UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended March 31, 2007
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____ to _____
Commission File Number 1-8864
USG CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 36-3329400
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
550 West Adams Street, Chicago, Illinois 60661-3676
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code (312) 436-4000
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, 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 [X] Accelerated filer [ ] Non-accelerated filer [ ]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13, or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes [ ] No [ ] Not applicable. Although the registrant was
involved in bankruptcy proceedings during the preceding five years, it did not
distribute securities under its confirmed plan of reorganization.
The number of shares of the registrant's common stock outstanding as of March
31, 2007 was 98,928,989.
TABLE OF CONTENTS
Page
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PART I FINANCIAL INFORMATION
Item 1. Financial Statements:
Consolidated Statements of Operations:
Three Months Ended March 31, 2007 and 2006 3
Consolidated Balance Sheets:
As of March 31, 2007 and December 31, 2006 4
Consolidated Statements of Cash Flows:
Three Months Ended March 31, 2007 and 2006 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Results of Operations and
Financial Condition 20
Item 4. Controls and Procedures 33
Report of Independent Registered Public Accounting Firm 34
PART II OTHER INFORMATION
Item 1. Legal Proceedings 35
Item 6. Exhibits 35
Signatures 37
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PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
USG CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN MILLIONS EXCEPT PER-SHARE DATA)
(UNAUDITED)
THREE MONTHS
ENDED MARCH 31,
-------------------------
2007 2006
----------- -----------
Net sales $ 1,259 $ 1,465
Cost of products sold 1,047 1,108
----------- -----------
Gross profit 212 357
Selling and administrative expenses 117 99
Chapter 11 reorganization expenses -- 2
----------- -----------
Operating profit 95 256
Interest expense 44 486
Interest income (8) (3)
----------- -----------
Earnings (loss) before income taxes 59 (227)
Income tax expense (benefit) 18 (86)
----------- -----------
Net earnings (loss) 41 (141)
=========== ===========
Basic earnings (loss) per common share 0.45 (2.44)
Diluted earnings (loss) per common share 0.45 (2.44)
Average common shares 91,376,178 57,772,106
Average diluted common shares 91,664,897 57,772,106
See accompanying Notes to Consolidated Financial Statements.
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USG CORPORATION
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN MILLIONS)
(UNAUDITED)
AS OF AS OF
MARCH 31, DECEMBER 31,
2007 2006
--------- ------------
ASSETS
Current Assets:
Cash and cash equivalents $ 411 $ 565
Restricted cash -- 6
Receivables (net of reserves - $19 and $16) 604 448
Inventories 380 348
Income taxes receivable 28 1,102
Deferred income taxes 119 169
Other current assets 82 69
------- -------
Total current assets 1,624 2,707
Property, plant and equipment (net of
accumulated depreciation and depletion
- $1,141 and $1,108) 2,295 2,210
Deferred income taxes 216 187
Goodwill 357 154
Other assets 98 107
------- -------
Total Assets 4,590 5,365
======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable 364 303
Accrued expenses 280 358
Short-term debt -- 1,065
Income taxes payable 8 38
------- -------
Total current liabilities 652 1,764
Long-term debt 1,239 1,439
Deferred income taxes 10 11
Other liabilities 659 617
Commitments and contingencies
Stockholders' Equity:
Preferred stock -- --
Common stock 10 9
Treasury stock (208) (208)
Capital received in excess of par value 2,608 2,176
Accumulated other comprehensive (loss) (112) (136)
Retained earnings (deficit) (268) (307)
------- -------
Total stockholders' equity 2,030 1,534
------- -------
Total Liabilities and Stockholders' Equity 4,590 5,365
======= =======
See accompanying Notes to Consolidated Financial Statements.
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USG CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN MILLIONS)
(UNAUDITED)
THREE MONTHS
ENDED MARCH 31,
----------------
2007 2006
------- ------
OPERATING ACTIVITIES:
Net earnings (loss) $ 41 $ (141)
Adjustments to reconcile net earnings (loss) to net cash:
Depreciation, depletion and amortization 48 33
Share-based compensation expense 11 --
Deferred income taxes 34 (196)
(Increase) decrease in working capital (net of acquisitions):
Receivables (82) (165)
Income taxes receivable 1,072 --
Inventories 5 (16)
Payables (12) 123
Accrued expenses (51) (51)
Increase in other assets (5) (11)
Increase in other liabilities 5 2
Increase in liabilities subject to compromise -- 491
Other, net 7 (6)
------- ------
Net cash provided by operating activities 1,073 63
------- ------
INVESTING ACTIVITIES:
Capital expenditures (111) (52)
Acquisitions of businesses, net of cash acquired (279) (74)
(Deposit) return of restricted cash 6 (17)
Purchases of marketable securities -- (81)
Sales or maturities of marketable securities -- 365
Net proceeds from asset dispositions -- 1
------- ------
Net cash (used for) provided by investing activities (384) 142
------- ------
FINANCING ACTIVITIES:
Repayment of debt (1,265) --
Proceeds from equity offering, net of fees 422 --
Payment of rights offering backstop commitment fee -- (67)
Issuances of common stock upon exercise of stock options -- 7
Tax benefit of share-based payments -- 2
------- ------
Net cash used for financing activities (843) (58)
------- ------
Effect of exchange rate changes on cash -- --
Net (decrease) increase in cash and cash equivalents (154) 147
Cash and cash equivalents at beginning of period 565 936
------- ------
Cash and cash equivalents at end of period 411 1,083
======= ======
SUPPLEMENTAL CASH FLOW DISCLOSURES:
Interest paid 30 --
Income taxes (refunded) paid, net (1,060) 12
See accompanying Notes to Consolidated Financial Statements.
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USG CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
In the following Notes to Consolidated Financial Statements, "USG," "we,"
"our" and "us" refer to USG Corporation, a Delaware corporation, and its
subsidiaries included in the consolidated financial statements, except as
otherwise indicated or as the context otherwise requires.
(1) PREPARATION OF FINANCIAL STATEMENTS
We prepared the accompanying unaudited consolidated financial statements of
USG Corporation in accordance with applicable United States Securities and
Exchange Commission guidelines pertaining to interim financial information.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported
amounts of assets, liabilities, revenues and expenses. Actual results could
differ from those estimates. In the opinion of our management, the
financial statements reflect all adjustments, which are of a normal
recurring nature, necessary for a fair presentation of our financial
results for the interim periods. These financial statements and notes are
to be read in conjunction with the financial statements and notes included
in USG's Annual Report on Form 10-K for the fiscal year ended December 31,
2006, which we filed on February 16, 2007.
(2) ACQUISITIONS
We record acquisitions using the purchase method of accounting and,
accordingly, include the results of operations of the businesses acquired
in our consolidated results as of the date of acquisition. We allocate the
purchase price of acquisitions to the tangible assets, liabilities and
intangible assets acquired based on fair market values. The excess purchase
price over those fair values is recorded as goodwill. The fair value
assigned to assets acquired is based on valuations using management's
estimates and assumptions. Pro forma combined results of operations for the
2007 and 2006 periods would not be materially different as a result of the
acquisitions described below and therefore are not presented.
On March 30, 2007, L&W Supply Corporation, or L&W Supply, which makes up
the Building Products Distribution operating segment, purchased the
outstanding stock of California Wholesale Material Supply, Inc. and related
entities (referred to collectively as CALPLY) for approximately $267
million. This amount includes debt repaid at closing and
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acquisition-related expenses and is net of CALPLY's cash at closing. CALPLY
sells building products and provides services to acoustical contractors,
drywall contractors, plaster contractors, roofing companies, manufactured
housing companies, countertop fabricators, government institutions and
exporters from its 30 locations in seven Western states and Mexico. This
acquisition was part of L&W Supply's strategy to profitably grow its
specialty dealer business. The following table presents the preliminary
allocation of the purchase price for CALPLY as of the date of acquisition.
(millions)
Cash $ 4
Accounts receivable 74
Inventories 37
Property, plant and equipment 6
Goodwill 197
Other assets acquired 4
----
Total assets acquired 322
----
Total liabilities assumed 51
----
Total net assets acquired 271
----
On March 28, 2007, USG Mexico, S.A. de C.V., or USG Mexico, an indirect,
wholly owned subsidiary of USG Corporation, purchased the assets of Grupo
Supremo located in the central north region of Mexico whose businesses
include extracting gypsum rock from several mines and manufacturing plaster
products. The total purchase price was approximately $12 million including
acquisition-related expenses.
The allocation of the purchase prices for these acquisitions is preliminary
because they are subject to (i) the valuation of tangible and intangible
assets for both CALPLY and Supremo; (ii) a working capital settlement
related to the Grupo Supremo acquisition and (iii) tax-related and other
liability adjustments. As a result, the purchase prices have been allocated
to the assets acquired and liabilities assumed based on the historical book
values of the acquired companies. Any excess of the purchase prices over
the book value of assets acquired and liabilities assumed has been recorded
as goodwill in the accompanying consolidated statement of financial
position. No allocations have been made at this time to identifiable
intangible assets and no adjustments have been made to historical book
values of tangible assets acquired. Accordingly, the purchase price
allocations are subject to change based on a final determination of the
fair values of assets acquired and liabilities assumed.
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(3) PUBLIC EQUITY OFFERING
In March 2007, we completed a public offering of 9,063,373 shares of our
common stock at a price of $48.60 per share. The net proceeds of the
offering, after deducting underwriting discounts and commissions and
offering expenses, were approximately $422 million. We used the net
proceeds of the equity offering to pay for the CALPLY acquisition and for
general corporate purposes.
(4) DEBT
Total debt consisted of the following:
As of As of
March 31, December 31,
(millions) 2007 2006
--------- ------------
Term loan $ 500 $ 700
6.3% senior notes 500 500
Industrial revenue bonds 239 239
Tax bridge term loan -- 1,065
------ ------
Total 1,239 2,504
====== ======
CREDIT FACILITIES
In August 2006, we entered into a $2.8 billion credit agreement with a
syndicate of banks. JPMorgan Chase Bank, N.A. serves as administrative
agent under the agreement. The credit agreement consists of a $650 million
revolving credit facility with a $250 million sublimit for letters of
credit and a $1.0 billion term loan facility. It also included a $1.15
billion tax bridge term loan facility that has now been terminated.
The revolving credit facility is available to fund working capital needs
and for other general corporate purposes. As of March 31, 2007, we had not
drawn upon the revolving credit facility except for approximately $86
million of outstanding letters of credit. The term loan facility was
available to us in a single drawing of up to $1.0 billion, and the tax
bridge facility was available to us in a single drawing of up to $1.15
billion, in each case to be made on or before January 31, 2007. In December
2006, we borrowed $700 million under the term loan and $1.065 billion under
the tax bridge facility. These borrowings, along with proceeds from the
$500 million senior note offering described below and cash on hand, were
used to fund a $3.05 billion payment in December 2006 to the asbestos trust
created in connection with our plan of reorganization (see Notes 14 and 15
below).
In the first quarter of 2007, we received a $1.057 billion federal tax
refund as a result of tax deductions generated by the payments made to the
asbestos trust. This refund, along with cash on hand, was used in
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March 2007 to repay the outstanding borrowing of $1.065 billion under the
tax bridge facility. We also repaid $200 million of the outstanding
borrowing under the term loan facility in March. As a result of these
repayments, we recorded a $10 million pretax charge to interest expense in
the first quarter of 2007 to write off deferred financing fees associated
with these borrowings.
The term loan facility matures on August 2, 2011, and the borrowing rate on
this facility was 6.125% as of March 31, 2007.
The credit agreement requires that we meet and maintain certain financial
ratios and tests and contains events of default and covenants that are
customary for similar transactions and may limit our ability to take
various actions. As of March 31, 2007, we were in compliance with those
financial ratios, tests and covenants.
6.3% SENIOR NOTES
In November 2006, we issued in a private placement $500 million of 6.3%
senior unsecured notes that mature in November 2016. On April 6, 2007, we
filed with the Securities and Exchange Commission, or SEC, a registration
statement relating to an offer to exchange registered 6.3% senior unsecured
notes also maturing in 2016 for the privately placed notes.
(5) EARNINGS PER SHARE
Basic earnings per share are based on the weighted average number of common
shares outstanding. Diluted earnings per share are based on the weighted
average number of common shares outstanding and the dilutive effect of
restricted stock units, or RSUs, performance shares and outstanding stock
options. Average common shares and average diluted common shares
outstanding for the first quarter of 2006 reflect the effect of a rights
offering we completed in the third quarter of 2006. The reconciliation of
basic earnings per share to diluted earnings per share is shown in the
following table (dollars in millions, except share data):
Weighted
Net Average
Earnings Shares Per-Share
Three Months Ended March 31, (Loss) (000) Amount
---------------------------- -------- ------ ---------
2007:
Basic earnings $ 41 91,376 $ 0.45
Dilutive effect of stock options 289
Diluted earnings 41 91,665 0.45
2006:
Basic loss (141) 57,772 (2.44)
Diluted loss (141) 57,772 (2.44)
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Options, RSUs and performance shares with respect to 1.7 million common
shares were not included in the computation of diluted earnings per share
for the first quarter of 2007 because they were anti-dilutive. Options to
purchase 0.5 million common shares were not included in the computation of
diluted earnings per share for the first quarter of 2006 because they were
anti-dilutive.
(6) DERIVATIVE INSTRUMENTS
We use derivative instruments to manage selected commodity price and
foreign currency exposures. We do not use derivative instruments for
speculative trading purposes. All derivative instruments must be recorded
on the balance sheet at fair value. For derivatives designated as fair
value hedges, the changes in the fair values of both the derivative
instrument and the hedged item are recognized in earnings in the current
period. For derivatives designated as cash flow hedges, the effective
portion of changes in the fair value of the derivative is recorded to
accumulated other comprehensive income, or AOCI, and is reclassified to
earnings when the underlying transaction has an impact on earnings. The
ineffective portion of changes in the fair value of the derivative is
reported in cost of products sold. For derivatives designated as net
investment hedges, we record changes in value to AOCI. As of March 31,
2007, we had no foreign currency contracts.
COMMODITY DERIVATIVE INSTRUMENTS
Currently, we are using swap contracts to hedge a major portion of our
anticipated purchases of natural gas to be used in our manufacturing
operations. Generally, we have a substantial majority of our anticipated
purchases of natural gas over the next 12 months hedged; however, we review
our positions regularly and make adjustments as market conditions warrant.
The current contracts, all of which mature by December 31, 2009, are
generally designated as cash flow hedges. As of March 31, 2007, we had swap
contracts to exchange monthly payments on notional amounts of natural gas
amounting to $173 million. As of March 31, 2007, the fair value of these
swap contracts, which remained in AOCI, was a $6 million ($4 million
after-tax) unrealized loss.
COUNTERPARTY RISK
We are exposed to credit losses in the event of nonperformance by the
counterparties on our financial instruments. All counterparties have
investment grade credit standing; accordingly, we anticipate that these
counterparties will be able to fully satisfy their obligations under the
contracts. We receive collateral from our counterparties based on the
provisions in certain credit support agreements. Similarly, we may be
required to post collateral if aggregate payables exceed certain limits.
Currently, we have no collateral requirement. We enter into master
agreements which contain netting arrangements that minimize counterparty
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credit exposure.
(7) COMPREHENSIVE INCOME (LOSS)
The components of comprehensive income are summarized in the following
table (dollars in millions):
Three Months ended March 31, 2007 2006
---------------------------- ---- -----
Net earnings (loss) $ 41 $(141)
---- -----
Pretax gain (loss) on derivatives 36 (100)
Income tax (expense) benefit (15) 39
---- -----
After-tax gain (loss) on derivative 21 (61)
---- -----
Unrealized gain on marketable
securities, net of tax -- 1
Foreign currency translation 2 (3)
---- -----
Total comprehensive income (loss) 64 (204)
==== =====
There was no tax impact on the foreign currency translation adjustments.
AOCI consisted of the following (dollars in millions):
As of As of
March 31, December 31,
2007 2006
--------- ------------
Loss on derivatives, net of tax $ (5) $ (26)
Unrecognized pension and
postretirement benefit
costs, net of tax (133) (134)
Foreign currency translation 26 24
----- -----
Total (112) (136)
===== =====
Reclassifications of net after-tax gains or losses from AOCI to earnings
during the first quarter of 2007 were as follows (dollars in millions):
Loss on derivatives, net of tax of $5 million $(8)
Loss on unrecognized pension and
postretirement benefit costs, net of tax
of $1 million (1)
---
Total (9)
===
As of March 31, 2007, we estimate the net after-tax gains or losses that we
will reclassify from AOCI to earnings within the next 12 months to be a $3
million loss on derivatives and a $4 million loss on unrecognized pension
and postretirement benefit costs.
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(8) OPERATING SEGMENTS
Our operations are organized into three operating segments: (i) North
American Gypsum, which manufactures SHEETROCK(R) brand gypsum wallboard and
joint compound, DUROCK(R) brand cement board, FIBEROCK(R) brand gypsum
fiber panels and other related building products in the United States,
Canada and Mexico; (ii) Building Products Distribution, which distributes
gypsum wallboard, drywall metal, ceiling products, joint compound and other
building products in the United States and Mexico and (iii) Worldwide
Ceilings, which manufactures ceiling tile in the United States and ceiling
grid in the United States, Canada, Europe and the Asia-Pacific region.
Operating segment results were as follows (dollars in millions):
Operating
Net Sales Profit
--------------- -----------
Three Months ended March 31, 2007 2006 2007 2006
---------------------------- ------ ------ ---- ----
North American Gypsum $ 757 $ 931 $ 93 $211
Building Products Distribution 504 604 26 53
Worldwide Ceilings 197 186 14 20
Eliminations (199) (256) 1 2
Corporate -- -- (39) (28)
Chapter 11 reorganization expenses -- -- -- (2)
------ ------ ---- ----
Total 1,259 1,465 95 256
====== ====== ==== ====
(9) GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill as of March 31, 2007 was as follows (dollars in millions):
Building North
Products American
Distribution Gypsum Total
------------ -------- -----
Balance as of January 1 $154 -- $154
Acquisitions 197 6 203
---- --- ----
Balance as of March 31 351 6 357
==== === ====
Goodwill increased in the first quarter of 2007 as a result of L&W Supply's
acquisition of CALPLY and USG Mexico's acquisition of the Supremo group of
companies in Mexico.
Other intangible assets, which are principally trade names, totaled $9
million as of March 31, 2007. As of that date, $1 million of these other
intangible assets was subject to amortization over a five-year life
concluding in 2010. Other intangible assets are included in other assets on
the consolidated balance sheets.
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(10) ASSET RETIREMENT OBLIGATIONS
Changes in the liability for asset retirement obligations consisted of the
following (dollars in millions):
Three Months
ended
March 31
------------
2007 2006
---- ----
Balance as of January 1 $78 $71
Accretion expense 1 1
--- ---
Balance as of March 31 79 72
=== ===
(11) EMPLOYEE RETIREMENT PLANS
The components of net pension and postretirement benefits costs are
summarized in the following table (dollars in millions):
Three Months
ended
March 31
------------
2007 2006
---- -----
PENSION:
Service cost of benefits earned $ 10 $ 9
Interest cost on projected benefit obligation 16 15
Expected return on plan assets (18) (16)
Net amortization 3 4
---- ----
Net pension cost 11 12
==== ====
POSTRETIREMENT:
Service cost of benefits earned $ 4 $ 3
Interest cost on projected benefit obligation 6 5
Net amortization (1) (1)
---- ----
Net postretirement cost 9 7
==== ====
In accordance with our funding policy, we currently plan to contribute
approximately $66 million of cash to our pension plans in 2007.
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(12) SHARE-BASED COMPENSATION
During the first quarter of 2007, our Board of Directors approved awards of
stock options, RSUs and performance shares under our Long-Term Incentive
Plan, or LTIP. We recognize compensation expense on all share-based grants
over the service period, which is the shorter of the period until the
employees' retirement eligibility date or the service period of the award.
For share-based awards granted in the first quarter of 2007, our
compensation cost was $8.8 million in the three-month period ended March
31, 2007. The remaining compensation cost for these awards will total $13.6
million and will be recognized over a weighted average life of 3.9 years.
STOCK OPTIONS
We granted options to purchase 551,895 shares of common stock under the
LTIP during the first quarter of 2007 with an exercise price of $49.61 per
share, which was the closing price of a share of USG common stock on the
date of grant. The options generally become exercisable in four equal
annual installments beginning one year from the date of grant, or earlier
in the event of death, disability, retirement or a change in control. The
options generally expire 10 years from the date of grant, or earlier in the
event of death, disability or retirement. Expense is recognized, net of
estimated forfeitures, over the vesting period of the options.
We estimated the fair value of each stock option granted under the LTIP to
be $21.73 on the date of grant using a Black-Scholes option valuation model
that uses the assumptions noted below. We based expected volatility on a
50% weighting of peer volatilities and 50% weighting of implied volatility
of our common stock. We did not consider historical volatility of our
common stock price to be an appropriate measure of future volatility
because of the impact of our Chapter 11 proceedings on our historical stock
price. The risk-free rate was based on zero coupon U.S. government issues
at the time of grant. The expected term was developed using the simplified
method, as permitted by the SEC's Staff Accounting Bulletin No. 107.
The assumptions used in the valuation were as follows: expected volatility
35.5%, risk-free rate 4.55%, expected term (in years) 6.25, expected annual
forfeitures 2.5% and expected dividends 0.
RESTRICTED STOCK UNITS
We granted RSUs with respect to 140,755 shares of common stock under the
LTIP during the first quarter of 2007. The RSUs generally vest in four
equal installments beginning one year from the date of grant, except that
62,000 of the RSUs that were granted as special retention awards
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generally will vest 100% after five years. Generally, all RSUs may vest
earlier in the case of death, disability, retirement or a change in
control. Each RSU is settled in a share of our stock after the vesting
period. The fair value of each RSU granted is equal to the closing market
price of our common stock on the date of grant. Expense is generally
recognized, net of estimated forfeitures, using the straight-line method
over the vesting period of the award.
PERFORMANCE SHARES
We granted 87,160 performance shares under the LTIP during the first
quarter of 2007. The performance shares vest after a three-year period
based on our total stockholder return relative to the performance of the
Dow Jones U.S. Construction and Materials Index, with adjustments in
certain circumstances, for the three-year period. The number of performance
shares earned will vary from 0 to 200% of the number of performance shares
awarded depending on that relative performance. Each performance share
earned will be settled in a share of our common stock. Expense is
recognized, net of estimated forfeitures, over the vesting period of the
performance shares.
We estimated the fair value of each performance share granted under the
LTIP to be $45.17 on the date of grant using a Monte Carlo simulation that
uses the assumptions noted below. Expected volatility is based on implied
volatility of our common stock. The risk-free rate was based on zero coupon
U.S. government issues at the time of grant. The expected term represents
the period from the grant date to the end of the performance period.
The assumptions used in the valuation were as follows: expected volatility
30.7%, risk-free rate 4.55%, expected term (in years) 2.78, expected annual
forfeitures 2.5% and expected dividends 0.
(13) INCOME TAXES
Income tax expense was $18 million in the first quarter of 2007 and
included a $6.6 million favorable tax adjustment resulting from a
correction of the December 31, 2006 deferred tax balances. This correction
reduced the effective tax rate for the quarter to 30.2%. Without the
adjustment, the effective tax rate for the first quarter of 2007 would have
been 41.3%.
In the first quarter of 2007, we received a $1.057 billion federal tax
refund as a result of tax deductions generated by the payments made to the
asbestos trust in 2006 and the carryback of the resulting federal net
operating loss to the 10 preceding taxable years. Additionally, in the
first quarter of 2007, we received a $14 million federal tax refund
resulting from the overpayment of our 2005 federal income taxes. These
refunds reduced the $1.102 billion of income taxes receivable reported
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on our December 31, 2006 consolidated balance sheet.
We have net operating loss and tax credit carryforwards in varying amounts
in the U.S. and numerous U.S. state and foreign jurisdictions. As a result
of the federal income tax deduction for amounts paid to the asbestos trust
in 2006, we incurred a federal and state net operating loss, or NOL, in
2006. While most of the federal NOL was carried back and offset against the
federal taxable income we reported in the 10 preceding taxable years, $447
million of the NOL will be carried forward and offset against federal
taxable income arising in 2007 and later years. In addition, the carryback
of the 2006 federal NOL resulted in the carryforward of $80 million of
federal tax credits (primarily alternative minimum tax and foreign tax
credits) that can be offset against federal income tax in future years. The
federal NOL can be carried forward for 20 years; the alternative minimum
tax credits can be carried forward indefinitely; and the foreign tax
credits can be carried forward for 10 years from the date of origin. At the
state level, most of the 2006 state NOL will be carried forward since most
states do not allow the carryback of a NOL in any significant amount. The
2006 state NOL, as well as other NOL and tax credit carryforwards arising
in prior years in various state and foreign jurisdictions, will expire over
periods ranging from five to 20 years from the date of origin.
We have a valuation allowance for deferred tax assets relating to certain
foreign and U.S. state net operating loss and tax credit carryforwards due
to uncertainty regarding their ultimate realization. During the first
quarter of 2007, we increased our valuation allowance for deferred tax
assets by a total of $4 million due to a change in our judgment about the
realizability of the deferred tax asset relating to our U.S. state net
operating loss carryforwards in future years. Of the total valuation
allowance as of March 31, 2007, $65 million relates to U.S. state net
operating loss and tax credit carryforwards and $12 million relates to
foreign net operating loss and tax credit carryforwards.
In June 2006, the Financial Accounting Standards Board, or FASB, issued
Interpretation No. 48, "Accounting for Uncertainty in Income Taxes - an
Interpretation of Financial Accounting Standards Board Statement No. 109."
This interpretation clarifies the accounting and disclosures relating to
the uncertainty about whether a tax return position will ultimately be
sustained by the respective tax authorities. We adopted this interpretation
on January 1, 2007. As part of the adoption, we recorded an increase in our
liability for unrecognized tax benefits of $19 million, $18 million of
which was accounted for as an increase in long-term deferred taxes and $1
million of which reduced our January 1, 2007 balance of retained earnings.
As of the date of adoption, the total amount of our unrecognized tax
benefits was $55 million and the total amount of interest and penalties
recognized on our consolidated balance sheet was $7 million. We classify
interest expense and penalties related
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to unrecognized tax benefits and interest income on tax overpayments as
components of income tax expense. The total amount of unrecognized tax
benefits that, if recognized, would affect our effective tax rate is $36
million. It is reasonably possible that the amount of our unrecognized tax
benefits will change in the next 12 months; however, based on the
information available at this time, we do not expect any change to have a
significant impact on our results of operations, financial position or cash
flows.
Our U.S. income tax returns for 2004 and prior years have been audited by
the Internal Revenue Service, or the IRS. The U.S. federal statute of
limitations remains open for the year 2003 and later years, with years 2005
and 2006 currently under examination by the IRS. We are also under
examination currently in various U.S. state and foreign jurisdictions.
Foreign and U.S. state jurisdictions have statutes of limitations generally
ranging from 3 to 5 years.
(14) RESOLUTION OF USG'S REORGANIZATION PROCEEDINGS
In the second quarter of 2006, USG Corporation and 10 of its United States
subsidiaries, collectively referred to as the debtors, emerged from Chapter
11 reorganization proceedings as a result of a plan of reorganization that
was confirmed by the United States Bankruptcy Court for the District of
Delaware and the United States District Court for the District of Delaware.
Pursuant to the plan of reorganization, we resolved the present and future
asbestos personal injury liabilities of the debtors by creating and funding
a trust under Section 524(g) of the United States Bankruptcy Code. In 2006,
we made payments totaling $3.95 billion to the asbestos trust. We have no
further payment obligations to the trust.
The following subsidiaries were debtors in the Chapter 11 proceedings:
United States Gypsum Company, or U.S. Gypsum; USG Interiors, Inc.; USG
Interiors International, Inc.; L&W Supply; Beadex Manufacturing, LLC, or
Beadex; B-R Pipeline Company; La Mirada Products Co., Inc.; Stocking
Specialists, Inc.; USG Industries, Inc.; and USG Pipeline Company.
FINANCIAL STATEMENT PRESENTATION
During the time the debtors were operating under the protection of Chapter
11 of the United States Bankruptcy Code, our consolidated financial
statements were prepared in accordance with American Institute of Certified
Public Accountants Statement of Position 90-7.
The debtors' estimates of known or potential pre-petition claims and
related post-petition amounts to be resolved in connection with the Chapter
11 proceedings were reflected in the consolidated financial statements as
liabilities subject to compromise. As of June 30, 2006, these liabilities
were reclassified on the consolidated balance sheet.
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Interest expense for the first quarter of 2006 included charges for
post-petition interest and fees totaling $484 million ($300 million
after-tax) related to pre-petition obligations.
(15) LITIGATION
ASBESTOS LITIGATION
Asbestos Personal Injury Litigation: Our plan of reorganization confirmed
in 2006 resolved the debtors' liability for all present and future asbestos
personal injury and related claims. Pursuant to the plan, we created and
funded a trust under Section 524(g) of the Bankruptcy Code for the payment
of all of the present and future asbestos personal injury liabilities of
the debtors. The trust is administered by independent trustees appointed
under the plan. The trust will pay qualifying asbestos personal injury and
related claims against the debtors pursuant to trust distribution
procedures that are part of the confirmed plan. In 2006, we made payments
totaling $3.95 billion to the asbestos trust. We have no further payment
obligations to the trust.
Our plan of reorganization also contains a channeling injunction which
provides that all present and future asbestos personal injury claims
against the debtors must be brought against the trust and no one may bring
such a claim against the debtors. This channeling injunction applies to all
present and future asbestos personal injury claims for which any debtor is
alleged to be liable, including any asbestos personal injury claims against
U.S. Gypsum, L&W Supply or Beadex, as well as any asbestos personal injury
claims against the debtors relating to A.P. Green Refractories Co., which
was formerly one of our subsidiaries. Our plan of reorganization and this
channeling injunction do not apply to any of our non-U.S. subsidiaries, any
companies acquired after we filed the bankruptcy petitions on June 25,
2001, or any companies that we may acquire in the future.
Asbestos Property Damage Litigation: Asbestos property damage claims
against the debtors are not part of the asbestos trust or the channeling
injunction. Our plan of reorganization provided that all settled or
otherwise resolved asbestos property damage claims that were timely filed
in our reorganization proceedings will be paid in full. During our
reorganization proceedings, the court entered an order requiring that
asbestos property damage claims against the debtors be filed by January 15,
2003. In response to that deadline, approximately 1,400 asbestos property
damage claims were timely filed in the debtors' Chapter 11 proceedings and
an additional 70 claims were filed after the deadline. During our
reorganization proceedings, more than 950 claims were disallowed or
withdrawn, leaving approximately 520 claims pending.
In 2006, we reached agreements to settle all of the remaining asbestos
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property damage claims, with the exception of one small claim brought by a
homeowner. In 2006, we made total payments of approximately $99 million for
asbestos property damage settlements. Our estimate of the cost of asbestos
property damage settlements that have not been paid, and associated legal
fees, is approximately $48 million and is included in accrued expenses and
other liabilities.
ENVIRONMENTAL LITIGATION
We have been notified by state and federal environmental protection
agencies of possible involvement as one of numerous "potentially
responsible parties" in a number of so-called "Superfund" sites in the
United States. In most of these sites, our involvement is expected to be
minimal. We believe that appropriate reserves have been established for our
potential liability in connection with all Superfund sites, but we continue
to review our accruals as additional information becomes available. Our
reserves take into account all known or estimated undiscounted costs
associated with these sites, including site investigations and feasibility
costs, site cleanup and remediation, certain legal costs, and fines and
penalties, if any. In addition, environmental costs connected with other
site cleanups on property we own are covered by reserves we establish based
on these same considerations. We believe that none of these matters or any
other known governmental proceedings regarding environmental matters will
have a material adverse effect upon our financial position, cash flows or
results of operations.
(16) NEW ACCOUNTING PRONOUNCEMENTS
In September 2006, the FASB issued Statement of Financial Accounting
Standards, or SFAS, No. 157, "Fair Value Measurements." This statement
defines fair value in generally accepted accounting principles and expands
disclosures about fair value measurements that are required or permitted
under other accounting pronouncements. This statement is effective for
financial statements issued for fiscal years beginning after November 15,
2007 and interim periods within those fiscal years. We are currently
reviewing this pronouncement to determine the impact that it may have on
our financial statements.
In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities - Including an Amendment of FASB
Statement No. 115." This statement permits entities to choose to measure
many financial instruments and certain other items at fair value. This
statement is effective as of the beginning of the first fiscal year
beginning after November 15, 2007. We are currently reviewing this
pronouncement to determine the impact that it may have on our financial
statements.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
In the following Management's Discussion and Analysis of Results of Operations
and Financial Condition, "USG," "we," "our" and "us" refer to USG Corporation, a
Delaware corporation, and its subsidiaries included in the consolidated
financial statements, except as otherwise indicated or as the context otherwise
requires.
OVERVIEW
FINANCIAL INFORMATION
Net sales in the first quarter of 2007 were $1.259 billion, down 14% from the
first quarter of 2006. Operating profit of $95 million declined 63% from the
prior-year period. Net earnings for the first quarter of 2007 were $41 million,
or $0.45 per diluted share. We recorded a net loss of $141 million, or $2.44 per
share, in the first quarter of 2006 primarily as a result of an after-tax charge
of $300 million, or $5.19 per share, for post-petition interest and fees paid
under our Chapter 11 plan of reorganization.
During the first quarter of 2007, housing construction activity was
substantially below the strong levels experienced a year earlier, continuing a
trend that began in the middle of 2006. As we anticipated, this has led to lower
first quarter 2007 sales and earnings compared to last year.
Shipments of our SHEETROCK(R) brand gypsum wallboard in the first quarter of
2007 were down 26% from the first quarter of 2006. Capacity utilization rates
for our gypsum wallboard plants dropped to 75% for the first quarter of 2007
compared with 99% for the prior-year quarter. The decrease in demand caused U.S.
Gypsum's nationwide average realized selling price for SHEETROCK(R) brand gypsum
wallboard to fall to an average of $164.12 per thousand square feet for the
first quarter of 2007 compared with $181.75 in the fourth quarter of 2006.
Prices trended downward throughout the first quarter of 2007. That trend has
continued since quarter end, and prices remain under pressure. Profitability
also was adversely affected by higher manufacturing costs largely due to rising
prices for raw materials.
MARKET TRENDS AND OUTLOOK
Industry shipments of gypsum wallboard in the United States were an estimated
7.92 billion square feet in the first quarter of 2007, a 19% decrease from 9.75
billion square feet in the first quarter of 2006 and a 1% increase from the
fourth quarter of 2006.
So far this year, the housing market has not exhibited any meaningful signs of
recovery. The downturn in new residential construction is likely to continue
throughout 2007. We expect low single-digit growth in the residential repair and
remodel and non-residential markets this year, although the growth in these
segments will not be sufficient to significantly offset the effects of lower
demand for wallboard from the new residential construction market.
-20-
Overall, we expect industry demand for gypsum wallboard in 2007 to be down
approximately 10% from last year. Industry capacity utilization rates are
expected to be close to 80% for the year unless the industry closes
manufacturing capacity. At these levels of capacity utilization, we expect to
see continued pressure on wallboard selling prices.
We have responded to the lower level of demand for our products by balancing
wallboard production volumes and pricing in an effort to maximize profitability.
We have also made significant adjustments to our manufacturing capacity. We will
continue adjusting our operations as conditions warrant.
FEDERAL TAX REFUND
In the first quarter of 2007, we received a $1.057 billion federal tax refund as
a result of tax deductions generated by the payments made in 2006 to the
asbestos trust created pursuant to our confirmed plan of reorganization. This
refund, along with cash on hand, was used to repay the outstanding borrowing of
$1.065 billion under the tax bridge facility.
ACQUISITIONS
On March 30, 2007, L&W Supply which makes up the Building Products Distribution
operating segment, purchased the outstanding stock of California Wholesale
Material Supply, Inc. and related entities (referred to collectively as CALPLY)
for approximately $267 million. This amount includes debt repaid at closing and
acquisition-related expenses and is net of CALPLY's cash at closing. On March
28, 2007, USG Mexico, S.A. de C.V. purchased the assets of Grupo Supremo for
approximately $12 million. See Note 2 to the Consolidated Financial Statements
for additional information on these acquisitions.
EQUITY OFFERING
In March 2007, we completed a public offering of 9,063,373 shares of our common
stock at a price of $48.60 per share. The net proceeds of the offering, after
deducting underwriting discounts and commissions and offering expenses, were
approximately $422 million. We used the net proceeds of the equity offering to
pay for the CALPLY acquisition and for general corporate purposes.
STRATEGIC ACTIONS
We intend to continue to seek opportunities to grow our business and improve
operating results by:
- making selective acquisitions to grow our Building Products Distribution
business;
- making selective acquisitions and entering into joint ventures to grow our
non-U.S. businesses;
- continuing to invest in new, low-cost gypsum wallboard manufacturing
capacity to improve operating margins and maintain our commitment to
customer service and replacing higher-cost older capacity;
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- introducing new products and systems that complement our current product
lines and leverage our customer relationships; and
- reducing costs by improving production efficiencies and completing
information technology initiatives to enhance operations and customer
satisfaction, including a supply chain optimization project.
CONSOLIDATED RESULTS OF OPERATIONS
The following is a summary of our consolidated statement of operations (dollars
in millions):
Three Months ended March 31
---------------------------
% Increase
2007 2006 (Decrease)
----- ----- -----------
Net sales 1,259 1,465 (14)%
Cost of products sold 1,047 1,108 (6)%
Gross profit 212 357 (41)%
Selling and administrative expenses 117 99 18%
Chapter 11 reorganization expenses -- 2 --
Operating profit 95 256 (63)%
Interest expense 44 486 (91)%
Interest income (8) (3) 167%
Income tax expense (benefit) 18 (86) --
Net earnings (loss) 41 (141) --
Diluted earnings (loss) per share 0.45 (2.44) --
NET SALES
Net sales in the first quarter of 2007 declined 14% from the first quarter of
2006 primarily due to decreased demand for building products and lower selling
prices for gypsum wallboard. As explained below under Core Business Results of
Operations, net sales decreased for our North American Gypsum and Building
Products Distribution operating segments.
COST OF PRODUCTS SOLD
Cost of products sold decreased 6% primarily due to lower volume for most
product lines.
GROSS PROFIT
Gross profit decreased 41% primarily due to lower shipments and selling prices
and higher manufacturing costs for gypsum wallboard. The gross margin percentage
was 16.8% in the first quarter of 2007, down from 24.4% in the first quarter of
2006.
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SELLING AND ADMINISTRATIVE EXPENSES
Selling and administrative expenses increased 18% primarily due to increased
levels of compensation and benefits, costs associated with our move to a new
corporate office in March 2007 and funding for marketing and growth initiatives.
As a percent of net sales, selling and administrative expenses were 9.3% in the
first quarter of 2007, up from 6.8% in the comparable 2006 period.
CHAPTER 11 REORGANIZATION EXPENSES
In connection with our bankruptcy proceedings that concluded in 2006, we
recorded chapter 11 reorganization expenses of $2 million in the first quarter
of 2006.
INTEREST EXPENSE
Interest expense of $44 million in the first quarter of 2007 included a pretax
charge of $10 million ($6 million, or $0.07 per share, after-tax) to write off
deferred financing fees primarily due to the repayment of our tax bridge loan.
Interest expense of $486 million in the first quarter of 2006 included charges
totaling $484 million ($300 million after-tax) for post-petition interest and
fees related to pre-petition obligations.
INCOME TAX EXPENSE (BENEFIT)
Income tax expense was $18 million in the first quarter of 2007. An income tax
benefit of $86 million was recorded in the first quarter of 2006. The effective
tax rates were 30.2% and 37.8% for the respective periods. The difference in the
effective tax rates was primarily attributable to a lower projected effective
tax rate on operating earnings in 2007 and a tax expense of $4 million related
to post-petition interest on pre-petition tax obligations that was recorded in
the first quarter of 2006. In addition, first quarter 2007 results included a
$6.6 million favorable tax adjustment resulting from a correction of the
December 31, 2006 deferred tax balances. This correction reduced the effective
tax rate for the quarter to 30.2%. Without the adjustment, the effective tax
rate for the first quarter of 2007 would have been 41.3%.
NET EARNINGS (LOSS)
Net earnings were $41 million, or $0.45 per diluted share, for the first quarter
of 2007. A net loss of $141 million, or $2.44 per share, was recorded for the
first quarter of 2006. The loss for the 2006 period included the after-tax
charge of $300 million, or $5.19 per share, for post-petition interest and fees
related to pre-petition obligations.
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CORE BUSINESS RESULTS OF OPERATIONS
Operating
(dollars in millions) Net Sales Profit
--------------- -----------
Three Months ended March 31, 2007 2006 2007 2006
---------------------------- ------ ------ ---- ----
NORTH AMERICAN GYPSUM:
U.S. Gypsum Company $ 661 $ 834 $ 81 $189
CGC Inc. (gypsum) 77 86 6 12
USG Mexico, S.A. de C.V. 43 43 7 8
Other subsidiaries* 17 21 (1) 2
Eliminations (41) (53) -- --
------ ------ ---- ----
Total 757 931 93 211
------ ------ ---- ----
BUILDING PRODUCTS DISTRIBUTION:
L&W Supply Corporation 504 604 26 53
------ ------ ---- ----
WORLDWIDE CEILINGS:
USG Interiors, Inc. 125 127 8 14
USG International 69 54 4 3
CGC Inc. (ceilings) 15 16 2 3
Eliminations (12) (11) -- --
------ ------ ---- ----
Total 197 186 14 20
------ ------ ---- ----
Eliminations (199) (256) 1 2
Corporate -- -- (39) (28)
Chapter 11 reorganization expenses -- -- -- (2)
------ ------ ---- ----
Total USG Corporation 1,259 1,465 95 256
====== ====== ==== ====
* Includes Gypsum Transportation Limited, a shipping company in Bermuda, and
USG Canadian Mining Ltd., a mining operation in Nova Scotia.
NORTH AMERICAN GYPSUM
Net sales of $757 million in the first quarter of 2007 were down 19% from the
first quarter of 2006, while operating profit fell 56% to $93 million.
United States Gypsum Company: First quarter 2007 net sales for U.S. Gypsum
decreased $173 million, or 21%, compared with the first quarter of 2006, while
operating profit was down $108 million, or 57%. These declines largely reflected
lower demand for gypsum wallboard, lower gypsum wallboard selling prices and
higher manufacturing costs.
Shipments of SHEETROCK(R) brand gypsum wallboard totaled 2.19 billion square
feet during the first quarter of 2007, down 26% from 2.96 billion in the first
quarter of 2006. Wallboard plants operated at approximately 75% of capacity in
the first quarter of 2007 compared with 99% in the first quarter of 2006.
Industry shipments of gypsum wallboard were down approximately 19% from the
first quarter of 2006.
The decrease in demand caused U.S. Gypsum's nationwide average realized selling
price for SHEETROCK(R) brand gypsum wallboard to fall to an average of $164.12
per thousand square feet for the first quarter of 2007, a 4% drop compared to
the average price of $170.77 for first quarter 2006 and a 10%
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decrease from the average price of $181.75 for the fourth quarter of 2006.
Prices trended downward throughout the first quarter of 2007. That trend has
continued since quarter end, and prices remain under pressure. Throughout this
cycle, U.S. Gypsum intends to focus on maximizing profitability by balancing its
gypsum wallboard volume and selling prices.
During the first quarter of 2007, manufacturing costs for SHEETROCK(R) brand
gypsum wallboard were adversely affected by higher wastepaper and other raw
material costs and the unfavorable effects of lower production levels. Gypsum
wallboard unit costs were up 10% in the first quarter of 2007 compared with last
year's first quarter.
U.S. Gypsum's complementary product lines, SHEETROCK(R) brand joint compound,
DUROCK(R) brand cement board and FIBEROCK(R) brand gypsum fiber panels and
industrial gypsum products, reported improved pricing during the first quarter
of 2007 compared with the same period a year ago. Benefits from these results
were partially offset by higher manufacturing costs and lower shipments of
SHEETROCK(R) brand joint compound.
CGC Inc.: First quarter 2007 net sales for the gypsum business of Canada-based
CGC Inc. fell $9 million and operating profit was down $6 million compared with
the first quarter of 2006. The decline in net sales was largely due to lower
shipments of SHEETROCK(R) brand gypsum wallboard, particularly to the United
States. Operating profit also was adversely affected by higher wastepaper and
other raw material costs and the unfavorable effects of lower gypsum wallboard
production levels.
USG Mexico, S.A. de C.V.: Net sales in the first quarter of 2007 for our
Mexico-based subsidiary were unchanged from the comparable 2006 period, while
operating profit was down $1 million. The decline in operating profit was
largely due to higher raw materials costs. During the first quarter of 2007, USG
Mexico purchased the assets of Grupo Supremo, a construction plaster company
located in the central north region of Mexico. The acquisition will
significantly improve our construction plaster market share in Mexico.
BUILDING PRODUCTS DISTRIBUTION
L&W Supply reported net sales of $504 million and operating profit of $26
million in the first quarter of 2007. Compared with the first quarter of 2006,
net sales declined $100 million, or 17%, and operating profit was down $27
million. These declines primarily reflected a 24% decrease in shipments of
gypsum wallboard and a 6% decrease in sales of complementary building products,
such as drywall metal, joint compound and insulation.
L&W Supply operated 251 locations in the United States and Mexico as of March
31, 2007 compared with 210 locations only in the United States as of March 31,
2006. On a same-location basis, net sales in the first quarter of 2007 declined
20% versus the same period a year ago. L&W Supply's acquisition of CALPLY on
March 30, 2007 added 30 locations in seven Western states and Mexico. CALPLY's
operations did not have a material impact on L&W Supply's
-25-
first quarter 2007 results.
WORLDWIDE CEILINGS
Net sales in the first quarter of 2007 were $197 million, up $11 million from
the prior-year period primarily due to increased net sales for USG
International. However, operating profit fell to $14 million from $20 million a
year ago.
USG Interiors, Inc.: USG Interiors reported first quarter 2007 net sales of $125
million and operating profit of $8 million. These results compared with net
sales of $127 million and operating profit of $14 million in the first quarter
of 2006. The decline in net sales was primarily attributable to lower ceiling
tile shipments, especially to the retail channel, and product mix. The decline
in operating profit reflected the change in product mix and higher raw material
costs, particularly for steel used in the production of DONN(R) brand ceiling
grid. During the first quarter of 2007, we raised selling prices for ceiling
tile and grid, but this only recovered a portion of the higher costs.
USG International: Net sales increased by $15 million and operating profit rose
$1 million in the first quarter of 2007 compared with the first quarter of 2006.
These results primarily reflected improved performance in the European region
and the favorable effects of currency translation.
CGC Inc.: The ceilings business of CGC Inc. reported decreases of $1 million for
both net sales and operating profit in the first quarter of 2007 compared with
the first quarter of 2006.
LIQUIDITY AND CAPITAL RESOURCES
LIQUIDITY
As of March 31, 2007, we had $411 million of cash and cash equivalents compared
with $565 million of cash and cash equivalents as of December 31, 2006. We
believe that cash on hand, cash available from future operations and the other
sources of liquidity described below will provide sufficient liquidity to allow
our businesses to carry on normal operations. Normal-course cash requirements
include, among other things, capital expenditures, working capital needs and
contractual obligations. Additionally, from time to time we consider selective
strategic transactions to create value and improve performance, including
acquisitions, joint ventures, partnerships, restructurings and dispositions.
Transactions of these types may result in material cash expenditures or
proceeds.
We have a credit agreement with a syndicate of banks that includes:
- a $650 million revolving credit facility with a $250 million sublimit for
letters of credit. As of March 31, 2007, we had not drawn upon the
revolving credit facility except for approximately $86 million of
outstanding letters of credit; and
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- a term loan facility that was available to us in a single drawing of up to
$1.0 billion. In the fourth quarter of 2006, we borrowed $700 million under
this facility to fund a portion of our Chapter 11 reorganization
obligations. In the first quarter of 2007, we repaid $200 million of this
borrowing.
The credit agreement also included a tax bridge term loan facility that was
available to us in a single drawing of up to $1.15 billion. In the fourth
quarter of 2006, we borrowed $1.065 billion under this facility to fund a
portion of our Chapter 11 reorganization obligations. In the first quarter of
2007, we repaid the full amount using the $1.057 billion federal tax refund we
received and cash on hand. The tax bridge facility has now been terminated.
We plan to fund future growth projects from cash on hand, future cash available
from operations and, if determined to be appropriate, borrowings under our
revolving credit facility. We may from time to time consider other debt or
equity financing alternatives to supplement, or as an alternative to, financing
under the revolving credit facility.
CASH FLOWS
The following table presents a summary of our cash flows (dollars in millions):
Three Months
ended March 31
--------------
2007 2006
----- ----
Net cash provided by (used for):
Operating activities 1,073 63
Investing activities (384) 142
Financing activities (843) (58)
----- ---
Net (decrease) increase in cash and cash equivalents (154) 147
===== ===
Operating Activities: The variation between the 2007 and 2006 periods primarily
reflected our first quarter 2007 receipt of the federal tax refund of $1.057
billion.
Investing Activities: The variation between the 2007 and 2006 periods primarily
reflected increased spending in 2007 for acquisitions (up $205 million) and
capital projects (up $59 million) and a cash inflow of $284 million in the first
quarter of 2006 from the net sales of marketable securities.
Financing Activities: The variation between the 2007 and 2006 periods primarily
reflected our March 2007 repayments of the $1.065 billion borrowing under our
tax bridge facility and $200 million of borrowings under our term loan facility.
These repayments were partially offset by net proceeds of $422 million from our
March 2007 public equity offering.
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CAPITAL EXPENDITURES
Capital spending amounted to $111 million in the first quarter of 2007 compared
with $52 million in the corresponding 2006 period. As of March 31, 2007, capital
expenditure commitments for the replacement, modernization and expansion of
operations amounted to $620 million compared with $494 million as of December
31, 2006. We expect to fund our capital expenditures program with cash from
operations and, if determined to be appropriate, borrowings under our revolving
credit facility or other alternative financings. Capital projects commenced as
of March 31, 2007 include the following projects with the total estimated costs
indicated:
- approximately $130 million to replace existing capacity at U.S. Gypsum's
Norfolk, Virginia gypsum wallboard plant with a new low-cost wallboard line
designed to position the company for profitable growth in the mid-Atlantic
region. Construction on this project began in 2005 and is expected to be
completed in 2007;
- approximately $70 million for a new gypsum wallboard plant in Tecoman,
Colima, Mexico. This facility will serve Western Mexico and export gypsum
wallboard to Latin America. Construction of this plant began in 2006 and is
expected to be completed in 2007;
- approximately $180 million for a new low-cost gypsum wallboard plant in
Washingtonville, Pennsylvania that will serve the Northeastern United
States region. Construction of this plant began in late 2006 and is
expected to be completed in 2008;
- approximately $109 million for the acquisition of a paper mill in Otsego,
Michigan in 2006 and to subsequently convert it to manufacture
high-quality, low-cost paper for U.S. Gypsum's wallboard plants. The plant
is expected to begin production in 2008;
- approximately $75 million for a new 40,000-ton self-unloading ship intended
to lower the delivered cost of gypsum rock to East Coast wallboard plants.
The new ship is expected to become operational in 2008; and
- approximately $220 million for a new, low-cost gypsum wallboard plant in
Stockton, California that will serve Northern California. Construction of
this plant is scheduled to begin in 2008 and is expected to be completed in
2010.
WORKING CAPITAL
As of March 31, 2007, working capital (current assets less current liabilities)
amounted to $972 million, and the ratio of current assets to current liabilities
was 2.49-to-1. As of December 31, 2006, working capital amounted to $943
million, and the ratio of current assets to current liabilities was 1.53-to-1.
-28-
Receivables increased to $604 million as of March 31, 2007 from $448 million as
of December 31, 2006. During the same period, inventories increased to $380
million from $348 million, and accounts payable increased to $364 million from
$303 million. These increases were attributable in part to additional
receivables, inventories and payables from businesses acquired in the first
quarter. The higher level of receivables also reflected a 19% increase in net
sales for the month of March 2007 compared with December 2006. Accrued expenses
decreased to $280 million as of March 31, 2007 from $358 million as of December
31, 2006 largely due to the payment of employee incentive compensation in the
first quarter.
DEBT
Total debt amounted to $1.239 billion as of March 31, 2007 compared with $2.504
billion as of December 31, 2006. See Note 4 to the Consolidated Financial
Statements for additional information on our debt.
REALIZATION OF DEFERRED TAX ASSET
Our consolidated balance sheet as of March 31, 2007 includes a gross deferred
tax asset of $404 million relating to the U.S. federal and state income tax
benefits expected to be realized in future periods with respect to various
federal and state net operating loss and tax credit carryforwards arising in
2006 and prior years as a result of the amounts paid to the asbestos trust in
2006. We have concluded, based on the weight of available evidence, that all but
$55 million of these tax benefits are more likely than not to be realized in the
future. This amount represents an increase of $4 million from the valuation
allowance of $51 million previously recorded with respect to these tax benefits
as of December 31, 2006.
In arriving at this conclusion, we considered both future reversals of existing
taxable temporary differences and projections of future taxable income. As a
result of federal taxable income projected to be realized in future years, we
expect to utilize the $207 million of federal income tax benefits relating to
our federal net operating loss and tax credit carryforwards in full. If certain
specified changes in our ownership should occur, there could be an annual
limitation on the amount of the carryforwards that can be utilized; however,
based on our current equity value, we do not believe that this limitation (if it
occurs) would impair our ability to fully utilize these carryforwards. As a
result, it is more likely than not that we will realize the federal deferred tax
asset relating to these carryforwards.
In contrast to the results under the federal Internal Revenue Code, most U.S.
states do not allow the carryback of a net operating loss in any significant
amount. As a result, most of the state tax benefits resulting from the amounts
paid to the asbestos trust in 2006 will be realized through a reduction of
future state income tax liabilities by offsetting the net operating losses
resulting from our payments to the asbestos trust against future state taxable
income. Based on projections of future taxable income (consistent with
historical results and anticipated future trends) in the U.S. states in which
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we conduct business operations and the loss carryforward periods allowed by
current state laws (generally five to 20 years), we have concluded that all but
$55 million of the $197 million of state income tax benefits relating to our
state net operating loss carryforwards is more likely than not to be realized.
LEGAL CONTINGENCIES
USG and certain of its subsidiaries have been notified by state and federal
environmental protection agencies of possible involvement as one of numerous
"potentially responsible parties" in a number of so-called "Superfund" sites in
the United States. We believe that neither these matters nor any other known
governmental proceeding regarding environmental matters will have a material
adverse effect upon our financial position, cash flows or results of operations.
See Note 15 to the Consolidated Financial Statements for additional information
on environmental litigation and for information concerning asbestos and related
bankruptcy litigation.
CRITICAL ACCOUNTING POLICIES
The preparation of our financial statements requires us to make estimates,
judgments and assumptions that affect the reported amounts of assets,
liabilities, revenues and expenses during the periods presented. USG's Annual
Report on Form 10-K for the fiscal year ended December 31, 2006, which we filed
on February 16, 2007, includes a summary of the critical accounting policies we
believe are the most important to aid in understanding our financial results.
There have been no material changes to these critical accounting policies that
impacted our reported amounts of assets, liabilities, revenues or expenses
during the first three months of 2007.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2006, the Financial Accounting Standards Board, or FASB, issued
Interpretation No. 48, "Accounting for Uncertainty in Income Taxes - an
Interpretation of Financial Accounting Standards Board Statement No. 109." This
interpretation clarifies the accounting and disclosures relating to the
uncertainty about whether a tax return position will ultimately be sustained by
the respective tax authorities. We adopted this interpretation on January 1,
2007. As part of the adoption, we recorded an increase in our liability for
unrecognized tax benefits of $19 million, $18 million of which was accounted for
as an increase in long-term deferred taxes and $1 million of which reduced our
January 1, 2007 balance of retained earnings. As of the date of adoption, the
total amount of our unrecognized tax benefits was $55 million and the total
amount of interest and penalties recognized on our consolidated balance sheet
was $7 million. We classify interest expense and penalties related to
unrecognized tax benefits and interest income on tax overpayments as components
of income tax expense. The total amount of unrecognized tax benefits that, if
recognized, would affect our effective tax rate is $36 million. It is reasonably
possible that the amount of our unrecognized tax benefits will change in the
next 12 months; however, based on the information available at this time, we do
not expect any change to have a significant impact on our results of operations,
financial position or cash flows.
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In September 2006, the Financial Accounting Standards Board, or FASB, issued
Statement of Financial Accounting Standards, or SFAS, No. 157, "Fair Value
Measurements." This statement defines fair value in generally accepted
accounting principles and expands disclosures about fair value measurements that
are required or permitted under other accounting pronouncements. This statement
is effective for financial statements issued for fiscal years beginning after
November 15, 2007 and interim periods within those fiscal years. We are
currently reviewing this pronouncement to determine the impact that it may have
on our financial statements.
In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities - Including an Amendment of FASB
Statement No. 115." This statement permits entities to choose to measure many
financial instruments and certain other items at fair value. This statement is
effective as of the beginning of the first fiscal year beginning after November
15, 2007. We are currently reviewing this pronouncement to determine the impact
that it may have on our financial statements.
FORWARD-LOOKING STATEMENTS
This report contains forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995 related to management's
expectations about future conditions. Actual business, market or other
conditions may differ from management's expectations and accordingly may affect
our sales and profitability or other results and liquidity. Actual results may
differ due to various other factors, including:
- economic conditions, such as the levels of new home and other construction
activity, employment levels, mortgage interest rates, housing
affordability, currency exchange rates and consumer confidence;
- competitive conditions, such as price and product competition;
- shortages in raw materials;
- increases in raw material, energy, transportation and employee benefit
costs;
- the loss of one or more major customers;
- capacity utilization rates;
- capital markets conditions and the availability of borrowings under our
credit agreement;
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- the results of a review by the Congressional Joint Committee on Taxation
relating to the tax refund we received related to the payments we made to
the asbestos trust;
- our success in integrating acquired businesses;
- changes in laws or regulations, including environmental and safety
regulations;
- the effects of acts of terrorism or war upon domestic and international
economies and financial markets; and
- acts of God.
We assume no obligation to update any forward-looking information contained in
this report.
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ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of disclosure controls and procedures.
Our Chief Executive Officer and Chief Financial Officer, after evaluating the
effectiveness of our "disclosure controls and procedures" (as defined in Rule
13a-15(e) promulgated under the Securities Exchange Act of 1934, or the Act),
have concluded that, as of the end of the quarter covered by this report, our
disclosure controls and procedures were effective to provide reasonable
assurance that information required to be disclosed by us in the reports that we
file or submit under the Act is recorded, processed, summarized and reported
within the time periods specified in the Securities and Exchange Commission's
rules and forms. Disclosure controls and procedures include, without limitation,
controls and procedures designed to ensure that information required to be
disclosed by an issuer in the reports that it files or submits under the Act is
accumulated and communicated to the issuer's management, including its principal
executive officer or officers and principal financial officer or officers, or
persons performing similar functions, as appropriate to allow timely decisions
regarding required disclosure.
(b) Changes in internal control over financial reporting.
On October 1, 2005, we began to roll out a new supply chain management system in
the United States and Canada. The rollout is being undertaken in phases and is
currently planned to be substantially completed in 2007. Management expects that
the new system will enhance operational efficiencies and help us better serve
our customers. The changes related to the new system represented the only change
in our "internal control over financial reporting" (as defined in Rule 13a-15(f)
promulgated under the Act) identified in connection with the evaluation required
by Rule 13a-15(d) promulgated under the Act that occurred during the fiscal
quarter ended March 31, 2007 that has materially affected, or is reasonably
likely to materially affect, our internal control over financial reporting.
We anticipate that we will continue to have future investments in many of our
technology systems and will continue to review the impact of any future changes
to our internal controls over financial reporting as the new systems are
implemented.
CALPLY has accounting processes and internal controls different from those at
USG. We do not consider the acquisition of CALPLY to materially affect our
internal control over financial reporting and we do not expect to extend our
Sarbanes-Oxley Section 404 attestation to include CALPLY until 2008.
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholders and Board of Directors of USG Corporation:
We have reviewed the accompanying consolidated balance sheet of USG Corporation
and subsidiaries (the "Corporation") as of March 31, 2007, and the related
consolidated statements of operations and cash flows for the three-month periods
ended March 31, 2007 and 2006. These interim financial statements are the
responsibility of the Corporation's management.
We conducted our review in accordance with the standards of the Public Company
Accounting Oversight Board (United States). A review of interim financial
information consists principally of applying analytical procedures and making
inquiries of persons responsible for financial and accounting matters. It is
substantially less in scope than an audit conducted in accordance with the
standards of the Public Company Accounting Oversight Board (United States), the
objective of which is the expression of an opinion regarding the financial
statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to such consolidated interim financial statements for them to be in
conformity with accounting principles generally accepted in the United States of
America.
As discussed in Note 13, the Corporation adopted Financial Accounting Standards
Board Interpretation No. 48, "Accounting for Uncertainty in Income Taxes - an
Interpretation of Financial Accounting Standards Board Statement No. 109"
effective January 1, 2007.
We have previously audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the consolidated balance
sheet of USG Corporation and subsidiaries as of December 31, 2006, and the
related consolidated statements of operations, stockholders' equity, and cash
flows for the year then ended December 31, 2006 (not presented herein); and in
our report dated February 13, 2007, we expressed an unqualified opinion (which
included an explanatory paragraph concerning a change in the method of
accounting due to the Corporation's adoption of Financial Accounting Standards
Board Interpretation No. 47, "Accounting for Conditional Asset Retirements" in
2005, Financial Accounting Standards No. 123(R), "Share-Based Payment", and
Financial Accounting Standards No. 158, "Employers' Accounting for Defined
Benefit Pension and Other Postretirement Plans" in 2006) on those consolidated
financial statements. In our opinion, the information set forth in the
accompanying consolidated balance sheet as of December 31, 2006 is fairly
stated, in all material respects, in relation to the consolidated balance sheet
from which it has been derived.
/s/ DELOITTE & TOUCHE LLP
Chicago, Illinois
April 25, 2007
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See Part I, Item 1, Note 15, Litigation, for information concerning asbestos and
related bankruptcy litigation and environmental litigation.
ITEM 6. EXHIBITS
10.1 Equity Purchase Agreement dated as of February 25, 2007, among L&W
Supply Corporation, Joseph George Zucchero, JCSG Holdings Corporation,
the Joseph Zucchero Family Trust dated September 12, 1998 and the
entities listed on Exhibit A-1 thereto (incorporated by reference to
Exhibit 10.1 to Registrant's Current Report on Form 8-K filed February
27, 2007)
10.2 Form of Nonqualified Stock Option Agreement (incorporated by reference
to Exhibit 10.1 to Registrant's Current Report on Form 8-K filed March
28, 2007 (the "March 8-K"))
10.3 Form of Restricted Stock Units Agreement (Annual Grant) (incorporated by
reference to Exhibit 10.2 to the March 8-K)
10.4 Form of Restricted Stock Units Agreement (Retention Grant) (incorporated
by reference to Exhibit 10.3 to the March 8-K)
10.5 Form of Performance Shares Agreement (incorporated by reference to
Exhibit 10.4 to the March 8-K)
10.6 USG Corporation 2007 Annual Management Incentive Program (Revised)
10.7 Annual Base Salaries of Named Executive Officers (Effective March 1,
2007)
10.8 Amendment No.2 to the USG Corporation Stock Compensation Program for
Non-Employee Directors
10.9 USG Corporation Non-Employee Director Compensation Program (Effective
July 1, 2007)
10.10 USG Corporation Deferred Compensation Program for Non-Employee Directors
(Effective as of January 1, 2008)
15. Letter from Deloitte & Touche LLP regarding unaudited financial
information
31.1 Rule 13a-14(a) Certifications of USG Corporation's Chief Executive
Officer
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31.2 Rule 13a-14(a) Certifications of USG Corporation's Chief Financial
Officer
32.1 Section 1350 Certifications of USG Corporation's Chief Executive Officer
32.2 Section 1350 Certifications of USG Corporation's Chief Financial Officer
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
USG CORPORATION
By /s/ William C. Foote
-------------------------------------
William C. Foote,
Chairman and Chief Executive Officer
By /s/ Richard H. Fleming
-------------------------------------
Richard H. Fleming,
Executive Vice President and
Chief Financial Officer
By /s/ D. Rick Lowes
-------------------------------------
D. Rick Lowes,
Vice President and Controller
April 30, 2007
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