| • FORM 10-Q • COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES • RULE 13A-14(A) CERTIFICATION • RULE 13A-14(A) CERTIFICATION • SECTION 1350 CERTIFICATION • SECTION 1350 CERTIFICATION • XBRL INSTANCE DOCUMENT • XBRL TAXONOMY EXTENSION SCHEMA • XBRL TAXONOMY EXTENSION CALCULATION LINKBASE • XBRL TAXONOMY EXTENSION DEFINITION LINKBASE • XBRL TAXONOMY EXTENSION LABEL LINKBASE • XBRL TAXONOMY EXTENSION PRESENTATION LINKBASE | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Table of ContentsUNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q
For the quarterly period ended September 30, 2012 OR
For the transition period from to PRAXAIR, INC. (Exact name of registrant as specified in its charter) DELAWARE (State or other jurisdiction of incorporation)
(203) 837-2000 (Registrant’s telephone number, including area code) N/A (Former name, former address and former fiscal year, if changed since last report) 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 has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x At September 30, 2012, 297,126,439 shares of common stock ($0.01 par value) of the Registrant were outstanding.
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Table of ContentsPRAXAIR, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Millions of dollars, except per share data) (UNAUDITED)
The accompanying notes are an integral part of these financial statements.
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Table of ContentsPRAXAIR, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Millions of dollars, except per share data) (UNAUDITED)
The accompanying notes are an integral part of these financial statements.
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Table of ContentsPRAXAIR, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Millions of dollars) (UNAUDITED)
The accompanying notes are an integral part of these financial statements.
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Table of ContentsPRAXAIR, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (Dollar amounts in millions) (UNAUDITED)
The accompanying notes are an integral part of these financial statements.
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Table of ContentsPRAXAIR, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Millions of dollars) (UNAUDITED)
The accompanying notes are an integral part of these financial statements.
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Table of ContentsINDEX TO NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Notes to Condensed Consolidated Financial Statements - Praxair, Inc. and Subsidiaries (Unaudited)
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Table of ContentsPRAXAIR, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. Summary of Significant Accounting Policies Presentation of Condensed Consolidated Financial Statements - In the opinion of Praxair, Inc. (Praxair) management, the accompanying condensed consolidated financial statements include all adjustments necessary for a fair presentation of the results for the interim periods presented and such adjustments are of a normal recurring nature. The accompanying condensed consolidated financial statements should be read in conjunction with the notes to the consolidated financial statements of Praxair, Inc. and subsidiaries in Praxair’s 2011 Annual Report on Form 10-K. There have been no material changes to the company’s significant accounting policies during 2012. Accounting Standards Implemented in 2012 The following standards were effective for Praxair in 2012 and their adoption did not have a significant impact on the condensed consolidated financial statements:
Accounting Standards to be Implemented
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Table of Contents2. Cost Reduction Program and Other Charges - Net The quarter and nine months ended September 30, 2012 include the following items which are recorded in the condensed consolidated financial statements:
Cost Reduction Program In the third quarter of 2012, Praxair recorded pre-tax charges totaling $56 million ($38 million after-tax and noncontrolling interest), relating to severance and business restructuring actions primarily in Europe within the industrial gases and surface technologies businesses. The cost reduction program was initiated primarily in response to the continuing economic downturn in Europe. The following is a summary of the charges by reportable segment:
The severance costs of $43 million are for the termination of approximately 410 employees, primarily in Europe (industrial gases and surface technologies) of which approximately 65 have been terminated as of September 30, 2012. The remaining employees are expected to be terminated in the next twelve months. These actions reflect the continued business slow-down in Europe and result from a decision to eliminate and/or restructure operations and product lines. The costs associated with exit or disposal activities of $13 million include asset write-downs and other costs associated with a decision to eliminate and/or restructure operations and product lines. In Europe the costs primarily relate to the elimination and consolidation of operations in Spain. In Surface Technologies, the costs relate to the consolidation/rationalization of operations and product lines, primarily in Germany and Italy. The following table summarizes the activities related to the third quarter 2012:
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Table of ContentsPension Settlement Charge During 2011, a number of senior managers retired. These retirees are covered by the U.S. supplemental pension plan which provides for a lump sum benefit payment option. Under certain circumstances, such lump sum payments must be accounted for as a settlement of the related pension obligation, but only when paid. Accordingly, Praxair recorded a settlement charge related to net unrecognized actuarial losses of $9 million ($6 million after-tax) in July 2012 when cash payments were made. Income Tax Benefit In 2011 Praxair requested a pre-filing agreement (“PFA”) with the U.S. Internal Revenue Service (“IRS”) related to a loss on a liquidated subsidiary resulting from the divestiture of the U.S. Homecare Business. During the third quarter of 2012, the IRS approved the PFA resulting in a net income tax benefit of $55 million. Classification in the consolidated financial statements The $65 million of operating loss from the cost reduction program and pension settlement is shown as a separate line item on the consolidated statements of income. The $74 million tax benefit resulting from the pre-filing agreement, cost reduction program and pension settlement charge is reflected in income taxes. In the balance sheets, asset write-offs are recorded as a reduction to the carrying value of the related assets and unpaid amounts are recorded as short-term liabilities. As of September 30, 2012, there is a short-term liability of $44 million which is anticipated to be paid during the next 12-month period. On the consolidated statement of cash flows, the pre-tax loss from the cost reduction program, net of cash payments, is shown as an adjustment to reconcile net income to net cash provided by operating activities. In Note 12, Praxair excluded these items in its management definition of segment operating profit; a reconciliation of segments operating profit to consolidated operating profit is shown within the operating profit table. Inventories The following is a summary of Praxair’s consolidated inventories:
Long-term receivables Long-term receivables are not material and are largely reserved. Such long-term receivables are included within other long-term assets in the condensed consolidated balance sheets and totaled $47 million and $53 million at September 30, 2012 and December 31, 2011, respectively, net of reserves of $44 million and $64 million, respectively. The amounts in both periods relate primarily to government receivables in Brazil and other long-term notes receivable from customers. Collectability is reviewed regularly and uncollectible amounts are written-off as appropriate. The reduction in the balances during 2012 was due primarily to the collection of a portion of the government receivables, foreign currency movements and the write-off of a long-term note receivable which was fully reserved.
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Table of ContentsThe following is a summary of Praxair’s outstanding debt at September 30, 2012 and December 31, 2011:
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Table of ContentsIn its normal operations, Praxair is exposed to market risks relating to fluctuations in interest rates, foreign currency exchange rates, energy costs and to a lesser extent precious metal prices. The objective of financial risk management at Praxair is to minimize the negative impact of such fluctuations on the company’s earnings and cash flows. To manage these risks, among other strategies, Praxair routinely enters into various derivative financial instruments (“derivatives”) including interest-rate swap and treasury rate lock agreements, currency-swap agreements, forward contracts, currency options, and commodity-swap agreements. These instruments are not entered into for trading purposes and Praxair only uses commonly traded and non-leveraged instruments. There are two types of derivatives that the company enters into: (i) those relating to fair-value exposures, and (ii) those relating to cash-flow exposures. Fair-value exposures relate to recognized assets or liabilities, and firm commitments; while cash-flow exposures relate to the variability of future cash flows associated with recognized assets or liabilities, or forecasted transactions. When a derivative is executed and hedge accounting is appropriate, it is designated as either a fair-value hedge or a cash-flow hedge. Currently, Praxair designates all interest-rate and treasury-rate locks as hedges for accounting purposes; however, currency contracts are generally not designated as hedges for accounting purposes unless they are related to forecasted transactions. Whether designated as hedges for accounting purposes or not, all derivatives are linked to an appropriate underlying exposure. On an ongoing basis, the company assesses the hedge effectiveness of all derivatives designated as hedges for accounting purposes to determine if they continue to be highly effective in offsetting changes in fair values or cash flows of the underlying hedged items. If it is determined that the hedge is not highly effective, then hedge accounting will be discontinued prospectively. Counterparties to Praxair’s derivatives are major banking institutions with credit ratings of investment grade or better and no collateral is required, and there are no significant risk concentrations. Management believes the risk of incurring losses on derivative contracts related to credit risk is remote and any losses would be immaterial. The following table is a summary of the notional amount and fair value of derivatives outstanding at September 30, 2012 and December 31, 2011:
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Table of ContentsCurrency Contracts Balance Sheet Items Foreign currency contracts related to balance sheet items consist of forward contracts entered into to manage the exposure to fluctuations in foreign-currency exchange rates on recorded balance sheet assets and liabilities denominated in currencies other than the functional currency of the related operating unit. The fair value adjustments on these contracts are offset by the fair value adjustments recorded on the hedged assets and liabilities. Anticipated Net Income Historically Praxair has entered into anticipated net income hedge contracts consisting of foreign currency options and forwards related primarily to anticipated net income in Brazil, Europe and Canada. Although there were no anticipated net income hedges outstanding as of September 30, 2012 and December 31, 2011, such derivatives were outstanding during the nine month periods ended September 30, 2012 and 2011. Over the term of the contracts, the fair value adjustments from net-income hedging contracts are largely offset by the impacts on reported net income resulting from currency translation. The accounting rules pertaining to derivatives and hedging do not allow hedges of anticipated net income to be designated as hedging instruments. Forecasted Purchases Foreign currency contracts related to forecasted purchases consist of forward contracts entered into to manage the exposure to fluctuations in foreign-currency exchange rates on forecasted purchases of capital-related equipment and services denominated in currencies other than the functional currency of the related operating units. These forward contracts were designated and accounted for as cash flow hedges. Interest Rate Contracts Outstanding Interest Rate Swaps At September 30, 2012, Praxair had an interest-rate swap agreement outstanding related to the $400 million 3.25% fixed-rate notes that mature in 2015 which effectively convert fixed-rate interest to variable-rate interest. This swap agreement was designated as a fair value hedge with the resulting fair value adjustments recognized in earnings along with an equally offsetting charge / benefit to earnings for the changes in the fair value of the underlying debt instrument. At September 30, 2012, $32 million was recognized as an increase in the fair value of this note ($35 million at December 31, 2011).
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Table of ContentsTerminated Interest Rate Swaps The following table summarizes information related to terminated interest rate swap contracts:
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Table of ContentsTerminated Treasury Rate Locks The following table summarizes the unrecognized gains (losses) related to terminated treasury rate lock contracts:
The following table summarizes the impacts of the company’s derivatives on the condensed consolidated statements of income and AOCI:
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Table of ContentsThe fair value hierarchy prioritizes the input to valuation techniques used to measure fair value into three broad levels as follows: Level 1 – quoted prices in active markets for identical assets or liabilities Level 2 – quoted prices for similar assets and liabilities in active markets or inputs that are observable Level 3 – inputs that are unobservable (for example cash flow modeling inputs based on assumptions) Assets and Liabilities Measured at Fair Value on a Recurring Basis The following table summarizes assets and liabilities measured at fair value on a recurring basis:
The fair values of the derivative assets and liabilities are based on market prices obtained from independent brokers or determined using quantitative models that use as their basis readily observable market parameters that are actively quoted and can be validated through external sources, including third-party pricing services, brokers and market transactions. The fair values of cash and cash equivalents, short-term debt, accounts receivable-net, and accounts payable approximate carrying amounts because of the short maturities of these instruments. The fair value of long-term debt is estimated based on the quoted market prices for similar issues, which is deemed a level 2 measurement. At September 30, 2012, the estimated fair value of Praxair’s long-term debt portfolio was $7,019 million versus a carrying value of $6,549 million. At December 31, 2011, the estimated fair value of Praxair’s long-term debt portfolio was $6,692 million versus a carrying value of $6,225 million. Differences from carrying amounts are attributable to interest-rate changes subsequent to when the debt was issued. Assets measured at Fair Value on a Non-Recurring Basis Certain assets are valued at fair value on a non-recurring basis. During the first quarter 2012, the company reduced the value of certain assets in Brazil, Colombia and Chile to estimated fair value which resulted in a $21 million pre-tax charge to other income (expense) – net in the South America segment.
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Table of Contents7. Earnings Per Share – Praxair, Inc. Shareholders Basic earnings per share is computed by dividing Net Income – Praxair, Inc. for the period by the weighted average number of Praxair common shares outstanding. Diluted earnings per share is computed by dividing Net income – Praxair, Inc. for the period by the weighted average number of Praxair common shares outstanding and dilutive common stock equivalents, as follows:
Stock options of 1,601,765 and 1,594,165 were antidilutive and therefore excluded in the computation of diluted earnings per share for the quarter and nine months ended September 30, 2012. There were no antidilutive shares for the quarter and nine months ended September 30, 2011. 8. Goodwill and Other Intangible Assets Changes in the carrying amount of goodwill for the nine months ended September 30, 2012 were as follows:
Praxair has performed its goodwill impairment tests annually during the second quarter of each year, and historically has determined that the fair value of each of its reporting units was substantially in excess of its carrying value. For the 2012 test completed during the second quarter, Praxair applied the FASB’s updated accounting guidance (refer to Note 1) which allows the Company to first assess qualitative factors to determine the extent of additional quantitative analysis, if any, that may be required to test goodwill for impairment. Based on the qualitative assessments performed, Praxair concluded that it was more likely than not that the fair value of each reporting unit substantially exceeded its carrying value and therefore, further quantitative analysis was not required. As a result, no impairment was recorded. There were no indicators of impairment through September 30, 2012.
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Table of ContentsChanges in the carrying amounts of other intangibles for the nine months ended September 30, 2012 were as follows:
There are no expected residual values related to these intangible assets. The remaining weighted-average amortization period for intangible assets is approximately 12 years. Total estimated annual amortization expense is as follows:
Share-based compensation of $17 million ($12 million after-tax) and $16 million ($11 million after-tax) was recognized during the quarters ended September 30, 2012 and 2011, respectively. Share-based compensation of $52 million ($36 million after-tax) and $46 million ($32 million after-tax) was recognized for the nine months ended September 30, 2012 and 2011, respectively. The expense was recorded primarily in selling, general and administrative expenses. There was no share-based compensation cost that was capitalized. For further details regarding Praxair’s share-based compensation arrangements and prior year grants, refer to Note 15 to the consolidated financial statements of Praxair’s 2011 Annual Report on Form 10-K. Stock Options The weighted-average fair value of options granted during nine months ended September 30, 2012 was $17.43 ($17.70 in 2011) based on the Black-Scholes Options-Pricing model. The decrease in grant date fair value year-over-year is attributable to the impact of lower interest rates partially offset by increases in Praxair’s stock price.
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Table of ContentsThe following weighted-average assumptions were used for grants in 2012 and 2011 :
The following table summarizes option activity under the plans as of September 30, 2012 and changes during the nine months period then ended (averages are calculated on a weighted basis; life in years; intrinsic value expressed in millions):
The aggregate intrinsic value represents the difference between the company’s closing stock price of $103.88 as of September 30, 2012 and the exercise price multiplied by the number of options outstanding as of that date. The total intrinsic value of stock options exercised during the quarter and nine months ended September 30, 2012 was $15 million and $129 million, respectively ($18 million and $165 million during the same time periods in 2011, respectively). Cash received from option exercises under all share-based payment arrangements for the quarter and nine months ended September 30, 2012 was $15 million and $113 million ($18 million and $152 million for the same time periods in 2011, respectively). The cash tax benefit realized from share-based compensation totaled $7 million and $68 million for the quarter and nine months ended September 30, 2012, of which $50 million in excess tax benefits was classified as financing cash flows for the nine months ended September 30, 2012 ($5 million and $57 million tax benefit for the same periods 2011 of which $47 million represented excess tax benefit for the nine months ended September 30, 2011). As of September 30, 2012, $32 million of unrecognized compensation cost related to non-vested stock options is expected to be recognized over a weighted-average period of approximately 1 year. Performance-Based and Restricted Stock Awards During the nine months ended September 30, 2012, the company granted performance-based stock units to employees which vest on the third anniversary of their grant date. The actual number of shares issued in settlement of a vested award can range from zero to 150 percent of the target number of shares granted based upon the company’s attainment of specified performance targets at the end of a three-year period. Compensation expense related to these awards is recognized over the three-year performance period based on the fair value of the closing market price of the company’s common stock on the date of the grant and the estimated performance that will be achieved. Compensation expense will be adjusted during the three-year performance period based upon the estimated performance levels that will be achieved.
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Table of ContentsDuring the nine months ended September 30, 2012, the company also granted restricted stock units to employees. The majority of the restricted stock units vest at the end of or ratably over a three-year service period. Compensation expense related to the restricted stock units is recognized on a straight-line basis over the vesting period. The weighted-average fair value of performance-based stock and restricted stock units granted during the nine months ended September 30, 2012 was $103.13 and $103.81, respectively ($92.06 and $92.34 for the same period in 2011). This is based on the closing market price of Praxair’s common stock on the grant date adjusted for dividends that will not be paid during the vesting period. The following table summarizes non-vested performance-based and restricted stock award activity as of September 30, 2012 and changes during the nine months then ended (shares based on target amounts, averages are calculated on a weighted basis):
As of September 30, 2012, based on current estimates of future performance, $36 million of unrecognized compensation cost related to performance-based awards is expected to be recognized through the first quarter of 2015 and $16 million of unrecognized compensation cost related to the restricted stock awards is expected to be recognized primarily through the second quarter of 2017. The components of net pension and postretirement benefits other than pensions (“OPEB”) costs for the quarters and nine-months ended September 30, 2012 and 2011 are shown below:
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Table of ContentsPraxair estimates that 2012 contributions to its pension plans will be in the area of $120 million, of which $112 million have been made through September 30, 2012. 11. Commitments and Contingencies Praxair is subject to various lawsuits and government investigations that arise from time to time in the ordinary course of business. These actions are based upon alleged environmental, tax, antitrust and personal injury claims, among others. Praxair has strong defenses in these cases and intends to defend itself vigorously. It is possible that the company may incur losses in connection with some of these actions in excess of accrued liabilities. Management does not anticipate that in the aggregate such losses would have a material adverse effect on the company’s consolidated financial position or liquidity; however, it is possible that the final outcomes could have a significant impact on the company’s reported results of operations in any given period (see Note 17 to the consolidated financial statements of Praxair’s 2011 Annual Report on Form 10-K). Among such matters are:
During May 2009, the Brazilian government published Law 11941/2009 instituting a new voluntary amnesty program (“Refis Program”) which allowed Brazilian companies to settle certain federal tax disputes at reduced amounts. During the 2009 third quarter, Praxair decided that it was economically beneficial to settle many of its outstanding federal tax disputes and these disputes were enrolled in the Refis Program and settled (see Note 2 of Praxair’s 2011 Annual Report on Form 10-K). The final settlement related to the Refis Program is subject to final calculation and review by the Brazilian federal government and, although the timing is very difficult to estimate, it is possible that this review could be concluded during the next year. Any differences from amounts recorded will be adjusted to income at that time. After enrollment in the amnesty programs, at September 30, 2012 the most significant remaining claims relate to state VAT tax matters associated with procedural issues and a federal income tax matter where the taxing authorities are challenging the tax rate that should be applied to income generated by a subsidiary company. The total estimated exposure relating to such claims, including interest and penalties, as appropriate, is approximately $195 million. Praxair has not recorded any liabilities related to such claims based on management judgments, after considering judgments and opinions of outside counsel. Because litigation in Brazil historically takes many years to resolve, it is very difficult to estimate the timing of resolution of these matters; however, it is possible that certain of these matters may be resolved within the near term. The company is vigorously defending against the proceedings.
On October 19, 2010, White Martins filed an annulment petition (“appeal”) with the Federal Court in Brasilia seeking to have the fine against White Martins entirely overturned. In order to suspend payment of the fine pending the completion of the appeal process, Brazilian law required that the company tender a form of guarantee in the amount of the fine as security. Currently, 50% of the guarantee is satisfied by letters of credit with a financial institution and 50% of the guarantee is satisfied by equity of a Brazilian subsidiary. Praxair strongly believes that the allegations are without merit and that the fine will be entirely overturned during the appeal process. The company further believes that it has strong defenses and will vigorously defend against the allegations and related fine up to such levels of the Federal Courts in Brazil as may be necessary.
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Table of ContentsBecause appeals in Brazil historically take many years to resolve, it is very difficult to estimate when the appeal will be finally decided. Based on management judgments, after considering judgments and opinions of outside counsel, no reserve has been recorded for this proceeding as management does not believe that a loss is probable. Contingent Asset-Resolution Praxair’s Brazilian-based subsidiary, White Martins, had a long-standing claim against a Brazilian power company, Bandeirante Energia SA, which had been successfully litigated, and in 2011 the courts released a cash deposit to White Martins, subject to completion of an appeal process. During the first quarter of 2012, White Martins was notified that the appeal process was favorably concluded, and accordingly, recognized a $24 million gain to other income (expense), net of legal fees and another litigation matter.
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Table of ContentsSales and operating profit by segment for the quarters and nine-month periods ended September 30, 2012 and 2011 are shown below. For a description of Praxair’s operating segments, refer to Note 18 to the consolidated financial statements of Praxair’s 2011 Annual Report on Form 10-K.
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Table of Contents13. Equity and Redeemable Noncontrolling Interests Equity A summary of the changes in total equity for the quarters and nine months ended September 30, 2012 and 2011 is provided below:
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The components of AOCI are as follows:
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Table of ContentsRedeemable Noncontrolling Interests Noncontrolling interests with redemption features, such as put/sell options, that are not solely within the Company’s control (“redeemable noncontrolling interests”) are reported separately in the consolidated balance sheets at the greater of carrying value or redemption value. For redeemable noncontrolling interests that are not yet exercisable, Praxair calculates the redemption value by accreting the carrying value to the redemption value over the period until exercisable. If the redemption value is greater than the carrying value, any increase is adjusted directly to retained earnings and does not impact net income. The following is a summary of redeemable noncontrolling interests for the nine months ended September 30, 2012:
In June 2012, the Company settled its 2007 and 2008 U.S. income tax audit with the Internal Revenue Service. The settlement was not significant to the consolidated financial statements. In 2011, the Company requested a pre-filing agreement (“PFA”) with the U.S. Internal Revenue Service related to a loss of a liquidated subsidiary as a result of the divestiture of the U.S. Homecare business. The PFA was settled during the third quarter of 2012. Refer to Note 2.
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Table of ContentsItem 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations Adjusted Amounts and Comparisons The discussion of consolidated results and outlook in this Management’s Discussion and Analysis (MD&A) as it relates to the quarter and nine month periods are based on adjusted amounts for 2012. The adjusted amounts for 2012 are non-GAAP measures that supplement an understanding of the company’s financial information by presenting information that investors, financial analysts and management use to help evaluate the company’s performance and ongoing business trends on a comparable basis. See the “Consolidated Results” section of this MD&A for a summary of these adjusted amounts. A reconciliation of reported amounts to adjusted amounts can be found in the “Non-GAAP Financial Measures” section of this MD&A. Consolidated Results Praxair’s sales in the third quarter were 4% below the prior-year quarter. Sales grew 4% from higher prices and acquisitions. This growth was offset by the negative effects of foreign currency translation due to the strengthening of the US dollar against most major currencies, and lower cost pass-through, primarily lower natural gas prices. Overall volumes were flat as compared to the prior year. Sales growth was strongest to metals and energy markets. Higher volumes in Asia from new plant start-ups were offset primarily by lower volumes in Europe and South America due to softer macroeconomic conditions, which reduced demand in those geographies from manufacturing and metals customers. Sales growth in North America was mitigated by lower cost pass-through and negative currency effects. North America volumes were flat as compared to prior year as weaker demand from electronics and chemicals customers was offset by growth in other markets. New project development activity continues to be strong in North America, South America, and Asia. Adjusted operating profit was 1% below the prior-year quarter. Excluding currency effects, adjusted operating profit grew 7% from price, productivity gains, acquisitions, and an increase in other income. The following table provides summary data for the quarters and nine months ended September 30, 2012 and 2011:
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Table of ContentsThe following items were recorded in the condensed consolidated financial statements and were excluded for adjusted amounts. See Note 2 to the condensed consolidated financial statements for a more detailed description of these items.
Cost Reduction Program In the third quarter 2012, Praxair recorded pre-tax charges totaling $56 million ($38 million after-tax and noncontrolling interest), relating to severance and business restructuring actions primarily in Europe within the industrial gases and surface technologies businesses. The cost reduction program was initiated primarily in response to the continuing economic downturn in Europe. Pension Settlement Charge During 2011, a number of senior managers retired. These retirees are covered by the U.S. supplemental pension plan which provides for a lump sum benefit payment option. Under certain circumstances, such lump sum payments must be accounted for as a settlement of the related pension obligation, but only when paid. Accordingly, Praxair recorded a settlement charge related to net unrecognized actuarial losses of $9 million ($6 million after-tax) in July 2012 when cash payments were made. Pre-filing Agreement In 2011 Praxair requested a pre-filing agreement (“PFA”) with the U.S. Internal Revenue Service (“IRS”) related to a loss on a liquidated subsidiary resulting from the divestiture of the US Homecare Business. During the third quarter of 2012, the IRS approved the PFA resulting in a net income tax benefit of $55 million. Results of Operations As previously described, references to “adjusted” amounts refer to reported amounts adjusted to exclude the impact of special items and are non-GAAP measures. A reconciliation of reported amounts to adjusted amounts can be found in the “Non-GAAP Financial Measures” section of this MD&A.
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Table of ContentsThe change in consolidated sales and adjusted operating profit compared to the prior year is attributable to the following:
The following tables provide sales by end-market and distribution method:
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Table of ContentsSales declined $122 million, or 4%, for the third quarter and decreased $31 million for the nine months ended September 30, 2012, versus the respective 2011 periods. For the quarter, sales growth from higher pricing and acquisitions was offset by the negative effects of foreign currency translation and lower cost pass-through. Overall volumes were flat as compared to the prior year, as growth in Asia from new project start-ups was offset by lower volumes in other geographic segments, primarily Europe and South America, resulting from weaker macroeconomic conditions in those regions which curtailed customer demand. For the nine-month period, sales were comparable to the prior year. Underlying sales grew 4% from higher volumes and higher price. Acquisitions added 2% to sales growth. This growth was offset by negative currency translation effects and lower cost pass-through. By end-market, organic sales increased to energy, metals, manufacturing, and healthcare customers, for both the quarter and nine-month periods. Sales were lower to the chemical and electronics end-markets. Gross margin decreased $33 million, or 3%, for the third quarter and increased $16 million for the year-to-date period, as compared to 2011. For the quarter, the decrease was primarily a result of negative currency effects which more than offset the increased margin from improved pricing. The increase for the year-to-date period came from higher volumes and price, largely offset by negative currency effects. Gross margin as a percentage of sales for the quarter and year-to-date periods increased modestly versus the respective prior year periods. Excluding the effect of lower cost pass-through, the gross margin percentage was comparable to the prior-year periods. Selling, general and administrative expenses decreased $1 million for the quarter and increased $27 million for the nine-month period, as compared to 2011. The increase for the nine-month period is due to higher pension and benefit costs, and acquisitions, partially offset by negative currency effects. Depreciation and amortization expense decreased $8 million for the quarter and $7 million for the nine months. In both periods, higher expense due to new plant start-ups and acquisitions was offset by currency impacts. Other income (expense) – net was $22 million and $45 million benefit for the quarter and nine-month period, respectively, versus a $5 million benefit and $1 million expense in the respective 2011 periods. The quarter included, among other items, a gain on asset sale in North America, partially offset by other expenses. The nine-month period also included a gain on an asset sale in Korea, and a litigation settlement in South America, partially offset by severance and business restructuring charges in South America. Adjusted operating profit decreased $9 million for the quarter and increased $36 million for the year-to-date period, versus 2011. Excluding currency effects, adjusted operating profit grew 7% for the quarter and 8% for the nine months as compared to the prior year from higher pricing and productivity. A discussion of operating profit by segment is included in the segment discussion that follows. Interest expense-net is flat with the prior year for both the quarter and nine-month period despite higher debt levels due to lower interest rates. The adjusted effective tax rate was 27.9% in both the third quarters of 2012 and 2011. For the 2012 year-to-date period, the adjusted effective tax rate was 28.0%, versus 27.8% in the respective 2011 period. Praxair’s significant sources of equity income are in China, Italy, and the Middle East. Income from equity investments decreased $5 million for the quarter and $8 million for the nine months due primarily to the acquisition in 2011 of a controlling interest in an industrial gas business in Scandinavia, which required consolidation. At September 30, adjusted non-controlling interests consisted primarily of non-controlling shareholders’ investments in Asia (primarily China and India), Europe (primarily Italy and Scandinavia), and North America (primarily within the US packaged gas business). Adjusted non-controlling interests decreased $2 million for the quarter and increased $1 million for the nine- month period versus the respective periods in 2011 due to lower earnings of these entities, including currency effects, which offset the consolidation of the Scandinavian business. Adjusted net income-Praxair, Inc. decreased $10 million, or 2%, for the quarter due to lower operating profit. For the nine-month period, adjusted net income increased $15 million, or 1%. Adjusted EPS of $1.39 for the quarter compares to $1.40 in the 2011 quarter. Adjusted EPS is 1% below prior year, due to lower net income, partially offset by a lower outstanding diluted share count due to the company’s net repurchase of common stock. For the nine months, adjusted EPS of $4.19 is 3% above the prior year of $4.07.
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Table of ContentsComprehensive income of $669 million includes a positive currency adjustment of $245 million, reflecting the impact of translating foreign subsidiary balance sheets to U.S. dollars using exchange rates as of September 30, 2012. In the 2011 quarter, this currency impact was a negative $718 million. For the nine-month period in 2012, the currency translation impact is not significant. Segment Discussion The following summary of sales and operating profit by segment provides a basis for the discussion that follows.
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Table of ContentsNorth America
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Table of ContentsThe following tables provide sales by end-market and distribution method:
Segment sales decreased $25 million, or 2%, for the third quarter and increased $80 million, or 2%, for the nine months ended September 30, 2012 versus the respective 2011 periods. In the quarter, sales grew $53 million, or 4%, due to increased pricing and acquisitions of packaged gas distributors. Volumes in the quarter were flat compared to the prior year as higher volumes to the manufacturing, metals and energy end-markets were offset by weaker volumes to the chemicals and electronics end-markets. Negative currency, primarily the Mexican Peso and Canadian Dollar against the U.S. Dollar, and cost pass-through, primarily lower natural gas prices passed through to hydrogen customers, reduced sales by 6%. For the nine month period, sales increased $275 million, or 7%, excluding currency and cost pass-through. Volumes, pricing and acquisitions increased sales by 4%, 2% and 1%, respectively, and were partially offset by the effects of currency and cost pass-through which reduced sales by 5%. Operating profit increased $34 million, or 10%, for the third quarter and increased $120 million, or 12%, for the nine months ended September 30, 2012 versus the respective 2011 periods. Higher pricing, productivity savings and a gain on asset sale drove the increase and more than offset inflationary cost increases and the negative impact of currency translation. Higher volumes also contributed to the increase in the year-to-date period. The operating margin rose to 26.9% for the quarter and 26.3% for the year-to-date period.
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Table of ContentsEurope
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