herein have been prepared by the company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission and, in the opinion of management, include all adjustments, consisting only of normal recurring accruals, necessary to present fairly the resulting operations for the indicated periods. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. Although the company believes that the disclosures are adequate to make the information presented not misleading, it is suggested that these condensed financial statements be read in conjunction with the financial statements and the notes thereto included in the company's latest annual report on Form 10-K. B. In June 1998, the Financial Accounting Standards Board issued Statement No. 133, "Accounting for Derivative Instruments and Hedging Activities" (FAS 133). The statement as amended requires recording all derivative instruments as assets or liabilities, measured at fair value. Kerr-McGee adopted this standard on January 1, 2001, by recording the fair value of all the foreign currency forward purchase and sales contracts, and by separating and recording the fair value of the options associated with the company's debt exchangeable for stock of Devon Energy Corporation (Devon) presently owned by the company. In adopting the standard, the company recognized an expense of $20.3 million in the 2001 first quarter as a cumulative effect of the accounting change. Also, in accordance with FAS 133, the company chose to reclassify 85% of the Devon shares owned to "trading" from the "available for sale" category of investments. On January 1, 2001, the company recognized after-tax income totaling $117.9 million for the unrealized appreciation on the Devon shares reclassified to trading. The portion of the stock investment now classified as "trading" is marked-to-market through income each month. From time to time, the company enters into forward contracts to buy and sell foreign currencies. Certain of these contracts (purchases of Australian dollars and British pound sterling) have been designated and have qualified as cash flow hedges of the company's anticipated future cash flow needs for a portion of its capital expenditures and operating costs. These forward contracts generally have durations of less than three years. The resulting changes in fair value of these contracts are recorded in accumulated other comprehensive income. The amounts in accumulated other comprehensive income, $24.6 million loss at June 30, 2001, will be recognized in earnings in the periods during which the hedged forecasted transactions affect earnings (i.e., when the hedged transaction is paid in the case of a hedge of operating costs and when the hedged assets are depreciated in the case of a hedge of capital expenditures). In the second quarter and the first six months of 2001, the company reclassified $2.4 million and $4.5 million, respectively, of losses on forward contracts from accumulated other comprehensive income to operating expenses in the income statement. Of the existing net losses at June 30, 2001, approximately $8.8 million will be reclassified into earnings during the next 12 months, assuming no further changes in fair value of the contracts. No hedges were discontinued during the second quarter or the first six months of 2001, and no ineffectiveness was recognized. The company has entered into other forward contracts to sell foreign currencies which will be collected as a result of pigment sales denominated in foreign currencies, primarily European currencies. These contracts have not been designated as hedges even though they do protect the company from changes in foreign currency rate changes. Almost all of the pigment receivables have been sold in an asset securitization program at their equivalent U.S. dollar value at the date the receivables were sold. However, the company retains the risk of foreign currency rate changes between the date of sale and collection of the receivables. C. Net cash provided by operating activities reflects cash payments for income taxes and interest as follows: Six Months Ended June 30, (Millions of dollars) 2001 2000 ------ ------ Income tax payments $297.0 $126.3 Less refunds received (18.8) (24.2) ------ ------ Net income tax payments $278.2 $102.1 ====== ====== Interest payments $ 87.4 $ 98.8 ====== ====== D. During the second quarter of 2001 and 2000, comprehensive income was $166.7 million and $122.3 million, respectively. For the six months ended June 30, 2001 and 2000, comprehensive income was $445.9 million and $354.9 million, respectively. The company has certain investments that are considered to be available for sale. These financial instruments are carried in the Consolidated Balance Sheet at fair value, which is based on quoted market prices. The company had no securities classified as held to maturity at June 30, 2001, or December 31, 2000. At June 30, 2001, and December 31, 2000, available-for-sale securities for which fair value can be determined are as follows:

(1) With the adoption of FAS 133, the exchangeable debt and its embedded option features were separated. The debt is now recorded in the Consolidated Balance Sheet at face value less unamortized discount, and the options associated with the exchangeable features of the debt have been recorded separately as derivatives at fair value (see Note B). E. Investments in equity affiliates totaled $53.3 million at June 30, 2001, and $40.5 million at December 31, 2000. Equity income related to the investments is included in Other Income (Loss) in the Consolidated Statement of Income and was a loss of $2.6 million for the three months ended June 30, 2001, compared with income of $7.9 million for the same 2000 period. For the six months of 2001, the equity loss totaled $1 million, compared with income of $13.5 million for the same 2000 period. F. The following tables set forth the computation of basic and diluted earnings per share (EPS) for the three-month and six-month periods ended June 30, 2001 and 2000.

G. In December 2000, the company began an accounts receivable monetization for its pigment business through the sale of selected accounts receivable with a three-year, credit-insurance-backed asset securitization program. The company retained servicing responsibilities and subordinated interests and will receive a servicing fee of 1.07% of the receivables sold for the period of time outstanding, generally 60 to 120 days. No recourse obligations were recorded since the company has very limited obligations for any recourse actions on the sold receivables. The collection of the receivables is insured, and only receivables that qualify for credit insurance can be sold. A portion of the insurance is reinsured by the company's captive insurance company; however, the company believes that the risk of insurance loss is very low since its bad debt experience has historically been insignificant. The company received preference stock in the special-purpose entity equal to 3.5% of the receivables sold. The preference stock is essentially a retained deposit to provide further credit enhancements, if needed, but otherwise recoverable by the company at the end of the program. During the 2001 second quarter, the company sold $155 million of its pigment receivables, resulting in pretax losses of $2 million. For the first six months of 2001, the company sold $307.8 million of receivables, resulting in pretax losses of $4.6 million. The losses were equal to the difference in the book value of the receivables sold and the total of cash and the fair value of the deposit retained by the special-purpose entity. At June 30, 2001, the outstanding balance on receivables sold totaled $109.9 million. No credit losses or delinquencies occurred on the sold receivables during the second quarter or first six months of 2001. H. On May 14, 2001, the company announced the signing of a definitive agreement with HS Resources to acquire all of the outstanding shares of HS Resources. The agreement, unanimously approved by the board of directors of both companies, provides that Kerr-McGee will pay either $66 per share in cash up to a maximum cash total of $833 million or .9404 shares of Kerr-McGee common stock (maximum of 5,090,230 shares) for each share of HS Resources common stock. A special meeting of HS Resources stockholders is to be held on August 1, 2001, to approve the merger. Both companies expect to close the purchase promptly after stockholder approval. I. CONTINGENCIES West Chicago, Illinois In 1973, a wholly owned subsidiary, Kerr-McGee Chemical Corporation, now Kerr-McGee Chemical LLC (Chemical), closed the facility in West Chicago, Illinois, that processed thorium ores. Historical operations had resulted in low-level radioactive contamination at the facility and in the surrounding areas. In 1979, Chemical filed a plan with the Nuclear Regulatory Commission (NRC) to decommission the facility. In 1990, the NRC transferred jurisdiction over the facility to the State of Illinois (the State). Following is the current status of various matters associated with the closed facility. Closed Facility - In 1994, Chemical, the City of West Chicago (the City) and the State reached agreement on the initial phase of the decommissioning plan for the closed West Chicago facility, and Chemical began shipping material from the site to a licensed permanent disposal facility. In February 1997, Chemical executed an agreement with the City covering the terms and conditions for completing the final phase of decommissioning work. The State has indicated approval of the agreement and has issued license amendments authorizing much of the work. Chemical expects most of the work to be completed within the next three years, leaving principally only groundwater remediation and/or monitoring for subsequent years. In 1992, the State enacted legislation imposing an annual storage fee equal to $2 per cubic foot of byproduct material located at the closed facility, which cannot exceed $26 million per year. Initially, all storage fee payments were reimbursed to Chemical as decommissioning costs were incurred. Chemical was fully reimbursed for all storage fees paid pursuant to this legislation. In June 1997, the legislation was amended to provide that future storage fee obligations are to be offset against decommissioning costs incurred but not yet reimbursed. Vicinity Areas - The U.S. Environmental Protection Agency (EPA) has listed four areas in the vicinity of the closed West Chicago facility on the National Priority List promulgated by EPA under authority of the Comprehensive Environmental Response, Compensation, and Liability Act of 1980 (CERCLA) and has designated Chemical as a potentially responsible party in these four areas. Two of the four areas presently are being studied to determine the extent of contamination and the nature of any remedy. These two areas are known as the Sewage Treatment Plant and Kress Creek. The scope of the required cleanup for these two areas has not been determined. The EPA previously issued unilateral administrative orders for the other two areas (known as the residential areas and Reed-Keppler Park), which require Chemical to conduct removal actions to excavate contaminated soils and ship the soils elsewhere for disposal. Without waiving any of its rights or defenses, Chemical is conducting the work required by the two orders. Chemical has completed the required excavation and restoration work at the park site, and will be monitoring the site pending final EPA approval. Government Reimbursement - Pursuant to Title X of the Energy Policy Act of 1992 (Title X), the U.S. Department of Energy is obligated to reimburse Chemical for certain decommissioning and cleanup costs in recognition of the fact that much of the facility's production was dedicated to United States government contracts. Title X was amended in 1998 to increase the amount authorized for reimbursement to $140 million plus inflation adjustments. Through June 30, 2001, Chemical has been reimbursed approximately $146 million under Title X. These reimbursements are provided by congressional appropriations. Other Matters The company and/or its subsidiaries are parties to a number of legal and administrative proceedings involving environmental and/or other matters pending in various courts or agencies. These include proceedings associated with facilities currently or previously owned, operated or used by the company, its subsidiaries and/or their predecessors, and include claims for personal injuries and property damages. The company's current and former operations also involve management of regulated materials and are subject to various environmental laws and regulations. These laws and regulations will obligate the company and/or its subsidiaries to clean up various sites at which petroleum and other hydrocarbons, chemicals, low-level radioactive substances and/or other materials have been disposed of or released. Some of these sites have been designated Superfund sites by EPA pursuant to CERCLA. The company provides for costs related to contingencies when a loss is probable and the amount is reasonably estimable. It is not possible for the company to estimate reliably the amount and timing of all future expenditures related to environmental and legal matters and other contingencies because: * some sites are in the early stages of investigation, and other sites may be identified in the future; * cleanup requirements are difficult to predict at sites where remedial investigations have not been completed or final decisions have not been made regarding cleanup requirements, technologies or other factors that bear on cleanup costs; * environmental laws frequently impose joint and several liability on all potentially responsible parties, and it can be difficult to determine the number and financial condition of other potentially responsible parties and their share of responsibility for cleanup costs; and * environmental laws and regulations are continually changing, and court proceedings are inherently uncertain. As of June 30, 2001, the company had reserves totaling $186 million for cleaning up and remediating environmental sites, reflecting the reasonably estimable costs for addressing these sites. This includes $91 million for the West Chicago sites. Cumulative expenditures at all environmental sites through June 30, 2001, total $837 million. Management believes, after consultation with general counsel, that currently the company has reserved adequately for the reasonably estimable costs of contingencies. However, additions to the reserves may be required as additional information is obtained that enables the company to better estimate its liabilities, including liability at sites now under review, though the company cannot now reliably estimate the amount of future additions to the reserves. Item 2. Management's Discussion and Analysis of Results of Operations and Financial Condition. Comparison of 2001 Results with 2000 Results CONSOLIDATED OPERATIONS Second-quarter 2001 net income totaled $175 million, compared with $109.9 million for the same 2000 period. Net income for the first six months of 2001 totaled $509.7 million, compared with $295.1 million a year earlier. Second-quarter 2001 operating profit totaled $340.1 million, compared with $334 million in the 2000 second quarter. This increase in operating profit was primarily due to higher natural gas sales prices, lower pigment per-unit production costs, the 2000 second quarter write-off of purchased in-process research and development associated with the acquisition of the Savannah, Ga., pigment plant, and lower exploration and production operating costs. The higher operating profit for the 2001 second quarter was partially offset by lower pigment sales prices and volumes, lower crude oil sales prices and volumes, and lower natural gas sales volumes. Operating profit for the first six months of 2001 was $764.4 million, compared with $662.4 million in the same 2000 period. The increase in operating profit for the first six months of 2001 reflects higher natural gas sales prices, lower pigment per-unit production costs, the 2000 write-off of purchased in-process research and development associated with an acquisition, higher pigment sales volumes and lower exploration and production operating costs. Partially offsetting the increase were lower pigment sales prices, lower crude oil sales volumes and prices, lower natural gas sales volumes, and a special charge for the termination of manganese metal production at the company's Hamilton, Miss., electrolytic chemical facility. Other expense for the second quarter of 2001 totaled $60.9 million, compared with $150.4 million for the 2000 quarter. Other income for the first six months of 2001 was $79.6 million, compared with $203.6 million expense for the same 2000 period. The improved results for both 2001 periods were primarily due to lower environmental provisions, lower net interest expense and costs incurred in 2000 for certain chemical facility closings and product-line discontinuations, partially offset by lower foreign currency transaction gains and lower equity income. Also benefiting other income in the first six months of 2001 was a pretax special gain of $181.4 million associated with the reclassification of 85% of the company's investment in Devon common stock to "trading" from "available for sale" (see Note B). The income tax provision was $104.2 million for the 2001 second quarter, compared with $73.7 million for the 2000 period. The income tax provision for the first six months of 2001 was $314 million, compared with $163.7 million for the 2000 period. The provision for the first six months of 2001 included $63.5 million of tax expense related to the reclassification of the Devon stock. Excluding this special gain tax, the increase provisions for both 2001 periods are due primarily to higher income. SEGMENT OPERATIONS Following is a summary of sales and operating profit and a discussion of major factors influencing the results of each of the company's business segments for the second quarter and first six months of 2001, compared with the same periods last year.

Exploration and Production - Operating profit for the second quarter of 2001 was $310.6 million, compared with $324.5 million for the same 2000 period. Operating profit for the first six months of 2001 and 2000 was $721.6 million and $616.6 million, respectively. The decrease in operating profit for the 2001 second quarter was primarily due to lower crude oil and natural gas sales volumes and a decrease in crude oil sales prices, partially offset by higher natural gas sales prices and lower operating expense. The higher operating profit for the first six months of 2001 was primarily due to higher natural gas sales prices and lower operating expense, partially offset by lower crude oil and natural gas sales volumes and lower crude oil sales prices. Revenues were $644.8 million and $669.1 million for the three months ended June 30, 2001 and 2000, respectively, and $1,407.0 million and $1,310.1 million for the first six months of 2001 and 2000, respectively. The following table shows the company's average crude oil and natural gas sales prices and volumes for both the second quarter and first six months of 2001 and 2000.

Chemicals - Pigment Second-quarter 2001 operating profit was $25.9 million on revenues of $245 million, compared with operating profit of $6 million on revenues of $286 million for the same 2000 period. For the first six months of 2001 and 2000, operating profit was $62.3 million and $38.3 million, respectively, on revenues of $493.2 million and $477.2 million, respectively. Operating profit for both 2001 periods increased primarily due to lower pigment per-unit production costs and the 2000 second-quarter write-off of purchased in-process research and development and transition-related expenses associated with the acquisition of two pigment plants, partially offset by lower pigment sales prices. Second-quarter 2001 operating profit was negatively impacted by lower sales volumes compared with the 2000 second quarter. Additionally, operating profit for the first six months of 2001 increased due to higher sales volumes resulting from the company's plant acquisitions in Savannah, Ga., and Botlek, Netherlands, in the 2000 second quarter. Chemicals - Other Operating profit in the 2001 second quarter was $3.6 million on revenues of $49.6 million, compared with operating profit of $3.5 million on revenues of $55.6 million for the 2000 period. Operating loss for the first six months of 2001 was $19.5 million on revenues of $96.7 million, compared with operating profit of $7.5 million on revenues of $109.9 million. Impacting the first six months of 2001 was a $24.9 million special charge for the termination of manganese metal production at the Hamilton, Miss., electrolytic facility. Excluding this special charge, operating profit for the first six months of 2001 totaled $5.4 million, compared with $7.5 million in the same 2000 period. Operating profit for the first six months of 2001 declined primarily due to lower electrolytic and forest products sales volumes and higher electrolytic and forest products production costs, partially offset by higher sales prices for both electrolytic and forest products. Financial Condition At June 30, 2001, the company's net working capital position was a negative $136 million, compared with a positive $158.1 million at June 30, 2000, and a negative $34.2 million at December 31, 2000. The current ratio was .9 to 1 at June 30, 2001, compared with 1.2 to 1 at June 30, 2000, and 1.0 to 1 at December 31, 2000. The negative working capital at June 30, 2001, is not indicative of a lack of liquidity as the company maintains sufficient current assets to settle current liabilities when due. Additionally, the company has significant unused lines of credit and revolving credit facilities, as discussed below. Current asset balances are minimized as one way to finance capital expenditures and to lower borrowing costs. The company's percentage of net debt (debt less cash) to capitalization was 43% at June 30, 2001, compared with 55% at June 30, 2000, and 46% at December 31, 2000. The company had unused lines of credit and revolving credit facilities of $1,479.8 million at June 30, 2001. Of this amount, $820 million can be used to support commercial paper borrowings of Kerr-McGee Credit LLC and $490 million can be used to support euro commercial paper borrowings of Kerr-McGee (G.B.) PLC, Kerr-McGee Chemical GmbH, Kerr-McGee Pigments (Holland) B.V. and Kerr-McGee International ApS. On June 26, 2001, the company issued $200 million variable interest rate notes due June 28, 2004. The interest rate will adjust quarterly based on the three-month LIBOR plus 0.75%. The proceeds received by the company were used to redeem its 7-1/2% convertible subordinated debentures on July 16, 2001, and for general corporate purposes. Capital expenditures for the first six months of 2001, excluding dry hole costs and acquisitions, totaled $855.3 million, compared with $199 million for the same period last year. Exploration and production expenditures, principally in the Gulf of Mexico and North Sea, were 91% of the 2001 total. Chemical - pigment expenditures were 8% of the 2001 total. Chemical - other and corporate incurred the remaining 1% of the expenditures. Management anticipates that the cash requirements for the next several years can be provided through internally generated funds and selective borrowings. Forward-Looking Information Statements in this quarterly report regarding the company's or management's intentions, beliefs, expectations, or that otherwise speak to future events, are forward-looking statements within the meaning of the Securities Litigation Reform Act. Future results and developments discussed in these statements may be affected by numerous factors and risks, such as the accuracy of the assumptions that underlie the statements, the success of the oil and gas exploration and production program, drilling risks, the market value of Kerr-McGee's products, uncertainties in interpreting engineering data, demand for consumer products for which Kerr-McGee's businesses supply raw materials, general economic conditions, and other factors and risks discussed in the company's SEC filings. Actual results and developments may differ materially from those expressed in this quarterly report. PART II - OTHER INFORMATION Item 1. Legal Proceedings - The company and its wholly owned subsidiary, Kerr-McGee Chemical, LLC, have been named as defendants in various legal proceedings alleging that they are responsible for personal injuries and property damages allegedly resulting from the exposure to cresote that was used in current and former railroad tie treating operations. The cases seek recovery under a variety of common law and statutory legal theories. These cases are in various pre-trial stages. The company is vigorously defending these cases. Although liability, if any, that may result is not reasonably estimable, the company believes that, based on information currently available, the disposition of these cases will not have a material adverse effect on the consolidated financial position, results of operations or cash flows of the company. For a discussion of contingencies, reference is made to Management's Discussion and Analysis, Item 7, of Form 10-K for the year ended December 31, 2000, and Footnote I., Contingencies, of this Form 10-Q. Item 6. Exhibits and Reports on Form 8-K (a) Exhibits - Exhibit No. ----------- 2.1 Agreement and Plan of Merger among Kerr-McGee Corporation, King Holdco, Inc., HS Resources, Inc., King Merger Sub, Inc. and Hawk Merger Sub, Inc., filed as Exhibit 2.2 to Form 8-K on May 16, 2001, and incorporated herein by reference. 4.4 The company agrees to furnish the Securities and Exchange Commission, upon request, a copy of the Offering Memorandum dated June 19, 2001, relating to the company's variable interest rate notes due June 28, 2004. (b) Reports on Form 8-K - On May 14, 2001, the company filed a report on Form 8-K announcing it had signed a definitive agreement with HS Resources to acquire all of the outstanding shares of HS Resources. On May 15, 2001, the company filed a report on Form 8-K announcing it will hold analyst meetings to discuss its plans to acquire HS Resources. On May 16, 2001, the company filed a report on Form 8-K announcing it had entered into an Agreement and Plan of Merger with HS Resources. On May 24, 2001, the company filed a report on Form 8-K announcing a conference call to discuss its interim second-quarter 2001 operating results. On June 25, 2001, the company filed a report on Form 8-K announcing a conference call to discuss its second-quarter 2001 operating results. On July 20, 2001, the company filed a report on Form 8-K announcing a conference call to discuss its second-quarter 2001 operating and financial results. SIGNATURE 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. KERR-McGEE CORPORATION Date July 27, 2001 By: (Deborah A. Kitchens) ------------- ---------------------------- Deborah A. Kitchens Vice President and Controller and Chief Accounting Officer

KERR MCGEE CORP 10-Q