| Investors should carefully evaluate these risks including the factors discussed below before deciding to invest in Arch securities |
| Our treatment products segment is seasonal in nature |
| The Company’s HTH water products business is subject to seasonal fluctuations in demand |
| Arch typically experiences reduced sales in the first and fourth quarter of each year, as the residential pool market is concentrated in the United States between Memorial Day and the Fourth of July |
| Its working capital needs peak during the second quarter |
| Unseasonable wet or cool weather can also have a negative impact on the sale of our water and wood treatment products |
| An increase in the cost of our purchased raw materials and energy would lead to higher cost of goods sold, thereby reducing our operating margins |
| The Company purchases large amounts of raw materials, including propylene oxide, chlorinated isocyanurates, monoethanolamine, copper, chromic acid, pyridine, iodine, dipropylene glycol, phthalic anhydride, sodium hypochlorite, chlorine and caustic soda and energy for our businesses |
| Many of our raw material requirements are purchased and provided under the terms and conditions of written agreements, some of which provide for fixed or formula-based pricing and others of which provide for market or spot pricing |
| The price and availability of commodity chemicals is generally determined by global supply and demand |
| Fluctuations in supply and demand could have a material adverse effect on our cost of goods sold and, as a result, our margins |
| We expect higher prices for raw materials in 2006, in particular for copper, monoethanolamine, chromic acid and chlorine and caustic soda and to a lesser extent chlorinated isocyanurates |
| Price increases of raw materials may increase our working capital needs, which could reduce our liquidity and cash flows |
| Energy prices, particularly for electricity, natural gas and fuel oil, have been volatile in recent years and currently exceed historical averages |
| Higher diesel fuel prices may impact our product shipping costs |
| 12 ______________________________________________________________________ [34]Table of Contents In addition, we purchase energy and in some cases raw materials and site services from third parties at our manufacturing plants which are located on sites that we share with such third parties |
| For example, we share our Charleston, Tennessee site with Olin and our Lake Charles, Louisiana site with Lyondell Chemical Company |
| If these other companies shut down their operations at these shared sites, it may significantly increase our costs to operate at these sites and make it difficult for us to obtain the necessary energy raw materials and, in the worst case, cause us to have to suspend or abandon production at these facilities |
| Under agreements with these third parties, we may have to pay some of the site’s shut down costs which might be significant |
| The Company may purchase forward contracts to hedge certain of its raw material costs or utilize purchasing strategies to mitigate the adverse effect of material price increases |
| However, there is no assurance that these strategies will be effective |
| We may be unable to pass on increases in our cost of goods sold to our customers |
| The extent of our profitability depends, in part, on our ability to maintain the differential between our product prices and energy and raw material prices, and we cannot guarantee that we will be able to maintain an appropriate differential at all times |
| The industry segments in which we operate are highly competitive, and such competition may negatively impact us |
| The industry segments in which we operate are highly competitive, and the Company faces intense competition from numerous manufacturers for each of its product lines |
| This competition results from many developments including new competitors in lower-cost production countries like China and India and technological advances creating new competing products or improving existing competing products |
| We compete on the basis of a number of factors, including price, product quality and properties, regulatory and toxicological expertise, customer relationships and services |
| In addition, the Company faces increased competition due to a trend toward consolidation |
| In recent years, there has been substantial consolidation and convergence among companies in the chemicals industry |
| Several of its competitors are larger or have greater financial resources than the Company does |
| It may not be able to effectively address the competitive factors in its industry in the future and, as a result, its financial condition and results of operations may be adversely affected |
| Our base of customers for our Treatment segment is concentrated, and the loss of business from a major customer could have a material adverse effect on us |
| Although no one customer accounted for over 10prca of our 2005 or 2004 sales, approximately 17prca of our Treatment segment sales in 2005 and 2004 were attributable in the aggregate to two customers, with one customer accounting for a significant portion of our HTH water products business sales and the other customer accounting for a significant portion of the sales of our personal care and industrial biocides business |
| We cannot assure investors that these or any other significant customer will not terminate their relationships with it or significantly change, reduce or delay the amount of products ordered from it |
| The loss of any such significant customer could have a material adverse effect on the net sales and operating results of the treatment products segment, which, in turn, could adversely impact our business, financial condition, results of operations and cash flows |
| In addition, this customer concentration gives such customers additional leverage in negotiating terms which may negatively impact our margins |
| We may need to build manufacturing facilities in lower-cost or developing countries to remain competitive in our industry |
| Also our customers or markets may migrate to lower-cost countries where we do not have a presence |
| In recent years, there has been a shift of production capacity in the chemicals industry to developing countries with lower costs of production, such as in China |
| We may be required to invest in such countries in order to offer competitive product prices to our customers |
| In addition, a significant customer may require that 13 ______________________________________________________________________ [35]Table of Contents we build a manufacturing facility in a lower-cost or developing country in order to retain their business |
| Further, this additional manufacturing capacity may make some of our existing manufacturing sites redundant or create excess capacity causing us to have to reduce production at or shutdown such other manufacturing sites which might increase our costs significantly and might trigger shutdown costs and charges including severance payments and writeoffs |
| If we are required to build a manufacturing facility overseas, our capital expenditures would increase to reflect not only the cost of the construction of the facility, but also the long-term maintenance of the facility |
| These capital expenditures may increase our costs which may negatively impact our margins |
| Finally, the relocation of some production facilities to lower-cost countries by an industry may result in lower pricing worldwide for the product which may also negatively impact our margins worldwide for that product |
| In connection with the shift to countries with low-cost production, our customers or the markets for our products may shift to these countries where we may not have a presence |
| For example, our coatings business in Italy has been negatively impacted by the decline of the Italian furniture maker market as a result of such a shift |
| We are subject to risks related to our international operations, including exchange rate fluctuations, which could adversely affect our business, financial condition, results of operations and cash flows |
| We have significant operations in Brazil, England, Italy and South Africa and other foreign countries, and we sell to customers in a number of other countries, including Venezuela, Canada, France and Japan |
| Approximately 50prca of our 2005 sales were outside the United States |
| International sales and operations are subject to significant risks, including, among others: • political and economic instability, such as in Venezuela; • restrictive trade policies; • economic conditions in local markets; • difficulty of enforcing agreements and collecting receivables through certain foreign legal systems; • difficulties in managing international manufacturing operations; • local legal and regulatory requirements, including those relating to the European Biocidal Products Directive, which requires biocide manufacturers, including the Company, to re-register their biocidal products for sale in the European Union (“EU”); • potential difficulties in protecting intellectual property; • potential adverse tax consequences, including imposition of withholding or other taxes on payments by subsidiaries; and • the imposition of product tariffs and duties and the burden of complying with a wide variety of international and US export laws |
| For example, we have manufacturing facilities in Venezuela that process various products in our performance products segment |
| The unstable economic and political conditions in Venezuela may adversely impact operations at our manufacturing facilities, which could have a material adverse effect on our business, financial condition, results of operations and cash flows |
| The Company enters into forward sales and purchase contracts and currency options to manage currency risk resulting from purchase and sale commitments denominated in foreign currencies (principally the British pound, euro, Canadian dollar and Japanese yen) and relating to particular anticipated but not yet committed purchases and sales expected to be denominated in those currencies |
| It cannot assure investors that its efforts to mitigate any of the foregoing factors will be successful in the future |
| If we are unable to mitigate such factors, our business and results of operations could be materially and adversely affected |
| 14 ______________________________________________________________________ [36]Table of Contents As the Company continues to expand our business globally, our success will depend, in large part, on its ability to anticipate and effectively manage these and other risks associated with its international operations |
| However, any of these factors could adversely affect its international operations and, consequently, our operating results |
| The Company cannot assure investors that its operations will continue to be in compliance with applicable customs, currency exchange control regulations, transfer pricing regulations or any other laws or regulations to which it may be subject |
| It also cannot assure investors that these laws will not be modified |
| Our manufacturing facilities process chemicals and, as a result, subject us to operating risks that could adversely affect our results of operations |
| The Company has approximately 24 manufacturing facilities |
| Our operations are subject to various risks associated with manufacturing, transportation, storage and handling of chemicals, including chemical spills, discharges or releases of toxic or hazardous substances or gases, fires, mechanical failure, storage tank leaks, unscheduled downtime, explosions, severe weather and natural disasters, terrorist attacks, natural resource damage and other environmental risks |
| Our suppliers of chemical raw materials are subject to similar risks which may impact our supplies |
| These risks can cause personal injury and loss of life, catastrophic damage to or destruction of property and equipment and environmental and natural resource damage, and may result in an unanticipated interruption or suspension of operations and the imposition of civil or criminal penalties |
| For example, an unplanned outage at our HTH water products manufacturing facility during peak seasonal demands could result in product availability shortfalls or increased costs resulting from the need to source product from alternative manufacturing sources or competitors |
| The loss or shutdown over an extended period of operations at any of our major manufacturing facilities or any losses related to any such claims could have a material adverse effect on our business, financial condition, results of operations or cash flows |
| In addition, if we cannot maintain or upgrade equipment as we require or ensure regulatory compliance, we could be required to cease or curtail some of our manufacturing operations, or we may become unable to manufacture products that compete effectively in our industry |
| While the Company has insurance to mitigate some of these risks, such insurance includes deductibles and policy limits may not be sufficient to cover the Company’s total exposure |
| In addition, there is usually a lag between payments by the Company of the insured liability and reimbursement by the insurance carrier, which lag may negatively impact our cash flow |
| We are subject to environmental and regulatory risks |
| Environmental and regulatory laws have affected, and will continue to affect, substantially all of the Company’s operations |
| We are subject to strict requirements regarding air emissions, waste water discharges and the handling and disposal of hazardous and toxic substances |
| Environmental laws will likely become more stringent over time, thereby requiring new capital expenditures and increases in operating costs |
| In addition, we are responsible or potentially responsible for clean-up costs at several of our current operating sites |
| Although Olin has agreed to be responsible for certain past environmental legacies, there is no assurance that Olin will be able to honor its contractual commitments to the Company |
| Business acquisitions by the Company have also caused it to inherit potential environmental liabilities |
| We believe that we have adequate reserves to cover the cost of our investigation and remediation obligations at each of these sites |
| However, unanticipated environmental conditions or the discovery of new sites or conditions requiring remediation may have a material adverse effect on our operating results and financial condition |
| In addition, many of the Company’s products are required to be registered with the US EPA and with comparable state and foreign governmental agencies and such registration is subject to periodic review and is subject to producing certain data regarding human and environmental safety |
| The Company’s key biocides are currently going through the US EPA’s Registration Eligibility Decision process as required by FIFRA and will be subject to such data production |
| EU authorities recently issued the EU Biocidal Products Directive which requires all biocidal products sold in the EU to re-register |
| The EU is currently considering additional legislation known as the Registration, Evaluation and Authorization of Chemical Substances regulation (“REACH”) which 15 ______________________________________________________________________ [37]Table of Contents would require all chemical products to be re-registered with EU authorities |
| In connection with these programs, such products must demonstrate their continued safety |
| This registration will require extensive testing of those products if current supporting data is insufficient |
| While the Company generally expects that testing will support re-registration approval, it is possible that such testing will not or that those agencies will find the test results or supporting data unsatisfactory |
| In such a case, sale of some of the Company’s products may be restricted (or in the extreme case, banned) in the EU Our products may be rendered obsolete or less attractive by changes in regulatory, legislative or industry requirements |
| Changes in regulatory, legislative or industry requirements may render certain of our products obsolete or less attractive in many ways |
| Our ability to anticipate changes in these requirements, especially changes in regulatory standards, will be a significant factor in our ability to remain competitive |
| We may not be able to comply in the future with new regulatory, legislative and/or industrial standards that may be necessary for us to remain competitive and certain of our products may, as a result, become obsolete or less attractive to our customers |
| For example, enactment of additional laws regarding domestic security of chemical plants may significantly increase our spending on security and negatively impact our margins, particularly compared to foreign competitors who might not be subject to such laws |
| We are subject to certain litigation risks due to the nature of some of our products |
| We produce chemicals that require appropriate procedures and care in their use, handling, storage and transportation |
| As a result of the risks inherent in the nature of some of our chemical products, we have faced and will continue to face product liability claims relating to incidents involving our products, including claims for adverse health effects and personal injury and even death |
| Over the past few years, the Company and/or its CCA-formulating subsidiary Arch Wood Protection, Inc |
| were named, along with several other CCA manufacturers, several CCA customers and various retailers, in five putative class action lawsuits filed in various state and federal courts regarding the marketing and use of CCA-treated wood |
| All of these cases were subsequently dismissed and in two of the cases, the courts ruled that the requirements for a class action had not been met and denied of class action status |
| In addition, there are ten other CCA-related lawsuits in which the Company and/or one or more of the Company’s subsidiaries are involved |
| These additional cases are not putative class actions |
| They are actions by individual claimants alleging various personal injuries allegedly due to exposure to CCA-treated wood |
| The Company and its subsidiaries denied the material allegations of all the various CCA-related claims and have vigorously defended and will continue to vigorously defend them |
| As a result, legal defense and related costs associated with these cases were significant in 2004 and 2003 and may be significant in the future |
| In addition, there is no assurance that subsequent CCA cases, including additional purported class actions, will not be brought |
| Our joint venture interest in New Zealand is engaged in an on-going investigation related to industry competitive practices that could, if penalties result from the investigation, have a material adverse effect on the business, financial condition, results of operations and cash flows of the joint venture |
| In April 2005 and following a governmental investigation, Koppers Arch Wood Protection (NZ) Limited (“KANZ”), a New Zealand joint venture company in which the Company owns indirectly a 49prca interest, was named as a defendant in a civil suit filed by the New Zealand Commerce Commission (“NZCC”) regarding industry competitive practices |
| A number of other companies and individuals, including Koppers Arch Investments Pty Limited (“KAIP”), an Australian entity in which the Company owns indirectly a 49prca interest, a current KANZ and KAIP Board member, and certain unrelated entities, were also named as defendants |
| KANZ manufactures and markets wood preservative products throughout New Zealand and KAIP is a holding company 16 ______________________________________________________________________ [38]Table of Contents for related joint venture companies |
| The NZCC seeks unspecified fines, injunctive relief, and legal costs, among other things |
| The NZCC has the authority to assess fines from each corporate defendant equal to the highest of (i) NZdlra10 million (approximately USdlra7 Million), (ii) three times the commercial gain from any contravention or (iii) 10prca of the sales of the defendant |
| Penalties, if assessed, could have a material adverse effect on KANZ’s and KAIP’s business, financial condition, cash flows and results of operations |
| There is a proposed settlement regarding the claims brought against them by the NZCC which is subject to court approval |
| The KANZ joint venture reported net sales of dlra23dtta4 million and dlra21dtta6 million in 2005 and 2004, respectively, and a net loss of dlra2dtta9 million in 2005 and net income of dlra1dtta4 million in 2004 |
| The Company received no dividends in 2005 and dlra2dtta4 million in cash dividends in 2004 from the joint venture |
| Similarly, Koppers Arch Wood Protection (Aust) Pty Ltd (“KAWP”), an Australian joint venture company in which the Company owns indirectly a 49prca interest and the majority shareholder of KANZ, has made an application for leniency under the Australian Competition and Consumer Commission’s (“ACCC”) policy for cartel conduct |
| The ACCC has granted immunity to KAWP, subject to fulfillment of certain conditions |
| If conditions are not fulfilled, the ACCC may penalize KAWP for any violations of the competition laws of Australia |
| Such penalties, if assessed against KAWP, could have a material adverse effect on KAWP’s business, financial condition, cash flows and results of operations |
| As a result of the Company’s ownership in such Australian and New Zealand entities, an unfavorable resolution could have a material adverse effect on equity in earnings of affiliated companies and dividends received |
| We are subject to liquidity risks |
| In June 2003, the Company entered into an unsecured dlra210dtta0 million senior revolving credit facility which expires in June 2006 |
| The Company expects to renew or replace this facility |
| If it is unable to do so, the Company could experience liquidity difficulties which would have a material adverse effect on its ability to finance its seasonal peak working capital needs |
| Our ability to pay dividends on our shares of Common Stock is subject to compliance with certain debt covenants |
| The Company has entered into a credit facility with lenders which permits the payment of dividends and repurchases of shares based to a financial formula |
| At December 31, 2005, dividends and share repurchase were limited to approximately dlra49dtta8 million |
| In addition, our senior unsecured notes issued in March 2002 contain dividend restrictions which limit dividends and repurchases to dlra35dtta2 million as of December 31, 2005 |
| These limits are adjusted quarterly pursuant to a formula that is increased by earnings and decreased by losses, dividends paid and share repurchases |
| If the Company suffers losses or write-offs or lacks earnings, these covenants may limit or eliminate the Company’s ability to pay dividends |
| The Company paid approximately dlra19 million in dividends in 2005 |
| Our pension obligations are currently underfunded |
| We may have to make significant cash payments to our pension plans, which would reduce the cash available for our business |
| As of December 31, 2005, our accumulated benefit obligation under our US and UK defined benefit pension plans exceeded the fair value of plan assets by approximately dlra141 million |
| The underfunding was caused, in part, by financial market conditions in recent years |
| The defined benefit liabilities of the plans have increased in part as a result of declining interest rates and consequent reductions in the discount rate used to calculate the liabilities |
| In addition, the growth in assets of the plans was slowed for several years by weak investment returns which were consistent with general market indices |
| During the year ended December 31, 2005, we contributed dlra48dtta9 million to 17 ______________________________________________________________________ [39]Table of Contents our pension plans |
| Management expects that our funding obligations under our pension plans will be met from our future cash flow from operations |
| If the performance of the assets in our pension plans does not meet our expectations or other actuarial assumptions are modified, our contributions to our pension plans could be materially higher than we expect, which would reduce the cash available for our business |