UNITED STATES SECURITIES AND
EXCHANGE COMMISSION
Washington, D.C.
20549
Form 10-K
|
|
|
þ
|
|
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
|
|
|
For the fiscal year ended
December 31, 2005
|
|
|
Or
|
o
|
|
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
001-32312
Novelis Inc.
(Exact name of registrant as
specified in its charter)
|
|
|
Canada
|
|
98-0442987
|
(State or other jurisdiction
of
incorporation or organization)
|
|
(I.R.S. Employer
Identification No.)
|
|
|
|
3399 Peachtree Road NE;
Suite 1500
|
|
30326
|
Atlanta, Georgia
(Address of principal
executive offices)
|
|
(Zip
Code)
|
(404) 814-4200
(Registrants
telephone number, including area code)
Securities
registered pursuant to Section 12(b) of the Securities
Exchange Act of 1934:
|
|
|
|
|
Title of Each Class
|
|
Name of Each Exchange on Which Registered
|
|
Common Shares, no par value
|
|
|
New York Stock Exchange
|
|
Common Share Purchase Rights
|
|
|
New York Stock Exchange
|
|
Securities
registered pursuant to Section 12(g) of the Securities
Exchange Act of 1934:
None
Indicate by check mark if the registrant is a well-known
seasoned issuer, as defined in Rule 405 of the Securities
Act. Yes o No þ
Indicate by check mark if the registrant is not required to file
reports pursuant to Section 13 or 15(d) of the
Act. Yes o No þ
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 o No þ
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of
Regulation S-K
is not contained herein, and will not be contained, to the best
of the registrants knowledge, in definitive proxy or
information statements incorporated by reference in
Part III of this
Form 10-K
or any amendment to this
Form 10-K. þ
Indicate by check mark whether the registrant is a large
accelerated filer, an accelerated filer or a non-accelerated
filer. See definition of accelerated filer and large
accelerated filer in
Rule 12b-2
of the Exchange Act.
Large accelerated
filer o Accelerated
filer o Non-accelerated
filer þ
Indicate by check mark whether the registrant is a shell company
(as defined in
Rule 12b-2
of the
Act). Yes o No þ
The aggregate market value of the voting and non-voting common
equity held by non-affiliates of the registrant as of
June 30, 2005 was approximately $1,900,465,066 based on the
closing price of the registrants common shares on the New
York Stock Exchange on such date. All executive officers and
directors of the registrant have been deemed, solely for the
purpose of the foregoing calculation, to be
affiliates of the registrant.
As of June 30, 2006, the registrant had 74,005,649 common
shares outstanding.
Special
Note Regarding Forward-Looking Statements and Market
Data
This document contains forward-looking statements that are based
on current expectations, estimates, forecasts and projections
about the industry in which we operate, and beliefs and
assumptions made by our management. Such statements include, in
particular, statements about our plans, strategies and prospects
under the headings Item 1. Business and
Item 7. Managements Discussion and Analysis of
Financial Condition and Results of Operations. Words such
as expect, anticipate,
intend, plan, believe,
seek, estimate and variations of such
words and similar expressions are intended to identify such
forward-looking statements. Examples of forward-looking
statements in this Annual Report on
Form 10-K
include, but are not limited to, our expectations with respect
to the impact of metal price movements on our financial
performance, our metal price ceiling exposure, the effectiveness
of our hedging programs, our business outlook for 2006 and our
efforts to return to a normal United States Securities and
Exchange Commission (SEC) reporting cycle by the end of 2006.
These statements are not guarantees of future performance and
involve assumptions and risks and uncertainties that are
difficult to predict. Therefore, actual outcomes and results may
differ materially from what is expressed, implied or forecasted
in such forward-looking statements. We do not intend, and we
disclaim any obligation, to update any forward-looking
statements, whether as a result of new information, future
events or otherwise.
This document also contains information concerning our markets
and products generally, which is forward-looking in nature and
is based on a variety of assumptions regarding the ways in which
these markets and product categories will develop. These
assumptions have been derived from information currently
available to us and to the third-party industry analysts quoted
herein. This information includes, but is not limited to product
shipments and share of production. Actual market results may
differ from those predicted. While we do not know what impact
any of these differences may have on our business, our results
of operations, financial condition, cash flow and the market
price of our securities may be materially adversely affected.
Factors that could cause actual results or outcomes to differ
from the results expressed or implied by forward-looking
statements include, among other things:
|
|
|
|
|
the level of our indebtedness and our ability to generate cash;
|
|
|
|
relationships with, and financial and operating conditions of,
our customers and suppliers;
|
|
|
|
changes in the prices and availability of aluminum (or premiums
associated with such prices) or other materials and raw
materials we use;
|
|
|
|
the effect of metal price ceilings in certain of our sales
contracts;
|
|
|
|
the effectiveness of our metal hedging activities, including our
internal used beverage can (UBC) and smelter hedges;
|
|
|
|
fluctuations in the supply of, and prices for, energy in the
areas in which we maintain production facilities;
|
|
|
|
our ability to access financing for future capital requirements;
|
|
|
|
continuing obligations and other relationships resulting from
our spin-off from Alcan, Inc.;
|
|
|
|
changes in the relative values of various currencies;
|
|
|
|
factors affecting our operations, such as litigation, labor
relations and negotiations, breakdown of equipment and other
events;
|
|
|
|
economic, regulatory and political factors within the countries
in which we operate or sell our products, including changes in
duties or tariffs;
|
|
|
|
competition from other aluminum rolled products producers as
well as from substitute materials such as steel, glass, plastic
and composite materials;
|
|
|
|
changes in general economic conditions;
|
2
|
|
|
|
|
our ability to improve and maintain effective internal control
over financial reporting and disclosure controls and procedures
in the future;
|
|
|
|
changes in the fair market value of derivatives;
|
|
|
|
cyclical demand and pricing within the principal markets for our
products as well as seasonality in certain of our
customers industries;
|
|
|
|
changes in government regulations, particularly those affecting
taxes, environmental, health or safety compliance;
|
|
|
|
changes in interest rates that have the effect of increasing the
amounts we pay under our principal credit agreement and other
financing agreements; and
|
|
|
|
the continued cooperation of debt holders and regulatory
authorities with respect to extensions of our 2006 SEC filing
deadlines, the payment of special interest due to our failure to
timely file our SEC reports and the payment of fees in
connection with any related waivers or amendments of covenants
in our principal debt agreements.
|
The above list of factors is not exhaustive. These and other
factors are discussed in more detail under Item 1A.
Risk Factors.
In this Annual Report on
Form 10-K,
unless otherwise specified, the terms we,
our, us, company,
Group, Novelis and Novelis
Group refer to Novelis Inc., a company incorporated in
Canada under the Canadian Business Corporations Act (CBCA) and
its subsidiaries.
Exchange
Rate Data
We prepare our financial statements in United States (U.S.)
dollars. The following table sets forth exchange rate
information expressed in terms of Canadian dollars per
U.S. dollar at the noon buying rate in New York City for
cable transfers in foreign currencies as certified for customs
purposes by the Federal Reserve Bank of New York. You should
note the rates set forth below may differ from the actual rates
used in our accounting processes and in the preparation of our
consolidated and combined financial statements.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
At Period End
|
|
|
Average Rate(1)
|
|
|
High
|
|
|
Low
|
|
|
2001
|
|
|
1.5925
|
|
|
|
1.5519
|
|
|
|
1.6023
|
|
|
|
1.4933
|
|
2002
|
|
|
1.5800
|
|
|
|
1.5702
|
|
|
|
1.6128
|
|
|
|
1.5108
|
|
2003
|
|
|
1.2923
|
|
|
|
1.3916
|
|
|
|
1.5750
|
|
|
|
1.2923
|
|
2004
|
|
|
1.2034
|
|
|
|
1.2984
|
|
|
|
1.3970
|
|
|
|
1.1775
|
|
2005
|
|
|
1.1656
|
|
|
|
1.2083
|
|
|
|
1.2703
|
|
|
|
1.1507
|
|
2006 (through June 30, 2006)
|
|
|
1.1174
|
|
|
|
1.1396
|
|
|
|
1.1797
|
|
|
|
1.0926
|
|
|
|
|
(1) |
|
The average of the noon buying rates on the last day of each
month during the period. |
All dollar figures herein are in U.S. dollars unless
otherwise indicated.
3
PART I
Overview
We are the worlds leading aluminum rolled products
producer based on shipment volume in 2005, with total aluminum
rolled products shipments of approximately 2,873 kilotonnes.
With operations on four continents comprised of 36 operating
plants including three research facilities in 11 countries as of
December 31, 2005, we are the only company of our size and
scope focused solely on aluminum rolled products markets and
capable of local supply of technically sophisticated products in
all of these geographic regions. We had Net sales of
$8,363 million in 2005.
We describe in this Annual Report on
Form 10-K
the businesses we acquired from Alcan, Inc. (Alcan) in the
spin-off transaction, which businesses we now operate as if they
were our businesses for all historical periods described.
References to our shipment totals, results of operations and
cash flows prior to January 1, 2004 do not include
shipments from the facilities transferred to us by Alcan that
were initially acquired by Alcan as part of the acquisition of
Pechiney Aluminum Engineering (Pechiney) in December 2003.
As used in this Annual Report, total shipments
refers to shipments to third parties of aluminum rolled products
as well as ingot shipments, and references to aluminum
rolled products shipments or shipments do not
include ingot shipments. All tonnages are stated in metric
tonnes. One metric tonne is equivalent to 2,204.6 pounds. One
kilotonne (kt) is 1,000 metric tonnes. The term aluminum
rolled products is synonymous with the terms flat
rolled products and FRP commonly used by
manufacturers and third-party analysts in our industry.
Our
History
We were formed as a Canadian corporation and assets were
transferred to us in connection with our spin-off from Alcan on
January 6, 2005 (which we refer to as the spin-off date).
On the spin-off date, we acquired substantially all of the
aluminum rolled products businesses held by Alcan prior to its
acquisition of Pechiney in 2003, as well as certain alumina and
primary metal-related businesses in Brazil formerly owned by
Alcan and four rolling facilities in Europe that Alcan acquired
from Pechiney in 2003. As part of this transaction, Alcans
capital was reorganized and our common shares were distributed
to the then-existing shareholders of Alcan. The various steps
pursuant to which we acquired our businesses from Alcan and
distributed our shares to Alcans shareholders are referred
to herein as the spin-off transaction.
Our
Industry
The aluminum rolled products market represents the global supply
of and demand for aluminum sheet, plate and foil produced either
from sheet ingot or continuously cast roll-stock in rolling
mills operated by independent aluminum rolled products producers
and integrated aluminum companies alike.
Aluminum rolled products are semi-finished aluminum products
that constitute the raw material for the manufacture of finished
goods ranging from automotive body panels to household foil.
There are two major types of manufacturing processes for
aluminum rolled products differing mainly in the process used to
achieve the initial stage of processing:
|
|
|
|
|
hot mills that require sheet ingot, a
rectangular slab of aluminum, as starter material; and
|
|
|
|
continuous casting mills that can
convert molten metal directly into semi-finished sheet.
|
Both processes require subsequent rolling, which we call cold
rolling, and finishing steps such as annealing, coating,
levelling or slitting to achieve the desired thicknesses and
metal properties. Most customers receive shipments in the form
of aluminum coil, a large roll of metal, which can be fed into
their fabrication processes.
4
There are two sources of input material: (1) primary
aluminum, such as molten metal, re-melt ingot and sheet ingot;
and (2) recycled aluminum, such as recyclable material from
fabrication processes, which we refer to as recycled process
material, used beverage cans (UBCs) and other post-consumer
aluminum.
Primary aluminum can generally be purchased at prices set on the
London Metal Exchange (LME), plus a premium that varies by
geographic region of delivery, form (ingot or molten metal) and
purity.
Recycled aluminum is also an important source of input material.
Aluminum is infinitely recyclable and recycling it requires only
approximately 5% of the energy needed to produce primary
aluminum. As a result, in regions where aluminum is widely used,
manufacturers and customers are active in setting up collection
processes in which UBCs and other recyclable aluminum are
collected for re-melting at purpose-built plants. Manufacturers
may also enter into agreements with customers who return
recycled process material and pay to have it re-melted and
rolled into the same product again.
There has been a long-term industry trend towards lighter gauge
(thinner) rolled products, which we refer to as downgauging,
where customers request products with similar properties using
less metal in order to reduce costs and weight. For example,
aluminum rolled products producers and can fabricators have
continuously developed thinner walled cans with similar strength
as previous generation containers, resulting in a lower cost per
unit. As a result of this trend, aluminum tonnage across the
spectrum of aluminum rolled products, and particularly for the
beverage/food cans end-use market, has declined on a per unit
basis, but actual rolling machine hours per unit have increased.
Because the industry has historically tracked growth based on
aluminum tonnage shipped, we believe the downgauging trend may
contribute to an understatement of the actual growth of revenue
attributable to rolling in some end-use markets.
End-use
Markets
Aluminum rolled products companies produce and sell a wide range
of aluminum rolled products, which can be grouped into four
end-use markets based upon similarities in end-use applications:
(1) construction and industrial; (2) beverage/food
cans; (3) foil products; and (4) transportation.
Within each end-use market, aluminum rolled products are
manufactured with a variety of alloy mixtures; a range of
tempers (hardness), gauges (thickness) and widths; and various
coatings and finishes. Large customers typically have customized
needs resulting in the development of close relationships with
their supplying mills and close technical development
relationships.
Construction and Industrial. Construction is
the largest application within this end-use market. Aluminum
rolled products developed for the construction industry are
often decorative and non-flammable, offer insulating properties,
are durable and corrosion resistant, and have a high
strength-to-weight
ratio. Aluminum siding, gutters, and downspouts comprise a
significant amount of construction volume. Other applications
include doors, windows, awnings, canopies, facades, roofing and
ceilings.
Aluminums ability to conduct electricity and heat and to
offer corrosion resistance makes it useful in a wide variety of
electronic and industrial applications. Industrial applications
include electronics and communications equipment, process and
electrical machinery and lighting fixtures. Uses of aluminum
rolled products in consumer durables include microwaves, coffee
makers, flat screen televisions, air conditioners, pleasure
boats and cooking utensils.
Another industrial application is lithographic sheet. Print
shops, printing houses and publishing groups use lithographic
sheet to print books, magazines, newspapers and promotional
literature. In order to meet the strict quality requirements of
the end-users, lithographic sheet must meet demanding
metallurgical, surface and flatness specifications.
Beverage/Food Cans. Beverage cans are the
single largest aluminum rolled products application, accounting
for approximately 23% of worldwide shipments in 2005, according
to market data from Commodity Research Unit International
Limited, or CRU, an independent business analysis and
consultancy group focused on the mining, metals, power, cables,
fertilizer and chemical sectors. The recyclability of aluminum
cans enables them to be used, collected, melted and returned to
the original product form many times, unlike steel, paper or
polyethylene terephthalate plastic (PET plastic), which
deteriorate with every iteration of
5
recycling. Aluminum beverage cans also offer advantages in
fabricating efficiency and product shelf life. Fabricators are
able to produce and fill beverage cans at very high speeds, and
non-porous aluminum cans provide longer shelf life than PET
plastic containers. Aluminum cans are light, stackable and use
space efficiently, making them convenient and cost efficient to
ship. Downgauging and changes in can design help to reduce total
costs on a per can basis and contribute to making aluminum more
competitive with substitute materials.
Beverage can sheet is sold in coil form for the production of
can bodies, ends and tabs. The material can be ordered as
rolled, degreased, pre-lubricated, pre-treated
and/or
lacquered. Typically, can makers define their own specifications
for material to be delivered in terms of alloy, gauge, width and
surface finish.
Other applications in this end-use market include food cans and
screw caps for the beverage industry.
Foil Products. Aluminum, because of its
relatively light weight, recyclability and formability, has a
wide variety of uses in packaging. Converter foil is very thin
aluminum foil, plain or printed, that is typically laminated to
plastic or paper to form an internal seal for a variety of
packaging applications including juice boxes, pharmaceuticals,
food pouches, cigarette packaging and lid stock. Customers order
coils of converter foil in a range of thicknesses from 6 microns
to 60 microns.
Household foil includes home and institutional aluminum foil
wrap, sold as a branded or generic product. Known in the
industry as packaging foil, it is manufactured in thicknesses
from 11 microns to 23 microns. Container foil is used to produce
semi-rigid containers such as pie plates and take-out food trays
and is usually ordered in a range of thicknesses from 60 microns
to 200 microns.
Transportation. Heat exchangers, such as
radiators and air conditioners, are an important application for
aluminum rolled products in the truck and automobile categories
of the transportation end-use market. Original equipment
manufacturers also use aluminum sheet with specially treated
surfaces and other specific properties for interior and exterior
applications. Newly developed alloys are being used in
transportation tanks and rigid containers that allow for safer
and more economical transportation of hazardous and corrosive
goods.
There has been recent growth in certain geographic markets in
the use of aluminum rolled products in automotive body panel
applications, including hoods, deck lids, fenders and lift
gates. These uses typically result from co-operative efforts
between aluminum rolled products manufacturers and their
customers that yield tailor-made solutions for specific
requirements in alloy selection, fabrication procedure, surface
quality and joining. We believe the recent growth in automotive
body panel applications is due in part to the lighter weight,
better fuel economy and improved emissions performance
associated with these applications.
Aluminum rolled products are also used in aerospace
applications, a segment of the transportation market in which we
are not allowed to compete until January 6, 2010, pursuant
to a non-competition agreement we entered into with Alcan in
connection with the spin-off, as described under the heading
Item 1. Business Arrangements Between
Novelis and Alcan Non-competition. However,
aerospace-related consumption of aluminum rolled products has
historically represented a relatively small portion of total
aluminum rolled products market shipments.
Aluminum is also used in the construction of ships hulls
and superstructures and passenger rail cars because of its
strength, light weight, formability and corrosion resistance.
Market
Structure
The aluminum rolled products industry is characterized by
economies of scale, significant capital investments required to
achieve and maintain technological capabilities and demanding
customer qualification standards. The service and efficiency
demands of large customers has encouraged consolidation among
suppliers of aluminum rolled products. To meet these demands in
small but growing markets, established Western companies have
entered into joint ventures with local companies to provide
necessary product and process know-how and capital.
While our customers tend to be increasingly global, many
aluminum rolled products tend to be produced and sold on a
regional basis. The regional nature of the markets is influenced
in part by the fact that not all
6
mills are equipped to produce all types of aluminum rolled
products. For instance, only a few mills in North America,
Europe, Asia, and only one mill in South America produce
beverage can body and end stock. In addition, individual
aluminum rolling mills generally supply a limited range of
products for end-use applications, and seek to maximize profits
by producing high volumes of the highest margin mix per mill
hour given available capacity and equipment capabilities.
Certain multi-purpose common alloy and plate rolled products are
imported into Europe and North America from producers in
emerging markets, such as Brazil, South Africa, Russia and
China. However, at this time we believe that most of these
producers are generally unable to produce flat rolled products
that meet the quality requirements, lead times and
specifications of customers with more demanding applications. In
addition, high freight costs, import duties, inability to take
back recycled aluminum, lack of technical service capabilities
and long lead-times mean that many developing market exporters
are viewed as second-tier suppliers. Therefore, many of our
customers in the Americas, Europe and Asia do not look to
suppliers in these emerging markets for a significant portion of
their requirements.
Competition
The aluminum rolled products market is highly competitive. We
face competition from a number of companies in all of the
geographic regions and end-use markets in which we operate. Our
primary competitors in North America are Alcoa, Inc., Aleris
International, Inc., Wise Metal Group LLC, Norandal Aluminum,
Arco Aluminium, which is a subsidiary of BP plc, and Alcan. Our
primary competitors in Europe are Hydro A.S.A., Alcan, Alcoa and
Corus. Our primary competitors in Asia-Pacific are Furukawa-Sky
Aluminum Corp., Sumitomo Light Metal Company, Ltd., Kobe Steel
Ltd. and Alcoa. Our primary competitors in South America are
Companhia Brasileira de Alumínio, Alcoa and Aluar Aluminio
Argentino. The factors influencing competition vary by region
and end-use market, but generally we compete on the basis of our
value proposition, including price, product quality, the ability
to meet customers specifications, range of products
offered, lead times, technical support and customer service. In
some regions and end-use markets, competition is also affected
by fabricators requirements that suppliers complete a
qualification process to supply their plants. This process can
be rigorous and may take many months to complete. As a result,
obtaining business from these customers can be a lengthy and
expensive process. However, the ability to obtain and maintain
these qualifications can represent a competitive advantage.
In addition to competition from others within the aluminum
rolled products industry, we, as well as the other aluminum
rolled products manufacturers, face competition from
non-aluminum material producers, as fabricators and end-users
have, in the past, demonstrated a willingness to substitute
other materials for aluminum. In the beverage/food cans end-use
market, aluminum rolled products primary competitors are
glass, PET plastic and steel. In the transportation end-use
market, aluminum rolled products compete mainly with steel.
Aluminum competes with wood, plastic and steel in building
products applications. Factors affecting competition with
substitute materials include price, ease of manufacture,
consumer preference and performance characteristics.
Key
Factors Affecting Supply and Demand
The following factors have historically affected the supply of
aluminum rolled products:
Production Capacity. As in most manufacturing
industries with high fixed costs, production capacity has the
largest impact on supply in the aluminum rolled products
industry. In the aluminum rolled products industry, the addition
of production capacity requires large capital investments and
significant plant construction or expansion, and typically
requires long lead-time equipment orders.
Alternative Technology. Advances in
technological capabilities allow aluminum rolled products
producers to better align product portfolio and supply with
industry demand. As an example, continuous casting offers the
ability in some markets to increase capacity in smaller
increments than is possible with hot mill additions. This
enables production capacity to better adjust to small
year-over-year
increases in demand. However, the continuous casting process
permits the production of a more limited range of products.
7
Trade. Some trade flows do occur between
regions despite shipping costs, import duties and the need for
localized customer support. Higher value-added, specialty
products such as lithographic sheet are more likely to be traded
internationally, especially if demand in certain markets exceeds
local supply. With respect to less technically demanding
applications, emerging markets with low cost inputs may export
commodity aluminum rolled products to larger, more mature
markets. Accordingly, regional changes in supply, such as plant
expansions, may have some effect on the worldwide supply of
commodity aluminum rolled products.
The following factors have historically affected the demand for
aluminum rolled products:
Economic Growth. We believe that economic
growth is currently the single largest driver of aluminum rolled
products demand. In mature markets, growth in demand has
typically correlated closely with growth in industrial
production. In emerging markets such as China, growth in demand
typically exceeds industrial production growth largely because
of expanding infrastructures, capital investments and rising
incomes that often accompany economic growth in these markets.
Substitution Trends. Manufacturers
willingness to substitute other materials for aluminum in their
products and competition from substitution materials suppliers
also affect demand. For example, in North America,
competition from PET plastic containers and glass bottles, and
changes in marketing channels and consumer preferences in
beverage containers, have, in recent years, reduced the growth
rate of aluminum can sheet in North America from the high rates
experienced in the 1970s and 1980s. Despite changes in consumer
preferences, North American aluminum beverage can shipments have
remained at approximately 100 billion cans per year since
1994 according to the Can Manufacturers Institute.
LME and Local Currency
Effect. U.S. dollar denominated trading of
primary aluminum on the LME has two primary effects on demand.
First, significant shifts between the value of the local
currency of the end-user and the U.S. dollar may affect the
cost of aluminum to the end-user relative to substitute
materials, depending on the cost of the substitute material in
local currency. Second, the uncertainty of primary metal
movements on the LME may discourage product managers in
industries such as automotive from making long-term commitments
to use aluminum parts. Long-term forward contracts can be used
by manufacturers to reduce the impact of LME price volatility.
Downgauging. Increasing technological and
asset sophistication has enabled aluminum rolling companies to
offer consistent or even improved product strength using less
material, providing customers with a more cost-effective
product. This continuing trend reduces raw material
requirements, but also effectively increases rolled
products plant utilization rates and reduces available
capacity, because to produce the same number of units requires
more rolling hours to achieve thinner gauges. As utilization
rates increase, revenues rise as pricing tends to be based on
machine hours used rather than on the volume of material rolled.
On balance, we believe that downgauging has maintained or
enhanced overall market economics for both users and producers
of aluminum rolled products.
Seasonality. While demand for certain aluminum
rolled products is affected by seasonal factors, such as
increases in consumption of beer and soft drinks packaged in
aluminum cans and the use of aluminum sheet used in the
construction and industrial end-use market during summer months,
our presence in both the northern and southern hemispheres tends
to dampen the impact of seasonality on our business.
Our
Business Strategy
Our primary objective is to maximize long-term shareholder value
through conversion of aluminum into flat rolled products with
our world class asset position. We intend to achieve our goal of
maximizing shareholder value through the following areas of
focus.
Generate
stable and predictable earnings and cash flows
|
|
|
|
|
Move towards a premium product conversion model to maximize the
value of our assets.
|
8
|
|
|
|
|
Effectively manage our significant risk exposures impacting cash
flows and earnings, including price volatility for aluminum,
foreign currency exchange rates, interest rates and energy
prices.
|
|
|
|
Disposal of non-core assets to reshape our existing portfolio of
businesses to provide for stable and predictable earnings and
cash profiles.
|
Structurally
advantaged asset position
|
|
|
|
|
Maintain high asset utilization rates.
|
|
|
|
Maintain or improve our cost position in all regions where we
operate versus our competitors. We will continue to use
continuous process improvement initiatives to focus on higher
cost per ton products, with the goal of decreasing the cost per
ton.
|
|
|
|
Focus on productivity improvements to increase our capacity.
|
Growth
through product mix innovation and opportunistic
acquisitions
|
|
|
|
|
Optimize our portfolio of flat rolled products, improving our
product mix and margins by leveraging our assets and technical
capabilities into products and markets that have higher margins,
stability, barriers to entry and growth. Supply these
differentiated and demanding higher value flat rolled products
in all regions in which we operate.
|
|
|
|
Grow through the development of new market applications and
through the substitution of existing market applications, such
as our Novelis
Fusiontm
technology(1), where our customers benefit from superior
characteristics
and/or a
substitution to a higher value product.
|
|
|
|
Move towards higher technology and more profitable end-use
markets by delivering proprietary products and processes that
will be unique and attractive to our customers.
|
|
|
|
Continuously review acquisition or partnership opportunities
that would enhance both our value and geographical footprint.
|
Flexible
capital structure
|
|
|
|
|
Continue to reduce our debt using our cash flows and proceeds
from the sale of non-core assets, in order to provide
flexibility in our capital structure and establish a solid
financial platform from which we can take advantage of
opportunities to increase shareholder value.
|
|
|
|
(1) |
|
Novelis
Fusiontm
technology allows us to produce a high quality ingot with a core
of one aluminum alloy, combined with one or more layers of
different aluminum alloy(s). The ingot can then be rolled into a
sheet product with different properties on the inside and the
outside, allowing previously unattainable performance for flat
rolled products and creating opportunity for new applications as
well as improved performance and efficiency in existing
operations. |
Our
Operating Segments
Due in part to the regional nature of the supply and demand of
aluminum rolled products and in order to best serve our
customers, we manage our activities on the basis of geographical
areas and are organized under four operating segments. The
operating segments are Novelis North America (NNA), Novelis
Europe (NE), Novelis Asia (NA) and Novelis South America (NSA).
Our chief operating decision-maker uses regional financial
information in deciding how to allocate resources to an
individual segment and in assessing performance of the segment.
Novelis chief operating decision-maker is its chief
executive officer.
We measure the profitability and financial performance of our
operating segments based on Regional Income, in accordance with
FASB Statement No. 131, Disclosure About the Segments of
an Enterprise and Related Information. Regional Income
provides a measure of our underlying regional segment results
that is in
9
line with our portfolio approach to risk management. We define
Regional Income as income before (a) interest expense and
amortization of debt issuance costs; (b) unrealized gains
and losses due to changes in the fair market value of derivative
instruments, except for Korean foreign exchange derivatives;
(c) depreciation and amortization; (d) impairment
charges on long-lived assets; (e) minority interests
share; (f) adjustments to reconcile our proportional share
of Regional Income from non-consolidated affiliates to income as
determined on the equity method of accounting (proportional
share to equity accounting adjustments); (g) restructuring
charges; (h) gains or losses on disposals of fixed assets
and businesses; (i) corporate costs; (j) litigation
settlement net of insurance recoveries;
(k) gains on the monetization of cross-currency interest
rate swaps; (l) provision for taxes on income; and
(m) cumulative effect of accounting change net
of tax.
Our financial information for our segments (including Regional
Income) includes the results of our non-consolidated affiliates
on a proportionately consolidated basis, which is consistent
with the way we manage our business segments. However, under
accounting principles generally accepted in the United States of
America (GAAP), these non-consolidated affiliates are accounted
for using the equity method of accounting. Therefore, in order
to reconcile Total Regional Income to Net income, the
proportional Regional Income of these non-consolidated
affiliates is removed from our Total Regional Income, net of our
share of their net after-tax results, which is reported as
Equity in net income of non-consolidated affiliates on
our consolidated and combined statements of income.
For a discussion of Regional Income and a reconciliation of
Regional Income to Net income, see the discussion under
Item 7. Managements Discussion and Analysis of
Financial Condition and Results of Operations.
The table below sets forth the contribution of each of our
operating segments to our Net sales, Regional Income, Total
assets, Total shipments and Rolled product shipments for the
years ended December 31, 2005, 2004 and 2003.
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Segment
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
|
(All amounts in $ millions, except shipments, which are in
kt)
|
|
|
Novelis North America
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales(i)
|
|
$
|
3,265
|
|
|
$
|
2,964
|
|
|
$
|
2,385
|
|
Regional Income(ii)
|
|
|
196
|
|
|
|
240
|
|
|
|
176
|
|
Total assets
|
|
|
1,547
|
|
|
|
1,406
|
|
|
|
2,392
|
|
Total shipments(i)
|
|
|
1,194
|
|
|
|
1,175
|
|
|
|
1,083
|
|
Rolled product shipments(i)
|
|
|
1,119
|
|
|
|
1,115
|
|
|
|
1,042
|
|
Novelis Europe
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales(i)
|
|
$
|
3,093
|
|
|
$
|
3,081
|
|
|
$
|
2,510
|
|
Regional Income(ii)
|
|
|
206
|
|
|
|
200
|
|
|
|
175
|
|
Total assets
|
|
|
2,139
|
|
|
|
2,885
|
|
|
|
2,364
|
|
Total shipments(i)
|
|
|
1,081
|
|
|
|
1,089
|
|
|
|
1,012
|
|
Rolled product shipments(i)
|
|
|
1,009
|
|
|
|
984
|
|
|
|
860
|
|
Novelis Asia
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales(i)
|
|
$
|
1,391
|
|
|
$
|
1,194
|
|
|
$
|
918
|
|
Regional Income(ii)
|
|
|
108
|
|
|
|
80
|
|
|
|
69
|
|
Total assets
|
|
|
1,002
|
|
|
|
954
|
|
|
|
904
|
|
Total shipments(i)
|
|
|
524
|
|
|
|
491
|
|
|
|
428
|
|
Rolled product shipments(i)
|
|
|
484
|
|
|
|
452
|
|
|
|
385
|
|
Novelis South America
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales(i)
|
|
$
|
630
|
|
|
$
|
525
|
|
|
$
|
414
|
|
Regional Income(ii)
|
|
|
110
|
|
|
|
134
|
|
|
|
88
|
|
Total assets
|
|
|
790
|
|
|
|
779
|
|
|
|
808
|
|
Total shipments(i)
|
|
|
288
|
|
|
|
264
|
|
|
|
258
|
|
Rolled product shipments(i)
|
|
|
261
|
|
|
|
234
|
|
|
|
204
|
|
10
|
|
|
(i) |
|
The net sales and shipments information presented excludes
intersegment sales and shipments. |
|
(ii) |
|
Prior to our spin-off from Alcan, profitability of the operating
segments was measured based on business group profit, or BGP.
See Item 7. Managements Discussion and Analysis of
Financial Condition and Results of Operations in this Annual
Report for a discussion of the differences between BGP and
Regional Income. Prior periods have been recast to conform to
the definition of Regional Income. |
We have highly automated, flexible and advanced manufacturing
capabilities in operating facilities around the globe. In
addition to the aluminum rolled products plants, NSA operates
bauxite mining, alumina refining, hydro-electric power plants
and smelting facilities. We believe our facilities have the
assets required for efficient production and are well managed
and maintained. For a further discussion of financial
information by geographic area, refer to
Note 23 Segment, Geographical Area and Major
Customer Information to our consolidated and combined financial
statements.
Novelis
North America
Through 12 aluminum rolled products facilities, including two
recycling facilities as of December 31, 2005, NNA
manufactures aluminum sheet and light gauge products. Important
end-use applications for NNA include beverage cans, containers
and packaging, automotive and other transportation applications,
building products and other industrial applications.
In 2005, NNA had net sales of $3,265 million, representing
39% of our total net sales, and total shipments of 1,194
kilotonnes (including tolled products) representing 39% of our
total shipments.
The majority of NNAs efforts are directed towards the
beverage can sheet market. The beverage can end-use application
is technically demanding to supply and pricing is competitive.
We believe we have a competitive advantage in this market due to
our low-cost and technologically advanced manufacturing
facilities and technical support capability. Recycling is
important in the manufacturing process and NNA has two
facilities that re-melt post-consumer aluminum and recycled
process material. Most of the recycled material is from used
beverage cans and the material is cast into sheet ingot for
NNAs can sheet production plants.
Novelis
Europe
NE provides European markets with value-added sheet and light
gauge products through the 16 operating plants operated as of
December 31, 2005, including two recycling facilities as
December 31, 2005. In 2005, NE had net sales of
$3,093 million, representing 37% of our total net sales,
and total shipments of 1,081 kilotonnes (including tolled
products) representing 35% of our total shipments.
NE serves a broad range of aluminum rolled product end-use
applications including: construction and industrial; beverage
and food can; foil and technical products; lithographic;
automotive and other. Construction and industrial represents the
largest end-use market in terms of shipment volume by NE. NE
supplies plain and painted sheet for building products such as
roofing, siding, panel walls and shutters, and supplies
lithographic sheet to a worldwide customer base.
NE also has packaging facilities at four locations, and in
addition to rolled product plants, NE has distribution centers
in Italy and France together with sales offices in several
European countries.
Our casting alloys facility at Borgofranco, Italy was closed in
March 2006. We also sold our aluminum rolling mill in Annecy,
France to a third party in March 2006 and reorganized our plants
in Ohle and Ludenscheid, Germany, including the closure of two
non-core business lines located within those facilities as of
the end of May 2006.
Novelis
Asia
NA operates three manufacturing facilities in the Asian region
as of December 31, 2005 and manufactures a broad range of
sheet and light gauge products. In 2005, NA had net sales of
$1,391 million, representing
11
17% of our total net sales, and total shipments of 524
kilotonnes (including tolled products) representing 17% of our
total shipments.
NA production is balanced between foil, construction and
industrial, and beverage/food can end-use applications. We
believe that NA is well-positioned to benefit from further
economic development in China as well as other parts of Asia.
Novelis
South America
NSA operates two rolling plants, two primary aluminum smelters,
bauxite mines, one alumina refinery, and hydro-electric power
plants, and has a 25% interest in a calcined coke manufacturing
facility as of December 31, 2005, all of which are located
in Brazil. NSA manufactures various aluminum rolled products,
including can stock, automotive and industrial sheet and light
gauge for the beverage/food can, construction and industrial and
transportation and packaging end-use markets.
In 2005, NSA had net sales of $630 million, representing 8%
of our total net sales, and total shipments of 288 kilotonnes
(including tolled products) representing 9% of our total
shipments.
The primary aluminum produced by NSAs mines, refinery and
smelters is used by our Brazilian aluminum rolled products
operations, with any excess production being sold on the market
in the form of aluminum billets. In 2005, NSA had shipments of
26 kilotonnes of primary metal. NSA generates a portion of its
own power requirements. NSA also owns options to develop
additional hydroelectric power facilities.
We have begun exploring the sale of our non-core Brazilian
upstream operations, which include mining, energy and smelting,
and our interest in our calcined coke manufacturing facility in
Petrocoque, Brazil.
Raw
Materials and Suppliers
The raw materials that we use in manufacturing include primary
aluminum, recycled aluminum, sheet ingot, alloying elements and
grain refiners. Our smelters also use alumina, caustic soda and
calcined petroleum coke and resin. These raw materials are
generally available from several sources and are not generally
subject to supply constraints under normal market conditions. We
also consume considerable amounts of energy in the operation of
our facilities.
Aluminum
We obtain aluminum from a number of sources, including the
following:
Primary Aluminum Purchases. We purchased
approximately 2,274 kilotonnes of primary aluminum in 2005 in
the form of sheet ingot, standard ingot and molten metal, as
quoted on the LME, 40% of which we purchased from Alcan.
Following our spin-off from Alcan, we have continued to source
aluminum from Alcan pursuant to the metal supply agreements
described under Arrangements Between Novelis
and Alcan. We expect our purchase of aluminum from Alcan
to decline beginning in 2008.
Primary Aluminum Production. We produced
approximately 109 kilotonnes of our own primary aluminum
requirements in 2005 through our smelter and related facilities
in Brazil.
Recycled Aluminum Products. We operate
facilities in several plants to recycle post-consumer aluminum,
such as UBCs collected through recycling programs. In addition,
we have agreements with several of our large customers where we
take recycled processed material from their fabricating activity
and re-melt, cast and roll their recycled aluminum products and
re-supply them with aluminum sheet. Other sources of recycled
material include lithographic plates, where over 90% of aluminum
used is recycled, and products with longer lifespans, like cars
and buildings, which are just starting to become high volume
sources of recycled material. We purchased or tolled
approximately 900 kilotonnes of recycled material in 2005.
12
The majority of recycled material we re-melt is directed back
through can-stock plants. The net effect of these activities is
that 28% of our aluminum rolled products production in 2005 was
made with recycled material.
Sheet Ingot. We have the ability to cast sheet
ingot, which are the slabs of aluminum that are fed into hot
rolling mills to make aluminum rolled products. Casting, which
requires precise control of heat and metal alloys, can have a
major impact on the quality of the sheet ingot produced and all
aluminum rolled products that are subsequently produced from
that sheet ingot. In 2005, we were able to supply 66% of our
internal needs for sheet ingot, which helped us to control the
quality of the sheet ingot we used, and generated cost savings
and sourcing flexibility. We purchased the remainder from Alcan
and other providers under long-term contracts. Following the
spin-off, we have continued to source a portion of our sheet
ingot requirements from Alcan pursuant to the metal supply
agreements described under Arrangements
Between Novelis and Alcan. We expect our purchases of
sheet ingot from Alcan to decline beginning in 2008.
Energy
We use several sources of energy in the manufacture and delivery
of our aluminum rolled products. In 2005, natural gas and
electricity represented approximately 70% of our energy
consumption by cost. We also use fuel oil and transport fuel.
The majority of energy usage occurs at our casting centers, at
our smelters in South America and during the hot rolling of
aluminum. Our cold rolling facilities require relatively less
energy. We purchase our natural gas on the open market, which
subjects us to market pricing fluctuations. Recent higher
natural gas prices in the United States have increased our
energy costs. We may seek to stabilize our future exposure to
natural gas prices through the use of forward purchase
contracts. Natural gas prices in Europe, Asia and South America
have historically been more stable than in the United States.
A portion of our electricity requirements are purchased pursuant
to long-term contracts in the local regions in which we operate.
A number of our facilities are located in regions with regulated
prices, which affords relatively stable costs. NSA has its own
hydroelectric facilities that meet approximately 25% of its
total electricity requirements for smelting operations.
Others
We also have bauxite and alumina requirements. We will satisfy
some of our alumina requirements for the near term pursuant to
the alumina supply agreement we have entered into with Alcan as
discussed below under Arrangements Between
Novelis and Alcan.
Our
Customers
Although we provide products to a wide variety of customers in
each of the markets that we serve, we have experienced
consolidation trends among our customers in many of our key
end-use markets. In 2005, approximately 40% of our total net
sales were to our ten largest customers, most of whom we have
been supplying for more than 20 years. To address
consolidation trends, we focus significant efforts at developing
and maintaining close working relationships with our customers
and end-users.
Our major customers include Agfa-Gevaert N.V., Alcans
packaging business group, Anheuser-Busch Companies, Inc.,
affiliates of Ball Corporation, various bottlers of the
Coca-Cola
system, Crown Cork & Seal Company, Inc., Daching
Holdings Limited, Ford Motor Company, General Motors
Corporation, Lotte Aluminum Co. Ltd., Kodak Polychrome Graphics
GmbH, Pactiv Corporation, Rexam Plc, Ryerson Tull, Inc., Tetra
Pak Ltd., and ThyssenKrupp AG.
In our single largest end-use market, beverage can sheet, we
sell directly to beverage makers and bottlers as well as to can
fabricators that sell the cans they produce to bottlers. In
certain cases, we also operate under umbrella agreements with
beverage makers and bottlers under which they direct their can
fabricators to source their requirements for beverage can body,
end and tab stock from us. Among these umbrella agreements is an
agreement, referred to as the CC agreement, with several North
American bottlers of
Coca-Cola
branded
13
products, including
Coca-Cola
Bottlers Sales and Services. This agreement is based on
arrangements that have been in place since 1997. The parties
entered into a new agreement which will go into effect in
January 2007. Under the CC agreement we shipped approximately
400 kilotonnes of beverage can sheet (including tolled metal) in
2005. These shipments were made to, and we received payment
from, our direct customers, being the beverage can fabricators
that sell beverage cans to the
Coca-Cola
associated bottlers. Under the CC agreement, bottlers in
the
Coca-Cola
system may join the CC agreement by committing a specified
percentage of the can sheet required by their can fabricators to
us.
Purchases by Rexam Plc and its affiliates from our operations in
all of our business segments represented approximately 12.5%,
11.1% and 10.1% of our total net sales in 2005, 2004 and 2003,
respectively.
Distribution
and Backlog
We have two principal distribution channels for the end-use
markets in which we operate: direct sales and distributors. In
2005, 12% of our total net sales were derived from distributors
and 88% of our total net sales were derived from direct sales to
our customers.
Direct
Sales
We supply various end-use markets all over the world through a
direct sales force that operates from individual plants or sales
offices, as well as from regional sales offices in 24 countries.
The direct sales channel typically involves very large,
sophisticated fabricators and original equipment manufacturers.
Long standing relationships are maintained with leading
companies in industries that use aluminum rolled products.
Supply contracts for large global customers generally range from
one to five years in length and historically there has been a
high degree of renewal business with these customers. Given the
customized nature of products and in some cases, large order
sizes, switching costs are significant, thus adding to the
overall consistency of the customer base.
We also use third-party agents or traders in some regions to
complement our own sales force. They provide service to our
customers in countries where we do not have local expertise. We
tend to use third-party agents in Asia and South America more
frequently than in other regions.
Distributors
We also sell our products through aluminum distributors,
particularly in North America and Europe. Customers of
distributors are widely dispersed, and sales through this
channel are highly fragmented. Distributors sell mostly
commodity or less specialized products into many end-use
markets, including the construction and industrial and
transportation markets. We collaborate with our distributors to
develop new end-use applications and improve the supply chain
and order efficiencies.
Backlog
We believe that order backlog is not a material aspect of our
business.
Research
and Development
In 2005, we expensed $41 million on research and
development activities in our plants and modern research
facilities, which included mini-scale production lines equipped
with hot mills, can lines and continuous casters. We expensed
$58 million on research and development activities in 2004
and $62 million in 2003. Our 2005 research and development
spending was within the range of our expected normal annual
expenditures. For 2004 and 2003, research and development
expenses were higher, as they were an allocation of costs to us
by Alcan, and included both specific costs related to projects
directly identifiable with operations of the businesses
subsequently transferred to us, and an allocation of a general
pool of research and development expenses.
We conduct research and development activities at our mills in
order to satisfy current and future customer requirements,
improve our products and reduce our conversion costs. Our
customers work closely
14
with our research and development professionals to improve their
production processes and market options. We have approximately
225 employees dedicated to research and development and customer
technical support, located in many of our plants and research
centers.
Our
Employees
As of June 30, 2006, we had approximately 12,500 employees.
A significant portion of our employees, approximately 5,500, are
employed in our European operations, approximately 3,300 are
employed in North America, approximately 1,600 are employed
in Asia and approximately 2,100 are employed in South America
and other areas. Approximately three-quarters of our employees
are represented by labor unions and their employment conditions
governed by collective bargaining agreements. Collective
bargaining agreements are negotiated on a site, regional or
national level, and are of different durations. We believe that
we have good labor relations in all our operations and have not
experienced a significant labor stoppage in any of our principal
operations during the last decade.
Intellectual
Property
In connection with our spin-off from Alcan, Alcan has assigned
or licensed to us a number of important patents, trademarks and
other intellectual property rights owned or previously owned by
Alcan and required for our business. Ownership of intellectual
property that is used by both us and Alcan is owned by one of
us, and licensed to the other. Certain specific intellectual
property rights which have been determined to be exclusively
useful to us or which were required to be transferred to us for
regulatory reasons have been assigned to us with no license back
to Alcan.
We actively review intellectual property arising from our
operations and our research and development activities and when
appropriate we apply for patents in the appropriate
jurisdictions, including the United States and Canada. We
currently hold patents on approximately 160 different items of
intellectual property. While these patents are important to our
business on an aggregate basis, no single patent is deemed to be
material to our business.
We have applied for or received registrations for the
Novelis word trademark and the Novelis logo
trademark in approximately 50 countries where we have
significant sales or operations.
We have also registered the word Novelis and several
derivations thereof as domain names in numerous top level
domains around the world to protect our presence on the world
wide web.
Environment,
Health and Safety
We own and operate numerous manufacturing and other facilities
in various countries around the world. Our operations are
subject to environmental laws and regulations from various
jurisdictions, which govern, among other things, air emissions,
wastewater discharges, the handling, storage and disposal of
hazardous substances and wastes, the remediation of contaminated
sites, natural resource damages, and employee health and safety.
Future environmental regulations may be expected to impose
stricter compliance requirements on the industries in which we
operate. Additional equipment or process changes at some of our
facilities may be needed to meet future requirements. The cost
of meeting these requirements may be significant. Failure to
comply with such laws and regulations could subject us to
administrative, civil or criminal penalties, obligations to pay
damages or other costs, and injunctions and other orders,
including orders to cease operations.
We are involved in proceedings under the U.S. Comprehensive
Environmental Response, Compensation, and Liability Act, also
known as CERCLA or Superfund, or analogous state provisions
regarding our liability arising from the usage, storage,
treatment or disposal of hazardous substances and wastes at a
number of sites in the United States, as well as similar
proceedings under the laws and regulations of the other
jurisdictions in which we have operations, including Brazil and
certain countries in the European Union. Such laws impose joint
and several liability, without regard to fault or the legality
of the original conduct, for the costs of environmental
remediation, natural resource damages, third-party claims, and
other expenses, on those parties
15
who contributed to the release of a hazardous substance into the
environment. In addition, we are, from time to time, subject to
environmental reviews and investigations by relevant
governmental authorities.
We have established procedures for regularly evaluating
environmental loss contingencies, including those arising from
environmental reviews and investigations and any other
environmental remediation or compliance matters. We believe we
have a reasonable basis for evaluating these environmental loss
contingencies, and we also believe we have made reasonable
estimates for the costs that are likely to be ultimately borne
by us for these environmental loss contingencies. Accordingly,
we have established reserves based on our reasonable estimates
for the currently anticipated costs associated with these
environmental matters. Management has determined that the
currently anticipated costs associated with these environmental
matters will not, individually or in the aggregate, materially
impair our operations or materially adversely affect our
financial condition.
We expect our total expenditures for capital improvements
regarding environmental control facilities for 2006 and 2007 to
be approximately $16 million and $18 million,
respectively.
Arrangements
Between Novelis and Alcan
In connection with our spin-off from Alcan, we and Alcan entered
into a separation agreement and several ancillary agreements to
complete the transfer of the businesses contributed to us by
Alcan and the distribution of our shares to Alcan common
shareholders. We may in the future enter into other commercial
agreements with Alcan, the terms of which will be determined at
the relevant times.
Separation
Agreement
The separation agreement sets forth the agreement between us and
Alcan with respect to: the principal corporate transactions
required to effect our spin-off from Alcan; the transfer to us
of the contributed businesses; the distribution of our shares to
Alcan shareholders; and other agreements governing the
relationship between Alcan and us following the spin-off. Under
the terms of the separation agreement, we assume and agree to
perform and fulfill the liabilities and obligations of the
contributed businesses and of the entities through which such
businesses were contributed, including liabilities and
obligations related to discontinued rolled products businesses
conducted by Alcan prior to the spin-off, in accordance with
their respective terms.
Releases
and Indemnification
The separation agreement provides for a full and complete mutual
release and discharge of all liabilities existing or arising
from all acts and events occurring or failing to occur or
alleged to have occurred or to have failed to occur and all
conditions existing or alleged to have existed on or before the
spin-off, between or among us or any of our subsidiaries, on the
one hand, and Alcan or any of its subsidiaries other than us, on
the other hand, except as expressly set forth in the agreement.
The liabilities released or discharged include liabilities
arising under any contractual agreements or arrangements
existing or alleged to exist between or among any such members
on or before the spin-off, other than the separation agreement,
the ancillary agreements described below and the other
agreements referred to in the separation agreement.
We have agreed to indemnify Alcan and its subsidiaries and each
of their respective directors, officers and employees, against
liabilities relating to, among other things:
|
|
|
|
|
the contributed businesses, liabilities or contracts;
|
|
|
|
liabilities or obligations associated with the contributed
businesses, as defined in the separation agreement, or otherwise
assumed by us pursuant to the separation agreement; and
|
|
|
|
any breach by us of the separation agreement or any of the
ancillary agreements we entered into with Alcan in connection
with the spin-off.
|
16
Alcan has agreed to indemnify us and our subsidiaries and each
of our respective directors, officers and employees against
liabilities relating to:
|
|
|
|
|
liabilities of Alcan other than those of an entity forming part
of our group or otherwise assumed by us pursuant to the
separation agreement;
|
|
|
|
any liability of Alcan or its subsidiaries, other than us,
retained by Alcan under the separation agreement; and
|
|
|
|
any breach by Alcan of the separation agreement or any of the
ancillary agreements we entered into with Alcan in connection
with the spin-off.
|
The separation agreement also specifies procedures with respect
to claims subject to indemnification and related matters.
Further
Assurances
Both we and Alcan have agreed to use our commercially reasonable
efforts after the spin-off, to take, or cause to be taken, all
actions, and to do, or cause to be done, all things, reasonably
necessary or advisable under applicable laws and agreements to
complete the transactions contemplated by the agreement and the
other ancillary agreements described below.
Non-solicitation
of Employees
Except with the written approval of the other party and subject
to certain exceptions provided in the agreement, we and Alcan
have agreed not to, for a period of two years following the
spin-off, (1) directly or indirectly solicit for employment
or recruit the employees of the other party or one of its
subsidiaries, or induce or attempt to induce any employee of the
other party or one of its subsidiaries to terminate his or her
relationship with that other party or subsidiary, or
(2) enter into any employment, consulting, independent
contractor or similar arrangement with any employee or former
employee of the other party or one of its subsidiaries, until
one year after the effective date of the termination of such
employees employment with the other party or one of its
subsidiaries, as applicable.
Non-competition
We have agreed not to engage, directly or indirectly, in any
manner whatsoever, until January 6, 2010, in the
manufacturing, production and sale of certain products for the
plate and aerospace markets, unless expressly permitted to do so
under the terms of the agreement.
Change of
Control
We have agreed, in the event of a change of control (including a
change of control achieved in an indirect manner) during the
four-year period beginning January 6, 2006 and ending
January 6, 2010, to provide Alcan, within 30 days
thereafter with a written undertaking of the acquirer that such
acquirer shall be bound by the non-compete covenants set forth
in the separation agreement during the remainder of the
four-year period, to the same extent as if it had been an
original party to the agreement.
If a change of control event occurs at any time during the
four-year period following the first anniversary of the spin-off
and the person or group of persons who acquired control of our
company fails to execute and deliver the undertaking mentioned
above or refuses, neglects or fails to comply with any of its
obligations pursuant to such undertaking, Alcan will have a
number of remedies, including terminating any or all of the
metal supply agreements, the technical services agreements, or
the intellectual property licenses granted to us or any of our
subsidiaries in the intellectual property agreements, or the
transitional services agreement.
17
Ancillary
Agreements
In connection with our spin-off from Alcan, we entered into a
number of ancillary agreements with Alcan governing certain
terms of our spin-off as well as various aspects of our
relationship with Alcan following the spin-off. These ancillary
agreements include:
Transitional Services Agreement. Pursuant to a
collection of 131 individual transitional services agreements,
Alcan has provided to us and we have provided to Alcan, as
applicable, on an interim, transitional basis, various services,
including, but not limited to, treasury administration, selected
benefits administration functions, employee compensation and
information technology services. The agreed upon charges for
these services generally allow us or Alcan, as applicable, to
recover fully the allocated costs of providing the services,
plus all
out-of-pocket
costs and expenses plus a margin of five percent. No margin is
added to the cost of services supplied by external suppliers. In
general, the majority of the individual service agreements,
which began on the spin-off date, terminated on or prior to
December 31, 2005.
Metal Supply Agreements. We and Alcan have
entered into four multi-year metal supply agreements pursuant to
which Alcan supplies us with specified quantities of re-melt
ingot, molten metal and sheet ingot in North America and Europe
on terms and conditions determined primarily by Alcan. We
believe these agreements provide us with the ability to cover
some metal requirements through a pricing formula. In addition,
an ingot supply agreement in effect between Alcan and Novelis
Korea Ltd. prior to the spin-off remains in effect following the
spin-off.
Foil Supply Agreements. In 2005, we entered
into foil supply agreements with Alcan for the supply of foil
from our facilities located in Norf, Ludenscheid and Ohle,
Germany to Alcans packaging facility located in Rorschach,
Switzerland as well as from our facilities located in Utinga,
Brazil to Alcans packaging facility located in Maua,
Brazil. These agreements are for five-year terms during the
course of which we will supply specified percentages of
Alcans requirements for its facilities described above (in
the case of Alcans Rorschach facility, 94% in 2006, 93% in
2007, 92% in 2008 and 90% in 2009, and in the case of
Alcans Maua facility, 70%). In addition, we will continue
to supply certain of Alcans European operations with foil
under the terms of two agreements that were in effect prior to
the spin-off.
Alumina Supply Agreements. We have entered
into a ten-year alumina supply agreement with Alcan pursuant to
which we purchase from Alcan, and Alcan supplies to us, alumina
for our primary aluminum smelter located in Aratu, Brazil. The
annual quantity of alumina to be supplied under this agreement
is between 85,000 metric tonnes and 126,000 metric tonnes. In
addition, an alumina supply agreement between Alcan and Novelis
Deutschland GmbH that was in effect prior to the spin-off
remains in effect following the spin-off.
Intellectual Property Agreements. We and Alcan
have entered into intellectual property agreements pursuant to
which Alcan has assigned or licensed to us a number of important
patents, trademarks and other intellectual property rights owned
by Alcan and required for our business. Ownership of
intellectual property that is used by both us and Alcan is owned
by one of us and licensed to the other. Certain specific
intellectual property rights which were determined to be
exclusively useful to us or which were required to be
transferred to us for regulatory reasons have been assigned to
us with no license back to Alcan.
Sierre Agreements. We and Alcan entered into a
number of agreements pursuant to which:
|
|
|
|
|
Alcan transferred to us certain assets and liabilities of the
automotive and other aluminum rolled products businesses
relating to the sales and marketing output of the Sierre North
Building, which comprises a portion of the Sierre facility in
Switzerland. Pursuant to the terms of the separation and asset
transfer agreements, the transfer price was determined by a
valuation;
|
|
|
|
Alcan leased to us the Sierre North Building and the machinery
and equipment located in the Sierre North Building (including
the hot and cold mills) for a term of 15 years, renewable
at our option for additional five-year periods, at an annual
base rent in an amount equal to 8.5% of the
|
18
|
|
|
|
|
book value of the Sierre North Building, the leased machinery or
equipment, as applicable, pursuant to the terms of the real
estate lease and equipment lease agreements;
|
|
|
|
|
|
We and Alcan have access to, and use of, property and assets
that are common to each of our respective operations at the
Sierre facility, pursuant to the terms of the access and
easement agreement;
|
|
|
|
Alcan agreed to supply us with all our requirements of aluminum
rolling ingots for the production of aluminum rolled products at
the Sierre facility for a term of ten years, subject to
availability, and provided the aluminum rolling slabs meet
applicable quality standards and are competitively priced,
pursuant to the terms of the metal supply agreement;
|
|
|
|
Alcan provides certain services to us at the Sierre facility,
including services consisting of or relating to environmental
testing, chemical laboratory services, utilities, waste
disposal, facility safety and security, medical services,
employee food service and rail transportation, and we provide
certain services to Alcan at the Sierre facility, including
services consisting of or relating to hydraulic and mechanical
maintenance, roll grinding and recycled process material for a
two-year renewable term, pursuant to the terms of the shared
services agreement; and
|
|
|
|
Alcan retains access to all of the total plate production
capacity of the Sierre facility, which represents a portion of
Sierres total hot mill production capacity. The formula
for the price to be charged to Alcan for products from the
Sierre hot mill is based upon its proportionate share of the
fixed production costs relating to the Sierre hot mill
(determined by reference to actual production hours utilized by
Alcan) and the variable production costs (determined by
reference to the volume of product produced for Alcan). Under
the tolling agreement, we have agreed to maintain the
pre-spin-off standards of maintenance, management and operation
of the Sierre hot mill.
|
With respect to the use of the machinery or equipment in the
Sierre North Building, we have agreed to refrain from making or
authorizing any use of it which may benefit any business
relating to the sale, marketing, manufacturing, development or
distribution of plate or aerospace products.
Neuhausen Agreements. We have entered into an
agreement with Alcan pursuant to which (1) Alcan
transferred to us various laboratory and testing equipment used
in the aluminum rolling sheet business located in Neuhausen,
Switzerland and (2) approximately 35 employees transferred
from Alcan to us at the Neuhausen facility. In addition, we have
assumed certain obligations in connection with the operations of
the Neuhausen facility, including (1) the obligation to
reimburse Alcan for 100% of its actual and direct costs incurred
in terminating employees, cancelling third-party agreements, and
discontinuing the use of assets in the event we request Alcan to
discontinue or terminate services under the services agreement,
(2) the obligation to reimburse Alcan for 20% of the costs
to close the Neuhausen facility in certain circumstances, and
(3) the obligation to indemnify Alcan for (a) all
liabilities arising from the ownership, operation, maintenance,
use, or occupancy of the Neuhausen facility
and/or the
equipment at any time after the spin-off date and resulting from
our acts or omissions or our violation of applicable laws,
including environmental laws, (b) all liabilities relating
to the employees who transfer from Alcan to us after the
spin-off date, and (c) an amount equal to 20% of all
environmental legacy costs related to the Neuhausen facility
that occurred on or before December 31, 2004.
Tax Sharing and Disaffiliation Agreement. The
tax sharing and disaffiliation agreement provides an
indemnification if certain factual representations are breached
or if certain transactions are undertaken or certain actions are
taken that have the effect of negatively affecting the tax
treatment of the spin-off. It further governs the disaffiliation
of the tax matters of Alcan and its subsidiaries or affiliates
other than us, on the one hand, and us and our subsidiaries or
affiliates, on the other hand. In this respect it allocates
taxes accrued prior to and after the spin-off, as well as
transfer taxes resulting from the spin-off. It also allocates
obligations for filing tax returns and the management of certain
pending or future tax contests and creates mutual collaboration
obligations with respect to tax matters.
Employee Matters Agreement. Pursuant to the
employee matters agreement, assets, liabilities and
responsibilities with respect to certain employee compensation,
pension and benefit plans, programs and
19
arrangements and certain employment matters were allocated
between Novelis and Alcan. The employee matters agreement also
sets out the terms and conditions pertaining to the transfer to
us of certain Alcan employees. As of the spin-off date, we hired
or employed all of the employees of Alcan and its affiliates who
were then involved in the businesses transferred to us by Alcan.
Employees who transferred to us from Alcan received credit for
their years of service with Alcan prior to the spin-off.
Effective as of the spin-off date, we generally assumed all
employment compensation and employee benefit liabilities
relating to our employees.
Technical Services Agreements. We have entered
into technical services agreements with Alcan pursuant to which
(1) Alcan provides technical support and related services
to certain of our facilities in Canada, and (2) we provide
similar services to certain Alcan facilities in Canada. These
agreements are not long-term agreements. In addition, we have
entered into a technical services agreement with Alcan pursuant
to which (1) Alcan provides us with materials
characterization, chemical analysis, mechanical testing and
formability evaluation and other general support services at the
Neuhausen facility, (2) Alcan provides us and our employees
with access to and use of those portions of the Neuhausen
facility where the laboratory and testing equipment mentioned
above is located, and office space suitable for our technical
and administrative personnel, and (3) we provide Alcan with
access to specific technical equipment and additional services
upon request from Alcan, in consideration for agreed upon
service fees for a period of two years.
Ohle Agreement. We and Alcan have entered into
an agreement pursuant to which we supply pet food containers to
Alcan, which Alcan markets in connection with its related
packaging activities. We have agreed for a period of five years
not to, directly or indirectly, for ourselves or others, in any
way work in or for, or have an interest in, any company or
person or organization within the European market which conducts
activities competing with the activities of Alcan Packaging
Zutphen B.V., a subsidiary of Alcan, related to its pet food
containers business.
Foil Supply and Distribution
Agreement. Pursuant to the two-year foil supply
and distribution agreement, we (1) manufacture and supply
to, or on behalf of, Alcan certain retail and industrial
packages of Alcan brand aluminum foil and (2) provide
certain services to Alcan in respect of the foil we supply to
Alcan under this agreement, such as marketing and payment
collection. We receive a service fee based on a percentage of
the foil sales under the agreement. Pursuant to the terms of the
agreement, we have agreed we will not market retail packages of
foil in Canada under a brand name that competes directly with
the Alcan brand during the term of the agreement.
Metal Hedging Agreement. We have also entered
into an agreement pursuant to which Alcan provides metal price
hedging services to us. These hedging arrangements help us to
reduce the risk of metal price fluctuations when we enter into
agreements with customers that provide for fixed metal price
arrangements. Alcan charges us fees based on the amount of metal
covered by each hedge.
Available
Information
We are subject to the reporting and information requirements of
the Securities Exchange Act of 1934, as amended (Exchange Act)
and, as a result, we file periodic reports, proxy statements and
other information with the SEC. We make these filings available
on our website, the URL of which is http://www.novelis.com, as
soon as reasonably practicable after we electronically file such
material with, or furnish it to, the SEC. The SEC maintains a
website (http://www.sec.gov) that contains our annual, quarterly
and current reports, proxy and information statements, and other
information we file electronically with the SEC. Information on
our website does not constitute part of this Annual Report on
Form 10-K.
20
Risks
Related to our Business and the Market Environment
Certain
of our customers are significant to our revenues, and we could
be adversely affected by changes in the business or financial
condition of these significant customers or by the loss of their
business.
Our ten largest customers accounted for approximately 40% of our
total net sales in 2005, with Rexam Plc and its affiliates
representing approximately 12.5% of our total net sales in that
year. A significant downturn in the business or financial
condition of our significant customers could materially
adversely affect our results of operations. In addition, if our
existing relationships with significant customers materially
deteriorate or are terminated in the future, and we are not
successful in replacing business lost from such customers, our
results of operations could be adversely affected. Some of the
longer term contracts under which we supply our customers,
including under umbrella agreements such as those described
under Business Our Customers, are
subject to renewal, renegotiation or re-pricing at periodic
intervals or upon changes in competitive supply conditions. Our
failure to successfully renew, renegotiate or re-price such
agreements could result in a reduction or loss in customer
purchase volume or revenue, and if we are not successful in
replacing business lost from such customers, our results of
operations could be adversely affected. The markets in which we
operate are competitive and customers may seek to consolidate
supplier relationships or change suppliers to obtain cost
savings and other benefits.
Our
profitability could be adversely affected by our inability to
pass through metal price increases due to metal price ceilings
in certain of our sales contracts.
Prices for metal are volatile, have recently been impacted by
structural changes in the market, and may increase from time to
time. Nearly all of our products have a price structure with two
components: (i) a pass-through aluminum price based on the
LME plus local market premiums and (ii) a margin over
metal price based on the conversion cost to produce the
rolled product and the competitive market conditions for that
product. Sales contracts representing approximately 20% of our
total 2005 annual net sales provide for a ceiling over which
metal prices cannot contractually be passed through to our
customers, unless adjusted. When applicable, these price
ceilings prevent us from passing through the complete increase
in metal prices under these contracts and, consequently, we
absorb those losses. As a result of the increasing price of
metal, we incurred losses of approximately $120 million
associated with these contracts, without regard to internal or
external hedges, during the first six months of 2006. Depending
on the fluctuations in metal prices for the remainder of 2006
and other factors, we may continue to incur losses on sales
under these contracts.
Our
efforts to mitigate risk from our contracts with metal price
ceilings may not be effective.
We employ three strategies to mitigate our risk of rising metal
prices that we cannot pass through to certain customers due to
metal price ceilings. First, we maximize the amount of our
internally supplied metal inputs from our smelting, refining and
mining operations in Brazil. Second, we rely on the output from
our recycling operations which utilize used beverage cans
(UBCs). Both of these strategies have historically provided a
benefit as these sources of metal are typically less expensive
than purchasing aluminum from third party suppliers. These two
strategies are referred to as our internal hedges. While we
believe that our primary aluminum production continues to
provide the expected benefits during this sustained period of
high LME prices, the recycling operations are providing less
internal hedge benefit than expected. LME metal prices and other
market issues have resulted in higher than expected prices of
UBCs thus compressing the internal hedge benefit we receive from
this strategy.
Beyond our internal hedges described above, our third strategy
to mitigate the risk of loss or reduced profitability associated
with the metal price ceilings is to purchase call options on
projected aluminum volume requirements above our assumed
internal hedge position. Derivatives can be very costly,
therefore we balance this cost with the benefits provided by the
particular instrument before we purchase it. To date, we have
not purchased call options to hedge our exposure to the metal
price ceilings beyond 2006.
21
While our metal call options will reduce our overall exposure to
metal price ceilings, unless adjusted, the reduced effectiveness
of our UBC-related internal hedge will negatively impact our
financial results for 2006 and beyond, even as the percentage of
our total annual net sales under contracts with price ceilings
decreases to approximately 10% in 2007.
Our
results can be negatively impacted by timing differences between
the prices we pay under purchase contracts and metal prices
charged to our customers.
In some of our contracts there is a timing difference between
the metal prices we pay under our purchase contracts and the
metal prices we charge our customers. As a result, changes in
metal prices impact our results, since during such periods we
bear the additional cost or benefit of metal price changes which
could have a material adverse effect on our profitability.
Our
operations consume energy and our profitability may decline if
energy costs were to rise, or if our energy supplies were
interrupted.
We consume substantial amounts of energy in our rolling
operations, our cast house operations and our Brazilian smelting
operations. The factors that affect our energy costs and supply
reliability tend to be specific to each of our facilities. A
number of factors could materially adversely affect our energy
position including:
|
|
|
|
|
increases in costs of natural gas;
|
|
|
|
significant increases in costs of supplied electricity or fuel
oil related to transportation;
|
|
|
|
interruptions in energy supply due to equipment failure or other
causes; and
|
|
|
|
the inability to extend energy supply contracts upon expiration
on economical terms.
|
If energy costs were to rise, or if energy supplies or supply
arrangements were disrupted, our profitability could decline.
We may
not have sufficient cash to pay future dividends and repay
indebtedness and we may be limited in our ability to access
financing for future capital requirements, which may prevent us
from increasing our manufacturing capability, improving our
technology or addressing any gaps in our product
offerings.
Although historically our cash flow from operations has been
sufficient to pay dividends, repay indebtedness, satisfy working
capital requirements and fund capital expenditure and research
and development requirements, in the future we may need to incur
additional debt or issue equity in order to fund these
requirements as well as to make acquisitions and other
investments. To the extent we are unable to raise new capital,
we may be unable to increase our manufacturing capability,
improve our technology or address any gaps in our product
offerings. If we raise funds through the issuance of debt or
equity, any debt securities or preferred shares issued will have
rights and preferences and privileges senior to those of holders
of our common shares. The terms of the debt securities may
impose restrictions on our operations that have an adverse
impact on our financial condition. If we raise funds through the
issuance of equity, the proportional ownership interests of our
shareholders could be diluted.
We
have a substantial amount of indebtedness, which could adversely
affect our business and therefore make it more difficult for us
to fulfill our obligations under our senior secured credit
facility and our
71/4% Senior
Notes due 2015.
As of June 30, 2006, we had total indebtedness of
$2,432 million, including the $800 million of debt
outstanding under the senior secured credit facilities that we
and certain of our subsidiaries entered into in connection with
the spin-off transaction. Following the spin-off transaction and
the financing transactions, our businesses are operating with
significantly more indebtedness and higher interest expenses
than they did when they were part of Alcan.
22
Our indebtedness and interest expense could have important
consequences to Novelis and holders of Senior Notes, including:
|
|
|
|
|
limiting our ability to borrow additional amounts for working
capital, capital expenditures, debt service requirements,
execution of our growth strategy, or other general corporate
purposes;
|
|
|
|
limiting our ability to use operating cash flow in other areas
of our business because we must dedicate a substantial portion
of these funds to service the debt;
|
|
|
|
increasing our vulnerability to general adverse economic and
industry conditions;
|
|
|
|
placing us at a competitive disadvantage as compared to our
competitors that have less leverage;
|
|
|
|
limiting our ability to capitalize on business opportunities and
to react to competitive pressures and adverse changes in
government regulation;
|
|
|
|
limiting our ability or increasing the costs to refinance
indebtedness; and
|
|
|
|
limiting our ability to enter into marketing, hedging,
optimization and trading transactions by reducing the number of
counterparties with whom we can enter into such transactions as
well as the volume of those transactions.
|
Although we are highly leveraged, the indenture relating to the
Senior Notes and the senior secured credit facilities permit us
to incur substantial additional indebtedness in the future. If
we or our subsidiaries incur additional debt, the risks we now
face as a result of our leverage could intensify.
The
covenants in the senior secured credit facilities and the
indenture governing the Senior Notes impose significant
operating and financial restrictions on us.
The senior secured credit facilities and the indenture governing
the Senior Notes impose significant operating and financial
restrictions on us. These restrictions limit our ability and the
ability of our restricted subsidiaries, among other things, to:
|
|
|
|
|
incur additional debt and provide additional guarantees;
|
|
|
|
pay dividends beyond certain amounts and make other restricted
payments;
|
|
|
|
create or permit certain liens;
|
|
|
|
make certain asset sales;
|
|
|
|
use the proceeds from the sales of assets and subsidiary stock;
|
|
|
|
create or permit restrictions on the ability of our restricted
subsidiaries to pay dividends or make other distributions to us;
|
|
|
|
engage in certain transactions with affiliates;
|
|
|
|
enter into sale and leaseback transactions;
|
|
|
|
designate subsidiaries as unrestricted subsidiaries; and
|
|
|
|
consolidate, merge or transfer all or substantially all of our
assets or the assets of our restricted subsidiaries.
|
The senior secured credit facility also contains various
affirmative covenants, including financial covenants, with which
we are required to comply.
We believe that we are currently in compliance with the
covenants in our senior secured credit facility. However, as
described below, we obtained waivers from our lenders related to
our inability to timely file our SEC reports. In addition,
future operating results substantially below our business plan
or other adverse factors, including a significant increase in
interest rates, could result in our being unable to comply with
our financial covenants. If we do not comply with these
covenants and are unable to obtain waivers from our
23
lenders, we would be unable to make additional borrowings under
these facilities, our indebtedness under these agreements would
be in default and could be accelerated by our lenders and could
cause a cross-default under our other indebtedness. In
particular, we expect it will be necessary to amend the
financial covenant related to our interest coverage and leverage
ratios in order to align them with our current business outlook
for the remainder of the 2006 fiscal year. In addition, if we
incur additional debt in the future, we may be subject to
additional covenants, which may be more restrictive than those
that we are subject to now.
We
could face material adverse consequences under covenants in our
Senior Notes and our senior secured credit facilities as a
result of our late SEC filings.
As a result of the restatement of our unaudited condensed
consolidated and combined financial statements for the quarters
ended March 31, 2005 and June 30, 2005, and our review
process as discussed in Item 9A, we delayed the filing of
our quarterly report on
Form 10-Q
for the quarter ended September 30, 2005, this Annual
Report on
Form 10-K
and our quarterly reports on
Form 10-Q
for the first two quarters of 2006.
The terms of our $1,800 million senior secured credit
facility require that we deliver unaudited quarterly and audited
annual financial statements to our lenders within specified
periods of time. Due to the restatement, we obtained a series of
waiver and consent agreements from the lenders under the
facility to extend the various filing deadlines. The fourth
waiver and consent agreement, dated May 10, 2006, extended
the filing deadline for this Annual Report on
Form 10-K
to September 29, 2006, and the
Form 10-Q
filing deadlines for the first, second and third quarters of
2006 to October 31, 2006, November 30, 2006, and
December 29, 2006, respectively. These extended filing
deadlines were subject to acceleration to 30 days after the
receipt of an effective notice of default under the indenture
governing our Senior Notes relating to our inability to timely
file such periodic reports with the SEC. We received an
effective notice of default with respect to this Annual Report
on
Form 10-K
and our
Form 10-Q
for the first quarter of 2006 on July 21, 2006 causing
these deadlines to accelerate to August 18, 2006. As a
result, we entered into a fifth waiver and consent agreement,
dated August 11, 2006, which again extended the filing
deadline for this Annual Report on
Form 10-K
and our
Form 10-Q
for the first quarter of 2006 to September 18, 2006.
Subsequent to the effective date of the fifth waiver and consent
agreement, we also received an effective notice of default with
respect to our
Form 10-Q
for the second quarter of 2006 on August 24, 2006. The
fifth waiver and consent agreement extended the accelerated
filing deadline caused as a result of the receipt of the
effective notice of default with respect to our
Form 10-Q
for the second quarter of 2006 to October 22, 2006
(59 days after the receipt of any notice). The fifth waiver
and consent agreement would also extend any accelerated filing
deadline caused as a result of the receipt of an effective
notice of default under the Senior Notes with respect to our
Form 10-Q
for the third quarter of 2006 to the earlier of 30 days
after the receipt of any such notice of default and
December 29, 2006.
Beginning with the fourth waiver and consent agreement we agreed
to a 50 basis point increase in the applicable margin on
all current and future borrowings outstanding under our senior
secured credit facility, and a 12.5 basis point increase in
the commitment fee on the unused portion of our revolving credit
facility. These increases will continue until we inform our
lenders that we no longer need the benefit of the extended
filing deadlines granted in the fifth waiver and consent
agreement, at which time the fifth waiver and consent agreement
will expire and obligate us to the filing requirements set forth
in the senior secured credit facility and the fourth waiver and
consent agreement.
We believe it is probable that we will file our
Form 10-Q
for the first quarter of 2006 by September 18, 2006 and our
Form 10-Q
for the second quarter of 2006 by October 22, 2006;
however, there can be no assurance that we will be able to do
so. If we are unable to file our
Form 10-Q
for the first and second quarters of 2006 by the applicable
deadlines, we intend to seek additional waivers from the lenders
under our senior secured credit facility to avoid an event of
default under the facility. An event of default under the senior
secured credit facility would entitle the lenders to terminate
the senior secured credit facility and declare all or any
portion of the obligations under the facility due and payable.
If we were unable to timely file our
Form 10-Qs
for the first and second quarters of 2006 or obtain additional
waivers, we would seek to refinance our senior secured credit
facility using a $2,855 million commitment for financing
facilities that we obtained from Citigroup Global Markets Inc.
(the Commitment Letter).
24
Under the indenture governing the Senior Notes, we are required
to deliver to the trustee a copy of our periodic reports filed
with the SEC within the time periods specified by SEC rules. As
a result of our receipt of effective notices of default from the
trustee on July 21, 2006 with respect to this Annual Report
on
Form 10-K
and our
Form 10-Q
for the first quarter of 2006 and on August 24, 2006 with
respect to our
Form 10-Q
for the second quarter of 2006 we are required to file our
Form 10-Q
for the first quarter of 2006 by September 19, 2006, and
our
Form 10-Q
for the second quarter of 2006 by October 23, 2006 in order
to prevent an event of default. From June 22, 2006 to
July 19, 2006, we solicited consents from the noteholders
to a proposed amendment of certain provisions of the indenture
and a waiver of defaults thereunder; however, we did not receive
a sufficient number of consents and the consent solicitation
lapsed. If we fail to file our
Form 10-Qs
for the first and second quarters of 2006 by the applicable
deadlines, the trustee or holders of at least 25% in aggregate
principal amount of the Senior Notes may elect to accelerate the
maturity of the Senior Notes. We believe it is probable that we
will file our
Form 10-Qs
for the first and second quarters of 2006 by the applicable
deadlines; however, there can be no assurance that we will be
able to do so. If we are unable to file our
Form 10-Qs
for the first and second quarters of 2006 by the applicable
deadlines, we intend to amend the facility so we may refinance
the Senior Notes utilizing the Commitment Letter, likely through
a tender offer for the Senior Notes. We will obtain this
refinancing from the lenders under our senior secured credit
facility or, if we are unsuccessful in obtaining the necessary
approvals from our lenders to refinance the Senior Notes, we
intend to rely on the Commitment Letter to refinance the senior
secured credit facility and repay the Senior Notes.
On July 26, 2006, we entered into the Commitment Letter
with Citigroup Global Markets Inc. (Citigroup) for backstop
financing facilities totaling approximately $2,855 million.
Under the terms of the Commitment Letter, Citigroup has agreed
that, in the event we are unable to cure the default under the
Senior Notes by September 19, 2006, Citigroup will
(a) provide loans in an amount sufficient to repurchase the
Senior Notes, (b) use commercially reasonable efforts to
obtain the requisite approval from the lenders under our senior
secured credit facility for an amendment permitting these
additional loans, and (c) in the event that such lender
approval is not obtained, provide us with replacement senior
secured credit facilities, in addition to the loans to be used
to repay the Senior Notes.
Under any of the refinancing alternatives discussed above, we
would incur significant costs and expenses, including
professional fees and other transaction costs. We also
anticipate that it will be necessary to pay significant waiver
and amendment fees in connection with the potential amendments
to our senior secured credit facility described above. In
addition, if we are successful in refinancing any or all of our
outstanding debt under the Commitment Letter, we are likely to
experience an increase to the applicable interest rates over the
life of any new debt in excess of our current interest rates,
based on prevailing market conditions and our credit risk.
While we expect that funding will be available under the
Commitment Letter to refinance our Senior Notes
and/or our
senior secured credit facility if necessary, if financing is not
available under the Commitment Letter for any reason, we would
not have sufficient liquidity to repay our debt. Accordingly, we
would be required to negotiate an alternative restructuring or
refinancing of our debt.
Any acceleration of the outstanding debt under the senior
secured credit facility would result in a cross-default under
our Senior Notes. Similarly, the occurrence of an event of
default under our Senior Notes would result in a cross-default
under the senior secured credit facility. Further, the
acceleration of outstanding debt under our senior secured credit
facility or our Senior Notes would result in defaults under
other contracts and agreements, including certain interest rate
and foreign currency derivative contracts, giving the
counterparty to such contracts the right to terminate. As of
June 30, 2006, we had
out-of-the-money
derivatives valued at approximately $86 million that the
counterparties would have the ability to terminate upon the
occurrence of an event of default.
We believe it is probable that we will file our
Form 10-Q
for the first quarter of 2006 by September 18, 2006 and our
Form 10-Q
for the second quarter of 2006 by October 22, 2006.
Accordingly, we continue to classify the senior secured credit
facility and our Senior Notes as long-term debt as of
December 31, 2005.
25
We
could face additional adverse consequences as a result of our
late SEC filings.
Our future success also depends upon the support of our
customers, suppliers and investors. Our late SEC filings have
resulted in negative publicity and may have a negative impact on
the market price of our common stock. The effects of our late
SEC filings could cause some of our customers or potential
customers to refrain from purchasing or defer decisions to
purchase our products and services. Additionally, current or
potential suppliers may re-examine their willingness to do
business with us, to develop critical interfaces to our products
or to supply products and services if they lose confidence in
our ability to fulfill our commitments. Any of these losses
could have a material adverse effect on our business.
We will continue to incur additional expenses until we are
current in our SEC reporting and have established the
appropriate controls to continue to report our results on a
timely basis. The expenses incurred in connection with the
restatement and review process were approximately
$30 million through June 30, 2006. These expenses
include professional fees, audit fees, credit waiver and consent
fees, and special interest on our Senior Notes.
In addition, as a result of our late SEC filings we will not be
eligible to use a short form registration statement
on
Form S-3
or incorporate information by reference into our registration
statement on
Form S-4
filed in connection with the exchange offer for our Senior
Notes, and may not be eligible to use a short form registration
statement in the future if we continue to fail to satisfy the
conditions required to use short form registration. Our
inability to use a short form registration statement may impair
our ability or increase the costs and complexity of our efforts
to raise funds in the public markets or use our stock as
consideration in acquisitions should we desire to do so during
this one year period. In addition, our inability to incorporate
information by reference into our registration statement on
Form S-4
for the exchange offer for our Senior Notes may delay the
completion of the exchange offer.
We
will be subject to higher interest rates under our Senior Notes
until we can complete a registered exchange offer.
The indenture governing the Senior Notes and the related
registration rights agreement required us to file a registration
statement for the notes and exchange the original, privately
placed notes for registered notes. The registration statement
was declared effective by the SEC on September 27, 2005.
Under the indenture and the related registration rights
agreement, we were required to complete the exchange offer for
the Senior Notes by November 11, 2005. We did not complete
the exchange offer by that date. As a result, we began to accrue
additional special interest at a rate of 0.25% from
November 11, 2005. The indenture and the registration
rights agreement provide that the rate of additional special
interest increases by 0.25% during each subsequent
90-day
period until the exchange offer closes, with the maximum amount
of additional special interest being 1.00% per year. On
August 8, 2006 the rate of additional special interest
increased to 1.00%. On August 14, 2006, we extended the
offer to exchange the Senior Notes to October 20, 2006. We
expect to file a post-effective amendment to the registration
statement and complete the exchange as soon as practicable
following the date we are current on our reporting requirements.
We will cease paying additional special interest once the
exchange offer is completed.
A
deterioration of our financial position or a downgrade of our
ratings by a credit rating agency could increase our borrowing
costs and our business relationships could be adversely
affected.
A deterioration of our financial position or a downgrade of our
ratings for any reason could increase our borrowing costs and
have an adverse effect on our business relationships. From time
to time, we enter into various forms of hedging activities
against currency or metal price fluctuations and trade metal
contracts on the London Metal Exchange, or LME. Financial
strength and credit ratings are important to the pricing of
these hedging and trading activities. As a result, any downgrade
of our credit ratings may make it more costly for us to engage
in these activities, and changes to our level of indebtedness
may make it more costly for us to engage in these activities in
the future.
26
Adverse
changes in currency exchange rates could negatively affect our
financial results and the competitiveness of our aluminum rolled
products relative to other materials.
Our businesses and operations are exposed to the effects of
changes in the exchange rates of the U.S. dollar, the Euro,
the British pound, the Brazilian real, the Canadian dollar, the
Korean won and other currencies. We have implemented a hedging
policy that attempts to manage currency exchange rate risks to
an acceptable level based on our managements judgment of
the appropriate trade-off between risk, opportunity and cost;
however, this hedging policy may not successfully or completely
eliminate the effects of currency exchange rate fluctuations
which could have a material adverse effect on our financial
results.
We prepare our consolidated and combined financial statements in
U.S. dollars, but a portion of our earnings and
expenditures are denominated in other currencies, primarily the
Euro, the Korean won and the Brazilian real. Changes in exchange
rates will result in increases or decreases in our reported
costs and earnings, and may also affect the book value of our
assets located outside the United States and the amount of our
equity.
Primary aluminum is purchased based upon LME aluminum trading
prices denominated in U.S. dollars. As a result, and
because we generally sell our rolled products on a margin
over metal price, increases in the relative value of the
U.S. dollar against the local currency in which sales are
made can make aluminum rolled products less attractive to our
customers than substitute materials, such as steel or glass,
whose manufacturing costs may be more closely linked to the
local currency, which in turn could have a material adverse
effect on our financial results.
Most
of our facilities are staffed by a unionized workforce, and
union disputes and other employee relations issues could
materially adversely affect our financial results.
Approximately three-quarters of our employees are represented by
labor unions under a large number of collective bargaining
agreements with varying durations and expiration dates. We may
not be able to satisfactorily renegotiate our collective
bargaining agreements when they expire. In addition, existing
collective bargaining agreements may not prevent a strike or
work stoppage at our facilities in the future, and any such work
stoppage could have a material adverse effect on our financial
results.
Our
operations have been and will continue to be exposed to various
business and other risks, changes in conditions and events
beyond our control in countries where we have operations or sell
products.
We are, and will continue to be, subject to financial,
political, economic and business risks in connection with our
global operations. We have made investments and carry on
production activities in various emerging markets, including
Brazil, Korea and Malaysia, and we market our products in these
countries, as well as China and certain other countries in Asia.
While we anticipate higher growth or attractive production
opportunities from these emerging markets, they also present a
higher degree of risk than more developed markets. In addition
to the business risks inherent in developing and servicing new
markets, economic conditions may be more volatile, legal and
regulatory systems less developed and predictable, and the
possibility of various types of adverse governmental action more
pronounced. In addition, inflation, fluctuations in currency and
interest rates, competitive factors, civil unrest and labor
problems could affect our revenues, expenses and results of
operations. Our operations could also be adversely affected by
acts of war, terrorism or the threat of any of these events as
well as government actions such as controls on imports, exports
and prices, tariffs, new forms of taxation, or changes in fiscal
regimes and increased government regulation in the countries in
which we operate or service customers. Unexpected or
uncontrollable events or circumstances in any of these markets
could have a material adverse effect on our financial results.
We
could be adversely affected by disruptions of our
operations.
Breakdown of equipment or other events, including catastrophic
events such as war or natural disasters, leading to production
interruptions in our plants could have a material adverse effect
on our financial results. Further, because many of our customers
are, to varying degrees, dependent on planned deliveries from
our plants, those customers that have to reschedule their own
production due to our missed deliveries could pursue
27
financial claims against us. We may incur costs to correct any
of these problems, in addition to facing claims from customers.
Further, our reputation among actual and potential customers may
be harmed, potentially resulting in a loss of business. While we
maintain insurance policies covering, among other things,
physical damage, business interruptions and product liability,
these policies may not cover all of our losses and we could
incur uninsured losses and liabilities arising from such events,
including damage to our reputation, loss of customers and suffer
substantial losses in operational capacity, any of which could
have a material adverse effect on our financial results.
We may
not be able to successfully develop and implement new technology
initiatives in a timely manner.
We have invested in, and are involved with, a number of
technology and process initiatives. Several technical aspects of
these initiatives are still unproven and the eventual commercial
outcomes cannot be assessed with any certainty. Even if we are
successful with these initiatives, we may not be able to deploy
them in a timely fashion. Accordingly, the costs and benefits
from our investments in new technologies and the consequent
effects on our financial results may vary from present
expectations.
Loss
of our key management and other personnel, or an inability to
attract such management and other personnel, could impact our
business.
We depend on our senior executive officers and other key
personnel to run our business. The loss of any of these officers
or other key personnel could materially adversely affect our
operations. Competition for qualified employees among companies
that rely heavily on engineering and technology is intense, and
the loss of qualified employees or an inability to attract,
retain and motivate additional highly skilled employees required
for the operation and expansion of our business could hinder our
ability to improve manufacturing operations, conduct research
activities successfully and develop marketable products.
If we
fail to establish and maintain effective disclosure controls and
procedures and internal control over financial reporting, we may
have material misstatements in our financial statements and we
may not be able to report our financial results in a timely
manner.
Our chief executive officer and chief financial officer
performed an evaluation of the effectiveness of the design and
operation of our disclosure controls and procedures (as defined
in
Rule 13a-15(e)
or 15d-15(e)
under the Securities Exchange Act of 1934, as amended (the
Exchange Act)) as of December 31, 2005 and
concluded that they were not effective at a reasonable level as
a result of the material weaknesses described below. The
following material weaknesses were identified in connection with
the restatement of our unaudited condensed consolidated and
combined financial statements for the interim periods ended
March 31, 2005 and June 30, 2005:
|
|
|
|
|
lack of sufficient resources in our accounting and finance
organization;
|
|
|
|
inadequate monitoring of non-routine and non-systematic
transactions;
|
|
|
|
accounting for accrued expenses;
|
|
|
|
accounting for income taxes; and
|
|
|
|
accounting for derivative transactions.
|
These material weaknesses in our internal control over financial
reporting contributed to the restatements to our unaudited
condensed consolidated and combined financial statements for the
quarter ended March 31, 2005 and for the quarter and six
months ended June 30, 2005. We cannot be certain that any
remedial measures we take will ensure that we implement and
maintain adequate controls over our financial processes and
reporting in the future. Any failure to implement new or
improved controls or difficulties encountered in their
implementation could cause us to fail to meet our reporting
obligations. In particular, if the material weaknesses described
above are not remediated, they could result in a misstatement of
our accounts and disclosures that could result in a material
misstatement to our annual or interim consolidated financial
28
statements in future periods that would not be prevented or
detected. For further discussion of our disclosure controls and
procedures and internal control over financial reporting, see
Item 9A. Controls and Procedures.
In connection with our remediation efforts, we underwent changes
in several key financial management positions in 2005 and 2006.
Our inability or difficulty in integrating new financial
management into our company could hinder our ability to timely
file our reports with the SEC, and to remediate and improve our
internal control over financial reporting and our disclosure
controls and procedures.
We were not required by Section 404 of the Sarbanes-Oxley
Act of 2002 (Section 404) and related SEC rules and
regulations to perform an evaluation of the effectiveness of our
internal control over financial reporting as of
December 31, 2005. We are, however, required to perform
such an evaluation for the year ending December 31, 2006
and such evaluation will be based on the criteria set forth in
Internal Control-Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission
(COSO). We cannot assure you that the material weaknesses
described above will be fully remediated prior to the conclusion
of this evaluation, or that we will not uncover additional
material weaknesses as of December 31, 2006. Any such
failure would also adversely affect the results of periodic
management evaluations and annual auditor reports regarding the
effectiveness of the Companys internal control over
financial reporting under Section 404.
We may
not be able to adequately protect proprietary rights to our
technology.
Although we attempt to protect our proprietary technology and
processes and other intellectual property through patents,
trademarks, trade secrets, copyrights, confidentiality and
nondisclosure agreements and other measures, these measures may
not be adequate to protect our intellectual property. Because of
differences in intellectual property laws throughout the world,
our intellectual property may be substantially less protected in
various international markets than it is in the United States
and Canada. Failure on our part to adequately protect our
intellectual property may materially adversely affect our
financial results. Furthermore, we may be subject to claims that
our technology infringes the intellectual property rights of
another. Even if without merit, those claims could result in
costly and prolonged litigation, divert managements
attention and could materially adversely affect our business. In
addition, we may be required to enter into licensing agreements
in order to continue using technology that is important to our
business, or we may be unable to obtain license agreements on
terms that are acceptable to us or at all.
Past
and future acquisitions or divestitures may adversely affect our
financial condition.
We have grown partly through the acquisition of other businesses
including businesses acquired by Alcan in its 2000 acquisition
of the Alusuisse Group Ltd. and its 2003 acquisition of
Pechiney, both of which were integrated aluminum companies. As
part of our strategy for growth, we may continue to pursue
acquisitions, divestitures or strategic alliances, which may not
be completed or, if completed, may not be ultimately beneficial
to us. There are numerous risks commonly encountered in business
combinations, including the risk that we may not be able to
complete a transaction that has been announced, effectively
integrate businesses acquired or generate the cost savings and
synergies anticipated. Failure to do so could have a material
adverse effect on our financial results.
We
could be required to make unexpected contributions to our
defined benefit pension plans as a result of adverse changes in
interest rates and the capital markets.
Most of our pension obligations relate to funded defined benefit
pension plans for our employees in the United States, the United
Kingdom and Canada, unfunded pension benefits in Germany, and
lump sum indemnities payable to our employees in France, Italy,
Korea and Malaysia upon retirement or termination. Our pension
plan assets consist primarily of listed stocks and bonds. Our
estimates of liabilities and expenses for pensions and other
post-retirement benefits incorporate a number of assumptions,
including expected long-term rates of return on plan assets and
interest rates used to discount future benefits. Our results of
operations, liquidity or shareholders equity in a
particular period could be adversely affected by capital market
returns
29
that are less than their assumed long-term rate of return or a
decline of the rate used to discount future benefits.
If the assets of our pension plans do not achieve assumed
investment returns for any period, such deficiency could result
in one or more charges against our earnings for that period. In
addition, changing economic conditions, poor pension investment
returns or other factors may require us to make unexpected cash
contributions to the pension plans in the future, preventing the
use of such cash for other purposes.
In addition to existing defined benefit pension plans, we have
elected in the spin-off agreements in 2005 to assume pension
liabilities from the U.S., U.K. and Canadian pension plans that
we currently share with Alcan. The assumption of such
liabilities will occur in 2006 via the transfer of assets from
Alcan pension plans to either the newly created
U.S. pension plan or to the existing U.K. and Canadian
pension plans. The amount of the pension asset transfer is
currently under consideration. It is expected that the
assumption of liabilities will exceed the transfer of assets
resulting in a corresponding decrease in shareholders
equity.
We
face risks relating to certain joint ventures and subsidiaries
that we do not entirely control. Our ability to generate cash
from these entities may be more restricted than if such entities
were wholly owned subsidiaries.
Some of our activities are, and will in the future be, conducted
through entities that we do not entirely control or wholly own.
These entities include our Norf, Germany and Logan, Kentucky
joint ventures, as well as our majority-owned Korean and
Malaysian subsidiaries. Our Malaysian subsidiary is a public
company whose shares are listed for trading on the Bursa
Malaysia Securities Berhad. Under the governing documents or
agreements of, securities laws applicable to or stock exchange
listing rules relative to certain of these joint ventures and
subsidiaries, our ability to fully control certain operational
matters may be limited. In addition, we do not solely determine
certain key matters, such as the timing and amount of cash
distributions from these entities. As a result, our ability to
generate cash from these entities may be more restricted than if
they were wholly owned entities.
Risks
Related to Operating Our Business Following Our Spin-off from
Alcan
We
have a limited operating history as an independent company and
we may be unable to successfully operate as an independent
company in the future.
Prior to the spin-off, our business was operated by Alcan
primarily within two business groups of its broader corporate
organization rather than as a stand-alone company. Alcan
performed corporate functions related to our business prior to
the spin-off and continued to provide us with transitional
services pursuant to agreements entered into in connection with
the spin-off. As of June 30, 2006, all but three of these
agreements had either expired by their terms or been terminated.
The substantial majority of our regional and corporate level
managers involved in core business operations are former Alcan
employees. Similarly, a number of our accounting and finance
personnel are former Alcan employees. We also continue to
utilize significant third-party consultants and advisors in
connection with our accounting and finance functions. We are
still in the process of recruiting accounting and finance
personnel and do not yet have permanent resources in place
sufficient to prepare our financial statements and the required
regulatory filings without reliance on these third-party
contractors.
If we are unable to hire the appropriate accounting and finance
personnel, we may continue to fail to timely satisfy our SEC
reporting obligations. Further, if we are unable to hire the
appropriate personnel, we may not be able to remediate
weaknesses in our internal control over financial reporting
described in Item 9A of Part II of this Annual Report,
which could result in material misstatements to our annual
consolidated and combined or interim unaudited condensed
consolidated and combined financial statements in future periods
that would not be prevented or detected.
30
Our
agreements with Alcan do not reflect the same terms and
conditions to which two unaffiliated parties might have
agreed.
The allocation of assets, liabilities, rights, indemnifications
and other obligations between Alcan and us under the separation
and ancillary agreements we entered into with Alcan do not
reflect what two unaffiliated parties might have otherwise
agreed. Had these agreements been negotiated with unaffiliated
third parties, their terms may have been more favorable, or less
favorable, to us.
We
have supply agreements with Alcan for a portion of our raw
materials requirements. If Alcan is unable to deliver sufficient
quantities of these materials or if it terminates these
agreements, our ability to manufacture products on a timely
basis could be adversely affected.
The manufacture of our products requires sheet ingot that has
historically been, in part, supplied by Alcan. In 2005, we
purchased the majority of our third party sheet ingot
requirements from Alcans primary metal group. In
connection with the spin-off, we entered into metal supply
agreements with Alcan upon terms and conditions substantially
similar to market terms and conditions for the continued
purchase of sheet ingot from Alcan. If Alcan is unable to
deliver sufficient quantities of this material on a timely basis
or if Alcan terminates one or more of these agreements, our
production may be disrupted and our net sales and profitability
could be materially adversely affected. Although aluminum is
traded on the world markets, developing alternative suppliers
for that portion of our raw material requirements we expect to
be supplied by Alcan could be time consuming and expensive.
Our continuous casting operations at our Saguenay Works, Canada
facility depend upon a local supply of molten aluminum from
Alcan. In 2005, Alcans primary metal group supplied
approximately 176 kilotonnes of such material to us,
representing all of the molten aluminum used at Saguenay Works
in 2005. In connection with the spin-off, we entered into a
metal supply agreement on terms determined primarily by Alcan
for the continued purchase of molten aluminum from Alcan. If
this supply were to be disrupted, our Saguenay Works production
could be interrupted and our net sales and profitability
materially adversely affected.
We may
lose key rights if a change in control of our voting shares were
to occur.
Our separation agreement with Alcan provides that if we
experience a change in control in our voting shares during the
five years following the spin-off and if the entity acquiring
control does not agree with Alcan not to compete in the plate
and aerospace products markets, Alcan may terminate any or all
of certain agreements we currently have with Alcan. The
termination of any of these agreements could deprive any
potential acquirer of certain services, resources or rights
necessary to the conduct of our business. Replacement of these
assets could be difficult or impossible, resulting in a material
adverse effect on our business operations, net sales and
profitability. In addition, the potential termination of these
agreements could prevent us from entering into future business
transactions such as acquisitions or joint ventures at terms
favorable to us or at all.
We
could incur significant tax liability, or be liable to Alcan, if
certain transactions occur which violate tax-free spin-off
rules.
Under Section 55 of the Income Tax Act (Canada), we
and/or Alcan
will recognize a taxable gain on our spin-off from Alcan if,
among other specified circumstances, (1) within three years
of our spin-off from Alcan, we engage in a subsequent spin-off
or split-up
transaction under Section 55, (2) a shareholder who
(together with non-arms length persons and certain other
persons) owns 10% or more of our common shares or Alcan common
shares, disposes to a person unrelated to such shareholder of
any such shares (or property that derives 10% or more of its
value from such shares or property substituted therefor) as part
of the series of transactions which includes our spin-off from
Alcan, (3) there is a change of control of us or of Alcan
that is part of the series of transactions that includes our
spin-off from Alcan, (4) we sell to a person unrelated to
us (otherwise than in the ordinary course of operations) as part
of the series of transactions that includes our spin-off from
Alcan, property acquired in our spin-off from Alcan that has a
value greater than 10% of the value of all property received in
the spin-off from Alcan, (5) within three years of our
spin-off from Alcan, Alcan
31
completes a
split-up
(but not spin-off) transaction under Section 55,
(6) Alcan makes certain acquisitions of property before and
in contemplation of our spin-off from Alcan, (7) certain
shareholders of Alcan and certain other persons acquired shares
of Alcan (other than in specified permitted transactions) in
contemplation of our spin-off from Alcan, or (8) Alcan
sells to a person unrelated to it (otherwise than in the
ordinary course of operations) as part of the series of
transactions or events which includes our spin-off from Alcan,
property retained by Alcan on the spin-off that has value
greater than 10% of the value of all property retained by Alcan
on our spin-off from Alcan. We would generally be required to
indemnify Alcan for tax liabilities incurred by Alcan under the
tax sharing and disaffiliation agreement if Alcans tax
liability arose because of (i) a breach of our
representations, warranties or covenants in the tax sharing and
disaffiliation agreement, (ii) certain acts or omissions by
us (such as a transaction described in (1) above), or
(iii) an acquisition of control of us. Alcan would
generally be required to indemnify us for tax under the tax
sharing and disaffiliation agreement if our tax liability arose
because of (i) a breach of Alcans representations,
warranties or covenants in the tax sharing and disaffiliation
agreement, or (ii) certain acts or omissions by Alcan (such
as a transaction described in (5) above). These liabilities
and the related indemnity payments could be significant and
could have a material adverse effect on our financial results.
Our U.S. subsidiary, Novelis Corporation, has agreed under
the tax sharing and disaffiliation agreement to certain
restrictions that are intended to preserve the tax-free status
of the spin-off transaction in the United States for United
States federal income tax purposes. These restrictions will,
among other things, limit generally for two years from the
spin-off date Novelis Corporations ability to issue or
sell shares or other equity-related securities, to sell its
assets outside the ordinary course of business, and to enter
into any other corporate transaction that would result in a
person acquiring, directly or indirectly, a majority of Novelis
Corporation, including an interest in Novelis Corporation
through holding our shares. If we breach any of these covenants,
we generally will be required to indemnify Alcan Corporation,
the intermediate holding company for Alcans
U.S. operations, for the United States federal income tax
resulting from a failure of the spin-off transactions in the
United States to be tax-free for United States federal income
tax purposes. These liabilities and the related indemnity
payments could be significant and could have a material adverse
effect on our financial results.
These potential liabilities could prevent us from entering into
business transactions at favorable terms to us or at all.
We may
be required to satisfy certain indemnification obligations to
Alcan, or may not be able to collect on indemnification rights
from Alcan.
In connection with the spin-off, we and Alcan agreed to
indemnify each other for certain liabilities and obligations
related to, in the case of our indemnity, the business
transferred to us, and in the case of Alcans indemnity,
the business retained by Alcan. These indemnification
obligations could be significant. We cannot determine whether we
will have to indemnify Alcan for any substantial obligations in
the future or the outcome of any disputes over spin-off matters.
We also cannot be assured that if Alcan has to indemnify us for
any substantial obligations, Alcan will be able to satisfy those
obligations.
We may
have potential business conflicts of interest with Alcan with
respect to our past and ongoing relationships that could harm
our business operations.
A number of our commercial arrangements with Alcan that existed
prior to the spin-off transaction, our spin-off arrangements and
our post-spin-off commercial agreements with Alcan could be the
subject of differing interpretation and disagreement in the
future. These agreements may be resolved in a manner different
from the manner in which disputes were resolved when we were
part of the Alcan group. This could in turn affect our
relationship with Alcan and ultimately harm our business
operations.
32
Our
agreement not to compete with Alcan in certain end-use markets
may hinder our ability to take advantage of new business
opportunities.
In connection with the spin-off, we agreed not to compete with
Alcan for a period of five years from the spin-off date in the
manufacture, production and sale of certain products for use in
the plate and aerospace markets. As a result, it may be more
difficult for us to pursue successfully new business
opportunities, which could limit our potential sources of
revenue and growth. See Business Arrangements
Between Novelis and Alcan Separation Agreement.
Our
historical financial information may not be representative of
results we would have achieved as an independent company or our
future results.
The historical financial information in our combined financial
statements prior to January 6, 2005 has been derived from
Alcans consolidated financial statements and does not
necessarily reflect what our results of operations, financial
position or cash flows would have been had we been an
independent company during the periods presented. For this
reason, as well as the inherent uncertainties of our business,
the historical financial information does not necessarily
indicate what our results of operations, financial position and
cash flows will be in the future.
We
expect to spend significant amounts of time and resources
building a new brand identity.
Prior to our spin-off from Alcan, we marketed our products under
the Alcan name, which has a strong reputation within the markets
we serve. We have now adopted new trademarks and trade names to
reflect our new company name. Although we are continuing to
engage in significant marketing activities and intend to spend
significant amounts of time and resources to develop a new brand
identity, potential customers, business partners and investors
generally may not associate Alcans reputation and
expertise with our products and services. Furthermore, our name
change also may cause difficulties in recruiting qualified
personnel. If we fail to build brand recognition, we may not be
able to maintain the leading market positions that we have
developed while we were part of Alcan, which could harm our
financial results.
As we
build our information technology infrastructure and complete the
transition of our data to our own systems, we could experience
temporary interruptions in business operations and incur
additional costs.
We have created our own, or have engaged third parties to
provide, information technology infrastructure and systems to
support our critical business functions, including accounting
and reporting, in order to replace many of the systems Alcan
provided to us. We may incur temporary interruptions in business
operations as we finalize the transition from Alcans
existing operating systems, databases and programming languages
that support these functions to our own systems. Our failure to
complete this transition successfully and cost-effectively could
disrupt our business operations and have a material adverse
effect on our profitability. In addition, our costs for the
operation of these systems may be higher than the amounts
reflected in our historical combined financial statements.
Risks
Related to Our Industry
We
face significant price and other forms of competition from other
aluminum rolled products producers, which could hurt our results
of operations.
Generally, the markets in which we operate are highly
competitive. We compete primarily on the basis of our value
proposition, including price, product quality, ability to meet
customers specifications, range of products offered, lead
times, technical support and customer service. Some of our
competitors may benefit from greater capital resources, have
more efficient technologies, or have lower raw material and
energy costs and may be able to sustain longer periods of price
competition.
In addition, our competitive position within the global aluminum
rolled products industry may be affected by, among other things,
the recent trend toward consolidation among our competitors,
exchange rate fluctuations that may make our products less
competitive in relation to the products of companies based in
33
other countries (despite the U.S. dollar based input cost
and the marginal costs of shipping) and economies of scale in
purchasing, production and sales, which accrue to the benefit of
some of our competitors.
Increased competition could cause a reduction in our shipment
volumes and profitability or increase our expenditures, either
of which could have a material adverse effect on our financial
results.
The
end-use markets for certain of our products are highly
competitive and customers are willing to accept substitutes for
our products.
The end-use markets for certain aluminum rolled products are
highly competitive. Aluminum competes with other materials, such
as steel, plastics, composite materials and glass, among others,
for various applications, including in beverage/food cans and
automotive end-use applications. In the past, customers have
demonstrated a willingness to substitute other materials for
aluminum. For example, changes in consumer preferences in
beverage containers have increased the use of PET plastic
containers and glass bottles in recent years. These trends may
continue. The willingness of customers to accept substitutes for
aluminum products could have a material adverse effect on our
financial results.
A
downturn in the economy could have a material adverse effect on
our financial results.
Certain end-use applications for aluminum rolled products, such
as construction and industrial and transportation applications,
experience demand cycles that are highly correlated to the
general economic environment, which is sensitive to a number of
factors outside our control. A recession or a slowing of the
economy in any of the geographic segments in which we operate,
including China where significant economic growth is expected,
or a decrease in manufacturing activity in industries such as
automotive, construction and packaging and consumer goods, could
have a material adverse effect on our financial results. We are
not able to predict the timing, extent and duration of the
economic cycles in the markets in which we operate.
The
seasonal nature of some of our customers industries could
have a material adverse effect on our financial
results.
The construction industry and the consumption of beer and soda
are sensitive to climatic conditions and as a result, demand for
aluminum rolled products in the construction industry and for
can feedstock can be seasonal. Our quarterly financial results
could fluctuate as a result of climatic changes, and a prolonged
series of cold summers in the different regions in which we
conduct our business could have a material adverse effect on our
financial results.
We are
subject to a broad range of environmental, health and safety
laws and regulations in the jurisdictions in which we operate,
and we may be exposed to substantial environmental, health and
safety costs and liabilities.
We are subject to a broad range of environmental, health and
safety laws and regulations in the jurisdictions in which we
operate. These laws and regulations impose increasingly
stringent environmental, health and safety protection standards
and permitting requirements regarding, among other things, air
emissions, wastewater storage, treatment and discharges, the use
and handling of hazardous or toxic materials, waste disposal
practices, and the remediation of environmental contamination
and working conditions for our employees. Some environmental
laws, such as Superfund and comparable laws in U.S. states
and other jurisdictions world-wide, impose joint and several
liability for the cost of environmental remediation, natural
resource damages, third-party claims, and other expenses,
without regard to the fault or the legality of the original
conduct, on those persons who contributed to the release of a
hazardous substance into the environment.
The costs of complying with these laws and regulations,
including participation in assessments and remediation of
contaminated sites and installation of pollution control
facilities, have been, and in the future could be, significant.
In addition, these laws and regulations may also result in
substantial environmental liabilities associated with divested
assets, third-party locations and past activities. In certain
instances, these costs and liabilities, as well as related
action to be taken by us, could be accelerated or increased if
we were
34
to close, divest of or change the principal use of certain
facilities with respect to which we may have environmental
liabilities or remediation obligations. Currently, we are
involved in a number of compliance efforts, remediation
activities and legal proceedings concerning environmental
matters, including certain activities and proceedings arising
under Superfund and comparable laws in U.S. states and
other jurisdictions world-wide.
We have established reserves for environmental remediation
activities and liabilities where appropriate. However, the cost
of addressing environmental matters (including the timing of any
charges related thereto) cannot be predicted with certainty, and
these reserves may not ultimately be adequate, especially in
light of potential changes in environmental conditions, changing
interpretations of laws and regulations by regulators and
courts, the discovery of previously unknown environmental
conditions, the risk of governmental orders to carry out
additional compliance on certain sites not initially included in
remediation in progress, our potential liability to remediate
sites for which provisions have not been previously established
and the adoption of more stringent environmental laws. Such
future developments could result in increased environmental
costs and liabilities and could require significant capital
expenditures, any of which could have a material adverse effect
on our financial condition or results. Furthermore, the failure
to comply with our obligations under the environmental laws and
regulations could subject us to administrative, civil or
criminal penalties, obligations to pay damages or other costs,
and injunctions or other orders, including orders to cease
operations. In addition, the presence of environmental
contamination at our properties could adversely affect our
ability to sell property, receive full value for a property or
use a property as collateral for a loan.
Some of our current and potential operations are located or
could be located in or near communities that may regard such
operations as having a detrimental effect on their social and
economic circumstances. Environmental laws typically provide for
participation in permitting decisions, site remediation
decisions and other matters. Concern about environmental justice
issues may affect our operations. Should such community
objections be presented to government officials, the
consequences of such a development may have a material adverse
impact upon the profitability or, in extreme cases, the
viability of an operation. In addition, such developments may
adversely affect our ability to expand or enter into new
operations in such location or elsewhere and may also have an
effect on the cost of our environmental remediation projects.
We use a variety of hazardous materials and chemicals in our
rolling processes, as well as in our smelting operations in
Brazil and in connection with maintenance work on our
manufacturing facilities. Because of the nature of these
substances or related residues, we may be liable for certain
costs, including, among others, costs for health-related claims
or removal or re-treatment of such substances. Certain of our
current and former facilities incorporate asbestos-containing
materials, a hazardous substance that has been the subject of
health-related claims for occupation exposure. In addition,
although we have developed environmental, health and safety
programs for our employees, including measures to reduce
employee exposure to hazardous substances, and conduct regular
assessments at our facilities, we are currently, and in the
future may be, involved in claims and litigation filed on behalf
of persons alleging injury predominantly as a result of
occupational exposure to substances or other hazards at our
current or former facilities. It is not possible to predict the
ultimate outcome of these claims and lawsuits due to the
unpredictable nature of personal injury litigation. If these
claims and lawsuits, individually or in the aggregate, were
finally resolved against us, our results of operations and cash
flows could be adversely affected.
We may
be exposed to significant legal proceedings or
investigations.
From time to time, we are involved in, or the subject of,
disputes, proceedings and investigations with respect to a
variety of matters, including environmental, health and safety,
product liability, employee, tax, contractual and other matters
as well as other disputes and proceedings that arise in the
ordinary course of business. Certain of these matters are
discussed in the preceding risk factor and certain others are
discussed below under Business Legal
Proceedings. Any claims against us or any investigations
involving us, whether meritorious or not, could be costly to
defend or comply with and could divert managements
attention as well as operational resources. Any such dispute,
litigation or investigation, whether currently pending or
threatened or in the future, may have a material adverse effect
on our financial results and cash flows.
35
Product
liability claims against us could result in significant costs or
negatively impact our reputation and could adversely affect our
business results and financial condition.
We are sometimes exposed to warranty and product liability
claims. There can be no assurance that we will not experience
material product liability losses arising from such claims in
the future and that these will not have a negative impact on our
net sales and profitability. We generally maintain insurance
against many product liability risks but there can be no
assurance that this coverage will be adequate for any
liabilities ultimately incurred. In addition, there is no
assurance that insurance will continue to be available on terms
acceptable to us. A successful claim that exceeds our available
insurance coverage could have a material adverse effect on our
financial results and cash flows.
Risks
Related to Ownership of Our Common Shares
The
market price and trading volume of our shares may be
volatile.
The market price of our common shares could fluctuate
significantly for many reasons, including for reasons unrelated
to our specific performance, such as reports by industry
analysts, investor perceptions, or negative announcements by our
customers, competitors or suppliers regarding their own
performance, as well as general economic and industry
conditions. For example, to the extent that other large
companies within our industry experience declines in their share
price, our share price may decline as well. In addition, when
the market price of a companys shares drops significantly,
shareholders often institute securities class action lawsuits
against the company. A lawsuit against us could cause us to
incur substantial costs and could divert the time and attention
of our management and other resources.
The
terms of our spin-off from Alcan and our shareholder rights plan
could delay or prevent a change of control that shareholders may
consider favorable.
We could incur significant tax liability, or be liable to Alcan
for the resulting tax, if certain events described under
Risks related to our spin-off from Alcan
occur. We could, for example, incur significant tax liability,
or be liable to Alcan, if certain transactions occur which
violate tax-free spin-off rules and cause the spin-off to be
taxable to Alcan. This indemnity obligation, or our potential
tax liability, either of which could be significant, might
discourage, delay or prevent a change of control that
shareholders may consider favorable.
The rights of Alcan to terminate certain of our agreements in
circumstances relating to a change in control of our voting
shares also might discourage, delay or prevent a change of
control that shareholders may consider favorable.
See Item 1. Business Arrangements Between
Novelis and Alcan for a more detailed description of these
agreements and provisions. In addition, our shareholder rights
plan also may discourage, delay or prevent a merger or other
change of control that shareholders may consider favorable.
We may
not issue dividends in the future.
Each quarter our board of directors determines whether to issue
a quarterly dividend. There can be no assurance that we will
issue dividends in the future. The decision to continue issuing
dividends will depend on, among other things, our financial
resources, cash flows generated by our business, our cash
requirements, restrictions under the instruments governing our
indebtedness and other relevant factors.
|
|
Item 1B.
|
Unresolved
Staff Comments
|
None.
Our executive offices are located in Atlanta, Georgia. We had 36
operating plants including three research facilities in 11
countries as of December 31, 2005. In March 2006 we closed
our operations at Borgofranco,
36
Italy and we sold our aluminum rolling mill in Annecy, France to
a third party. We believe our facilities are generally
well-maintained and in good operating condition and have
adequate capacity to meet our current business needs. Our
principal properties and assets have been pledged to banks
pursuant to our senior secured credit facilities, as described
in Description of Material Indebtedness.
In 2005, we had total shipments of 1,194 kilotonnes (including
tolled products) from our operations in North America, 1,081
kilotonnes from our operations in Europe, 524 kilotonnes from
our operations in Asia and 288 kilotonnes from our operations in
South America. Our production for each of these operating
segments was approximately equal to our shipments for each
region for 2005.
The following provides a description, by operating segment and
location, of the plant processes and major end-use
markets/applications for our aluminum rolled products, recycling
and primary metal facilities.
Novelis
North America
|
|
|
|
|
Location
|
|
Plant Process
|
|
Major End-Use Markets/Applications
|
|
Berea, Kentucky
|
|
Recycling
|
|
Recycled ingot
|
Burnaby, British Columbia
|
|
Finishing
|
|
Foil containers
|
Fairmont, West Virginia
|
|
Cold rolling, finishing
|
|
Foil, HVAC material
|
Greensboro, Georgia
|
|
Recycling
|
|
Recycled ingot
|
Kingston, Ontario
|
|
Cold rolling, finishing
|
|
Automotive, construction/industrial
|
Logan, Kentucky(i)
|
|
Hot rolling, cold rolling,
finishing
|
|
Can stock
|
Louisville, Kentucky
|
|
Cold rolling, finishing
|
|
Foil, converter foil
|
Oswego, New York
|
|
Hot rolling, cold rolling,
recycling, finishing
|
|
Can stock,
construction/industrial, semi-finished coil
|
Saguenay, Quebec
|
|
Continuous casting
|
|
Semi-finished coil
|
Terre Haute, Indiana
|
|
Cold rolling, finishing
|
|
Foil
|
Toronto, Ontario
|
|
Finishing
|
|
Foil, foil containers
|
Warren, Ohio
|
|
Coating
|
|
Can end stock
|
|
|
|
(i) |
|
We own 40% of the outstanding common shares of Logan Aluminum
Inc., but we have made subsequent equipment investments such
that we now have rights to approximately 65% of Logans
total production capacity. |
Our Oswego, New York, facility operates modern equipment for
used beverage can recycling, ingot casting, hot rolling, cold
rolling and finishing. In March 2006, we commenced commercial
production using our Novelis
Fusiontm
technology able to produce a high quality ingot with
a core of one aluminum alloy, combined with one or more layers
of different aluminum alloy(s). The ingot can then be rolled
into a sheet product with different properties on the inside and
the outside, allowing previously unattainable performance for
flat rolled products and creating opportunity for new, premium
applications. Oswego produces can stock as well as building and
industrial products. Oswego also provides feedstock to our
Kingston, Ontario, facility, which produces heat-treated
automotive sheet, and to our Fairmont, West Virginia, facility,
which produces light gauge sheet.
The Logan, Kentucky, facility is a processing joint venture
between us and Arco Aluminum, a subsidiary of BP plc. Our
original equity investment in the joint venture was 40%, while
Arco held the remaining 60% interest. Subsequent equipment
investments have resulted in us now having access to
approximately 65% of Logans total production capacity.
Logan, which was built in 1985, is the newest and largest hot
mill in North America. Logan operates modern and high-speed
equipment for ingot casting, hot-rolling, cold-rolling and
finishing. Logan is a dedicated manufacturer of aluminum sheet
products for the can stock market with modern equipment,
efficient workforce and product focus. A portion of the can end
stock is coated at NNAs Warren, Ohio, facility, in
addition to Logans
on-site
coating assets. Together with Arco, we operate Logan as a
production cooperative, with each party supplying its own
primary metal inputs for transformation at the
37
facility. The transformed product is then returned to the
supplying party at cost. Logan does not own any of the primary
metal inputs or any of the transformed products. All of the
fixed assets at Logan are directly owned by us and Arco in
varying ownership percentages or solely by us. As discussed in
Managements Discussion and Analysis of Financial
Condition and Results of Operations, our consolidated and
combined balance sheet includes the assets and liabilities of
Logan.
We share control of the management of Logan with Arco through a
seven-member board of directors on which we appoint four members
and Arco appoints three members. Management of Logan is led
jointly by two executive officers who are subject to approval by
at least five members of the board of directors.
Our Saguenay, Quebec, facility operates the worlds largest
continuous caster, which produces feedstock for our three foil
rolling plants located in Terre Haute, Indiana, Fairmont, West
Virginia and Louisville, Kentucky. The continuous caster was
developed through internal research and development and we own
the process technology. Our Saguenay facility produces aluminum
rolled products directly from molten metal, which are sourced
under long-term supply arrangements we have with Alcan.
Our Burnaby, British Columbia and Toronto, Ontario facilities
spool and package household foil products and report to our foil
business unit based in Toronto, Ontario.
Along with our recycling center in Oswego, New York, we own two
other fully dedicated recycling facilities in Berea, Kentucky
and Greensboro, Georgia. Each offers a modern, cost-efficient
process to recycle used beverage cans and other recycled
aluminum into sheet ingot to supply our hot mills in Logan and
Oswego. Berea is the largest used beverage can recycling
facility in the world.
Novelis
Europe
|
|
|
|
|
Location
|
|
Plant Process
|
|
Major End-Use Markets/Applications
|
|
Annecy, France(i)
|
|
Hot rolling, cold rolling,
finishing
|
|
Painted sheet, circles
|
Berlin, Germany
|
|
Converting
|
|
Packaging
|
Borgofranco, Italy(ii)
|
|
Recycling
|
|
Recycled ingot
|
Bresso, Italy
|
|
Finishing
|
|
Painted sheet,
construction/industrial
|
Bridgnorth, United Kingdom
|
|
Cold rolling, finishing, converting
|
|
Foil, packaging
|
Dudelange, Luxembourg
|
|
Continuous casting, cold rolling,
finishing
|
|
Foil
|
Göttingen, Germany
|
|
Cold rolling, finishing
|
|
Can end, lithographic, painted
sheet
|
Latchford, United Kingdom
|
|
Recycling
|
|
Recycled ingot
|
Ludenscheid, Germany(iii)
|
|
Cold rolling, finishing, converting
|
|
Foil, packaging
|
Nachterstedt, Germany
|
|
Cold rolling, finishing
|
|
Automotive, industrial
|
Norf, Germany(iv)
|
|
Hot rolling, cold rolling
|
|
Can stock, foilstock, reroll
automotive, industrial
|
Ohle, Germany(iii)
|
|
Cold rolling, finishing, converting
|
|
Foil, packaging
|
Pieve, Italy
|
|
Continuous casting, cold rolling
|
|
Paintstock, industrial
|
Rogerstone, United Kingdom
|
|
Hot rolling, cold rolling
|
|
Foilstock, paintstock, reroll,
industrial
|
Rugles, France
|
|
Continuous casting, cold rolling,
finishing
|
|
Foil
|
Sierre, Switzerland(v)
|
|
Hot rolling, cold rolling
|
|
Automotive sheet, industrial
|
|
|
|
(i) |
|
We sold our aluminum rolling mill in Annecy, France to a third
party in March 2006. |
|
(ii) |
|
Our operations in Borgofranco, Italy were closed in March 2006. |
38
|
|
|
(iii) |
|
We reorganized our plants in Ohle and Ludenscheid, Germany,
including the closure of two non-core business lines located
within those facilities as of May 2006. |
|
(iv) |
|
Operated as a 50/50 joint venture between us and Hydro Aluminium
Deutschland GmbH (Hydro). |
|
(v) |
|
We have entered into an agreement with Alcan pursuant to which
Alcan, following the spin-off, retains access to the plate
production capacity utilized prior to spin-off at the Sierre
facility, which represents a portion of the total production
capacity of the Sierre hot mill. |
Aluminium Norf GmbH in Germany, a 50/50 production-sharing joint
venture between us and Hydro, is a large scale, modern
manufacturing hub for several of our operations in Europe, and
is the largest aluminum rolling mill in the world. Norf supplies
hot coil for further processing through cold rolling to some of
our other plants including Göttingen and Nachterstedt in
Germany and provides foilstock to our plants in Ohle and
Ludenscheid in Germany and Rugles in France. Together with
Hydro, we operate Norf as a production cooperative, with each
party supplying its own primary metal inputs for transformation
at the facility. The transformed product is then transferred
back to the supplying party on a pre-determined cost-plus basis.
The facilitys capacity is, in principle, shared 50/50. We
own 50% of the equity interest in Norf and Hydro owns the other
50%. We share control of the management of Norf with Hydro
through a jointly-controlled shareholders committee.
Management of Norf is led jointly by two managing executives,
one nominated by us and one nominated by Hydro.
The Rogerstone mill in the United Kingdom supplies Bridgnorth
and other foil plants with foilstock and produces hot coil for
Nachterstedt and Pieve. In addition, Rogerstone produces
standard sheet and coil for the European distributor market. The
Pieve plant, located near Milan, Italy, mainly produces
continuous cast coil that is cold rolled into paintstock and
sent to the Bresso plant for painting, also located near Milan.
The Dudelange and Rugles foil plants in Luxembourg and France
utilize continuous twin roll casting equipment and are two of
the few foil plants in the world capable of producing 6 micron
foil for aseptic packaging applications from continuous cast
material. The Sierre hot rolling plant in Switzerland, along
with Nachterstedt in Germany, are Europes leading
producers of automotive sheet in terms of shipments. Sierre also
supplies plate stock to Alcan.
Our recycling operations in the United Kingdom position us as
one of the major recyclers in Europe. Our plant in Latchford,
United Kingdom is the only major recycling plant in Europe
mainly dedicated to used beverage cans.
NE also manages Novelis PAE in Voreppe, France, which sells
casthouse technology, including liquid metal treatment devices,
such as degassers and filters, direct cast automation packages
and twin roll continuous casters, in many parts of the world.
Novelis
Asia
|
|
|
|
|
Location
|
|
Plant Process
|
|
Major End-Use Markets/Applications
|
|
Bukit Raja, Malaysia(i)
|
|
Continuous casting, cold rolling
|
|
Construction/industrial, foilstock
foil, finstock
|
Ulsan, Korea(ii)
|
|
Hot rolling, cold rolling,
recycling
|
|
Can stock,
construction/industrial, foilstock, recycled ingot
|
Yeongju, Korea(iii)
|
|
Hot rolling, cold rolling
|
|
Can stock,
construction/industrial, foilstock
|
|
|
|
(i) |
|
Ownership of the Bukit Raja plant corresponds to our 58% equity
interest in Aluminium Company of Malaysia Berhad. |
|
(ii) |
|
We hold a 68% equity interest in the Ulsan plant. |
|
(iii) |
|
We hold a 68% equity interest in the Yeongju plant. |
39
Our Korean subsidiary, in which we hold a 68% interest, was
formed through acquisitions in 1999 and 2000. Since our
acquisitions, product capability has been developed to address
higher value and more technically advanced markets such as can
sheet.
We hold a 58% equity interest in the Aluminium Company of
Malaysia Berhad, a publicly traded company that wholly owns and
controls the Bukit Raja, Selangor light gauge rolling facility.
Unlike our production sharing joint ventures at Norf, Germany
and Logan, Kentucky, our Korean partners are financial partners
and we market 100% of the plants output.
NA also operates a recycling furnace in Ulsan, Korea for the
conversion of customer and third party recycled aluminum,
including used beverage cans. Metal from recycled aluminum
purchases represented 10% of NAs total shipments in 2005.
Novelis
South America
|
|
|
|
|
Location
|
|
Plant Process
|
|
Major End-Use Markets/Applications
|
|
Pindamonhangaba, Brazil
|
|
Hot rolling, cold rolling,
recycling
|
|
Construction/industrial, can
stock, foilstock, recycled ingot, foundry ingot, forge stock
|
Utinga, Brazil
|
|
Finishing
|
|
Foil
|
Our Pindamonhangaba (Pinda) rolling and recycling facility in
Brazil has an integrated process that includes recycling, sheet
ingot casting, hot mill and cold mill operations. A leased
coating line produces painted products, including can end stock.
Pinda supplies foilstock to our Utinga foil plant, which
produces converter, household and container foil.
Pinda is the largest aluminum rolling and recycling facility in
South America in terms of shipments and the only facility in
South America capable of producing can body and end stock. Pinda
recycles primarily used beverage cans, and is engaged in tolling
recycled metal for our customers.
The table below sets forth plant processes and end-use market
information about our South American primary metal operations.
Total production capacity at these facilities was 109 kilotonnes
in 2005.
|
|
|
|
|
Location
|
|
Plant Process
|
|
Major End-Use Markets/Applications
|
|
Aratu, Brazil(i)
|
|
Smelting
|
|
Primary aluminum (sheet ingot and
billets)
|
Ouro Preto, Brazil(i)
|
|
Alumina refining, Smelting
|
|
Primary aluminum (sheet ingot and
billets)
|
Petrocoque, Brazil(i)(ii)
|
|
Refining calcined coke
|
|
Carbon products for smelter anodes
|
|
|
|
(i) |
|
We have begun exploring the sale of our non-core Brazilian
upstream operations including mining, energy and smelting, at
our Aratu and Ouro Preto facilities, as well as our interest in
Petrocoque. |
|
(ii) |
|
Operated as a joint venture in which we have a 25% interest. |
We conduct bauxite mining, alumina refining, primary aluminum
smelting and hydro-electric power generation operations at our
Ouro Preto, Brazil facility. Our owned power generation supplied
62% of the Ouro Preto smelter needs. In the Ouro Preto region,
we own the mining rights to approximately 6.0 million
tonnes of bauxite reserves. There are additional reserves in the
Cataguases and Carangola regions sufficient to meet our
requirements in the foreseeable future.
We also conduct primary aluminum smelting operations at our
Aratu facility in Candeias, Brazil.
|
|
Item 3.
|
Legal
Proceedings
|
In connection with our spin-off from Alcan, we assumed a number
of liabilities, commitments and contingencies mainly related to
our historical rolled products operations, including liabilities
in respect of legal claims and environmental matters. As a
result, we may be required to indemnify Alcan for claims
successfully
40
brought against Alcan or for the defense of, or defend, legal
actions that arise from time to time in the normal course of our
rolled products business including commercial and contract
disputes, employee-related claims and tax disputes (including
several disputes with Brazils Ministry of Treasury
regarding taxes and social security contributions). In addition
to these assumed liabilities and contingencies, we may, in the
future, be involved in, or subject to, other disputes, claims
and proceedings that arise in the ordinary course of our
business, including some that we assert against others. Where
appropriate, we have established reserves in respect of these
matters (or, if required, we have posted cash guarantees). While
the ultimate resolution of, and liability and costs related to,
these matters cannot be determined with certainty due to the
considerable uncertainties that exist, we do not believe that
any of these pending actions, individually or in the aggregate,
will materially impair our obligations or materially affect our
financial condition or liquidity. The following describes
certain environmental matters relating to our business for which
we assumed liability as a result of our spin-off from Alcan.
None of the environmental matters include government sanctions
of $100,000 or more.
Environmental
Matters
We are involved in proceedings under the U.S. Comprehensive
Environmental Response, Compensation, and Liability Act, also
known as CERCLA or Superfund, or analogous state provisions
regarding liability arising from the usage, storage, treatment
or disposal of hazardous substances and wastes at a number of
sites in the United States, as well as similar proceedings under
the laws and regulations of the other jurisdictions in which we
have operations, including Brazil and certain countries in the
European Union. Such laws typically impose joint and several
liability, without regard to fault or the legality of the
original conduct, for the costs of environmental remediation,
natural resource damages, third-party claims, and other
expenses, on those persons who contributed to the release of a
hazardous substance into the environment. In addition, we are,
from time to time, subject to environmental reviews and
investigations by relevant governmental authorities.
As described further in the following paragraph, we have
established procedures for regularly evaluating environmental
loss contingencies, including those arising from such
environmental reviews and investigations and any other
environmental remediation or compliance matters. We believe we
have a reasonable basis for evaluating these environmental loss
contingencies, and we believe we have made reasonable estimates
of the costs that are likely to be borne by us for these
environmental loss contingencies. Accordingly, we have
established reserves based on our reasonable estimates for the
currently anticipated costs associated with these environmental
matters. We estimate that the undiscounted remaining clean-up
costs related to all of our known environmental matters will be
approximately $47 million. Management has reviewed the
environmental matters that we have previously reported and for
which we assumed liability as a result of our spin-off from
Alcan. As a result of this review, management has determined
that the currently anticipated costs associated with these
environmental matters will not, individually or in the
aggregate, materially impair our operations or materially
adversely affect our financial condition, results of operations
or liquidity.
With respect to environmental loss contingencies, we record a
loss contingency on a non-discounted basis whenever such
contingency is probable and reasonably estimable. The evaluation
model includes all asserted and unasserted claims that can be
reasonably identified. Under this evaluation model, the
liability and the related costs are quantified based upon the
best available evidence regarding actual liability loss and cost
estimates. Except for those loss contingencies where no estimate
can reasonably be made, the evaluation model is fact-driven and
attempts to estimate the full costs of each claim. Management
reviews the status of, and estimated liability related to,
pending claims and civil actions on a quarterly basis. The
estimated costs in respect of such reported liabilities are not
offset by amounts related to cost-sharing between parties,
insurance, indemnification arrangements or contribution from
other potentially responsible parties unless otherwise noted.
Oswego North Ponds. Oswego North Ponds is
currently our largest known single environmental loss
contingency. In the late 1960s and early 1970s, Novelis
Corporation (a wholly-owned subsidiary of ours and formerly
known as Alcan Aluminum Corporation, or Alcancorp) in Oswego,
New York used an oil containing polychlorinated biphenyls (PCBs)
in its re-melt operations. At the time, Novelis Corporation
utilized a once-through cooling water system that discharged
through a series of constructed ponds and wetlands, collectively
referred to as the North Ponds. In the early 1980s, low levels
of PCBs were detected in the cooling water
41
system discharge and Novelis Corporation performed several
subsequent investigations. The PCB-containing hydraulic oil,
Pydraul, which was eliminated from use by Novelis Corporation in
the early 1970s, was identified as the source of contamination.
In the mid-1980s, the Oswego North Ponds site was classified as
an inactive hazardous waste disposal site and added
to the New York State Registry. Novelis Corporation ceased
discharge through the North Ponds in mid-2002.
In cooperation with the New York State Department of
Environmental Conservation (NYSDEC) and the New York State
Department of Health, Novelis Corporation entered into a consent
decree in August 2000 to develop and implement a remedial
program to address the PCB contamination at the Oswego North
Ponds site. A remedial investigation report was submitted in
January 2004. The current estimated cost associated with this
remediation is in the range of $12 million to
$26 million. Based upon the report and other factors, we
accrued $19 million as our estimated cost, which is
included in the total liability for undiscounted remaining
clean-up
costs of $47 million described above. In addition, NYSDEC
held a public hearing on the remediation plan on March 13,
2006 and we believe that our estimate of $19 million is
reasonable, and that the remediation plan will be approved for
implementation in 2007.
Other
Legal Proceedings
Reynolds Boat Case. As previously disclosed,
we and Alcan Inc. were defendants in a case in the United States
District Court for the Western District of Washington, in
Tacoma, Washington, case number C04-0175RJB. Plaintiffs were
Reynolds Metals Company, Alcoa, Inc. and National Union Fire
Insurance Company of Pittsburgh, Pennsylvania. The case was
tried before a jury beginning on May 1, 2006, under
warranty theories, based on allegations that from 1998 to 2001
we and Alcan sold certain aluminum products that were ultimately
used for marine applications and were unsuitable for such
applications. The jury reached a verdict on May 22, 2006
against us and Alcan for approximately $60 million, and the
court later awarded Reynolds and Alcoa approximately
$16 million in prejudgment interest and court costs.
The case was settled during July 2006 as among us, Alcan,
Reynolds, Alcoa and their insurers for $71 million. We
contributed approximately $1 million toward the settlement,
and the remaining $70 million was funded by our insurers.
Although the settlement was substantially funded by our
insurance carriers, certain of them have reserved the right to
request a refund from us, after reviewing details of the
plaintiffs damages to determine if they include costs of a
nature not covered under the insurance contracts. Of the
$70 million funded, $39 million is in dispute with and
under further review by certain of our insurance carriers, who
have six months to complete their review. We have agreed to post
a letter of credit in the amount of approximately
$10 million in favor of one of those insurance carriers,
while we resolve the questions, if any, about the extent of
coverage of the costs included in the settlement.
As of December 31, 2005 we recognized a liability included
in Accrued expenses and other current liabilities of
$71 million, the full amount of the settlement, with a
corresponding charge to earnings. We also recognized an
insurance receivable included in Prepaid expenses and other
current assets of $31 million with a corresponding
increase to earnings. Although $70 million of the
settlement was funded by our insurers, we have only recognized
an insurance receivable to the extent that coverage is not in
dispute. We have presented the net loss of $40 million as a
separate line item on the face of our statement of income
entitled Litigation settlement net of insurance
recoveries.
While the ultimate resolution of the nature and extent of any
costs not covered under our insurance contracts cannot be
determined with certainty or reasonably estimated at this time,
if there is an adverse outcome with respect to insurance
coverage, and we are required to reimburse our insurers, it
could have a material impact on cash flows in the period of
resolution. Alternatively, the ultimate resolution could be
favorable such that insurance coverage is in excess of what we
have recognized to date. This would result in our recording a
non-cash gain in the period of resolution, and this non-cash
gain could have a material impact on our results of operations
during the period in which such a determination is made.
|
|
Item 4.
|
Submission
of Matters to a Vote of Security Holders
|
None.
42
PART II
|
|
Item 5.
|
Market
for Registrants Common Equity, Related Shareholder Matters
and Issuer Purchases of Equity Securities
|
Market
Information
Our common shares are listed on the Toronto Stock Exchange and
the New York Stock Exchange under the symbol NVL.
Our common shares began trading on a when-issued
basis on the Toronto Stock Exchange on January 6, 2005 and
on a regular way basis on January 7, 2005. The
following table sets forth the intra-day high and low sales
prices of our common shares as reported by the Toronto Stock
Exchange for the periods indicated in 2005 (beginning
January 6, 2005).
|
|
|
|
|
|
|
|
|
2005
|
|
High
|
|
|
Low
|
|
|
First Quarter (beginning
January 6, 2005)
|
|
$
|
CAN 34.00
|
|
|
$
|
CAN 25.00
|
|
Second Quarter
|
|
$
|
CAN 31.38
|
|
|
$
|
CAN 26.00
|
|
Third Quarter
|
|
$
|
CAN 34.88
|
|
|
$
|
CAN 24.84
|
|
Fourth Quarter
|
|
$
|
CAN 25.30
|
|
|
$
|
CAN 18.57
|
|
Our common shares began trading on a when-issued
basis on the New York Stock Exchange on January 6, 2005 and
on a regular way basis on January 19, 2005. The
following table sets forth the intra-day high and low sales
prices of our common shares as reported by the New York Stock
Exchange for the periods indicated (beginning January 6,
2005).
|
|
|
|
|
|
|
|
|
2005
|
|
High
|
|
|
Low
|
|
|
First Quarter (beginning
January 6, 2005)
|
|
$
|
26.45
|
|
|
$
|
20.75
|
|
Second Quarter
|
|
$
|
25.68
|
|
|
$
|
21.08
|
|
Third Quarter
|
|
$
|
28.78
|
|
|
$
|
21.12
|
|
Fourth Quarter
|
|
$
|
21.55
|
|
|
$
|
15.70
|
|
Holders
As of June 30, 2006, there were 10,077 holders of record of
our common shares.
Dividends
On March 1, 2005, our board of directors approved a
quarterly dividend payment on our common shares. Since then, our
board of directors has declared the following dividends:
|
|
|
|
|
|
|
|
|
Declaration Date
|
|
Record Date
|
|
Dividend/Share
|
|
|
Payment Date
|
|
March 1, 2005
|
|
March 11, 2005
|
|
$
|
0.09
|
|
|
March 24, 2005
|
April 22, 2005
|
|
May 20, 2005
|
|
$
|
0.09
|
|
|
June 20, 2005
|
July 27, 2005
|
|
August 22, 2005
|
|
$
|
0.09
|
|
|
September 20, 2005
|
October 28, 2005
|
|
November 21, 2005
|
|
$
|
0.09
|
|
|
December 20, 2005
|
February 23, 2006
|
|
March 8, 2006
|
|
$
|
0.09
|
|
|
March 23, 2006
|
April 27, 2006
|
|
May 20, 2006
|
|
$
|
0.09
|
|
|
June 20, 2006
|
Future dividends are at the discretion of our board of directors
and will depend on, among other things, our financial resources,
cash flows generated by our business, our cash requirements,
restrictions under the instruments governing our indebtedness
and other relevant factors.
Canadian
Federal Income Tax Considerations Non-Residents of
Canada
The discussion below is a summary of the principal Canadian
federal income tax considerations relating to an investment in
our common shares. The discussion does not take into account the
individual circumstances of any particular investor. Therefore,
prospective investors in our common shares should consult
43
their own tax advisors for advice concerning the tax
consequences of an investment in our common shares based on
their particular circumstances, including any consequences of an
investment in our common shares arising under state, provincial
or local tax laws or the tax laws of any jurisdiction other than
Canada.
Canada and the United States are parties to an income tax treaty
and accompanying protocols (Canada-United States Income Tax
Convention). In general, the Canada-United States Income Tax
Convention does not have an adverse effect on holders of our
common shares.
The following is a summary of the principal Canadian federal
income tax considerations generally applicable to the ownership
and disposition of our common shares acquired by persons who, at
all relevant times and for purposes of the Income Tax Act
(Canada) (Tax Act), deal at arms length with us, are not
affiliated with us and who hold or will hold our common shares
as capital property. The Tax Act contains provisions relating to
securities held by certain financial institutions, registered
securities dealers and corporations controlled by one or more of
the foregoing
(Mark-to-Market
Rules). This summary does not take into account the
Mark-to-Market
Rules and taxpayers that are financial institutions
as defined for the purpose of the
Mark-to-Market
Rules should consult their own tax advisors. In addition, this
summary assumes that our common shares will, at all relevant
times, be listed on a prescribed stock exchange for
purposes of the Tax Act, which is currently defined to include
both the Toronto Stock Exchange and the New York Stock Exchange.
This summary is based upon the current provisions of the Tax Act
and regulations thereunder (Regulations) in force as of the date
hereof, all specific proposals to amend the Tax Act and
Regulations that have been publicly announced by the Minister of
Finance (Canada) prior to the date hereof (Proposed Amendments)
and our understanding of the current published administrative
policies and practices of the Canada Revenue Agency. Except as
otherwise indicated, this summary does not take into account or
anticipate any changes in the applicable law or administrative
practices or policies whether by judicial, regulatory,
administrative or legislative action, nor does it take into
account provincial, territorial or foreign tax laws or
considerations, which may differ significantly from those
discussed herein. No assurance can be given that the Proposed
Amendments will be enacted or that they will be enacted in the
form announced.
This summary is of a general nature only and is not intended to
be, nor should it be relied upon or construed to be, legal or
tax advice to any particular prospective purchaser. This summary
is not exhaustive of all possible income tax considerations
under the Tax Act that may affect a holder. Accordingly,
prospective purchasers of our common shares should consult their
own tax advisors with respect to their own particular
circumstances.
All amounts relevant in computing the Canadian federal income
tax liability of a holder are to be reported in Canadian
currency at the rate of exchange prevailing at the relevant time.
The following part of the summary is generally applicable to
persons who, at all relevant times for the purposes of the Tax
Act and any applicable income tax treaty in force between Canada
and another country, are not, or are not deemed to be, a
resident of Canada.
Taxation
of Dividends
Dividends, including deemed dividends and share dividends, paid
or credited, or deemed to be paid or credited, to a non-resident
of Canada on our common shares are subject to Canadian
withholding tax under the Tax Act at a rate of 25% of the gross
amount of such dividends, subject to reduction under the
provisions of any applicable income tax treaty. The
Canada-United States Income Tax Convention generally reduces the
rate of withholding tax to 15% of any dividends paid or
credited, or deemed to be paid or credited, to holders who are
residents of the United States for the purposes of the
Canada-United States Income Tax Convention (or 5% in the case of
corporate U.S. shareholders who are the beneficial owners
of at least 10% of our voting shares).
Disposition
of Shares
Capital gains realized on the disposition of our common shares
by a non-resident of Canada will not be subject to tax under the
Tax Act unless such common shares are taxable Canadian
property for purposes of
44
the Tax Act. Our common shares will generally not be taxable
Canadian property of a holder unless, at any time during the
five-year period immediately preceding a disposition, the
holder, persons with whom the holder did not deal at arms
length or the holder together with such persons owned, had an
interest in or had the right to acquire 25% or more of our
issued shares of any class or series. Even if our common shares
constitute taxable Canadian property to a particular holder, an
exemption from tax under the Tax Act may be available under the
provisions of any applicable income tax treaty, including the
Canada-United States Income Tax Convention.
Sales of
Unregistered Equity Securities
On the spin-off date and pursuant to the spin-off transaction,
we issued special shares to Alcan in consideration for common
shares of Arcustarget Inc., a Canadian corporation. The special
shares were redeemed shortly after their issuance and cancelled.
The issuance of our special shares to Alcan was exempt from
registration under the Securities Act of 1933, as amended,
pursuant to Section 4(2) thereof because such issuance did
not involve any public offering of securities.
|
|
Item 6.
|
Selected
Financial Data
|
You should read the following selected consolidated and combined
financial data in conjunction with Managements
Discussion and Analysis of Financial Condition and Results of
Operations and our consolidated and combined financial
statements.
The data presented below is derived from our consolidated and
combined statements of income for each of the three years in the
period ended December 31, 2005, our consolidated balance
sheet as of December 31, 2005 and our combined balance
sheet as of December 31, 2004, all of which are included
elsewhere in this Annual Report on
Form 10-K,
along with:
|
|
|
|
|
our combined statements of income for the years ended
December 31, 2002 and 2001; and
|
|
|
|
our combined balance sheets as of December 31, 2003, 2002
and 2001, none of which are included in this Annual Report on
Form 10-K,
and which were prepared using historical financial information
based on Alcans accounting records.
|
The consolidated and combined financial statements for the year
ended December 31, 2005 include the results for the period
from January 1 to January 5, 2005 prior to our spin-off
from Alcan, in addition to the results for the period from
January 6 to December 31, 2005. The combined financial
results for the period from January 1 to January 5, 2005
present our operations on a carve-out accounting basis. The
consolidated balance sheet as of December 31, 2005 and the
consolidated results for the period from January 6 (the date of
the spin-off from Alcan) to December 31, 2005 present our
financial position, results of operations and cash flows as a
stand-alone entity.
All income earned and cash flows generated by us as well as the
risks and rewards of these businesses from January 1 to
January 5, 2005 were primarily attributed to us and are
included in our consolidated and combined results for the year
ended December 31, 2005, with the exception of losses of
$43 million ($29 million after tax) arising from the
change in fair market value of derivative contracts, primarily
with Alcan. These
mark-to-market
losses for the period from January 1 to January 5, 2005
were recorded in the consolidated and combined statement of
income for the year ended December 31, 2005 and are
reflected as a decrease in Owners net investment.
Our historical combined financial statements for the years ended
December 31, 2004, 2003, 2002 and 2001 have been derived
from the accounting records of Alcan using the historical
results of operations and historical basis of assets and
liabilities of the businesses subsequently transferred to us.
Management believes the assumptions underlying the historical
combined financial statements are reasonable. However, the
historical combined financial statements included herein may not
necessarily reflect what our results of operations, financial
position and cash flows would have been had we been a
stand-alone company during the periods presented. Alcans
investment in the Novelis businesses, presented as Owners
net investment in the historical
45
combined financial statements, includes the accumulated earnings
of the businesses as well as cash transfers related to cash
management functions performed by Alcan.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of and for the Year Ended December 31,
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2002
|
|
|
2001
|
|
|
|
($ in millions, except per share data)
|
|
|
Net sales
|
|
$
|
8,363
|
|
|
$
|
7,755
|
|
|
$
|
6,221
|
|
|
$
|
5,893
|
|
|
$
|
5,777
|
|
Net income (loss)
|
|
|
90
|
|
|
|
55
|
|
|
|
157
|
|
|
|
(9
|
)
|
|
|
(137
|
)
|
Total assets
|
|
|
5,476
|
|
|
|
5,954
|
|
|
|
6,316
|
|
|
|
4,558
|
|
|
|
4,390
|
|
Long-term debt (including current
portion)
|
|
|
2,603
|
|
|
|
2,737
|
|
|
|
1,659
|
|
|
|
623
|
|
|
|
514
|
|
Other debt
|
|
|
27
|
|
|
|
541
|
|
|
|
964
|
|
|
|
366
|
|
|
|
445
|
|
Cash and cash equivalents
|
|
|
100
|
|
|
|
31
|
|
|
|
27
|
|
|
|
31
|
|
|
|
17
|
|
Shareholders/invested equity
|
|
|
433
|
|
|
|
555
|
|
|
|
1,974
|
|
|
|
2,181
|
|
|
|
2,234
|
|
Earnings (loss) per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before cumulative
effect of accounting change
|
|
$
|
1.29
|
|
|
$
|
0.74
|
|
|
$
|
2.12
|
|
|
$
|
1.01
|
|
|
$
|
(1.85
|
)
|
Cumulative effect of accounting
change net of tax
|
|
|
(0.08
|
)
|
|
|
|
|
|
|
|
|
|
|
(1.13
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) per
share basic
|
|
$
|
1.21
|
|
|
$
|
0.74
|
|
|
$
|
2.12
|
|
|
$
|
(0.12
|
)
|
|
$
|
(1.85
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before cumulative
effect of accounting change
|
|
$
|
1.29
|
|
|
$
|
0.74
|
|
|
$
|
2.11
|
|
|
$
|
1.00
|
|
|
$
|
(1.85
|
)
|
Cumulative effect of accounting
change net of tax
|
|
|
(0.08
|
)
|
|
|
|
|
|
|
|
|
|
|
(1.13
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) per
share diluted
|
|
$
|
1.21
|
|
|
$
|
0.74
|
|
|
$
|
2.11
|
|
|
$
|
(0.13
|
)
|
|
$
|
(1.85
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividends per common share
|
|
$
|
0.36
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As a result of our adoption of FASB Interpretation No. 47
as of December 31, 2005, we identified conditional
retirement obligations primarily related to environmental
contamination of equipment and buildings at certain of our
plants and administrative sites. Upon adoption, we recognized
assets of $6 million with offsetting accumulated
depreciation of $4 million, and an asset retirement
obligation of $11 million. We also recognized a charge in
2005 of $9 million ($6 million after tax), which is
classified as a Cumulative effect of accounting
change net of tax in the accompanying statements
of income.
In December 2003, Alcan acquired Pechiney. A portion of the
acquisition cost relating to four plants that are included in
our company was allocated to us and accounted for as additional
invested equity. The net assets of the Pechiney plants are
included in the combined financial statements as of
December 31, 2003 and forward, and the results of
operations and cash flows are included in the consolidated and
combined financial statements beginning January 1, 2004.
On January 1, 2002, we adopted FASB Statement No. 142,
Goodwill and Other Intangible Assets. Under
this standard, goodwill and other intangible assets with an
indefinite life are no longer amortized but are carried at the
lower of their carrying value or fair value and are tested for
impairment on an annual basis. An impairment of $84 million
was identified in the goodwill balance as of January 1,
2002, and was charged to income as a cumulative effect of
accounting change in 2002 upon adoption of the new accounting
standard. The amount of goodwill amortization was
$3 million in 2001.
46
Alcan implemented restructuring programs that included certain
businesses we acquired from it in the spin-off transaction.
Restructuring charges related to those programs and impairment
charges on long-lived assets, included in our results of
operations for the years presented are as follows (in millions).
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2002
|
|
|
2001
|
|
|
Restructuring charges
|
|
$
|
10
|
|
|
$
|
20
|
|
|
$
|
8
|
|
|
$
|
7
|
|
|
$
|
196
|
|
Impairment charges on long-lived
assets
|
|
|
7
|
|
|
|
75
|
|
|
|
4
|
|
|
|
18
|
|
|
|
12
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
17
|
|
|
$
|
95
|
|
|
$
|
12
|
|
|
$
|
25
|
|
|
$
|
208
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Item 7.
|
Managements
Discussion and Analysis of Financial Condition and Results of
Operations
|
OVERVIEW
The following Managements Discussion and Analysis of
Financial Condition and Results of Operations (MD&A) is
provided as a supplement to, and should be read in conjunction
with, our consolidated and combined financial statements and the
accompanying notes contained in this Annual Report on
Form 10-K
for a more complete understanding of our financial condition and
results of operations. The MD&A includes the following
sections:
|
|
|
|
|
Highlights;
|
|
|
|
Our Business:
|
|
|
|
|
|
General description of our business;
|
|
|
|
Business Model and Key Concepts;
|
|
|
|
Key Trends;
|
|
|
|
Challenges;
|
|
|
|
Business Outlook for 2006; and
|
|
|
|
Spin-off from Alcan, Inc. (Alcan) (our former parent, a Canadian
public company traded on the Toronto Stock Exchange (TSX) under
the symbol AL).
|
|
|
|
|
|
Operations and Segment Review an analysis of our
consolidated and combined results of operations, on both a
consolidated and segment basis for the three years presented in
our financial statements;
|
|
|
|
Liquidity and Capital Resources an analysis of the
effect of our operating, financing and investing activities on
our liquidity and capital resources and the effects of our
restatements and other matters on our debt agreements;
|
|
|
|
Off Balance Sheet Arrangements a discussion of such
commitments and arrangements;
|
|
|
|
Contractual Obligations a summary of our aggregate
contractual obligations;
|
|
|
|
Dividends our dividend history;
|
|
|
|
Environment, Health and Safety our mission and
commitment to environment, health and safety management;
|
|
|
|
Critical Accounting Policies and Estimates a
discussion of accounting policies that require significant
judgments and estimates; and
|
|
|
|
Recent Accounting Standards a summary and discussion
of our plans for the adoption of new accounting standards
relevant to us.
|
The following discussion contains forward-looking statements
that reflect our plans, estimates and beliefs. Our actual
results could differ materially from those discussed in these
forward-looking statements. Factors that could cause or
contribute to these differences include, but are not limited to,
those discussed below and
47
elsewhere in this Annual Report on
Form 10-K,
particularly in Special Note Regarding
Forward-Looking Statements and Market Data and Risk
Factors.
References herein to Novelis, the
Company, we, our, or
us refer to Novelis Inc. and its subsidiaries unless
the context specifically indicates otherwise.
HIGHLIGHTS
Our first year as a stand-alone company was both challenging and
rewarding as we established our identity and introduced Novelis
as the worlds leading aluminum rolled products producer.
Significant highlights, events and factors impacting our
business during 2005 are presented briefly below. Each is
discussed in further detail throughout MD&A.
|
|
|
|
|
We had net sales of $8,363 million and net income of
$90 million, or $1.21 per diluted share for our year
ended December 31, 2005, compared to net sales of
$7,755 million and net income of $55 million, or
$0.74 per diluted share in 2004. Total product shipments of
3,087 kilotonnes (kt) for 2005 were 2.3% higher than 2004.
|
|
|
|
London Metal Exchange (LME) pricing for aluminum was an average
of 10% higher in 2005 than 2004. This trend continued into the
first six months of 2006 during which time LME aluminum pricing
was an average of 39% higher than in the same period of 2005.
|
|
|
|
Our increase in net sales for 2005 over 2004 was due mainly to
the rise in LME prices. However, the benefit of higher LME
prices was limited by metal price ceilings in sales contracts
representing approximately 20% of our business. These metal
price ceilings prevent us from passing metal price increases
above a specified level through to certain customers. The metal
price ceilings in these contracts compress or eliminate the
margin-over-metal
component of our profit, and when metal prices exceed certain
levels, we incur losses on sales under these contracts. While we
did not incur losses on sales under these contracts in 2005,
these metal price ceilings did unfavorably impact profitability
as compared to 2004. The percentage of our total net sales under
contracts with price ceilings should decrease to approximately
10% of our global volume in 2007. To date, we have not purchased
call options to hedge our exposure to the metal price ceilings
beyond 2006.
|
|
|
|
On certain contracts we experience timing differences on the
pass-through of changing aluminum prices based on the difference
in the price we pay for aluminum and the price we ultimately
charge our customers after the aluminum is processed. We refer
to this timing difference as metal price lag. In addition to
increased exposure to the metal price ceilings, we expect our
results to be impacted by metal price lag in 2006.
|
|
|
|
In 2005 and during the first two quarters of 2006, we took
actions to mitigate the risk related to rising aluminum prices,
along with foreign currency exchange, interest rate and energy
price risks, by purchasing derivative instruments. At this time,
we know that we have not fully mitigated these exposures for
2006 and beyond. For accounting purposes, we do not treat all
derivative instruments as hedges under FASB Statement
No. 133 Accounting for Derivative Instruments and
Hedging Activities. Accordingly, changes in fair
market value are recognized immediately in earnings which
results in the recognition of fair value as a gain or loss in
advance of the contract settlement, and we expect further
impacts to our earnings as a result. For example, in 2005 we
recognized an increase in fair value of $71 million on call
options purchased to offset the economic risk of the metal price
ceilings in 2006. In total, during 2005, we recognized
$269 million of Other income net related to
changes in fair value of derivative instruments, of which
$129 million was received in cash as a result of contract
settlement.
|
|
|
|
Through strong operating cash flows, driven by both operating
results and working capital management initiatives, we reduced
our debt substantially during 2005 by amounts that were well in
excess of our principal payment obligations.
|
|
|
|
We reported that we have material weaknesses in our internal
control over financial reporting and that our disclosure
controls and procedures were not effective. We are working to
remediate these
|
48
|
|
|
|
|
weaknesses to enable us to timely and accurately prepare and
file our reports with the United States Securities and Exchange
Commission (SEC).
|
|
|
|
|
|
We restated our consolidated and combined financial statements
for our quarters ended March 31, 2005 and June 30,
2005. Other filings were delayed
and/or
remain outstanding at this time, including our quarterly reports
on
Form 10-Q
for the quarters ended March 31, 2006 and June 30,
2006. The expenses incurred in connection with the restatement
and review process were approximately $30 million through
June 30, 2006. These expenses include professional fees,
audit fees, credit waiver and consent fees, and special interest
on our $1.4 billion 7.25% senior unsecured debt
securities due 2015 (Senior Notes), which we will continue to
incur until, among other things, we are current with our SEC
filings and complete our registered exchange offer for our
Senior Notes.
|
|
|
|
Because of the receipt of an effective notice of default from
the trustee for the holders of our Senior Notes relating to our
failure to timely file this Annual Report on
Form 10-K,
our quarterly report on
Form 10-Q
for the period ended March 31, 2006 and our quarterly
report on Form 10-Q for the second quarter ended
June 30, 2006 and similar requirements in waivers and
related covenants under our senior secured credit facility, we
must file our
Form 10-Q
for the first quarter of 2006 by September 18, 2006 and our
Form 10-Q for the second quarter of 2006 by
October 22, 2006, to avoid an event of default under our
Senior Notes and senior secured credit facility. We obtained a
commitment for financing facilities totaling approximately
$2,855 million from Citigroup Global Markets Inc. to
provide the funding that would be required to retire our Senior
Notes and replace our senior secured credit facilities, if we
fail to file our
Form 10-Q
for the quarter ended March 31, 2006 by September 19,
2006 and are required to repay such debt.
|
|
|
|
We expect to incur a net loss for our year ending
December 31, 2006, due primarily to (i) the effects of
unfavorable movements in metal prices and foreign currency
exchange rates beyond our ability to mitigate such exposures,
(ii) changes in the fair market value of our derivatives
and (iii) the substantial expenses we incurred in
connection with our restatement and remediation efforts
described above.
|
OUR
BUSINESS
General. Novelis is the worlds leading
aluminum rolled products producer based on shipment volume. We
produce aluminum sheet and light gauge products for the
construction and industrial, beverage and food cans, foil
products and transportation markets. As of December 31,
2005, we had operations on four continents: North America; South
America; Asia and Europe, through 36 operating plants and three
research facilities in 11 countries. In addition to aluminum
rolled products plants, our South American businesses include
bauxite mining, alumina refining, primary aluminum smelting and
power generation facilities that are integrated with our rolling
plants in Brazil. We are the only company of our size and scope
focused solely on aluminum rolled products markets and capable
of local supply of technically sophisticated products in all of
these geographic regions.
Business Model. Most of our business is
conducted under a conversion model, which allows us to pass
through increases or decreases in the price of aluminum to our
customers. Nearly all of our products have a price structure
with two components: (i) a pass-through aluminum price
based on the LME plus local market premiums and (ii) a
margin over metal price based on the conversion cost
to produce the rolled product and the competitive market
conditions for that product.
Sales contracts representing approximately 20% of our total 2005
annual net sales provide for a ceiling over which metal prices
cannot contractually be passed through to certain customers,
unless adjusted. As a result, we are unable to pass through the
complete increase in metal prices for sales under these
contracts, negatively impacting our margins when the metal price
is above the ceiling price. In addition, in some of our
contracts there is a timing difference (or metal price lag)
between the metal prices we pay under our purchase contracts and
the metal prices we charge our customers. As a result, changes
in metal prices impact our results, since during such periods we
bear the additional cost or benefit of metal price changes. Over
a full economic cycle (i.e., the period it takes for metal
prices to return to a given level) we believe the impact of
metal timing on our financial results will be negligible.
However, because a full economic cycle may take
49
years to complete, our financial results may reflect such
additional costs or benefits for certain periods of time.
We employ three strategies to mitigate our risk of rising metal
prices that we cannot pass through to certain customers due to
metal price ceilings. First, we maximize the amount of our
internally supplied metal inputs from our smelting, refining and
mining operations in Brazil. Second, we rely on the output from
our recycling operations which utilize used beverage cans
(UBCs). Both of these strategies have historically provided a
benefit as these sources of metal are typically less expensive
than purchasing aluminum from third party suppliers. These two
strategies are referred to as our internal hedges. While we
believe that our primary aluminum production continues to
provide the expected benefits during this sustained period of
high LME prices, the recycling operations are providing less
internal hedge benefit than expected. LME metal prices and other
market issues have resulted in higher than expected prices of
UBCs thus compressing the internal hedge benefit we receive from
this strategy.
Beyond our internal hedges described above, our third strategy
to mitigate the risk of loss or reduced profitability associated
with the metal price ceilings is to purchase call options on
projected aluminum volume requirements above our assumed
internal hedge position. Derivatives can be very costly,
therefore we balance this cost with the benefits provided by the
particular instrument before we purchase it. To date, we have
not purchased call options to hedge our exposure to the metal
price ceilings beyond 2006.
Key Trends. The use of aluminum continues to
increase in the markets we serve. The principal drivers of this
increase include, among others, improving per capita gross
domestic product in the regions where we operate, increases in
disposable income, and increases in the use of aluminum due, in
part to a focus on lightweight products for better fuel economy,
compliance with regulatory requirements and cost-effective
recycling alternatives.
At the same time, the cost of aluminum has risen to and remained
at unprecedented levels. During 2005, LME metal pricing rose
throughout the year, and was an average of 10% higher than 2004.
This trend continued into the first six months of 2006, during
which LME metal pricing was an average of 39% higher than in the
same period of 2005. Beyond metal pricing, changes in foreign
currencies and interest rates and rising energy costs
unfavorably impacted our operating results in 2005 and continue
to do so through the first half of 2006.
The flat rolled products industry continues to consolidate in
many parts of the world. However, we continue to be positioned
as a market leader. We believe we are one of the few flat rolled
products producers positioned to selectively participate in
further consolidation in regions and markets where we have
complementary, high-end assets.
Challenges. We have not fully covered our
exposure relative to the metal price ceilings with the three
hedging strategies described under our Business Model above.
This is primarily a result of (i) not being able to
purchase affordable call options with strike prices that
directly coincide with the metal price ceilings, and
(ii) our recycling operations are providing less internal
hedge than we previously expected, as the spread between UBC
prices and LME prices has not increased at the levels we
projected internally.
For accounting purposes, we do not treat all derivative
instruments as hedges under FASB Statement No. 133.
Accordingly, changes in fair market value are recognized
immediately in earnings which results in the recognition of fair
value as a gain or loss in advance of the contract settlement,
and we expect further impacts to our earnings as a result. For
example, in 2005 we recognized an increase in fair value of
$71 million on call options purchased to offset the
economic risk of the metal price ceilings in 2006. In total
during 2005, we recognized $269 million of Other
income net related to changes in fair value of all
of our derivative instruments, of which $129 million was
received in cash as a result of contract settlement.
The financial restatement and review we commenced in fiscal 2005
and continued into fiscal 2006 identified the need for
substantial improvement in our financial control personnel,
processes and reporting. In order to improve our disclosure
controls and procedures, remediate material weaknesses in our
internal control over financial reporting and ensure that we
will be able to timely prepare our financial statements and SEC
reports, we expect to implement significant process improvements
and add substantially to our permanent
50
financial and accounting staff. We anticipate that these
improvements will take place throughout the coming quarters. See
Item 9A. Controls and Procedures.
Business Outlook for 2006. Currently, high
metal prices have not yet significantly impacted end market
demand. We participate in markets with relative stability, which
provides us with a firm foundation for the utilization of our
assets around the world. While unprecedented high metal and
energy prices and metal price ceilings in certain North American
contracts will impact our income and cash flows, we made
considerable progress in paying down our debt in 2005 and expect
to generate sufficient cash flows to further reduce the debt in
2006.
We expect to incur a net loss for our year ending
December 31, 2006, due primarily to:
|
|
|
|
|
the effects of unfavorable movements in metal prices and foreign
currency exchange rates beyond our ability to mitigate such
exposures;
|
|
|
|
changes in the fair market value of our derivatives; and
|
|
|
|
the substantial expenses we incurred in connection with our
restatement and remediation efforts, including substantial
waiver and consent fees paid to certain of our lenders as well
as additional special interest on our Senior Notes.
|
As previously discussed, metal price ceilings in contracts
representing approximately 20% of our total annual net sales in
2005 prevent us from passing through the complete increase in
metal prices and, consequently, we absorb those costs. As a
result of the increasing price of metal, we incurred losses of
approximately $120 million associated with sales under
these contracts, without regard to internal or external hedges,
during the first six months of 2006. Depending on the
fluctuations in metal prices for the remainder of 2006 and other
factors, we may continue to incur losses on sales under these
contracts.
During 2005 we purchased call options to help mitigate our
exposure to the metal price ceilings. However, and as discussed
above, for accounting purposes we do not treat all derivative
instruments as hedges under FASB Statement No. 133.
Accordingly, changes in fair market value of these derivatives
are recognized immediately in earnings which results in the
recognition of fair value as a gain or loss in advance of the
contract settlement. There may be a time delay between when the
gain or loss on the call options is recognized in earnings as
compared to the underlying risk of loss or profitability erosion
associated with the metal price ceilings. For example, in 2005
we recognized an increase in fair value of $71 million on
call options purchased to offset the economic risk of the metal
price ceilings in 2006.
Through June 30, 2006, we had incurred expenses of
approximately $30 million in connection with the
restatement and review process, including professional fees and
expenses, additional interest on our outstanding senior notes
and fees related to amendments and waivers to defaults under our
senior secured credit facility.
During the third quarter, we also intend to commence
negotiations with our lenders, either separately or in
connection with the potential amendments related to our
inability to file our SEC reports, in order to modify certain
financial covenants under our senior secured credit facility. In
particular, we expect it will be necessary to amend the
financial covenant related to our interest coverage ratio in
order to align this covenant with our current business outlook
for the remainder of the 2006 fiscal year.
Spin-off from Alcan. On May 18, 2004,
Alcan announced its intention to transfer its rolled products
businesses into a separate company and to pursue a spin-off of
that company to its shareholders. The rolled products businesses
were managed under two separate operating segments within
Alcan Rolled Products Americas and Asia; and Rolled
Products Europe. On January 6, 2005, Alcan and its
subsidiaries contributed and transferred to Novelis
substantially all of the aluminum rolled products businesses
operated by Alcan, together with some of Alcans alumina
and primary metal-related businesses in Brazil, which are fully
integrated with the rolled products operations there, as well as
four rolling facilities in Europe whose end-use markets and
customers were similar to ours.
51
Post-Transaction
Adjustments
The agreements giving effect to the spin-off provide for various
post-transaction adjustments and the resolution of outstanding
matters, which are expected to be carried out by the parties
during 2006. These adjustments, for the most part, have been and
will be recognized as changes to shareholders equity and
include items such as working capital, pension assets and
liabilities, and adjustments to opening balance sheet accounts.
Agreements
between Novelis and Alcan
At the spin-off, we entered into various agreements with Alcan
including the use of transitional and technical services, the
supply of Alcans metal and alumina, the licensing of
certain of Alcans patents, trademarks and other
intellectual property rights, and the use of certain buildings,
machinery and equipment, technology and employees at certain
facilities retained by Alcan, but required in our business. The
terms and conditions of the agreements were determined primarily
by Alcan and may not reflect what two unaffiliated parties might
have agreed to. Had these agreements been negotiated with
unaffiliated third parties, their terms may have been more
favorable, or less favorable, to us.
Basis
of Presentation
Our combined financial statements for the year ended
December 31, 2004 and all prior reporting periods were
prepared on a carve-out accounting basis, and represented an
allocation by Alcan of the assets and liabilities, revenues and
expenses, cash flows and changes in the components of invested
equity of the businesses to be transferred to us on
January 6, 2005. See Note 1 Business and
Summary of Significant Accounting Policies to our consolidated
and combined financial statements in this Annual Report on
Form 10-K.
OPERATIONS
AND SEGMENT REVIEW
The following discussion and analysis is based on our
consolidated and combined statements of income which reflect our
results of operations for the years ended December 31,
2005, 2004 and 2003, as prepared in accordance with accounting
principles generally accepted in the United States of America
(GAAP).
The following tables present our shipments, our results of
operations and the LME prices for aluminum for the three years
ended December 31, 2005, 2004 and 2003, as well as the
percentage changes from year to year.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
|
|
Year Ended December 31,
|
|
|
Versus
|
|
|
Versus
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2004
|
|
|
2003
|
|
|
|
(Shipments in kilotonnes(1))
|
|
|
|
|
|
|
|
|
Shipments
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Rolled products, including
tolling (the conversion of customer-owned metal)
|
|
|
2,873
|
|
|
|
2,785
|
|
|
|
2,491
|
|
|
|
3
|
%
|
|
|
12
|
%
|
Ingot products, including primary
and secondary ingot and recyclable aluminum(2)
|
|
|
214
|
|
|
|
234
|
|
|
|
290
|
|
|
|
(9
|
)%
|
|
|
(19
|
)%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total shipments
|
|
|
3,087
|
|
|
|
3,019
|
|
|
|
2,781
|
|
|
|
2
|
%
|
|
|
9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
One kilotonne (kt) is 1,000 metric tonnes. One metric tonne is
equivalent to 2,204.6 pounds. |
|
(2) |
|
Ingot products shipments include primary ingot in Brazil,
foundry products sold in Korea and Europe, secondary ingot in
Europe and other miscellaneous recyclable aluminum sales made
for logistical purposes. |
52
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
|
|
Year Ended December 31,
|
|
|
Versus
|
|
|
Versus
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2004
|
|
|
2003
|
|
|
|
($ in millions)
|
|
|
|
|
|
|
|
|
Statements of Income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales
|
|
$
|
8,363
|
|
|
$
|
7,755
|
|
|
$
|
6,221
|
|
|
|
8
|
%
|
|
|
25
|
%
|
Cost and expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of goods sold (exclusive of
depreciation and amortization shown below)
|
|
|
7,570
|
|
|
|
6,856
|
|
|
|
5,482
|
|
|
|
10
|
%
|
|
|
25
|
%
|
Selling, general and
administrative expenses
|
|
|
352
|
|
|
|
289
|
|
|
|
255
|
|
|
|
22
|
%
|
|
|
13
|
%
|
Litigation settlement
net of insurance recoveries
|
|
|
40
|
|
|
|
|
|
|
|
|
|
|
|
|
%
|
|
|
|
%
|
Provision for depreciation and
amortization
|
|
|
230
|
|
|
|
246
|
|
|
|
222
|
|
|
|
(7
|
)%
|
|
|
11
|
%
|
Research and development expenses
|
|
|
41
|
|
|
|
58
|
|
|
|
62
|
|
|
|
(29
|
)%
|
|
|
(6
|
)%
|
Restructuring charges
|
|
|
10
|
|
|
|
20
|
|
|
|
8
|
|
|
|
(50
|
)%
|
|
|
150
|
%
|
Impairment charges on long-lived
assets
|
|
|
7
|
|
|
|
75
|
|
|
|
4
|
|
|
|
(91
|
)%
|
|
|
1,775
|
%
|
Interest expense and amortization
of debt issuance costs net
|
|
|
194
|
|
|
|
48
|
|
|
|
33
|
|
|
|
304
|
%
|
|
|
45
|
%
|
Equity in net income of
non-consolidated affiliates
|
|
|
(6
|
)
|
|
|
(6
|
)
|
|
|
(6
|
)
|
|
|
|
%
|
|
|
|
%
|
Other income net
|
|
|
(299
|
)
|
|
|
(62
|
)
|
|
|
(49
|
)
|
|
|
382
|
%
|
|
|
27
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
8,139
|
|
|
|
7,524
|
|
|
|
6,011
|
|
|
|
8
|
%
|
|
|
25
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before provision for taxes
on income, minority interests share and cumulative effect
of accounting change
|
|
|
224
|
|
|
|
231
|
|
|
|
210
|
|
|
|
(3
|
)%
|
|
|
10
|
%
|
Provision for taxes on income
|
|
|
107
|
|
|
|
166
|
|
|
|
50
|
|
|
|
(36
|
)%
|
|
|
232
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before minority
interests share and cumulative effect of accounting change
|
|
|
117
|
|
|
|
65
|
|
|
|
160
|
|
|
|
80
|
%
|
|
|
(59
|
)%
|
Less: Minority interests share
|
|
|
(21
|
)
|
|
|
(10
|
)
|
|
|
(3
|
)
|
|
|
110
|
%
|
|
|
233
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income before cumulative
effect of accounting change
|
|
|
96
|
|
|
|
55
|
|
|
|
157
|
|
|
|
75
|
%
|
|
|
(65
|
)%
|
Cumulative effect of accounting
change net of tax
|
|
|
(6
|
)
|
|
|
|
|
|
|
|
|
|
|
|
%
|
|
|
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
90
|
|
|
$
|
55
|
|
|
$
|
157
|
|
|
|
64
|
%
|
|
|
(65
|
)%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
London Metal Exchange
Prices Aluminum (per kilotonne, and presented in
dollars )
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Closing cash price as of
December 31,
|
|
$
|
2,285
|
|
|
$
|
1,964
|
|
|
$
|
1,593
|
|
|
|
16
|
%
|
|
|
23
|
%
|
Average cash price for the year
ended December 31,
|
|
$
|
1,897
|
|
|
$
|
1,717
|
|
|
$
|
1,432
|
|
|
|
10
|
%
|
|
|
20
|
%
|
Results
of Operations for the Year Ended December 31, 2005 Compared
to the Year Ended December 31, 2004
Shipments
Rolled products shipments were up 3% in 2005 compared to 2004.
We had increased shipments of 31 kilotonnes in Asia due to
demand growth and had significant production increases in that
region. We experienced market share gains in the South American
market of 24 kilotonnes. In Europe, increased shipments into the
can (34 kilotonnes) and lithographic (6 kilotonnes) markets were
partially offset by lower foil shipments (by 17 kilotonnes) that
resulted from the closing of our Flemalle operation in early
2005. Can volumes also increased by 20 kilotonnes in North
America as we captured a higher market share. This combined with
higher foil shipments in North America of 7 kilotonnes offset
the 15 kilotonnes loss of volume we experienced following our
decision to exit the semi-fabricated foil market in North
America.
53
Ingot product shipments were down 9% in 2005 compared to 2004,
due to 7 kilotonnes less shipments from our Borgofranco casting
alloys business, which resulted from tough market conditions and
our announcement in late 2005 of our intention to close the
facility. In addition, we had lower shipments of excess primary
re-melt in 2005 compared to 2004.
Net
sales
Net sales increased to $8,363 million in 2005 compared to
$7,755 million in 2004, an increase of $608 million,
or 8%. The improvement was primarily the result of an increase
in LME metal pricing, which was 10% higher on average during
2005 compared to 2004. Higher shipments also contributed to the
rise in net sales. Net sales were adversely impacted in North
America due to metal price ceilings on certain can contracts.
These contracts limited our ability to pass on approximately
$50 million of LME metal price increases to our customers.
Costs
and expenses
The following table presents our costs and expenses for the
years ended December 31, 2005 and 2004, in dollars and
expressed as percentages of net sales.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2005
|
|
|
2004
|
|
|
|
$ in
|
|
|
% of
|
|
|
$ in
|
|
|
% of
|
|
|
|
millions
|
|
|
Net sales
|
|
|
millions
|
|
|
Net sales
|
|
|
Cost of goods sold (exclusive of
depreciation and amortization shown below)
|
|
$
|
7,570
|
|
|
|
90.5
|
%
|
|
$
|
6,856
|
|
|
|
88.4
|
%
|
Selling, general and
administrative expenses
|
|
|
352
|
|
|
|
4.2
|
%
|
|
|
289
|
|
|
|
3.7
|
%
|
Litigation settlement
net of insurance recoveries
|
|
|
40
|
|
|
|
0.5
|
%
|
|
|
|
|
|
|
|
%
|
Provision for depreciation and
amortization
|
|
|
230
|
|
|
|
2.8
|
%
|
|
|
246
|
|
|
|
3.2
|
%
|
Research and development expenses
|
|
|
41
|
|
|
|
0.5
|
%
|
|
|
58
|
|
|
|
0.7
|
%
|
Restructuring charges
|
|
|
10
|
|
|
|
0.1
|
%
|
|
|
20
|
|
|
|
0.3
|
%
|
Impairment charges on long-lived
assets
|
|
|
7
|
|
|
|
0.1
|
%
|
|
|
75
|
|
|
|
1.0
|
%
|
Interest expense and amortization
of debt issuance costs net
|
|
|
194
|
|
|
|
2.3
|
%
|
|
|
48
|
|
|
|
0.6
|
%
|
Equity in net income of
non-consolidated affiliates
|
|
|
(6
|
)
|
|
|
(0.1
|
)%
|
|
|
(6
|
)
|
|
|
(0.1
|
)%
|
Other income net
|
|
|
(299
|
)
|
|
|
(3.6
|
)%
|
|
|
(62
|
)
|
|
|
(0.8
|
)%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
8,139
|
|
|
|
97.3
|
%
|
|
$
|
7,524
|
|
|
|
97.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of goods sold represented 90.5% of our net sales in 2005,
compared to 88.4% in 2004. The increase in cost of goods sold,
in both total dollars and as a percentage of net sales in 2005
in large part reflected the impact of higher LME prices on metal
input costs. Further, we experienced adverse impacts from higher
energy and transportation costs totaling $51 million in
2005 over 2004 levels. In addition, the strengthening of the
Brazilian real, which increases local costs when translated into
U.S. dollars, impacted 2005 results by $28 million
compared to 2004.
Selling, general and administrative expenses (SG&A)
increased from $289 million in 2004 to $352 in 2005, or
22%. Included in SG&A for 2005 are additional corporate
office costs we incurred as a stand-alone company and
$15 million in
start-up
costs (e.g. signage, corporate and regional offices). The
weakening U.S. dollar against other currencies also
contributed to higher SG&A in 2005 than 2004. These cost
increases were partially offset by lower SG&A costs in
Europe resulting from our closing two administration centers in
2005. In 2004, SG&A included a benefit of $10 million
in South America that arose from changing from a defined benefit
plan to a defined contribution plan.
54
Litigation settlement net of insurance recoveries of
$40 million relates to the Reynolds Boat Case as described
in Note 21 Commitments and Contingencies to our
consolidated and combined financial statements included in this
Annual Report.
Depreciation and amortization for 2005 was $16 million less
than 2004, as we closed two of our plants in Europe and had
taken a $65 million asset impairment charge in December
2004 on our property, plant and equipment in Italy.
Research and development expenses were $41 million in 2005,
an amount we consider to be within the range of our expected
normal annual expenditures. For 2004 and 2003, research and
development expenses allocated to us in the carve out accounting
by Alcan included both specific costs related to projects
directly identifiable with operations of the businesses
subsequently transferred to us, and an allocation of a general
pool of research and development expenses.
Restructuring charges in 2005 were substantially attributable to
provisions we made in the fourth quarter after announcing our
intent to close our Borgofranco foundry alloys business. We
provided for exit related costs of $9 million, which
included $6 million for environmental remediation. In 2004,
we recorded restructuring charges of $11 million to
consolidate our sheet rolling facilities in Rogerstone, Wales,
and an additional $6 million relating to the restructuring
and closure of facilities in Germany. We also recovered
$7 million in 2004 related to our 2001 restructuring
program resulting from a gain on the sale of assets related to
closing facilities in Glasgow, U.K. See Note 3
Restructuring Programs to our consolidated and combined
financial statements included in this Annual Report for more
information.
Impairment charges in 2005 included a $5 million write-down
on the value of the property, plant and equipment at the
Borgofranco foundry alloys business. The amounts for 2004
include the $65 million asset impairment charge on the
production equipment at two facilities in Italy and other asset
impairment charges on equipment in Europe. See
Note 6 Property, Plant and Equipment to our
consolidated and combined financial statements included in this
Annual Report for more information.
Interest expense and amortization of debt issuance
costs net was $194 million in 2005,
significantly higher than the $48 million allocated to us
by Alcan for 2004. The increase resulted from the debt we
undertook to finance the spin-off. In addition, we incurred
$11 million in debt issuance costs on undrawn credit
facilities that were used to back up the Alcan notes we received
in January 2005 as part of the spin-off, and included such costs
in interest expense and amortization of debt issuance
costs net. In previous quarters during 2005, these
costs were included in Other income net.
Other income net was $299 million in 2005
compared to $62 million in 2004. The reconciliation of this
difference is shown below (in millions):
|
|
|
|
|
|
|
Other
|
|
|
|
Income Net
|
|
|
Other income net
for the year ended December 31, 2004
|
|
$
|
(62
|
)
|
|
|
|
|
|
Elements comprising the difference
in Other income net:
|
|
|
|
|
Gains of $269 million on the
change in fair market value of derivatives in 2005, compared to
$69 million in 2004
|
|
|
(200
|
)
|
Service fee income earned in 2004
only
|
|
|
17
|
|
Gains of $17 million on the
disposals of fixed assets in 2005 compared to gains in 2004 of
$5 million
|
|
|
(12
|
)
|
Other net
|
|
|
(42
|
)
|
|
|
|
|
|
Total elements comprising the
difference in Other income net
|
|
|
(237
|
)
|
|
|
|
|
|
Other income net
for the year ended December 31, 2005
|
|
$
|
(299
|
)
|
|
|
|
|
|
55
Provision
for Taxes on Income
Our provision for taxes on income of $107 million
represented an effective tax rate of 49% for 2005 compared to an
income tax expense of $166 million and an effective tax
rate of 74% for 2004. This compares to a 2005 statutory tax rate
of 33% in Canada (33% in 2004). In 2005, the major differences
were caused by deferred tax liabilities on the translation of
U.S. dollar indebtedness into local currency for which
there is no related income in Canada and South America, tax
benefits from previously unrecognized deferred tax assets, and
reduced-rate or tax exempt income and expense items. In 2004 the
difference in the rates was due primarily to the
$65 million pre-tax asset impairment in Italy, for which a
tax recovery is not expected, and the $21 million tax
provision in connection with the spin-off, for which there is no
related income. Refer to Note 18 Income Taxes
to our consolidated and combined financial statements for a
reconciliation of statutory and effective tax rates.
The change in effective tax rates from 2004 to 2005 is largely
due to the increase or decrease in valuation allowance recorded
against deferred tax assets. We reduce the deferred tax assets
by a valuation allowance if it is more likely than not that some
portion or all of the deferred tax assets will not be realized.
In 2005, we incurred tax losses in the UK, Italy and France and
we believe it is more likely than not that the tax
benefits on these losses will not be realized and therefore we
increased the valuation allowances on these deferred tax assets.
In 2004, we incurred tax losses in Italy, driven mainly by the
impairment charge of $65 million. We believed it was
more likely than not that the tax benefits on these
losses would not be realized and therefore we increased the
valuation allowances on these deferred tax assets.
Net
Income
We reported Net income of $90 million for the year ended
December 31, 2005, or diluted earnings per share of
$1.21. This is comprised of consolidated net income of
$119 million for the period from January 6, 2005 (the
effective date of the spin-off) to December 31, 2005, and a
combined loss of $29 million on the
mark-to-market
of derivatives, primarily with Alcan, for the period from
January 1 to January 5, 2005, prior to the spin-off. Net
income in the carve out combined statement of income as a part
of Alcan for the year ended December 31, 2004 was
$55 million, or diluted earnings per share of $0.74.
Results
of Operations for the Year Ended December 31, 2004 Compared
to the Year Ended December 31, 2003
Shipments
Rolled products shipments in 2004 were up 12% compared to 2003,
resulting from improved economies in Asia and North America, and
the addition of four plants in Europe obtained as part of the
Pechiney acquisition, as well as market share improvements in
South America.
Ingot shipments were down by 19% in 2004 compared to 2003, due
to lower demand for our excess primary re-melt.
Net
sales
Our net sales were $7,755 million for the year ended
December 31, 2004, an increase of $1,534 million, or
25%, compared to 2003. Approximately half of the increase was
the result of higher LME aluminum prices, which we generally
passed through to customers, as the metal price ceilings in
certain of our North America contracts were not triggered to a
significant degree in 2004. LME cash aluminum prices in 2004
were up on average 20% compared to 2003. Forty percent of
the increase in net sales reflected increased rolled products
shipments, with the remaining portion of the increase
attributable to the translation effects of the weakening
U.S. dollar against other currencies, especially the Euro.
56
Costs
and expenses
The following table presents our costs and expenses for the
years ended December 31, 2004 and 2003, in dollars and
expressed as percentages of Net sales.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2004
|
|
|
2003
|
|
|
|
$ in
|
|
|
% of
|
|
|
$ in
|
|
|
% of
|
|
|
|
millions
|
|
|
Net sales
|
|
|
millions
|
|
|
Net sales
|
|
|
Cost of goods sold (exclusive of
depreciation and amortization shown below)
|
|
$
|
6,856
|
|
|
|
88.4
|
%
|
|
$
|
5,482
|
|
|
|
88.1
|
%
|
Selling, general and
administrative expenses
|
|
|
289
|
|
|
|
3.7
|
%
|
|
|
255
|
|
|
|
4.1
|
%
|
Provision for depreciation and
amortization
|
|
|
246
|
|
|
|
3.2
|
%
|
|
|
222
|
|
|
|
3.6
|
%
|
Research and development expenses
|
|
|
58
|
|
|
|
0.7
|
%
|
|
|
62
|
|
|
|
1.0
|
%
|
Restructuring charges
|
|
|
20
|
|
|
|
0.3
|
%
|
|
|
8
|
|
|
|
0.1
|
%
|
Impairment charges on long-lived
assets
|
|
|
75
|
|
|
|
1.0
|
%
|
|
|
4
|
|
|
|
0.1
|
%
|
Interest expense and amortization
of debt issuance costs net
|
|
|
48
|
|
|
|
0.6
|
%
|
|
|
33
|
|
|
|
0.5
|
%
|
Equity in net income of
non-consolidated affiliates
|
|
|
(6
|
)
|
|
|
(0.1
|
)%
|
|
|
(6
|
)
|
|
|
(0.1
|
)%
|
Other income net
|
|
|
(62
|
)
|
|
|
(0.8
|
)%
|
|
|
(49
|
)
|
|
|
(0.8
|
)%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
7,524
|
|
|
|
97.0
|
%
|
|
$
|
6,011
|
|
|
|
96.6
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of goods sold represented 88.4% of our net sales in 2004,
compared to 88.1% in 2003. The stability of this cost/revenue
relationship reflects the conversion nature of our business,
absent the impact of metal price ceilings. The increase in cost
of goods sold in 2004 in large part reflected the impact of
higher LME prices on metal input costs. There was a commensurate
increase in net sales as higher metal costs were generally
passed through to customers.
In 2004, our cost base was adversely affected by a number of
external factors that increased costs for natural gas and
transportation. The sharp decline in the value of the
U.S. dollar also had a significant adverse impact on
operating and overhead costs incurred in other currencies, which
are translated into U.S. dollars for reporting purposes.
SG&A expenses were $289 million for 2004 compared to
$255 million in 2003, an increase of $34 million. The
increase is due to the addition of four Pechiney plants in 2004
and the impact of the strengthening Euro, which increased local
costs when translated into U.S. dollars for reporting
purposes.
Our depreciation and amortization expense was $246 million
in 2004 compared to $222 million in 2003. Nearly half of
the increase in 2004 was the result of the acquisition of
Pechiney at the end of 2003, with the remainder mainly
reflecting the effect of the stronger euro and Korean won when
translating local currency expenses into U.S. dollars.
Research and development expenses allocated to us in the carve
out accounting by Alcan for both 2004 and 2003 included both
specific costs related to projects directly identifiable with
operations of the businesses subsequently transferred to us, and
an allocation of a general pool of research and development
expenses.
Restructuring charges in 2004 included restructuring charges of
$19 million to consolidate our sheet rolling facilities in
Rogerstone, Wales, and an additional $6 million relating to
the restructuring and closure of facilities in Germany. We also
recovered $7 million in 2004 related to our 2001
restructuring program resulting from a gain on the sale of
assets related to closing facilities in Glasgow, U.K.
Restructuring charges of $8 million in 2003 consisted
primarily of employee severance related to the 2001
restructuring program. See Note 3 Restructuring
Programs to our consolidated and combined financial statements
included in this Annual Report for more information.
Impairment charges in 2004 include the $65 million asset
impairment charge on the production equipment at two facilities
in Italy and other asset impairment charges on equipment in
Europe. In 2003, we had
57
impairment charges related to the complete write-off of all of
the fixed assets in our Annecy, France plant. See
Note 6 Property, Plant and Equipment to our
consolidated and combined financial statements included in this
Annual Report for more information.
Interest expense and amortization of debt issuance
costs net allocated to us was $48 million in
2004, an increase of 45% over interest expense and amortization
of debt issuance costs net allocated to us for 2003,
reflecting the higher level of borrowings and debt at the end of
2003 that Alcan undertook to finance its acquisition of Pechiney
in 2003.
Other income net was $62 million in 2004
compared to $49 million in 2003. The reconciliation of this
difference is shown below (in millions):
|
|
|
|
|
|
|
Other
|
|
|
|
Income Net
|
|
|
Other income net
for the year ended December 31, 2003
|
|
$
|
(49
|
)
|
|
|
|
|
|
Elements comprising the difference
in Other income net:
|
|
|
|
|
Gains of $69 million on the
change in market value of derivatives in 2004, compared to
$20 million in 2003
|
|
|
(49
|
)
|
Foreign exchange losses of
$2 million in 2004 compared to $17 million in 2003
|
|
|
(15
|
)
|
Service fee income of
$17 million earned in 2004 compared to $13 million in
2003
|
|
|
(4
|
)
|
Gains of $5 million on the
disposals of fixed assets in 2004 compared to $28 million
in 2003
|
|
|
23
|
|
Other net
|
|
|
32
|
|
|
|
|
|
|
Total elements comprising the
difference in Other income net
|
|
|
(13
|
)
|
|
|
|
|
|
Other income net
for the year ended December 31, 2004
|
|
$
|
(62
|
)
|
|
|
|
|
|
Provision
for Taxes on Income
Our provision for taxes on income of $166 million
represented an effective tax rate of 74% for 2004 compared to an
income tax expense of $50 million and an effective tax rate
of 25% for 2003. This compares to a 2004 statutory tax rate of
33% in Canada (32% in 2003). In 2004, the major differences were
caused by the $65 million pre-tax asset impairment in
Italy, for which a tax recovery is not expected, and the
$21 million tax provision in connection with the spin-off,
for which there is no related income. In 2003 the difference in
the rates was due primarily to prior years tax adjustments
and the realization of tax benefits on previously unrecorded tax
losses carried forward. Refer to Note 18 Income
Taxes to our consolidated and combined financial statements for
a reconciliation of statutory and effective tax rates.
The change in effective tax rates from 2003 to 2004 to year is
largely due to the increase or decrease in valuation allowance
recorded against deferred tax assets. We reduce the deferred tax
assets by a valuation allowance if it is more likely than not
that some portion or all of the deferred tax assets will not be
realized. In 2004, we incurred tax losses in Italy, driven
mainly by the impairment charge of $65 million. We believed
it was more likely than not that the tax benefits on
these losses would not be realized and therefore we increased
the valuation allowances on these deferred tax assets. In 2003,
we reduced the valuation allowance on deferred tax assets as a
result of the realization of tax benefits from the carryforward
of prior years tax losses to offset taxable income of the
current year in Italy, the United Kingdom and Korea.
Net
Income
Our net income for 2004 was $55 million compared to
$157 million in 2003. The principal factors contributing to
the decline in 2004 were the after-tax restructuring and asset
impairment charges in Europe of $18 million, a separate
asset impairment charge of $65 million in Italy as well as
a tax provision of $21 million and $12 million in
costs both related to our
start-up and
our separation from Alcan, and a foreign currency balance sheet
translation loss of $15 million. Other factors that
negatively impacted 2004 net income were the
58
$24 million (pre-tax) increase in depreciation and
amortization and the $15 million (pre-tax) increase in
interest expense and amortization of debt issuance
costs net from the comparable year-ago period.
Foreign currency balance sheet translation effects, which are
primarily non-cash in nature, arise from translating monetary
items (principally deferred income taxes, operating working
capital and long-term liabilities) denominated in Canadian
dollars and Brazilian real into U.S. dollars for reporting
purposes. The translation loss in 2004 reflected the significant
weakening of the U.S. dollar against the Canadian dollar
and Brazilian real.
The negative impact on net income from these items was partially
offset by the improvement in rolled product shipment volume,
which increased 12% over the corresponding period in 2003. The
increase was in response to strengthening market conditions in
Asia and North America and market share improvements in South
America. The four Pechiney plants contributed 4% to shipments
for the year. The recovery in market price spreads between
recycled and primary metal and the positive impact of the
strengthening euro when translating local currency profits into
U.S. dollars also provided a positive improvement to net
income. Additionally, pre-tax
mark-to-market
gains on derivatives increased by $49 million in 2004.
Included in our net income for 2003 was a foreign currency
balance sheet translation loss of $27 million. Other
significant items were after-tax gains of $26 million
($30 million pre-tax) on the sale of non-core businesses in
Italy, the United Kingdom and Malaysia and an after-tax
environmental charge of $18 million ($30 million
pre-tax) related mainly to a site in the United States as well
as positive tax adjustments totaling $24 million. Our
results of operations for 2003 also included after-tax
mark-to-market
gains on derivatives of $11 million ($20 million
pre-tax).
Operating
Segment Review for the Year Ended December 31, 2005
Compared to the Year Ended December 31, 2004 and for the
Year Ended December 31, 2004 Compared to the Year Ended
December 31, 2003
Regional
Income and Business Group Profit
Due in part to the regional nature of supply and demand of
aluminum rolled products and in order to best serve our
customers, we manage our activities on the basis of geographical
areas and are organized under four operating segments. The
operating segments are Novelis North America (NNA), Novelis
Europe (NE), Novelis Asia (NA) and Novelis South America
(NSA).
Our chief operating decision-maker uses regional financial
information in deciding how to allocate resources to an
individual segment, and in assessing performance of the segment.
Novelis chief operating decision-maker is its chief
executive officer.
We measure the profitability and financial performance of our
operating segments based on Regional Income, in accordance with
FASB Statement No. 131, Disclosure About the Segments of
an Enterprise and Related Information. Regional Income
provides a measure of our underlying regional segment results
that is in line with our portfolio approach to risk management.
We define Regional Income as income before (a) interest
expense and amortization of debt issuance costs;
(b) unrealized gains and losses due to changes in the fair
market value of derivative instruments, except for Korean
foreign exchange derivatives; (c) depreciation and
amortization; (d) impairment charges on long-lived assets;
(e) minority interests share; (f) adjustments to
reconcile our proportional share of Regional Income from
non-consolidated affiliates to income as determined on the
equity method of accounting (proportional share to equity
accounting adjustments); (g) restructuring charges;
(h) gains or losses on disposals of fixed assets and
businesses; (i) corporate costs; (j) litigation
settlement net of insurance recoveries;
(k) gains on the monetization of cross-currency interest
rate swaps; (l) provision for taxes on income; and (m)
cumulative effect of accounting change net of tax.
Prior to the spin-off, profitability of the operating segments
was measured using business group profit (BGP). Prior periods
presented below have been recast to conform to the definition of
Regional Income. BGP was similar to Regional Income, except for
the following:
|
|
|
|
|
BGP excluded restructuring charges related only to major
corporate-wide acquisitions or initiatives, whereas Regional
Income excludes all restructuring charges;
|
59
|
|
|
|
|
BGP included pension costs based on the normal current service
cost with all actuarial gains, losses and other adjustments
being included in Intersegment and other. Regional Income
includes all pension costs in the applicable operating
segment; and
|
|
|
|
BGP excluded certain corporate non-operating costs incurred by
an operating segment and included such costs in Intersegment and
other. Regional Income includes these costs in the operating
segment.
|
Reconciliation
The following table presents Regional Income by operating
segment and reconciles Total Regional Income to Net income.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
|
($ in millions)
|
|
|
Regional Income
|
|
|
|
|
|
|
|
|
|
|
|
|
Novelis North America
|
|
$
|
196
|
|
|
$
|
240
|
|
|
$
|
176
|
|
Novelis Europe
|
|
|
206
|
|
|
|
200
|
|
|
|
175
|
|
Novelis Asia
|
|
|
108
|
|
|
|
80
|
|
|
|
69
|
|
Novelis South America
|
|
|
110
|
|
|
|
134
|
|
|
|
88
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Regional Income
|
|
|
620
|
|
|
|
654
|
|
|
|
508
|
|
Interest expense and amortization
of debt discounts and fees
|
|
|
(203
|
)
|
|
|
(74
|
)
|
|
|
(40
|
)
|
Unrealized gains due to changes in
the fair market value of
derivatives(A)
|
|
|
140
|
|
|
|
77
|
|
|
|
20
|
|
Depreciation and amortization
|
|
|
(230
|
)
|
|
|
(246
|
)
|
|
|
(222
|
)
|
Litigation settlement
net of insurance recoveries
|
|
|
(40
|
)
|
|
|
|
|
|
|
|
|
Impairment charges on long-lived
assets
|
|
|
(7
|
)
|
|
|
(75
|
)
|
|
|
(4
|
)
|
Minority interests share
|
|
|
(21
|
)
|
|
|
(10
|
)
|
|
|
(3
|
)
|
Adjustment to eliminate
proportional
consolidation(B)
|
|
|
(36
|
)
|
|
|
(41
|
)
|
|
|
(36
|
)
|
Restructuring charges
|
|
|
(10
|
)
|
|
|
(20
|
)
|
|
|
(8
|
)
|
Gain on disposals of fixed assets
and businesses
|
|
|
17
|
|
|
|
5
|
|
|
|
28
|
|
Corporate
costs(C)
|
|
|
(72
|
)
|
|
|
(49
|
)
|
|
|
(36
|
)
|
Gains on the monetization of
cross-currency interest rate swaps
|
|
|
45
|
|
|
|
|
|
|
|
|
|
Provision for taxes on income
|
|
|
(107
|
)
|
|
|
(166
|
)
|
|
|
(50
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income before cumulative
effect of accounting change
|
|
|
96
|
|
|
|
55
|
|
|
|
157
|
|
Cumulative effect of accounting
change net of tax
|
|
|
(6
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
90
|
|
|
$
|
55
|
|
|
$
|
157
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(A)
|
|
Except for Korean foreign exchange derivatives. |
|
(B)
|
|
Our financial information for our segments (including Regional
Income) includes the results of our non-consolidated affiliates
on a proportionately consolidated basis, which is consistent
with the way we manage our business segments. However, under
GAAP, these non-consolidated affiliates are accounted for using
the equity method of accounting. Therefore, in order to
reconcile Total Regional Income to Net income, the proportional
Regional Income of these non-consolidated affiliates is removed
from Total Regional Income, net of our share of their net
after-tax results, which is reported as Equity in net income
of non-consolidated affiliates on our consolidated and
combined statements of income. See Note 8
Investment in and Advances to Non-Consolidated Affiliates to our
consolidated and combined financial statements for further
information about these non-consolidated affiliates. |
|
(C)
|
|
These items are managed by our corporate head office, which
focuses on strategy development and oversees governance, policy,
legal compliance, human resources and finance matters. |
60
Operating
Segment Results
Novelis
North America
Through 12 aluminum rolled products facilities, including two
dedicated recycling facilities, Novelis North America
manufactures aluminum sheet and light gauge products. Important
end-use applications for NNA include beverage cans, containers
and packaging, automotive and other transportation applications,
building products and other industrial applications.
The following table presents key financial and operating
information for NNA for the years ended December 31, 2005,
2004 and 2003.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
|
|
Year Ended December 31,
|
|
|
Versus
|
|
|
Versus
|
|
NNA
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2004
|
|
|
2003
|
|
|
Total shipments (kt)
|
|
|
1,194
|
|
|
|
1,175
|
|
|
|
1,083
|
|
|
|
2
|
%
|
|
|
8
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
($ in millions)
|
|
|
|
|
|
|
|
Net sales
|
|
$
|
3,265
|
|
|
$
|
2,964
|
|
|
$
|
2,385
|
|
|
|
10
|
%
|
|
|
24
|
%
|
Regional Income
|
|
|
196
|
|
|
|
240
|
|
|
|
176
|
|
|
|
(18
|
)%
|
|
|
36
|
%
|
Total assets
|
|
|
1,547
|
|
|
|
1,406
|
|
|
|
2,392
|
|
|
|
10
|
%
|
|
|
(41
|
)%
|
2005
versus 2004
Shipments
NNA total shipments were 1,194 kilotonnes in 2005, representing
39% of our total shipments, compared to 1,175 kilotonnes in
2004, which also represented 39% of our total shipments. NNA
total shipments were 2% higher in 2005 than in 2004. Shipments
increased by 20 kilotonnes in the can market in 2005 as we
captured a higher market share and foil shipments increased by
10 kilotonnes as we experienced higher utilization. We also
experienced a small increase in shipments in the brazing market.
These higher shipments were partially offset by our decision to
exit the semi-fabricated foilstock market, which unfavorably
impacted shipments by 15 kilotonnes, and by lower automotive
sheet volume of 7 kilotonnes due to the loss of a supply
contract. In addition, building sheet shipments declined by 6
kilotonnes in 2005 compared to 2004 as we focused on higher
margin business.
Net
sales
NNA net sales were $3,265 million in 2005, representing 39%
of our total net sales, compared to $2,964 million in 2004,
which represented 38% of our total net sales. NNA net sales in
2005 were higher by $301 million, or 10%, compared to 2004.
This was driven primarily by increases in metal prices, which
were 10% higher on average in 2005 compared to 2004. Increases
in metal prices are largely passed through to customers.
However, the pass through of metal price increases to our
customers was limited in cases where metal price ceilings in
certain contracts were exceeded or when there was a time lag
between metal price increases and the corresponding pass-through
to our customers.
Regional
Income
NNA Regional Income was $196 million in 2005, a decrease of
$44 million, or 18%, from 2004. Regional Income was
unfavorably impacted by higher costs of goods sold in 2005, due
to two main drivers. First, as noted above, we were unable to
pass through $50 million of metal cost increases to our
customers due to contracts with a metal price ceiling. However,
we did realize a $10 million gain on the change in fair
market of settled derivative instruments that we entered into to
hedge our exposure to these metal price ceilings, which was
included in Regional Income, resulting in a net unfavorable
impact to Regional Income of $40 million. Second, higher
energy costs, including the cost to melt and roll our products
and fuel costs to transport products to our customers, increased
cost of goods sold by $33 million.
Regional Income was favorably impacted by higher margins,
defined as sales price less metal cost, as we continued to make
progress in optimizing our product portfolio by reducing our
exposure to lower value added
61
products such as semi-fabricated foilstock and increasing our
volumes in the can market. In addition, we were able to increase
prices in a number of product lines due to high demand and the
enactment of the U.S. Department of Energys Seasonal
Energy Efficiency Ratio 13 regulation, which increases the
amount of aluminum used in the manufacturing of air conditioning
units.
Other reasons for the decrease in Regional Income for 2005
compared to 2004 include $16 million of interest income
earned in 2004 on loans to Alcan that were collected in 2005 as
part of the spin-off, and a charge of $4 million in 2005
relating to post-retirement medical costs which related to 2004
and prior periods.
2004
versus 2003
Shipments
NNA total shipments were 1,175 kilotonnes in 2004, representing
39% of our total shipments, compared to 1,083 kilotonnes in
2003, which also represented 39% of our total shipments. In
2004, the industrial products, construction, transportation and
small industrial goods end-use markets were very strong. Can and
foil end-use markets were relatively flat for the industry;
however, NNAs participation was up in these end-use
markets.
Net
sales
NNA net sales were $2,964 million in 2004, representing 38%
of our total net sales, compared $2,385 million in 2003,
which also represented 38% of our total net sales. NNA total net
sales in 2004 were $579 million higher, or 24%, than in
2003. The majority of the increase reflected the impact of
higher LME prices passed through to customers, with the balance
mainly attributable to higher shipments.
Regional
Income
NNA Regional Income was $240 million in 2004, an increase
of $64 million, or 36%, over 2003. This improvement is
attributable to strong growth in rolled product shipments which
were up 7% from the year-ago period due to strengthening market
conditions. Benefits to Regional Income of cost control efforts
and the recovery in purchase price spreads between recycled
metal and primary aluminum were offset by the strengthening
Canadian dollar and the negative impact of metal price lags.
Regional Income for 2003 included a $25 million charge for
an environmental provision for a site at our Oswego facility in
New York.
Novelis
Europe
Novelis Europe provides European markets with value-added sheet
and light gauge products through its 16 plants in operation,
including two recycling facilities as of December 31, 2005.
NE serves a broad range of aluminum rolled product end-use
markets in various applications including can, automotive,
lithographic and painted products.
The following table presents key financial and operating data
for Novelis Europe for the years ended December 31, 2005,
2004 and 2003.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
|
|
Year Ended December 31,
|
|
|
Versus
|
|
|
Versus
|
|
NE
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2004
|
|
|
2003
|
|
|
Total shipments (kt)
|
|
|
1,081
|
|
|
|
1,089
|
|
|
|
1,012
|
|
|
|
(1
|
)%
|
|
|
8
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
($ in millions)
|
|
|
|
|
|
|
|
Net sales
|
|
$
|
3,093
|
|
|
$
|
3,081
|
|
|
$
|
2,510
|
|
|
|
|
%
|
|
|
23
|
%
|
Regional Income
|
|
|
206
|
|
|
|
200
|
|
|
|
175
|
|
|
|
3
|
%
|
|
|
14
|
%
|
Total assets
|
|
|
2,139
|
|
|
|
2,885
|
|
|
|
2,364
|
|
|
|
(26
|
)%
|
|
|
22
|
%
|
62
2005
versus 2004
Shipments
NE total shipments were 1,081 kilotonnes in 2005 (including
tolled products) representing 35% of our total shipments,
compared to 1,089 kilotonnes in 2004, which represented 36% of
our total shipments. NE total shipments were essentially
unchanged compared to 2004. As a result of closing our Flemalle,
Belgium foil operation early in 2005, we experienced a decline
in shipments of 17 kilotonnes. Shipments into the weak foil and
packaging markets in 2005 declined by 7 kilotonnes compared to
2004. We experienced increased shipments into the beverage can
market, up 34 kilotonnes, and the lithographic market, up 6
kilotonnes. The aluminum beverage can market continues to grow
by approximately 5% annually in Europe, which is attributable,
in part, to growth in new aluminum lines in Eastern Europe and
line conversions from steel to aluminum in Western Europe.
Additionally, the enactment of European Union (EU) packaging
waste legislation, under which 50% of all one-way beverage
containers must be recycled by 2007, supports the usage of
aluminum cans over other beverage packages. Tough market
conditions and our decision to close our Borgofranco foundry
alloys business in Italy impacted shipments adversely by 7
kilotonnes in 2005 compared to 2004.
Net
sales
NE net sales were $3,093 million in 2005, representing 37%
of our total net sales, compared to $3,081 million in 2004,
which represented 40% of our total net sales. NE net sales were
$12 million higher, or less than 1%, compared to 2004. The
10% increase in average LME metal price was offset by a shift of
product mix towards lower priced, but more profitable, products
and lower shipments due in part to the closings of our Flemalle
foil operation, as discussed above.
Regional
Income
NE Regional Income was $206 million in 2005, an increase of
$6 million, or 3%, compared to $200 million in 2004.
Regional Income was positively impacted by $17 million due
to metal timing impacts resulting from metal price movements
that began in the third quarter of 2005 and continued to
increase through the end of the year. We also benefited from
continued cost discipline, particularly in the area of
maintenance spending. This was partly offset by higher energy
costs of $13 million, over 50% of which occurred in the UK.
Energy costs in Europe are expected to continue to rise in 2006
as our long-term supply contracts come up for renewal.
Regional Income was unfavorably impacted in 2005 as shipments of
foil and packaging products fell, partly offset by increased
margins in the lithography market as demand for high quality
lithography sheet continued to increase. In 2005, we closed two
administration centers, one in Germany and one in the U.K., and
two distribution centers in Italy, which resulted in cost
savings of $4 million. In 2005, we had Novelis
start-up
costs totaling $8 million, and we had lower interest income
than in 2004. In 2004, we incurred charges for environmental and
inventory related costs of $11 million relating to our
Borgofranco, Italy facility.
While some end-markets are slowly recovering in Europe, the
strength of the Euro continues to keep shipments and margins
under pressure. In response to the challenging market
conditions, Novelis Europe is focused on optimizing its
portfolio of products and reducing costs.
2004
versus 2003
Shipments
NE total shipments were 1,089 kilotonnes in 2004, representing
36% of our total shipments, compared to 1,012 kilotonnes in
2003, which also represented 36% of our total shipments. NE
total shipments in 2004 were 8% higher than in 2003,
attributable mainly to the acquisition of our Pechiney plants at
the end of 2003.
63
Net
sales
NE net sales were $3,081 million in 2004, representing 40%
of our total net sales, compared to $2,510 million in 2003,
which represented 40% of our total net sales. The impact of
higher LME prices passed through to customers accounted for the
majority of the improvement in net sales, with higher shipments
from the acquisition of our Pechiney plants and foreign currency
translation effects accounting for the remaining improvement. In
2004, the European aluminum can market grew as can production
accelerated conversion from steel to aluminum, driven by
legislative changes originating in Germany in the post-consumer
container return area, where the value of UBCs gives aluminum an
advantage over steel in the recovery system. The European
automotive market also continued to grow well as we made headway
into new applications. In 2004, Europe continued to experience
growth in the substitution of aluminum for steel in automobiles
for performance reasons. The European lithographic sheet market
also increased as demand for higher-grade product, driven by
computer-to-print
technology, feeds directly into our areas of asset capabilities
and expertise.
Regional
Income
NE Regional Income was $200 million in 2004, an increase of
$25 million, or 14%, compared to $175 million in 2003.
The positive effect on translation of Euro-denominated results
into U.S. dollars, favorable metal effects, benefits from
previous restructuring activities, and the contribution of four
rolling operations acquired from Pechiney more than offset the
effects we experienced from an unfavorable change in our product
mix.
Novelis
Asia
Novelis Asia operates three manufacturing facilities, with
production balanced between foil, construction and industrial,
and beverage/food can end-use applications
The following table presents key financial and operating data
for NA for the years ended December 31, 2005, 2004 and 2003.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
|
|
Year Ended December 31,
|
|
|
Versus
|
|
|
Versus
|
|
NA
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2004
|
|
|
2003
|
|
|
Total shipments (kt)
|
|
|
524
|
|
|
|
491
|
|
|
|
428
|
|
|
|
7
|
%
|
|
|
15
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
($ in millions)
|
|
|
|
|
|
|
|
Net sales
|
|
$
|
1,391
|
|
|
$
|
1,194
|
|
|
$
|
918
|
|
|
|
16
|
%
|
|
|
30
|
%
|
Regional Income
|
|
|
108
|
|
|
|
80
|
|
|
|
69
|
|
|
|
35
|
%
|
|
|
16
|
%
|
Total assets
|
|
|
1,002
|
|
|
|
954
|
|
|
|
904
|
|
|
|
5
|
%
|
|
|
6
|
%
|
2005
versus 2004
Shipments
NA total shipments were 524 kilotonnes in 2005, representing 17%
of our total shipments, compared to 491 kilotonnes in 2004,
which represented 16% of our total shipments. NA total shipments
in 2005 were 7% higher than in 2004, which was due in large part
to can stock market share advances, totaling 45 kilotonnes, in
China and Southeast Asia and the substitution of aluminum for
steel in Korea, resulting in higher shipments of 5 kilotonnes.
This increase was partly offset by lower finstock demand, a
product used in heat exchangers, attributable to price
competition from Chinese mills.
Net
sales
NA net sales were $1,391 million in 2005, representing 17%
of our total net sales, compared to $1,194 million in 2004,
which represented 15% of our total net sales. NA net sales for
2005 were $197 million higher, or 16%, than in 2004, as
shipments of rolled products increased and we experienced higher
metal prices that we passed through to our customers.
64
Regional
Income
NA Regional Income was $108 million for 2005, an increase
of $28 million, or 35%, over $80 million in 2004.
Increased shipments due to high demand, combined with higher
margins in 2005 over 2004 for most product lines, partly due to
new products, generated $20 million of the improvement.
Lower purchases of coil and sheet ingot combined with lower
purchase costs of non-aluminum metals more than offset the
higher employment costs we experienced in 2005. Our conversion
from LPG (liquid propane gas) to LNG (liquid natural gas) more
than offset the higher electricity and fuel oil costs. The 3%
strengthening of the Korean Won during 2005 unfavorably
impacted Regional Income by $5 million.
2004
versus 2003
Shipments
NA total shipments were 491 kilotonnes in 2004, representing 16%
of our total shipments, compared to 428 kilotonnes in 2003,
which represented 15% of our total shipments. NA total shipments
in 2004 were 15% higher than in 2003, which was primarily
attributable to the improved operating performance of our Korean
rolling mills and an improved product portfolio.
Net
sales
NA net sales were $1,194 million in 2004, representing 15%
of our total net sales, compared to $918 million in 2003,
which also represented 15% of our total net sales. NA net sales
for 2004 were $276 million higher, or 30%, than in 2003.
Over 40% of the increase reflects the impact of higher LME
prices passed through to customers, with the balance mainly
reflecting higher shipments and an improved product portfolio.
Regional
Income
NA Regional Income was $80 million in 2004, an increase of
$11 million, or 16%, compared to $69 million in 2003.
The improvement principally reflected increased demand, most
notably in China, which was met with improved operating
productivity, and a move to higher value-added products.
Novelis
South America
Novelis South America operates two rolling plants facilities in
Brazil along with two smelters, an alumina refinery, a bauxite
mine and power generation facilities. NSA manufactures various
aluminum rolled products, including can stock, automotive and
industrial sheet and light gauge for the beverage/food can,
construction and industrial and transportation end-use markets.
The following table presents key financial and operating data
for NSA for the years ended December 31, 2005, 2004 and
2003.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
|
|
Year Ended December 31,
|
|
|
Versus
|
|
|
Versus
|
|
NSA
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2004
|
|
|
2003
|
|
|
Total shipments (kt)
|
|
|
288
|
|
|
|
264
|
|
|
|
258
|
|
|
|
9
|
%
|
|
|
2
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
($ in millions)
|
|
|
|
|
|
|
|
Net sales
|
|
$
|
630
|
|
|
$
|
525
|
|
|
$
|
414
|
|
|
|
20
|
%
|
|
|
27
|
%
|
Regional Income
|
|
|
110
|
|
|
|
134
|
|
|
|
88
|
|
|
|
(18
|
)%
|
|
|
52
|
%
|
Total assets
|
|
|
790
|
|
|
|
779
|
|
|
|
808
|
|
|
|
1
|
%
|
|
|
(4
|
)%
|
2005
versus 2004
Shipments
NSA total shipments were 288 kilotonnes in 2005, representing 9%
of our total shipments, compared to 264 kilotonnes in 2004,
which also represented 9% of our total shipments. NSA shipments
in 2005 were 9%
65
higher than in 2004, with the main driver being the local can
market growth, which contributed an additional 25 kilotonnes to
our shipments over last year. We also experienced growth in our
industrial products and export businesses offset by lower
primary metal sales.
Net
sales
NSA net sales were $630 million in 2005, representing 8% of
our total net sales, compared to $525 million in 2004,
which represented 7% of our total net sales. NSA net sales in
2005 were $105 million higher, or 20%, than in 2004. The
main drivers for the rise were the increases in both LME prices,
which are passed through to customers, and shipping volume in
2005 over 2004.
Regional
Income
NSA Regional Income was $110 million in 2005, a decrease of
$24 million, or 18%, compared to $134 million in 2004.
In 2005, we experienced higher energy costs, and increased input
and repair costs in our smelters totaling $18 million.
Other impacts to Regional Income include a stronger Brazilian
Real, which increased in value by approximately 14% during 2005.
This unfavorably impacted Regional Income by $35 million
mainly due to net sales being priced in U.S. dollars while
local manufacturing costs are incurred in Brazilian Real. In
2004, Regional Income included a $19 million gain from the
conversion of a defined contribution pension plan.
We experienced better margins in both industrial products and
foil, due to our focus on high value products and a general
market improvement. Production from our smelters generated an
increase of $14 million in Regional Income due to our raw
material input costs being fixed on approximately 85% of our
smelter requirement, but sales prices moved in line with the
increasing LME prices.
2004
versus 2003
Shipments
NSA total shipments were 264 kilotonnes in 2005, representing 9%
of our total shipments, compared to 258 kilotonnes in 2003,
which also represented 9% of our total shipments. NSA total
shipments in 2004 were 2% higher than in 2003. The first half of
2004 in South America was slow as the can business was down
approximately 6%. However, by year-end, this market recovered
and was up 2%. The economy started to pick up in the second
quarter with full consumer involvement in most segments
occurring by the fourth quarter of 2004. The light gauge market
in South America grew by 11%; however, NSAs light gauge
business grew by 22%, reflecting the unique position we hold in
South America.
Net
sales
NSA net sales were $525 million in 2004, representing 7% of
our total net sales, compared to $414 million in 2003,
which also represented 7% of our total net sales. NSA net sales
were $111 million higher, or 27%, than in 2003. Two-thirds
of the increase reflected the impact of higher LME prices passed
through to customers and sold from our smelters to third party
ingot customers with the balance mainly attributable to higher
shipments.
Regional
Income
NSA Regional Income was $134 million for 2004, an increase
of $46 million, or 52%, compared to $88 million in
2003. Approximately half of the improvement is related to market
share gains, evidenced by a 15% increase in NSAs rolled
products shipments over the prior year period, compared to an 8%
improvement in the overall aluminum rolled product market, with
the balance coming from improved pricing, higher ingot prices
due to the production from our smelters in Brazil and a
$19 million gain on conversion of a defined benefit pension
plan to a defined contribution plan in 2004.
66
LIQUIDITY
AND CAPITAL RESOURCES
Our liquidity and available capital resources are impacted by
operating, financing and investing activities.
Operating
Activities
The following table presents information regarding our Net cash
provided by operating activities, free cash flow and ending cash
balance for each of the three years in the period ended
December 31, 2005.
Free cash flow (which is a non-GAAP measure) consists of Net
cash provided by operating activities less Dividends and Capital
expenditures. Dividends include those paid by our less than
wholly-owned subsidiaries to their minority shareholders and
dividends paid by us to our common shareholders. Management
believes that free cash flow is relevant to investors as it
provides a measure of the cash generated internally that is
available for debt service and other value creation
opportunities. However, free cash flow does not necessarily
represent cash available for discretionary activities, as
certain debt service obligations must be funded out of free cash
flow. We believe the line on our consolidated and combined
statement of cash flows entitled Net cash provided by
operating activities is the most directly comparable
measure to free cash flow. Our method of calculating free cash
flow may not be consistent with that of other companies. The
following table shows the reconciliation from Net income to Net
cash provided by operating activities and Free cash flow for the
years ended December 31, 2005, 2004 and 2003, and the
year-end balances of cash and cash equivalents.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
|
|
Year Ended December 31,
|
|
|
Versus
|
|
|
Versus
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2004
|
|
|
2003
|
|
|
|
($ in millions)
|
|
|
Net income
|
|
$
|
90
|
|
|
$
|
55
|
|
|
$
|
157
|
|
|
$
|
35
|
|
|
$
|
(102
|
)
|
Net change in fair market value of
derivatives
|
|
|
(269
|
)
|
|
|
(69
|
)
|
|
|
(20
|
)
|
|
|
(200
|
)
|
|
|
(49
|
)
|
Other non-cash income
items(A)
|
|
|
334
|
|
|
|
425
|
|
|
|
181
|
|
|
|
(91
|
)
|
|
|
244
|
|
Changes in assets and
liabilities(B)
|
|
|
294
|
|
|
|
(203
|
)
|
|
|
126
|
|
|
|
497
|
|
|
|
(329
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating
activities
|
|
|
449
|
|
|
|
208
|
|
|
|
444
|
|
|
|
241
|
|
|
|
(236
|
)
|
Dividends (C)
|
|
|
(34
|
)
|
|
|
(4
|
)
|
|
|
|
|
|
|
(30
|
)
|
|
|
(4
|
)
|
Capital expenditures
|
|
|
(178
|
)
|
|
|
(165
|
)
|
|
|
(189
|
)
|
|
|
(13
|
)
|
|
|
24
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Free cash flow
|
|
$
|
237
|
|
|
$
|
39
|
|
|
$
|
255
|
|
|
$
|
198
|
|
|
$
|
(216
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ending cash and cash equivalents
|
|
$
|
100
|
|
|
$
|
31
|
|
|
$
|
27
|
|
|
$
|
69
|
|
|
$
|
4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(A)
|
|
Other non-cash income items are comprised of: cumulative effect
of accounting change net of tax; depreciation and
amortization; litigation settlement net of insurance
reserves; deferred income taxes; amortization of debt issue
costs; provision for uncollectible accounts; equity in income of
non-consolidated affiliates; minority interests share of
net income; impairment charges on long-lived assets; stock-based
compensation; and gains on sales of assets net. |
|
(B)
|
|
Changes in assets and liabilities are comprised of increases or
decreases in: accounts receivable; inventories; Prepaid expenses
and other current assets; accounts payable; accrued expenses and
other current liabilities; other long-term assets; accrued
post-retirement benefits; other long-term liabilities; and
other net. |
|
(C)
|
|
Dividends for the year ended December 31, 2004 include only
those paid by our less than wholly-owned subsidiaries to their
minority shareholders. |
2005
versus 2004
Net cash provided by operating activities was $449 million
for the year ended December 31, 2005, a $241 million
improvement over $208 million provided in 2004. For a
discussion of the factors in our operating results that impact
Net cash provided by operating activities, refer to the
discussion in Operating Segment
67
Review for the Year Ended December 31, 2005 Compared to the
Year Ended December 31, 2004 and Year Ended
December 31, 2004 Compared to the Year Ended
December 31, 2003.
Changes in assets and liabilities contributed $294 million
to Net cash provided by operating activities for the year ended
December 31, 2005, which was an improvement of
$497 million over 2004, when changes in assets and
liabilities used net cash of $203 million. Included within
the $334 million in changes in assets and liabilities for
2005 were net improvements in working capital management, which
included positive net cash flows of $313 million from a net
increase in trade payables and other current liabilities, while
all other changes in assets and liabilities were individually
small and, in the aggregate, provided negative net cash flows of
$19 million.
Free cash flow was $237 million for the year ended
December 31, 2005, an increase of $198 million over
the year ended December 31, 2004, resulting from the
improvement in Net cash provided by operating activities, which
was driven by the net reduction in working capital described
above and positive operating results for the year ended
December 31, 2005, partially offset by the dividends we
paid our common shareholders during our first year as a
stand-alone company and those paid by our less than wholly-owned
subsidiaries.
2004
versus 2003
Net cash provided by operating activities was $208 million
for the year ended December 31, 2004, which was
$236 million less than $444 million provided in 2003.
For a discussion of the factors in our operating results that
impact Net cash provided by operating activities, please refer
to the discussion in Operating Segment Review for the Year
Ended December 31, 2005 Compared to the Year Ended
December 31, 2004 and Year Ended December 31, 2004
Compared to the Year Ended December 31, 2003.
Changes in assets and liabilities used $203 million and
reduced Net cash provided by operating activities for the year
ended December 31, 2004, which was $329 million less
than 2003, when changes in assets and liabilities used net cash
of $126 million. Included within the $203 million in
changes in assets and liabilities for 2004 were decreases in
accounts receivable and inventory of $166 million, while
all other changes in assets and liabilities were individually
small and, in the aggregate, used net cash of $37 million.
Free cash flow was $39 million for the year ended
December 31, 2004, which was $216 million less than
the year ended December 31, 2003, resulting from the
decline in Net cash provided by operating activities, which was
driven by the net increase in working capital described above.
Financing
Activities
At the spin-off, we had $2,951 million of short-term
borrowings, long-term debt and capital lease obligations. With
the strength of our cash flows in 2005, we reduced our debt
position by $320 million to $2,631 million as of
December 31, 2005, a reduction of 11%. In the first two
quarters of 2006, we reduced our debt by an additional
$135 million.
In order to facilitate the separation of Novelis and Alcan as
described in Note 1 Business and Summary of
Significant Accounting Policies, we executed debt restructuring
and financing transactions in early January and February of
2005, which effectively replaced all of our financing
obligations to Alcan and certain other third parties with new
third party debt aggregating $2,951 million. On
January 10, 2005, we entered into senior secured credit
facilities providing for aggregate borrowings of up to
$1,800 million. These facilities consist of a
$1,300 million seven-year senior secured Term Loan B
facility, all of which was borrowed on January 10, 2005,
and a $500 million five-year multi-currency revolving
credit and letters of credit facility. Additionally, on
February 3, 2005, Alcan was repaid with the net proceeds
from issuance of $1,400 million of ten-year
7.25% Senior Notes.
We have not finalized our financial results for the first and
second quarters of 2006. Accordingly, the calculation of our
borrowing availability as of March 31, 2006 and
June 30, 2006 is not finalized, but based on currently
available information, we believe our availability will be less
than the approximately $400 million available as of
December 31, 2005. However, we believe the lower
availability under our senior secured credit
68
facility will still be sufficient to satisfy our working capital
requirements throughout the remainder of the 2006 fiscal year.
We have paid fees related to the five waiver and consent
agreements of approximately $6 million, which are being
amortized over the remaining life of the debt.
The credit agreement relating to the senior secured credit
facilities includes customary affirmative and negative
covenants, as well as financial covenants. As of
December 31, 2005, the maximum total leverage, minimum
interest coverage, and minimum fixed charge coverage ratios were
5.00 to 1; 2.75 to 1; and 1.20 to 1, respectively.
Alcan was a related party as of December 31, 2004, and was
repaid in the first quarter of 2005. The Alcan debt as of
December 31, 2004, plus additional Alcan debt of
$170 million issued in January 2005, provided
$1,375 million of bridge financing for the spin-off
transaction.
On February 3, 2005, we issued $1,400 million
aggregate principal amount of senior unsecured debt securities
(Senior Notes). The Senior Notes were priced at par, bear
interest at 7.25% and will mature on February 15, 2015. The
net proceeds of the Senior Notes were used to repay the Alcan
debt.
Under the indenture that governs the Senior Notes, we are
subject to certain restrictive covenants applicable to incurring
additional debt and providing additional guarantees, paying
dividends beyond certain amounts and making other restricted
payments, sales and transfer of assets, certain consolidations
or mergers and certain transactions with affiliates.
The indenture governing the Senior Notes and the related
registration rights agreement required us to file a registration
statement for the notes and exchange the original, privately
placed notes for registered notes. The registration statement
was declared effective by the SEC on September 27, 2005.
Under the indenture and the related registration rights
agreement, we were required to complete the exchange offer for
the Senior Notes by November 11, 2005. We did not complete
the exchange offer by that date. As a result, we began to accrue
additional special interest at a rate of 0.25% from
November 11, 2005. The indenture and the registration
rights agreement provide that the rate of additional special
interest increases by 0.25% during each subsequent
90-day
period until the exchange offer closes, with the maximum amount
of additional special interest being 1.00% per year. On
August 8, 2006 the rate of additional special interest
increased to 1.00%. On August 14, 2006, we extended the
offer to exchange the Senior Notes to October 20, 2006. We
expect to file a post-effective amendment to the registration
statement and complete the exchange as soon as practicable
following the date we are current on our reporting requirements.
We will cease paying additional special interest once the
exchange offer is completed.
We made principal payments of $85 million,
$90 million, $110 million and $80 million in the
first, second, third and fourth quarters of 2005 respectively,
and in the process satisfied a 1% per annum principal
amortization requirement through fiscal year 2010 of
$78 million, as well as $287 million of the
$917 million principal amortization required for 2011. In
March, May and June of 2006, we made additional principal
repayments of $80 million, $40 million and
$15 million, respectively.
As of December 31, 2005, we entered into interest rate
swaps to fix the
3-month
LIBOR interest rate on a total of $310 million of the
floating rate Term Loan B debt at effective weighted
average interest rates and amounts expiring as follows: 3.7% on
$310 million through February 3, 2006; 3.8% on
$200 million through February 3, 2007; and 3.9% on
$100 million through February 3, 2008. We are still
obligated to pay any applicable margin, as defined in the credit
agreement, in addition to these interest rates. See
Note 17 Financial Instruments and Commodity
Contracts for additional disclosure about our interest rate
swaps and the effectiveness of these transactions. As of
December 31, 2005, our
fixed-to-variable
rate debt ratio was 76:24.
In 2004, Novelis Korea Limited (Novelis Korea), formerly Alcan
Taihan Aluminium Limited, entered into a $70 million
floating rate long-term loan which was subsequently swapped into
a 4.55% fixed rate KRW 71 billion loan and two
long-term floating rate loans of $40 million (KRW
40 billion) and $25 million (KRW 25 billion)
which were then swapped into fixed rate loans of 4.80% and
4.45%, respectively. In 2005, interest on other loans for
$1 million (KRW 1 billion) ranged from 3.25% to 5.50%
(2004: 3.00% to 5.50%). In February 2005, Novelis Korea entered
into a $50 million floating rate long-term loan which was
subsequently swapped into a 5.30% fixed rate KRW 51 billion
loan. In October 2005, Novelis Korea entered into a
$29 million (KRW 30 billion) long-term loan at a fixed
rate of 5.75%. We were in compliance with all debt covenants
related to the Korean bank loans as of December 31, 2005.
69
In May 2006, $19 million (KRW 19 billion) of the 5.30%
fixed rate loan was refinanced into a short-term floating rate
loan with an interest rate of 4.21% due June 30, 2006.
In connection with the spin-off, we entered into a fifteen-year
capital lease obligation with Alcan for assets in Sierre,
Switzerland, which has an interest rate of 7.5% and calls for
fixed quarterly payments of 1.7 million CHF, which is
equivalent to $1.3 million at the exchange rate as of
December 31, 2005.
In September 2005, we entered into a six-year capital lease
obligation for equipment in Switzerland which has an interest
rate of 2.8% and calls for fixed monthly payments of
0.1 million CHF, which is equivalent to $0.1 million
at the exchange rate as of December 31, 2005.
Standard & Poors Ratings Service and Moodys
Investors Services currently assign our Senior Notes a rating of
B and B1, respectively. Our credit ratings may be subject to
revision or withdrawal at any time by the credit rating
agencies, and each rating should be evaluated independently of
any other rating. We cannot ensure that a rating will remain in
effect for any given period of time or that a rating will not be
lowered or withdrawn entirely by a credit rating agency if, in
its judgment, circumstances so warrant. If the credit rating
agencies downgrade our ratings, we would likely be required to
pay a higher interest rate in future financings, incur increased
margin deposit requirements, and our potential pool of investors
and funding sources could decrease.
As of December 31, 2005, we were in compliance with all the
financial covenants in our debt agreements. However, reporting
requirements under the loan agreements had not been met. See the
discussion below under the caption Impact of Late SEC
Filings on our Debt Agreements. See
Note 10 Long-Term Debt for more information on
our credit facilities.
Investing
Activities
The following table presents information regarding our Net cash
provided by (used in) investing activities for the years ended
December 31, 2005, 2004 and 2003.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
|
|
Year Ended December 31,
|
|
|
Versus
|
|
|
Versus
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2004
|
|
|
2003
|
|
|
|
($ in millions)
|
|
|
|
|
|
|
|
|
Proceeds from (advances on) loans
receivable net
|
|
$
|
393
|
|
|
$
|
874
|
|
|
$
|
(1,210
|
)
|
|
$
|
(481
|
)
|
|
$
|
2,084
|
|
Capital expenditures
|
|
|
(178
|
)
|
|
|
(165
|
)
|
|
|
(189
|
)
|
|
|
(13
|
)
|
|
|
24
|
|
Proceeds from settlement of
derivatives, less premiums paid to purchase derivatives
|
|
|
91
|
|
|
|
|
|
|
|
|
|
|
|
91
|
|
|
|
|
|
Other net
|
|
|
19
|
|
|
|
17
|
|
|
|
22
|
|
|
|
2
|
|
|
|
(5
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in)
investing activities
|
|
$
|
325
|
|
|
$
|
726
|
|
|
$
|
(1,377
|
)
|
|
$
|
(401
|
)
|
|
$
|
2,103
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from (advances on) loans receivable net
were mainly related to non-equity and non-operating interplant
loans to support various requirements among and between the
entities transferred to us in the spin-off and the entities
Alcan retained. For 2005, $360 million represents proceeds
received from Alcan in the settlement of the spin-off, to retire
loans due to Novelis entities. For 2004 and 2003, all amounts
were proceeds from or advances to Alcan.
The majority of our capital expenditures for the year ended
December 31, 2005 were invested in projects devoted to
product quality, technology, productivity enhancements and
undertaking small projects to increase capacity.
We estimate that our annual capital expenditure requirements for
items necessary to maintain comparable production, quality and
market position levels (maintenance capital) will be between
$100 million and $120 million, and that total annual
capital expenditures are not expected to exceed
$175 million.
70
The following table presents additional information regarding
our capital expenditures, depreciation and reinvestment rate for
each of the three years in the period ended December 31,
2005. Reinvestment rate is defined as capital expenditures
expressed as a percentage of depreciation and amortization
expense.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
|
|
Year Ended December 31,
|
|
|
Versus
|
|
|
Versus
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2004
|
|
|
2003
|
|
|
|
($ in millions)
|
|
|
|
|
|
|
|
|
Capital expenditures
|
|
$
|
178
|
|
|
$
|
165
|
|
|
$
|
189
|
|
|
|
13
|
|
|
|
(24
|
)
|
Depreciation and amortization
|
|
|
230
|
|
|
|
246
|
|
|
|
222
|
|
|
|
(16
|
)
|
|
|
24
|
|
Reinvestment rate
|
|
|
77
|
%
|
|
|
67
|
%
|
|
|
85
|
%
|
|
|
|
|
|
|
|
|
Impact
of Late SEC Filings on our Debt Agreements
As a result of the restatement of our unaudited condensed
consolidated and combined financial statements for the quarters
ended March 31, 2005 and June 30, 2005, and our review
process, we delayed the filing of our quarterly report on
Form 10-Q
for the quarter ended September 30, 2005, this Annual
Report on
Form 10-K
and our quarterly reports on
Form 10-Q
for the first two quarters of 2006.
Senior Secured Credit Facility. The terms of
our $1,800 million senior secured credit facility require
that we deliver unaudited quarterly and audited annual financial
statements to our lenders within specified periods of time. Due
to the restatement and review, we obtained a series of waiver
and consent agreements from the lenders under the facility to
extend the various filing deadlines. The fourth waiver and
consent agreement, dated May 10, 2006, extended the filing
deadline for this Annual Report on
Form 10-K
to September 29, 2006, and the
Form 10-Q
filing deadlines for the first, second and third quarters of
2006 to October 31, 2006, November 30, 2006, and
December 29, 2006, respectively. These extended filing
deadlines were subject to acceleration to 30 days after the
receipt of an effective notice of default under the indenture
governing our Senior Notes relating to our inability to timely
file such periodic reports with the SEC. We received an
effective notice of default with respect to this Annual Report
on
Form 10-K
and our
Form 10-Q
for the first quarter of 2006 on July 21, 2006 causing
these deadlines to accelerate to August 18, 2006. As a
result, we entered into a fifth waiver and consent agreement,
dated August 11, 2006, which again extended the filing
deadline for this Annual Report on
Form 10-K
and our
Form 10-Q
for the first quarter of 2006 to September 18, 2006.
Subsequent to the effective date of the fifth waiver and consent
agreement, we also received an effective notice of default with
respect to our
Form 10-Q
for the second quarter of 2006 on August 24, 2006. The
fifth waiver and consent agreement extended the accelerated
filing deadline caused as a result of the receipt of the
effective notice of default with respect to our
Form 10-Q
for the second quarter of 2006 to October 22, 2006
(59 days after the receipt of any notice). The fifth waiver
and consent agreement would also extend any accelerated filing
deadline caused as a result of the receipt of an effective
notice of default under the Senior Notes with respect to our
Form 10-Q
for the third quarter of 2006 to the earlier of 30 days
after the receipt of any such notice of default and
December 29, 2006.
Beginning with the fourth waiver and consent agreement, we
agreed to a 50 basis point increase in the applicable margin on
all current and future borrowings outstanding under our senior
secured credit facility, and a 12.5 basis point increase in the
commitment fee on the unused portion of our revolving credit
facility. These increases will continue until we inform our
lenders that we no longer need the benefit of the extended
filing deadlines granted in the fifth waiver and consent
agreement, at which time the fifth waiver and consent agreement
will expire and obligate us to the filing requirements set forth
in the senior secured credit facility and the fourth waiver and
consent agreement.
We believe it is probable that we will file our
Form 10-Q
for the first quarter of 2006 by September 18, 2006 and our
Form 10-Q
for the second quarter of 2006 by October 22, 2006;
however, there can be no assurance that we will be able to do
so. If we are unable to file our
Form 10-Q
for the first and second quarters of 2006 by the applicable
deadlines, we intend to seek additional waivers from the lenders
under our senior secured credit facility to avoid an event of
default under the facility. An event of default under the senior
secured credit facility would entitle the lenders to terminate
the senior secured credit facility and declare all or any
portion of the obligations under the facility due and payable.
If we were unable to timely
71
file our
Form 10-Qs
for the first and second quarters of 2006 or obtain additional
waivers, we would seek to refinance our senior secured credit
facility using the $2,855 million commitment for financing
facilities that we obtained from Citigroup Global Markets Inc.
described below (the Commitment Letter).
Senior Notes. Under the indenture governing
the Senior Notes, we are required to deliver to the trustee a
copy of our periodic reports filed with the SEC within the time
periods specified by SEC rules. As a result of our receipt of
effective notices of default from the trustee on July 21,
2006 with respect to this Annual Report on
Form 10-K
and our
Form 10-Q
for the first quarter of 2006 and on August 24, 2006 with
respect to our
Form 10-Q
for the second quarter of 2006, we are required to file our
Form 10-Q
for the first quarter of 2006 by September 19, 2006 and our
Form 10-Q
for the second quarter of 2006 by October 23, 2006 in order
to prevent an event of default. From June 22, 2006 to
July 19, 2006, we solicited consents from the noteholders
to a proposed amendment of certain provisions of the indenture
and a waiver of defaults thereunder; however, we did not receive
a sufficient number of consents and the consent solicitation
lapsed. If we fail to file our
Form 10-Qs
for the first and second quarters of 2006 by the applicable
deadlines, the trustee or holders of at least 25% in aggregate
principal amount of the Senior Notes may elect to accelerate the
maturity of the Senior Notes. We believe it is probable that we
will file our
Form 10-Qs
for the first and second quarters of 2006 by the applicable
deadlines; however, there can be no assurance that we will be
able to do so. If we are unable to file our
Form 10-Qs
for the first and second quarters of 2006 by the applicable
deadlines, we intend to amend the facility so we may refinance
the Senior Notes utilizing the Commitment Letter, likely through
a tender offer for the Senior Notes. We will obtain this
refinancing from the lenders under our senior secured credit
facility or, if we are unsuccessful in obtaining the necessary
approvals from our lenders to refinance the Senior Notes, we
intend to rely on the Commitment Letter to refinance the senior
secured credit facility and repay the Senior Notes.
Commitment Letter. On July 26, 2006, we
entered into the Commitment Letter with Citigroup Global Markets
Inc. (Citigroup) for backstop financing facilities totaling
$2,855 million. Under the terms of the Commitment Letter,
Citigroup has agreed that, in the event we are unable to cure
the default under the Senior Notes by September 19, 2006,
Citigroup will (a) provide loans in an amount sufficient to
repurchase the Senior Notes, (b) use commercially
reasonable efforts to obtain the requisite approval from the
lenders under our senior secured credit facility for an
amendment permitting these additional loans, and (c) in the
event that such lender approval is not obtained, provide us with
replacement senior secured credit facilities, in addition to the
loans to be used to repay the Senior Notes.
We also intend to commence negotiations with our lenders, either
separately or in connection with the potential amendments
discussed above, in order to modify certain financial covenants
under our senior secured credit facility. In particular, we
expect it will be necessary to amend the financial covenant
related to our interest coverage ratio in order to align this
covenant with our current business outlook for the remainder of
the 2006 fiscal year.
Refinancing and Amendment Risks. Under any of
the refinancing alternatives discussed above, we would incur
significant costs and expenses, including professional fees and
other transaction costs. We also anticipate that it will be
necessary to pay significant waiver and amendment fees in
connection with the potential amendments to our senior secured
credit facility described above. In addition, if we are
successful in refinancing any or all of our outstanding debt
under the Commitment Letter, we are likely to experience an
increase to the applicable interest rates over the life of any
new debt in excess of our current interest rates, based on
prevailing market conditions and our credit risk.
While we expect that funding will be available under the
Commitment Letter to refinance our Senior Notes
and/or our
senior secured credit facility if necessary, if financing is not
available under the Commitment Letter for any reason, we would
not have sufficient liquidity to repay our debt. Accordingly, we
would be required to negotiate an alternative restructuring or
refinancing of our debt.
Any acceleration of the outstanding debt under the senior
secured credit facility would result in a cross-default under
our Senior Notes. Similarly, the occurrence of an event of
default under our Senior Notes would result in a cross-default
under the senior secured credit facility. Further, the
acceleration of outstanding debt under our senior secured credit
facility or our Senior Notes would result in defaults under
other contracts and
72
agreements, including certain interest rate and foreign currency
derivative contracts, giving the counterparty to such contracts
the right to terminate. As of June 30, 2006, we had
out-of-the-money
derivatives valued at approximately $86 million that the
counterparties would have the ability to terminate upon the
occurrence of an event of default.
We believe it is probable that we will file our
Form 10-Q
for the first quarter of 2006 by September 18, 2006 and our
Form 10-Q
for the second quarter of 2006 by October 22, 2006.
Accordingly, we continue to classify the senior secured credit
facility and our Senior Notes as long-term debt as of
December 31, 2005.
OFF-BALANCE
SHEET ARRANGEMENTS
In accordance with SEC rules, the following qualify as
off balance sheet arrangements:
|
|
|
|
|
any obligation under certain guarantees or contracts;
|
|
|
|
a retained or contingent interest in assets transferred to an
unconsolidated entity or similar entity or similar arrangement
that serves as credit, liquidity or market risk support to that
entity for such assets;
|
|
|
|
any obligation under certain derivative instruments; and
|
|
|
|
any obligation under a material variable interest held by the
registrant in an unconsolidated entity that provides financing,
liquidity, market risk or credit risk support to the registrant,
or engages in leasing, hedging or research and development
services with the registrant.
|
The following discussion addresses each of the above items for
our company.
We guarantee the trade payables to third parties of our variable
interest entities and joint ventures. In November 2002, the FASB
issued FASB Interpretation No. 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others
(FIN 45) which requires that upon issuance of certain
guarantees, a guarantor must recognize a liability for the fair
value of an obligation assumed under the guarantee. Under
FIN 45, there are four principal types of guarantees:
financial guarantees, performance guarantees, indemnifications,
and indirect guarantees of the indebtedness of others.
Currently, we only issue indirect guarantees for the
indebtedness of others. The guarantees may cover the following
entities:
|
|
|
|
|
wholly-owned subsidiaries;
|
|
|
|
variable interest entities consolidated under FASB
Interpretation No. 46 (Revised), Consolidation of
Variable Interest Entities; and
|
|
|
|
Aluminium Norf GmbH, which is a fifty percent (50%) owned joint
venture which does not meet the consolidation tests under FASB
Interpretation No. 46 (Revised).
|
In all cases, the indebtedness guaranteed is for trade payables
to third parties.
Since we consolidate wholly-owned subsidiaries and variable
interest entities in our financial statements, all liabilities
associated with trade payables for these entities are already
included in our consolidated and combined balance sheets.
The following table discloses our obligations under indirect
guarantees of indebtedness as of December 31, 2005 (in
millions).
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Maximum
|
|
|
|
|
|
|
|
|
|
Potential Future
|
|
|
Liability
|
|
|
Assets Held
|
|
Type of Entity
|
|
Payment
|
|
|
Carrying Value
|
|
|
for Collateral
|
|
|
Wholly-Owned Subsidiaries
|
|
$
|
14
|
|
|
$
|
2
|
|
|
$
|
|
|
Aluminium Norf GmbH
|
|
|
12
|
|
|
|
|
|
|
|
|
|
In 2004, we entered into a loan and a corresponding
deposit-and-guarantee
agreement for up to $90 million. As of December 31,
2005, this arrangement had a balance of $80 million. We do
not include the loan or deposit amounts in our balance sheet as
the agreements include a legal right of setoff.
73
We have no retained or contingent interest in assets transferred
to an unconsolidated entity or similar entity or similar
arrangement that serves as credit, liquidity or market risk
support to that entity for such assets.
As of December 31, 2005, we have derivative financial
instruments, as defined by FASB Statement No. 133,
Accounting for Derivative Instruments and Hedging
Activities, as amended. See Note 17
Financial Instruments and Commodity Contracts to our
consolidated and combined financial statements.
In conducting our business, we use various derivative and
non-derivative instruments, including forward contracts, to
manage the risks arising from fluctuations in exchange rates,
interest rates, aluminum prices and other commodity prices. Such
instruments are used for risk management purposes only. We may
be exposed to losses in the future if the counterparties to the
contracts fail to perform. We are satisfied that the risk of
such non-performance is remote, due to our monitoring of credit
exposures. Alcan is the principal counterparty to our aluminum
forward contracts and some of our aluminum options. In 2004,
Alcan was also the principal counterparty to our forward
exchange contracts. As described in Note 20
Related Party Transactions, in 2004 and prior years, Alcan was
considered a related party to us. However, subsequent to the
spin-off, Alcan is no longer a related party, as defined in FASB
Statement No. 57, Related Party Disclosures.
There have been no material changes in financial instruments and
commodity contracts during 2005, except as noted below.
|
|
|
|
|
During the first quarter of 2005, we entered into
U.S. dollar interest rate swaps totaling $310 million
with respect to the Term Loan B in the U.S. and
$766 million of cross-currency interest rate swaps (Euro
475 million, GBP 62 million, CHF 35 million) with
respect to intercompany loans to several European subsidiaries.
|
|
|
|
During the second quarter of 2005, we monetized the initial
cross-currency interest rate swaps and replaced them with new
cross-currency interest rate swaps maturing in 2015, totaling
$712 million as of December 31, 2005 (Euro
475 million, GBP 62 million, CHF 35 million). We
realized a gain of $45 million related to this transaction.
|
|
|
|
During the third quarter of 2005, we entered into cross-currency
principal only swaps (Euro 89 million). The
U.S. notional amount of these swaps was $108 million
as of December 31, 2005. These swaps mature in 2006 and are
designated as cash flow hedging instruments.
|
The fair values of our financial instruments and commodity
contracts as of December 31, 2005 were as follows (in
millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Fair
|
|
As of December 31, 2005
|
|
Maturity Dates
|
|
Assets
|
|
|
Liabilities
|
|
|
Value
|
|
|
Forward foreign exchange contracts
|
|
2006 through 2011
|
|
$
|
15
|
|
|
$
|
(9
|
)
|
|
$
|
6
|
|
Interest rate swaps
|
|
2006 through 2008
|
|
|
5
|
|
|
|
|
|
|
|
5
|
|
Cross-currency interest swaps
|
|
2006 through 2015
|
|
|
|
|
|
|
(24
|
)
|
|
|
(24
|
)
|
Aluminum forward contracts
|
|
2006 through 2009
|
|
|
87
|
|
|
|
(7
|
)
|
|
|
80
|
|
Aluminum call options
|
|
Matures in 2006
|
|
|
109
|
|
|
|
|
|
|
|
109
|
|
Fixed price electricity contract
|
|
Matures in 2016
|
|
|
68
|
|
|
|
|
|
|
|
68
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
284
|
|
|
|
(40
|
)
|
|
|
244
|
|
Less: current
portion(A)
|
|
|
|
|
194
|
|
|
|
(22
|
)
|
|
|
172
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
90
|
|
|
$
|
(18
|
)
|
|
$
|
72
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(A)
|
|
Current portion as presented on our consolidated balance sheet.
Remaining long-term portions of fair values are included in
Other long-term assets and Other long-term liabilities
on our consolidated balance sheet. |
74
The fair values of our financial instruments and commodity
contracts as of December 31, 2004 were as follows (in
millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Fair
|
|
As of December 31, 2004
|
|
Maturity Dates
|
|
Assets
|
|
|
Liabilities
|
|
|
Value
|
|
|
Forward foreign exchange contracts
|
|
2005 through 2009
|
|
$
|
3
|
|
|
$
|
(60
|
)
|
|
$
|
(57
|
)
|
Interest rate swaps
|
|
Matures in 2007
|
|
|
|
|
|
|
(1
|
)
|
|
|
(1
|
)
|
Cross-currency interest swaps
|
|
2005 through 2007
|
|
|
|
|
|
|
(8
|
)
|
|
|
(8
|
)
|
Aluminum forward contracts
|
|
2005 through 2006
|
|
|
112
|
|
|
|
(8
|
)
|
|
|
104
|
|
Aluminum call options
|
|
Matures in 2005
|
|
|
26
|
|
|
|
|
|
|
|
26
|
|
Embedded derivatives
|
|
Matures in 2005
|
|
|
|
|
|
|
(13
|
)
|
|
|
(13
|
)
|
Natural gas futures
|
|
Matures in 2005
|
|
|
|
|
|
|
(1
|
)
|
|
|
(1
|
)
|
Fixed price electricity contract
|
|
Matures in 2016
|
|
|
18
|
|
|
|
|
|
|
|
18
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
159
|
|
|
|
(91
|
)
|
|
|
68
|
|
Less: current
portion(A)
|
|
|
|
|
156
|
|
|
|
(91
|
)
|
|
|
65
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
3
|
|
|
$
|
|
|
|
$
|
3
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(A)
|
|
Current portion as presented on our combined balance sheet.
Remaining long-term portions of fair values are included in
Other long-term assets and Other long-term liabilities
on our combined balance sheet. |
As part of our ongoing business, we do not participate in
transactions that generate relationships with unconsolidated
entities or financial partnerships, such as entities often
referred to as structured finance or special purpose entities
(SPEs), which would have been established for the purpose of
facilitating off-balance sheet arrangements or other
contractually narrow or limited purposes. As of
December 31, 2005 and 2004, we are not involved in any
unconsolidated SPE transactions.
CONTRACTUAL
OBLIGATIONS
We have future obligations under various contracts relating to
debt and interest payments, capital and operating leases,
long-term purchase obligations, and post-retirement benefit
plans. The following table presents our estimated future
payments under contractual obligations that exist as of
December 31, 2005, based on undiscounted amounts. The
future cash flows related to deferred income taxes and
derivative contracts are not estimable and are therefore not
included.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007-
|
|
|
2009-
|
|
|
2011 and
|
|
|
|
Total
|
|
|
2006
|
|
|
2008
|
|
|
2010
|
|
|
Thereafter
|
|
|
|
($ in millions)
|
|
|
Long-term
debt(A)
|
|
$
|
2,581
|
|
|
$
|
28
|
|
|
$
|
217
|
|
|
$
|
1
|
|
|
$
|
2,335
|
|
Interest on long-term
debt(B)
|
|
|
1,313
|
|
|
|
170
|
|
|
|
333
|
|
|
|
318
|
|
|
|
492
|
|
Capital
leases(C)
|
|
|
78
|
|
|
|
6
|
|
|
|
12
|
|
|
|
12
|
|
|
|
48
|
|
Operating
leases(D)
|
|
|
57
|
|
|
|
14
|
|
|
|
20
|
|
|
|
11
|
|
|
|
12
|
|
Purchase
obligations(E)
|
|
|
10,284
|
|
|
|
2,814
|
|
|
|
4,100
|
|
|
|
1,844
|
|
|
|
1,526
|
|
Unfunded pension plan
benefits(F)
|
|
|
324
|
|
|
|
25
|
|
|
|
54
|
|
|
|
60
|
|
|
|
185
|
|
Other post-employment
benefits(F)
|
|
|
78
|
|
|
|
7
|
|
|
|
14
|
|
|
|
14
|
|
|
|
43
|
|
Funded pension
plans(F)
|
|
|
26
|
|
|
|
26
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
14,741
|
|
|
$
|
3,090
|
|
|
$
|
4,750
|
|
|
$
|
2,260
|
|
|
$
|
4,641
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(A)
|
|
Includes only principal payments on our Senior Notes, term
loans, revolving credit facilities and notes payable to banks
and others. These amounts exclude payments under capital lease
obligations. |
|
(B)
|
|
Interest on our fixed rate debt is estimated using the stated
interest rate. Interest on our variable rate debt is estimated
using the rate in effect as of December 31, 2005 and
includes the effect of current interest rate swap agreements.
Actual future interest payments may differ from these amounts
based on changes in floating interest rates or other factors or
events. These amounts include an estimate for unused |
75
|
|
|
|
|
commitment fees. Excluded from these amounts are interest
related to capital lease obligations, the amortization of debt
issuance and other costs related to indebtedness, any additional
special interest under the terms of our Senior Notes
and additional costs related to consents and waivers. |
|
|
|
(C)
|
|
Includes both principal and interest components of future
minimum capital lease payments. Excluded from these amounts are
insurance, taxes and maintenance associated with the property. |
|
(D)
|
|
Includes the minimum lease payments for non-cancelable leases
for property and equipment used in our operations. We do not
have any operating leases with contingent rents. Excluded from
these amounts are insurance, taxes and maintenance associated
with the property. |
|
(E)
|
|
Include agreements to purchase goods (including raw materials
and capital expenditures) and services that are enforceable and
legally binding on us, and that specify all significant terms.
Some of our raw material purchase contracts have minimum annual
volume requirements. In these cases, we estimate our future
purchase obligations using annual minimum volumes and costs per
unit that are in effect as of December 31, 2005. Due to
volatility in the cost of our raw materials, actual amounts paid
in the future may differ from these amounts. Excluded from these
amounts are the impact of any derivative instruments and any
early contract termination fees, such as those typically present
in energy contracts. |
|
(F)
|
|
Obligations for post-retirement benefit plans are estimated
based on actuarial estimates using benefit assumptions for,
among other factors, discount rates, expected long-term rates of
return on assets, rates of compensation increases, and
healthcare cost trends. Payments for unfunded pension plan
benefits and other post-employment benefits are estimated
through 2015. For funded pension plans, estimating the
requirements beyond 2006 is not practical, as it depends on the
performance of the plans investments, among other factors. |
DIVIDENDS
On March 1, 2005, our board of directors approved the
adoption of a quarterly dividend on our common shares. The
following table shows information regarding dividends declared
on our common shares during 2005 and 2006.
|
|
|
|
|
|
|
|
|
Declaration Date
|
|
Record Date
|
|
Dividend/Share
|
|
|
Payment Date
|
|
March 1, 2005
|
|
March 11, 2005
|
|
$
|
0.09
|
|
|
March 24, 2005
|
April 22, 2005
|
|
May 20, 2005
|
|
$
|
0.09
|
|
|
June 20, 2005
|
July 27, 2005
|
|
August 22, 2005
|
|
$
|
0.09
|
|
|
September 20, 2005
|
October 28, 2005
|
|
November 21, 2005
|
|
$
|
0.09
|
|
|
December 20, 2005
|
February 23, 2006
|
|
March 8, 2006
|
|
$
|
0.09
|
|
|
March 23, 2006
|
April 27, 2006
|
|
May 20, 2006
|
|
$
|
0.09
|
|
|
June 20, 2006
|
Future dividends are at the discretion of the board of directors
and will depend on, among other things, our financial resources,
cash flows generated by our business, our cash requirements,
restrictions under the instruments governing our indebtedness,
being in compliance with the appropriate indentures and
covenants under the instruments that govern our indebtedness
that would allow us to legally pay dividends and other relevant
factors.
ENVIRONMENT,
HEALTH AND SAFETY
We strive to be a leader in environment, health and safety
(EHS). To achieve this, we, as part of Alcan, introduced a new
EHS management system in 2003 which is a core component of our
overall business management system.
Our EHS system is aligned with ISO 14001, an international
environmental management standard, and OHSAS 18001, an
international occupational health and safety management
standard. All of our facilities are expected to implement the
necessary management systems to support ISO 14001 and OHSAS
18001 certifications. As of December 31, 2005, all 36 of
our facilities worldwide were ISO 14001 certified,
34 facilities were OHSAS 18001 certified and 32 have
dedicated quality improvement management systems.
76
Our capital expenditures for environmental protection and the
betterment of working conditions in our facilities were
$15 million in 2005. We expect these capital expenditures
will be approximately $16 million in 2006. In addition,
expenses for environmental protection (including estimated
and probable environmental remediation costs as well as general
environmental protection costs at our facilities) were
$29 million in 2005, and are also expected to be
$29 million in 2006. Generally, expenses for environmental
protection are recorded in Cost of goods sold. However,
significant remediation costs that are not associated with
on-going operations are recorded in Selling, general and
administrative expenses.
CRITICAL
ACCOUNTING POLICIES AND ESTIMATES
Our discussion and analysis of our results of operations and
liquidity and capital resources are based on our consolidated
and combined financial statements which have been prepared in
accordance with GAAP. In connection with the preparation of our
consolidated and combined financial statements, we are required
to make assumptions and estimates about future events, and apply
judgments that affect the reported amounts of assets,
liabilities, revenue, expenses, and the related disclosures. We
base our assumptions, estimates and judgments on historical
experience, current trends and other factors we believe to be
relevant at the time we prepared our consolidated and combined
financial statements. On a regular basis, we review the
accounting policies, assumptions, estimates and judgments to
ensure that our consolidated and combined financial statements
are presented fairly and in accordance with GAAP. However,
because future events and their effects cannot be determined
with certainty, actual results could differ from our assumptions
and estimates, and such differences could be material.
The preparation of our consolidated and combined financial
statements in conformity with GAAP requires us to make estimates
and assumptions. These estimates and assumptions affect the
reported amounts of assets and liabilities and the disclosures
of contingent assets and liabilities as of the date of the
financial statements, and the reported amounts of revenues and
expenses during the reporting periods. Significant estimates and
assumptions are used for, but are not limited to:
(1) allowances for sales discounts; (2) allowances for
doubtful accounts; (3) inventory valuation allowances;
(4) fair value of derivative financial instruments;
(5) asset impairments, including goodwill;
(6) depreciable lives of assets; (7) useful lives of
intangible assets; (8) economic lives and fair value of
leased assets; (9) income tax reserves and valuation
allowances; (10) fair value of stock options;
(11) actuarial assumptions related to pension and other
post-retirement benefit plans; (12) environmental cost
reserves; and (13) litigation reserves. Future events and
their effects cannot be predicted with certainty, and
accordingly, our accounting estimates require the exercise of
judgment. The accounting estimates and assumptions used in the
preparation of our consolidated and combined financial
statements will change as new events occur, as more experience
is acquired, as additional information is obtained and as our
operating environment changes. We evaluate and update our
estimates and assumptions on an ongoing basis and may employ
outside experts to assist in our evaluations. Actual results
could differ from the estimates we have used.
Our significant accounting policies are discussed in
Note 1 Business and Summary of Significant
Accounting Policies to our accompanying consolidated and
combined financial statements. We believe the following
accounting policies are the most critical to aid in fully
understanding and evaluating our reported financial results, as
they require management to make difficult, subjective or complex
judgments, and to make estimates about the effect of matters
that are inherently uncertain. We have reviewed these critical
accounting policies and related disclosures with the Audit
Committee of our board of directors.
77
|
|
|
|
|
|
|
|
|
Effect if Actual Results
|
Description
|
|
Judgments and Uncertainties
|
|
Differ from Assumptions
|
|
Inventory
|
|
|
|
|
We carry our inventories at the
lower of their cost or market value, reduced by allowances for
excess and obsolete items. We use both the average
cost and
first-in
/ first-out methods to determine cost
|
|
A significant component of our
inventory is aluminum. The market price of aluminum and scrap
are subject to market price changes. During periods when market
prices decline below book value, we may need to provide an
allowance to reduce the carrying value of our inventory to its
net realizable value. During periods when market prices increase
we continue to state our inventories at the lower of their cost
or market value.
|
|
If actual results are not
consistent with our assumptions and judgments, we may be exposed
to gains or losses that could be material. A decrease of
$1 per tonne in the market price below our carrying value
would result in a pre-tax charge and corresponding decline in
inventory value of approximately $0.5 million.
|
78
|
|
|
|
|
|
|
|
|
Effect if Actual Results
|
Description
|
|
Judgments and Uncertainties
|
|
Differ from Assumptions
|
|
Derivative Financial
Instruments
|
|
|
|
|
Our operations and cash flows are
subject to fluctuations due to changes in commodity prices,
foreign currency exchange rates, energy prices and interest
rates. We use derivative financial instruments to manage
commodity prices, foreign currency exchange rates and interest
rate exposures, though not for speculative purposes. Derivatives
we use are primarily commodity forward contracts, foreign
currency forward contracts and interest rate swaps.
|
|
We are exposed to changes in
aluminum prices through arrangements where the customer has
received a fixed price commitment from us. We manage this risk
by hedging future purchases of metal required for these firm
commitments. In addition, we hedge a portion of our future
production.
Short term exposures to changing foreign currency exchange rates
occur due to operating cash flows denominated in foreign
currencies. We manage this risk with currency exchange options,
forward and swap contracts. Our most significant foreign
currency exposures relate to the Euro, Brazilian Real and the
Korean Won. We assess market conditions and determine an
appropriate amount to hedge based on pre-determined policies.
We are exposed to changes in interest rates due to our
financing, investing and cash management activities. We may
enter into interest rate swap contracts to protect against our
exposure to changes in future interest rates, which requires
estimating in what direction and by how much rates will change,
and deciding how much of the exposure to hedge.
|
|
To the extent that these exposures
are not fully hedged, we are exposed to gains and losses when
changes occur in the market price of aluminum. Hedges of
specific arrangements and future production increase or decrease
the fair value by $90.2 million for a 10% change in the
market value of aluminum.
To the extent that operating cash flows are not fully hedged, we
are exposed to foreign exchange gains and losses. In the event
that we chose not to hedge a cash flow, an adverse movement in
rates could impact our earnings and cash flows. The change in
the fair value of the foreign currency hedge portfolio as of
December 31, 2005 that would result from a 10%
instantaneous appreciation or depreciation in foreign exchange
rates would result in an increase or decrease of
$74.8 million.
To the extent that we choose to hedge our interest costs, we are
able to avoid the impacts of changing interest rates on our
interest costs. In the event that we do not hedge a floating
rate debt an adverse movement in market interest rates could
impact our interest cost. As of December 31, 2005, a 10%
change in the market interest rate would increase or decrease
the fair value of our interest rate hedges by $1.8 million.
A 12.5 basis point change in market interest rates would
increase or decrease our unhedged interest cost on floating rate
debt by $0.5 million.
|
79
|
|
|
|
|
|
|
|
|
Effect if Actual Results
|
Description
|
|
Judgments and Uncertainties
|
|
Differ from Assumptions
|
|
Long-lived
assets
|
|
|
|
|
Long-lived assets, such as
property and equipment, are reviewed for impairment when events
or changes in circumstances indicate that the carrying value of
the assets contained in our financial statements may not be
recoverable.
When evaluating long-lived assets for potential impairment, we
first compare the carrying value of the asset to the
assets estimated, future net cash flows (undiscounted and
without interest charges). If the estimated future cash flows
are less than the carrying value of the asset, we calculate an
impairment loss. The impairment loss calculation compares the
carrying value of the asset to the assets estimated fair
value, which may be based on estimated future cash flows
(discounted and with interest charges). We recognize an
impairment loss if the amount of the assets carrying value
exceeds the assets estimated fair value. If we recognize
an impairment loss, the adjusted carrying amount of the asset
will be its new cost basis. For a depreciable long-lived asset,
the new cost basis will be depreciated over the remaining useful
life of that asset. Restoration of a previously recognized
impairment loss is prohibited.
|
|
Our impairment loss calculations
require management to apply judgments in estimating future cash
flows and asset fair values, including forecasting useful lives
of the assets and selecting the discount rate that represents
the risk inherent in future cash flows.
|
|
Using the impairment review
methodology described herein, we recorded long-lived asset
impairment charges of $7 million during the year ended
December 31, 2005.
If actual results are not consistent with our assumptions and
judgments used in estimating future cash flows and asset fair
values, we may be exposed to additional impairment losses that
could be material to our results of operations.
|
80
|
|
|
|
|
|
|
|
|
Effect if Actual Results
|
Description
|
|
Judgments and Uncertainties
|
|
Differ from Assumptions
|
|
Goodwill and Intangible
Assets
|
|
|
|
|
Goodwill represents the excess of
the purchase price over the fair value of the net assets of
acquired companies. We follow the guidance in FASB Statement
No. 142, Goodwill and Intangible Assets, and test
goodwill for impairment using a fair value approach, at the
reporting unit level. We are required to test for impairment at
least annually, absent some triggering event that would
accelerate an impairment assessment. On an ongoing basis, absent
any impairment indicators, we perform our goodwill impairment
testing as of October 31 of each year. Our intangible
assets consist of acquired trademarks and both patented and
non-patented technology and are amortized over 15 years. As
of December 31, 2005, we do not have any intangible assets
with indefinite useful lives.
We continue to review the carrying values of amortizable
intangible assets whenever facts and circumstances change in a
manner that indicates their carrying values may not be
recoverable.
|
|
We have recognized goodwill in our
Europe operating segment, which is also our reporting unit for
purposes of performing our goodwill impairment testing. We
determine the fair value of our reporting units using the
discounted cash flow valuation technique, which requires us to
make assumptions and estimates regarding industry economic
factors and the profitability of future business strategies.
|
|
We performed our annual testing
for goodwill impairment as of October 31, 2005, using the
methodology described herein, and determined that no goodwill
impairment existed.
If actual results are not consistent with our assumptions and
estimates, we may be exposed to additional goodwill impairment
charges.
|
81
|
|
|
|
|
|
|
|
|
Effect if Actual Results
|
Description
|
|
Judgments and Uncertainties
|
|
Differ from Assumptions
|
|
Retirement and Pension
Plans
|
|
|
|
|
We account for our defined benefit
pension plans and non-pension post-retirement benefit plans
using actuarial models required by FASB Statements No. 87,
Employers Accounting for Pensions, and
No. 106, Employers Accounting for Postretirement
Benefits Other Than Pensions, respectively. These models use
an attribution approach that generally spreads the financial
impact of changes to the plan and actuarial assumptions over the
average remaining service lives of the employees in the plan.
Changes in liability due to changes in actuarial assumptions
such as discount rate, rate of compensation increases and
mortality, as well as annual deviations between what was assumed
and what was experienced by the plan are treated as gains or
losses. Additionally, gains and losses are amortized over the
groups service lifetime. The average remaining service
lives of the employee plan is 14.3 years. The principle
underlying the required attribution approach is that employees
render service over their average remaining service lives on a
relatively smooth basis and, therefore, the accounting for
benefits earned under the pension or non-pension postretirement
benefits plans should follow the same relatively smooth
pattern.
Our pension obligations relate to funded defined benefit pension
plans we have established in the United States, Canada and the
United Kingdom, unfunded pension benefits primarily in Germany,
and lump sum indemnities payable upon retirement to employees of
businesses in France, Korea, Malaysia and Italy. Pension
benefits are generally based on the employees service and
either on a flat dollar rate or on the highest average eligible
compensation before retirement. In addition, some of our
entities participate in defined benefit plans managed by Alcan
in the U.S., the U.K. and Switzerland.
|
|
All net actuarial gains and losses
are amortized over the expected average remaining service life
of the employees. The costs and obligations of pension and other
postretirement benefits are calculated based on assumptions
including the long-term rate of return on pension assets,
discount rates for pension and other postretirement benefit
obligations, expected service period, salary increases,
retirement ages of employees and health care cost trend rates.
These assumptions bear the risk of change as they require
significant judgment and they have inherent uncertainties that
management may not be able to control. The two most significant
assumptions used to calculate the obligations in respect of the
net employee benefit plans are the discount rates for pension
and other postretirement benefits, and the expected return on
assets. The discount rate for pension and other postretirement
benefits is the interest rate used to determine the present
value of benefits. It is based on spot rate yield curves and
individual bond matching models for pension plans in Canada and
the U.S., and on published long-term high quality corporate bond
indices for pension plans in other countries, at the end of each
fiscal year. In light of the average long duration of pension
plans in other countries, no adjustments were made to the index
rates. The weighted average discount rate used to determine the
benefit obligation was 5.1% as of December 31, 2005,
compared to 5.4% for 2004 and 5.8% for 2003. The weighted
average discount rate used to determine the net periodic benefit
cost is the rate used to determine the benefit obligation in the
previous year.
|
|
An increase in the discount rate of
0.5%, assuming inflation remains unchanged, will result in a
decrease of $67 million in the pension and other
postretirement obligations and in a decrease of $9 million
in the net periodic benefit cost. A decrease in the discount
rate of 0.5%, assuming inflation remains unchanged, will result
in an increase of $74 million in the pension and other
postretirement obligations and in an increase of
$10 million in the net periodic benefit cost. The
calculation of the estimate of the expected return on assets is
described in Note 15 Post-Retirement Plans to
our consolidated and combined financial statements. The weighted
average expected return on assets was 7.4% for 2005, 8.3% for
2004 and 8.0% for 2003. The expected return on assets is a
long-term assumption whose accuracy can only be measured over a
long period based on past experience. A variation in the
expected return on assets by 0.5% will result in a variation of
approximately $2 million in the net periodic benefit cost.
|
82
|
|
|
|
|
|
|
|
|
Effect if Actual Results
|
Description
|
|
Judgments and Uncertainties
|
|
Differ from Assumptions
|
|
Income
Taxes
|
|
|
|
|
We account for income taxes using
the asset and liability method. Under the asset and liability
method, deferred tax assets and liabilities are recognized for
the estimated future tax consequences attributable to
differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases.
In addition, deferred tax assets are also recorded with respect
to net operating losses and other tax attribute carryforwards.
Deferred tax assets and liabilities are measured using enacted
tax rates in effect for the year in which those temporary
differences are expected to be recovered or settled. Valuation
allowances are established when realization of the benefit of
deferred tax assets is not deemed to be more likely than not.
The effect on deferred tax assets and liabilities of a change in
tax rates is recognized in income in the period that includes
the enactment date.
Contingent tax liabilities must be accounted for separately from
deferred tax assets and liabilities. FASB Statement No. 5,
Accounting for Contingencies is the governing standard
for contingent liabilities. It must be probable that a
contingent tax benefit will be sustained before the contingent
benefit is recognized for financial reporting purposes.
|
|
The ultimate recovery of certain
of our deferred tax assets is dependent on the amount and timing
of taxable income that we will ultimately generate in the future
and other factors such as the interpretation of tax laws. This
means that significant estimates and judgments are required to
determine the extent that valuation allowances should be
provided against deferred tax assets. We have provided valuation
allowances as of December 31, 2005 aggregating
$73 million against such assets based on our current
assessment of future operating results and these other factors.
|
|
Although management believes that
the estimates and judgments discussed herein are reasonable,
actual results could differ, and we may be exposed to gains or
losses that could be material.
|
83
|
|
|
|
|
|
|
|
|
Effect if Actual Results
|
Description
|
|
Judgments and Uncertainties
|
|
Differ from Assumptions
|
|
Assessment of Loss
Contingencies
|
|
|
|
|
We have legal and other
contingencies, including environmental liabilities, which could
result in significant losses upon the ultimate resolution of
such contingencies.
Environmental liabilities that are not legal asset retirement
obligations are accrued on an undiscounted basis when it is
probable that a liability exists for past events.
|
|
We have provided for losses in
situations where we have concluded that it is probable that a
loss has been or will be incurred and the amount of the loss is
reasonably estimable. A significant amount of judgment is
involved in determining whether a loss is probable and
reasonably estimable due to the uncertainty involved in
determining the likelihood of future events and estimating the
financial statement impact of such events.
|
|
If further developments or
resolution of a contingent matter are not consistent with our
assumptions and judgments, we may need to recognize a
significant charge in a future period related to an existing
contingency.
|
RECENT
ACCOUNTING STANDARDS
In November 2004, FASB issued FASB Statement No. 151,
Inventory Cost, which amends the guidance in ARB
No. 43, Chapter 4, Inventory Pricing, to
clarify the accounting for abnormal amounts of idle facility
expense, freight, handling costs and wasted materials by
requiring those items to be recognized as current period
charges. Additionally, FASB Statement No. 151 requires that
fixed production overheads be allocated to conversion costs
based on the normal capacity of the production facilities. The
new standard is effective prospectively for inventory costs
incurred in fiscal years beginning after June 15, 2005. We
will adopt the FASB Statement No. 151 on January 1,
2006, and we do not expect its adoption to have a material
effect on our financial position, results of operations, or cash
flows.
In December 2004, the FASB issued FASB Statement
No. 123(R), Share-Based Payment, which is a revision
to FASB Statement No. 123, Accounting for Stock-Based
Compensation (FASB 123). FASB Statement No. 123(R)
requires all share-based payments to employees, including grants
of employee stock options, to be recognized in the financial
statements based on their fair values. We adopted the fair value
based method of accounting for share-based payments effective
January 1, 2004 using the retroactive restatement method
described in FASB Statement No. 148, Accounting for
Stock-Based Compensation Transition and
Disclosure. Currently, we use the Black-Scholes valuation
model to estimate the value of stock options granted to
employees. We expect to adopt FASB Statement No. 123(R) on
January 1, 2006 and expect to apply the modified
prospective method upon adoption. The modified prospective
method requires companies to record compensation cost beginning
with the effective date based on the requirements of FASB
Statement No. 123(R) for all share-based payments granted
after the effective date. All awards granted to employees prior
to the effective date of FASB Statement No. 123(R) that
remain unvested at the adoption date will continue to be
expensed over the remaining service period in accordance with
FASB 123.
In June 2005, the FASB ratified the consensus reached in EITF
Issue
No. 05-5,
Accounting for Early Retirement or Postemployment Programs
with Specific Features (Such As Terms Specified in
Altersteilzeit Early Retirement Arrangements). EITF Issue
No. 05-5
addresses the timing of recognition of salaries, bonuses and
additional pension contributions associated with certain early
retirement arrangements typical in Germany (as well as similar
programs). The Task Force also specifies the accounting for
government subsidies related to these arrangements. EITF Issue
No. 05-5
is effective in fiscal years beginning after December 15,
2005. The adoption of EITF Issue
No. 05-5
is not expected to have a material impact on our financial
position, results of operations or cash flows.
In June 2006, the FASB issued FASB Interpretation No. 48,
Accounting for Uncertainty in Income Taxes, which is
effective for fiscal years beginning after December 15,
2006. Earlier adoption is permitted as of the beginning of the
fiscal year, provided an enterprise has not yet issued financial
statements, including financial
84
statements for any interim period, for that fiscal year. FASB
Interpretation No. 48 clarifies the accounting for
uncertainty in income taxes recognized in the financial
statements by prescribing a recognition threshold and
measurement attribute for the financial statement recognition
and measurement of a tax position taken or expected to be taken
in a tax return. The new Interpretation also provides guidance
on derecognition, classification, interest and penalties,
accounting in interim periods, disclosure, and transition. We
are currently evaluating the Interpretations potential
impact on our financial position, results of operations, and
cash flows.
We have determined that all other recently issued accounting
pronouncements will not have a material impact on our financial
position, results of operations or cash flows or do not apply to
our operations.
|
|
Item 7A.
|
Quantitative
and Qualitative Disclosures About Market Risk
|
We are exposed to certain market risks as part of our ongoing
business operations, including risks from changes in commodity
prices (aluminum, electricity and natural gas), foreign currency
exchange rates and interest rates that could impact our results
of operations and financial condition.
Prior to the spin-off, Alcan managed these types of risks on our
behalf as part of its group-wide management of market risks. The
derivative financial instruments included in the historical
combined financial statements indicate the extent of our
involvement in such instruments, but are not necessarily
indicative of what our exposure to market risk through the use
of derivatives would have been as a stand-alone company.
As a stand-alone company, we manage our exposure to these and
other market risks through regular operating and financing
activities and derivative financial instruments. We use
derivative financial instruments as risk management tools only,
and not for speculative purposes. Except where noted, the
derivative contracts are
marked-to-market
and the related gains and losses are included in income in the
current accounting period. Typically, gains and losses on these
contracts are offset by the opposite effect of movements in the
underlying business transactions.
By their nature, all derivative financial instruments involve
risk, including the credit risk of non-performance by
counterparties. All derivative contracts are executed with
counterparties that, in our judgment, are creditworthy. Our
maximum potential loss may exceed the amount recognized in our
balance sheet.
The decision whether and when to execute derivative instruments,
along with the duration of the instrument, can vary from period
to period depending on market conditions and the relative costs
of the instruments. The duration is always linked to the timing
of the underlying exposure, with the connection between the two
being regularly monitored.
Commodity
Price Risks
We have commodity price risk with respect to purchases of
certain raw materials including aluminum, electricity and
natural gas.
Aluminum
We undertake aluminum forward and option contracts in order to
match our anticipated future net sales with future metal
purchases required to support firm sales commitments we have to
our customers. Consequently, the gain or loss resulting from
movements in the price of aluminum on these contracts would
generally be offset by an equal and opposite impact on the net
sales and purchases being hedged.
Most aluminum rolled products are priced in two components:
(i) an aluminum price component based on the LME quotation
plus a local market premium, and (ii) a margin over
metal or conversion charge based on the competitive market
price of the product. As a consequence, the aluminum price risk
exposure is largely absorbed by the customer. In situations
where we offer customers fixed prices for future delivery of our
products, we may enter into derivative instruments for the metal
inputs in order to protect the profit on the conversion of the
product. In addition, sales contracts currently representing
approximately 20% of our total annual net sales provide for a
ceiling over which metal prices cannot contractually be passed
through to certain customers, unless adjusted.
85
We employ three strategies to mitigate our risk of rising metal
prices that we cannot pass through to certain customers due to
metal price ceilings. First, we maximize the amount of our
internally supplied metal inputs from our smelting, refining and
mining operations in Brazil. Second, we rely on the output from
our recycling operations which utilize used beverage cans
(UBCs). Both of these strategies have historically provided a
benefit as these sources of metal are typically less expensive
than purchasing aluminum from third party suppliers. These two
strategies are referred to as our internal hedges. While we
believe that our primary aluminum production continues to
provide the expected benefits during this sustained period of
high LME prices, the recycling operations are providing less
internal hedge benefit than expected. LME metal prices and other
market issues have resulted in higher than expected prices of
UBCs thus compressing the internal hedge benefit we receive from
this strategy.
Beyond our internal hedges described above, our third strategy
to mitigate the risk of loss or reduced profitability associated
with the metal price ceilings is to purchase call options on
projected aluminum volume requirements above our assumed
internal hedge position. Derivatives can be very costly;
therefore, we balance this cost with the benefits provided by
the particular instrument before we purchase it. To date, we
have not purchased call options to hedge our exposure to the
metal price ceilings beyond 2006.
Sensitivities
The following table presents the estimated potential effect on
the fair market values of these derivatives given a 10% change
in the three-month LME price.
|
|
|
|
|
|
|
|
|
|
|
Change in
|
|
|
Change in
|
|
|
|
Rate/Price
|
|
|
Fair Value
|
|
|
|
|
|
|
(In millions)
|
|
|
Aluminum Call Options
|
|
|
10
|
%
|
|
$
|
49.4
|
|
Aluminum Forward Contracts
|
|
|
10
|
%
|
|
|
40.8
|
|
Electricity
and Natural Gas
We use several sources of energy in the manufacture and delivery
of our aluminum rolled products. In 2005, natural gas and
electricity represented approximately 70% of our energy
consumption by cost. We also use fuel oil and transport fuel.
The majority of energy usage occurs at our casting centers, at
our smelters in South America and during the hot rolling of
aluminum. Our cold rolling facilities require relatively less
energy. We purchase our natural gas on the open market, which
subjects us to market pricing fluctuations. Recent natural gas
pricing changes in the United States have increased our energy
costs. We seek to stabilize our future exposure to natural gas
prices through the use of forward purchase contracts. Natural
gas prices in Europe, Asia and South America have historically
been more stable than in the United States.
A portion of our electricity requirements are purchased pursuant
to long-term contracts in the local regions in which we operate.
A number of our facilities are located in regions with regulated
prices, which affords relatively stable costs. NSA has its own
hydroelectric facilities that meet approximately 25% of its
total electricity requirements for smelting operations. We seek
to stabilize our future exposure to natural gas prices through
the use of forward purchase contracts.
Rising energy costs worldwide, due to the volatility of supply
and international and geopolitical events, expose us to reduced
profits as such changes in such costs cannot immediately be
recovered under existing contracts and sales agreements, and may
only be mitigated in future periods under future pricing
arrangements.
We have an existing long-term supply contract for certain
electricity costs at fixed rates and have hedged our natural gas
needs through future contracts.
86
Sensitivities
The following table presents the estimated potential effect on
the fair market values of these derivatives given a 10% change
in spot prices for energy contracts.
|
|
|
|
|
|
|
|
|
|
|
Change in
|
|
|
Change in
|
|
|
|
Rate/Price
|
|
|
Fair Value
|
|
|
|
|
|
|
(In millions)
|
|
|
Electricity
|
|
|
10
|
%
|
|
$
|
14.3
|
|
Natural Gas
|
|
|
10
|
%
|
|
|
0.9
|
|
Foreign
Currency Exchange Risks
Exchange rate movements, particularly the euro, the Canadian
dollar, the Brazilian real and the Korean won against the
U.S. dollar, have an impact on our operating results. In
Europe and Korea, where we have local currency conversion prices
and operating costs, we benefit as the euro and Korean won
strengthen, but are adversely affected as the euro and Korean
won weaken. In Korea, a significant portion of the conversion
prices for exports is U.S. dollar driven. In Canada and
Brazil, we have operating costs denominated in local currency
while our functional currency is the U.S. dollar. As a
result we benefit from a weakening in local currencies against
the dollar but, conversely, are disadvantaged if local
currencies strengthen. In Brazil, this is partially offset by
sales that are denominated in the Brazilian real. In Europe and
Korea where the local currency is also the functional currency,
certain revenues, operating costs and debt are denominated in
U.S. dollars. Foreign currency contracts may be used to
hedge these economic exposures.
Any negative impact of currency movements on the currency
contracts that we have entered into to hedge foreign currency
commitments to purchase or sell goods and services would be
offset by an equal and opposite favorable exchange impact on the
commitments being hedged. For a discussion of accounting
policies and other information relating to currency contracts,
see
Note 1-
Business and Summary of Significant Accounting Policies and
Note 17 Financial Instruments and Commodity
Contracts to our consolidated and combined financial statements.
It is our policy to minimize functional currency exposures
within each of our key regional operating segments. As such, the
majority of our foreign currency exposures are from either
forecasted net sales or forecasted purchase commitments in
non-functional currencies. The companys most significant
non-U.S. Dollar
functional currency operating segments are Novelis Europe and
Novelis Asia, which have the Euro and the Korean Won as their
functional currencies, respectively. Novelis South America is
U.S. Dollar functional with Brazilian Real transactional
exposure.
We face translation risks related to the changes in foreign
currency exchange rates. Amounts invested in our foreign
operations are translated into U.S. Dollars at the exchange
rates in effect at the balance sheet date. The resulting
translation adjustments are recorded as a component of
accumulated other comprehensive income (loss) in the
shareholders equity section of our consolidated and
combined balance sheets. Net sales and expenses in our foreign
operations foreign currencies are translated into varying
amounts of U.S. Dollars depending upon whether the
U.S. Dollar weakens or strengthens against other
currencies. Therefore, changes in exchange rates may either
positively or negatively affect our net sales and expenses from
foreign operations as expressed in U.S. Dollars.
Sensitivities
The following table presents the estimated potential effect on
the fair market values of these derivatives given a 10% change
in rates.
|
|
|
|
|
|
|
|
|
|
|
Change in
|
|
|
Change in
|
|
Currency Measured Against the U.S. Dollar
|
|
Rate
|
|
|
Fair Value
|
|
|
|
|
|
|
(In millions)
|
|
|
Euro
|
|
|
10
|
%
|
|
$
|
38.7
|
|
Korean won
|
|
|
10
|
%
|
|
|
34.2
|
|
Brazilian Real
|
|
|
10
|
%
|
|
|
1.9
|
|
87
Loans and investments in European operations have been hedged by
cross-currency interest rate swaps (Euro 475 million, GBP
62 million, CHF 35 million). Loans from European
operations have been hedged by cross-currency principal only
swaps (Euro 89 million). The principal only swaps are
accounted for as cash flow hedges.
The following table presents the estimated potential effect on
the fair market values of these derivatives given a 10% change
in rates.
|
|
|
|
|
|
|
|
|
|
|
Change in
|
|
|
Change in
|
|
Currency Measured Against the U.S. Dollar
|
|
Rate
|
|
|
Fair Value
|
|
|
|
|
|
|
(In millions)
|
|
|
Euro
|
|
|
10
|
%
|
|
$
|
64.5
|
|
Interest
Rate Risks
We are subject to interest rate risk related to our floating
rate debt. For every 12.5 basis point increase in the
interest rates on the $935 million of variable rate Term
Loan B debt that has not been swapped into fixed interest
rates as of December 31, 2005, our annual net income would
be reduced by $0.5 million.
As of December 31, 2005, approximately 75.7% of our debt
obligations were at fixed rates. Due to the nature of fixed-rate
debt, there would be no significant impact on our interest
expense or cash flows from either a 10% increase or decrease in
market rates of interest.
From time to time, we have used interest rate swaps to manage
our debt cost. We have entered into interest rate swaps to fix
the interest rate on $310 million of the Novelis Corporation
floating rate Term Loan B. In Korea, we entered into
interest rate swaps to fix the interest rate on various floating
rate debt. See Note 10 Long-Term Debt to our
consolidated and combined financial statements in this Annual
Report on
Form 10-K
for further information.
Sensitivities
The following table presents the estimated potential effect on
the fair market values of these derivatives given a 10% change
in rates.
|
|
|
|
|
|
|
|
|
|
|
Change in
|
|
|
Change in
|
|
Interest Rate Swap Contracts
|
|
Rate
|
|
|
Fair Value
|
|
|
|
|
|
|
(In millions)
|
|
|
North America
|
|
|
10
|
%
|
|
$
|
1.3
|
|
Asia
|
|
|
10
|
%
|
|
|
0.5
|
|
88
|
|
Item 8.
|
Financial
Statements and Supplementary Data
|
TABLE OF
CONTENTS
89
Managements
Responsibility Report
Novelis management is responsible for the preparation,
integrity and fair presentation of the financial statements and
other information used in this Annual Report. The financial
statements have been prepared in accordance with accounting
principles generally accepted in the United States of America
and include, where appropriate, estimates based on the best
judgment of management. Financial and operating data elsewhere
in the Annual Report are consistent with that contained in the
accompanying financial statements.
Novelis policy is to maintain effective disclosure
controls and procedures and internal control over financial
reporting. Such systems are designed to provide reasonable
assurance that the financial information is accurate and
reliable and that Company assets are adequately accounted for
and safeguarded. The Board of Directors oversees the
Companys system of internal accounting, administrative and
disclosure controls through its Audit Committee, which is
comprised of directors who are not employees. The Audit
Committee meets regularly with representatives of the
Companys independent auditors and management, including
internal audit staff, to satisfy themselves that Novelis
policy is being followed. The Audit Committee has appointed
PricewaterhouseCoopers LLP as the independent auditors.
The financial statements have been reviewed by the Audit
Committee and, together with the other required information in
this Annual Report, approved by the Board of Directors. In
addition, the financial statements have been audited by
PricewaterhouseCoopers LLP, whose reports are provided below.
|
|
|
|
|
|
/s/ Brian
W. Sturgell
BRIAN
W. STURGELL
President and Chief Executive Officer
|
|
/s/ Rick
Dobson
RICK
DOBSON
Senior Vice President and Chief Financial Officer
|
August 24, 2006
90
Report of
Independent Registered Public Accounting Firm
To the Board of Directors and Shareholders of Novelis Inc.:
In our opinion, the accompanying consolidated balance sheet and
the related consolidated and combined statements of income and
comprehensive income (loss), shareholders/invested equity
and cash flows present fairly, in all material respects, the
financial position of Novelis Inc. and its subsidiaries as of
December 31, 2005, and the results of their operations and
their cash flows for the year ended December 31, 2005 in
conformity with accounting principles generally accepted in the
United States of America. These financial statements are the
responsibility of the Companys management. Our
responsibility is to express an opinion on these financial
statements based on our audit. We conducted our audit of these
statements in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are
free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles
used and significant estimates made by management, and
evaluating the overall financial statement presentation. We
believe that our audit provides a reasonable basis for our
opinion.
/s/ PricewaterhouseCoopers
LLP
PricewaterhouseCoopers LLP
Atlanta, Georgia
August 24, 2006
91
Report of
Independent Registered Public Accounting Firm
To the Board of Directors and Shareholders of Novelis Inc.:
In our opinion, the accompanying combined balance sheet and
related combined statements of income, invested equity and cash
flows present fairly, in all material respects, the financial
position of the Novelis Group as described in Note 1, at
December 31, 2004, and the results of their operations and
their cash flows for each of the two years in the period ended
December 31, 2004 in conformity with accounting principles
generally accepted in the United States of America. These
financial statements are the responsibility of the Novelis
Groups management. Our responsibility is to express an
opinion on these financial statements based on our audits. We
conducted our audits of these statements in accordance with the
standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant
estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers
LLP
PricewaterhouseCoopers LLP
Chartered Accountants
Montreal, Quebec, Canada
March 24, 2005, except as to Note 23 and Note 25,
which are as of August 3, 2005
92
Novelis
Inc.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
|
(In millions, except per share amounts)
|
|
|
Net sales
|
|
$
|
8,363
|
|
|
$
|
7,755
|
|
|
$
|
6,221
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of goods sold (exclusive of
depreciation and amortization shown below)
|
|
|
7,570
|
|
|
|
6,856
|
|
|
|
5,482
|
|
Selling, general and administrative
expenses
|
|
|
352
|
|
|
|
289
|
|
|
|
255
|
|
Litigation settlement
net of insurance recoveries
|
|
|
40
|
|
|
|
|
|
|
|
|
|
Provision for depreciation and
amortization
|
|
|
230
|
|
|
|
246
|
|
|
|
222
|
|
Research and development expenses
|
|
|
41
|
|
|
|
58
|
|
|
|
62
|
|
Restructuring charges
|
|
|
10
|
|
|
|
20
|
|
|
|
8
|
|
Impairment charges on long-lived
assets
|
|
|
7
|
|
|
|
75
|
|
|
|
4
|
|
Interest expense and amortization
of debt issuance costs net
|
|
|
194
|
|
|
|
48
|
|
|
|
33
|
|
Equity in net income of
non-consolidated affiliates
|
|
|
(6
|
)
|
|
|
(6
|
)
|
|
|
(6
|
)
|
Other income net
|
|
|
(299
|
)
|
|
|
(62
|
)
|
|
|
(49
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
8,139
|
|
|
|
7,524
|
|
|
|
6,011
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before provision for taxes
on income, minority interests share and cumulative effect
of accounting change
|
|
|
224
|
|
|
|
231
|
|
|
|
210
|
|
Provision for taxes on income
|
|
|
107
|
|
|
|
166
|
|
|
|
50
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before minority
interests share and cumulative effect of accounting change
|
|
|
117
|
|
|
|
65
|
|
|
|
160
|
|
Minority interests share
|
|
|
(21
|
)
|
|
|
(10
|
)
|
|
|
(3
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income before cumulative effect
of accounting change
|
|
|
96
|
|
|
|
55
|
|
|
|
157
|
|
Cumulative effect of accounting
change net of tax
|
|
|
(6
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
|
90
|
|
|
|
55
|
|
|
|
157
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other comprehensive income
(loss) net of tax
|
|
|
|
|
|
|
|
|
|
|
|
|
Currency translation adjustment
|
|
|
(155
|
)
|
|
|
30
|
|
|
|
102
|
|
Change in minimum pension liability
|
|
|
(17
|
)
|
|
|
(26
|
)
|
|
|
1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other comprehensive income
(loss) net of tax
|
|
|
(172
|
)
|
|
|
4
|
|
|
|
103
|
|
|
|
|
|
|
|
|
|
|
|
|
|