1
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 September 30, 2003
Or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ------------ to ------------
UNITED STATES STEEL CORPORATION
-----------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 1-16811 25-1897152
-------------- ----------- ---------------
(State or other (Commission (IRS Employer
jurisdiction of File Number) Identification No.)
incorporation)
600 Grant Street, Pittsburgh, PA 15219-2800
--------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(412) 433-1121
----------------------------
(Registrant's telephone number,
including area code)
--------------------------------------------------------------------------------
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 an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes..X..No.....
Common stock outstanding at October 31, 2003 - 103,277,374 shares
2
UNITED STATES STEEL CORPORATION
FORM 10-Q
QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003
-----------------------------------------
INDEX Page
----- ----
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements:
Statement of Operations (Unaudited) 3
Balance Sheet (Unaudited) 5
Statement of Cash Flows (Unaudited) 6
Selected Notes to Financial Statements 7
(Unaudited)
Ratio of Earnings to Combined Fixed Charges
and Preferred Stock Dividends and Ratio of
Earnings to Fixed Charges 33
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of
Operations 34
Item 3. Quantitative and Qualitative Disclosures about
Market Risk 65
Item 4. Controls and Procedures 68
Supplemental Statistics 69
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 70
Item 6. Exhibits and Reports on Form 8-K 75
SIGNATURE 76
WEB SITE POSTING 77
3
Part I - Financial Information:
UNITED STATES STEEL CORPORATION
STATEMENT OF OPERATIONS (Unaudited)
-----------------------------------
Third Quarter Nine Months
Ended Ended
September 30 September 30
(Dollars in millions, except per share amounts) 2003 2002 2003 2002
------------------------------------------------------------------------------
REVENUES AND OTHER INCOME:
Revenues $2,267 $1,648 $5,993 $4,381
Revenues from related parties 239 257 722 716
Income (loss) from investees (2) 2 (10) 11
Net gains on disposal of assets 4 2 27 7
Other income - 5 45 40
----- ----- ----- -----
Total revenues and other income 2,508 1,914 6,777 5,155
----- ----- ----- -----
COSTS AND EXPENSES:
Cost of revenues (excludes items shown below) 2,743 1,611 6,566 4,518
Selling, general and administrative expenses 319 74 590 245
Depreciation, depletion and amortization 140 89 317 266
----- ----- ----- -----
Total costs and expenses 3,202 1,774 7,473 5,029
----- ----- ----- -----
INCOME (LOSS) FROM OPERATIONS (694) 140 (696) 126
Net interest and other financial costs 26 32 106 85
----- ----- ----- -----
INCOME (LOSS) BEFORE INCOME TAXES,
EXTRAORDINARY LOSS AND CUMULATIVE EFFECT
OF CHANGE IN ACCOUNTING PRINCIPLE (720) 108 (802) 41
Provision (benefit) for income taxes (366) 2 (418) (9)
----- ----- ----- -----
INCOME (LOSS) BEFORE EXTRAORDINARY LOSS AND
CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING
PRINCIPLE (354) 106 (384) 50
Extraordinary loss, net of tax - - (52) -
Cumulative effect of change in accounting
principle, net of tax - - (5) -
----- ----- ----- -----
NET INCOME (LOSS) (354) 106 (441) 50
Dividends on preferred stock (4) - (11) -
----- ----- ----- -----
NET INCOME (LOSS) APPLICABLE TO COMMON STOCK $(358) $ 106 $(452) $ 50
===== ===== ===== =====
Selected notes to financial statements appear on pages 7-32.
4
UNITED STATES STEEL CORPORATION
STATEMENT OF OPERATIONS (Continued) (Unaudited)
COMMON STOCK DATA
------------------------------------------------
Third Quarter Nine Months
Ended Ended
September 30 September 30
(Dollars in millions, except per share amounts) 2003 2002 2003 2002
-------------------------------------------------------------------------------
COMMON STOCK DATA:
Per share - basic and diluted:
Income (loss) before extraordinary loss and
cumulative effect of change in
accounting principle $(3.47) $ 1.04 $(3.84) $ .52
Extraordinary loss, net of tax - - (.50) -
Cumulative effect of change in accounting
principle, net of tax - - (.05) -
------ ------ ------ ------
Net income (loss) $(3.47) $ 1.04 $(4.39) $ .52
====== ====== ====== ======
Weighted average shares, in thousands
- Basic 103,321 101,926 103,096 95,767
- Diluted 103,321 101,926 103,096 95,769
Dividends paid per share $ .05 $ .05 $ .15 $ .15
PRO FORMA AMOUNTS ASSUMING CHANGE IN
ACCOUNTING PRINCIPLE WAS APPLIED
RETROACTIVELY:
Income (loss) before extraordinary loss
and cumulative effect of change in
accounting principle, as reported $(354) $ 106 $(384) $ 50
SFAS No. 143 pro forma effect - (1) 5 (2)
------ ------ ------ ------
Income (loss) before extraordinary loss
and cumulative effect of change in
accounting principle, adjusted $(354) $ 105 $(379) $ 48
Per share adjusted - basic and diluted (3.47) 1.03 (3.80) .50
Net income (loss) adjusted (354) 105 (431) 48
Per share adjusted - basic and diluted (3.47) 1.03 (4.30) .50
Selected notes to financial statements appear on pages 7-32.
5
UNITED STATES STEEL CORPORATION
BALANCE SHEET (Unaudited)
-------------------------------
September 30 December 31
(Dollars in millions) 2003 2002
--------------------------------------------------------------------------
ASSETS
Current assets:
Cash and cash equivalents $ 160 $ 243
Receivables, less allowance of $129 and $57 1,126 796
Receivables from related parties 148 138
Inventories 1,394 1,030
Deferred income tax benefits 203 217
Other current assets 35 16
------ ------
Total current assets 3,066 2,440
Investments and long-term receivables,
less allowance of $3 and $2 303 341
Long-term receivables from related parties 6 6
Property, plant and equipment, less accumulated
depreciation, depletion and amortization of
$7,089 and $7,095 3,367 2,978
Pension asset 1,518 1,654
Intangible pension asset 374 414
Other intangible assets, net 39 -
Deferred income tax benefits 366 -
Other noncurrent assets 202 144
------ ------
Total assets $ 9,241 $ 7,977
====== ======
LIABILITIES
Current liabilities:
Accounts payable $ 940 $ 677
Accounts payable to related parties 72 90
Payroll and benefits payable 420 254
Accrued taxes 344 281
Accrued interest 49 44
Long-term debt due within one year 28 26
------ ------
Total current liabilities 1,853 1,372
Long-term debt, less unamortized discount 1,853 1,408
Deferred income taxes 2 223
Employee benefits 3,539 2,601
Deferred credits and other liabilities 349 346
------ ------
Total liabilities 7,596 5,950
------ ------
Contingencies and commitments (See Note 23) - -
STOCKHOLDERS' EQUITY
Preferred stock -
7% Series B Mandatory Convertible
Preferred issued - 5,000,000 shares
and -0- shares (no par value, liquidation
preference $50 per share) 231 -
Common stock issued - 103,296,600 shares and
102,485,246 shares 103 102
Additional paid-in capital 2,679 2,689
Retained earnings (deficit) (399) 42
Accumulated other comprehensive loss (968) (803)
Deferred compensation (1) (3)
------ ------
Total stockholders' equity 1,645 2,027
------ ------
Total liabilities and stockholders' equity $ 9,241 $ 7,977
====== ======
Selected notes to financial statements appear on pages 7-32.
6
UNITED STATES STEEL CORPORATION
STATEMENT OF CASH FLOWS (Unaudited)
-----------------------------------
Nine Months
Ended
September 30
(Dollars in millions) 2003 2002
-----------------------------------------------------------------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
OPERATING ACTIVITIES:
Net income (loss) $ (441) $ 50
Adjustments to reconcile to net cash provided from
operating activities:
Extraordinary loss, net of tax 52 -
Cumulative effect of change in accounting principle, 5 -
net of tax
Depreciation, depletion and amortization 317 266
Pensions and other postretirement benefits 638 (35)
Deferred income taxes (408) (12)
Net gains on disposal of assets (27) (7)
Income from sale of coal seam gas interests (34) -
Loss (income) from equity investees and distributions 35 -
received
Changes in:
Current receivables
- sold 190 320
- repurchased (190) (320)
- operating turnover (74) (228)
Inventories 123 (97)
Current accounts payable and accrued expenses 266 193
All other - net (120) (54)
------ ------
Net cash provided from operating activities 332 76
------ ------
INVESTING ACTIVITIES:
Capital expenditures (205) (150)
Acquisition - National Steel Corporation assets (873) -
- U. S. Steel Balkan (6) -
- U. S. Steel Kosice (37) (38)
Disposal of assets 76 12
Sale of coal seam gas interests 34 -
Restricted cash - withdrawals 42 3
- deposits (93) (60)
Investees - investments (4) (15)
- loans and advances - (3)
- repayments of loans and advances 1 7
------ ------
Net cash used in investing activities (1,065) (244)
------ ------
FINANCING ACTIVITIES:
Issuance of long-term debt, net of deferred financing 427 -
costs
Repayment of long-term debt (3) (31)
Settlement with Marathon Oil Corporation - (54)
Preferred stock issued 242 -
Common stock issued 11 223
Dividends paid (26) (14)
------ ------
Net cash provided from financing activities 651 124
------ ------
EFFECT OF EXCHANGE RATE CHANGES ON CASH (1) 2
------ ------
NET DECREASE IN CASH AND CASH EQUIVALENTS (83) (42)
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 243 147
------ ------
CASH AND EQUIVALENTS AT END OF PERIOD $ 160 $ 105
====== ======
Cash used in operating activities included:
Interest and other financial costs paid (net of
amount capitalized) $ (107) $ (105)
Income taxes paid to tax authorities (3) (4)
Selected notes to financial statements appear on pages 7-32.
7
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS
--------------------------------------
(Unaudited)
1. The information in these financial statements is unaudited but, in the
opinion of management, reflects all adjustments necessary for a fair
presentation of the results for the periods covered. All such adjustments
are of a normal recurring nature unless disclosed otherwise. These
financial statements, including selected notes, have been prepared in
accordance with the applicable rules of the Securities and Exchange
Commission and do not include all of the information and disclosures
required by accounting principles generally accepted in the United States
of America for complete financial statements. Certain reclassifications of
prior year data have been made to conform to 2003 classifications.
Additional information is contained in the United States Steel Corporation
Annual Report on Form 10-K for the year ended December 31, 2002.
2. United States Steel Corporation (U. S. Steel) is engaged domestically
in the production, sale and transportation of steel mill products, coke and
taconite pellets (iron ore); steel mill products distribution; the
management of mineral resources; the management and development of real
estate; and engineering and consulting services and, through U. S. Steel
Kosice (USSK) and U. S. Steel Balkan (USSB) in the Slovak Republic and
Serbia, respectively, in the production and sale of steel mill products and
coke primarily for the central and western European markets. As reported
in Note 5, until June 30, 2003, U. S. Steel was also engaged in the mining,
processing and sale of coal.
3. On May 20, 2003, U. S. Steel acquired substantially all of the
integrated steelmaking assets of National Steel Corporation (National).
The facilities acquired include two integrated steel plants, Granite City
in Granite City, Illinois and Great Lakes, in Ecorse and River Rouge,
Michigan; the Midwest finishing facility in Portage, Indiana; ProCoil, a
steel-processing facility in Canton, Michigan; a 50% equity interest in
Double G Coatings, L.P. near Jackson, Mississippi; a taconite pellet
operation near Keewatin, Minnesota; and the Delray Connecting Railroad.
The acquisition of National's assets has made U. S. Steel the largest steel
producer in North America and has strengthened U. S. Steel's overall
position in providing value-added products to the automotive, container and
construction markets. Results of operations include the operations of
National from May 20, 2003.
The aggregate purchase price for National's assets was $1,269 million,
consisting of $839 million in cash and the assumption or recognition of
$430 million in liabilities. The $839 million in cash reflects $844
million paid to National at closing and transaction costs of $29 million,
less a working capital adjustment of $34 million in accordance with the
terms of the Asset Purchase Agreement. The working capital adjustment was
collected in October 2003. The opening balance sheet reflects certain
direct obligations of National assumed by U. S. Steel and certain employee
benefit liabilities for employees hired from National resulting from the
new labor agreement with the United Steelworkers of America (USWA). The
new labor agreement and these liabilities are discussed in more detail
below.
8
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
3. (Continued)
In connection with the acquisition of National's assets, U. S.
Steel reached a new labor agreement with the USWA, which covers employees
at the U. S. Steel facilities and the acquired National facilities. The
agreement was ratified by the USWA membership in May 2003, expires in 2008
and provides for a workforce restructuring through a Transition Assistance
Program (TAP). U. S. Steel calculated the estimated fair value of the
obligations recorded for benefits granted under the labor agreement to
former active National employees represented by the USWA and hired by U. S.
Steel. The liabilities included $145 million for future retiree medical
and retiree life costs, $17 million related to future payments for
employees who participate in the TAP, and $24 million for accrued vacation
benefits. U. S. Steel also recognized a $17 million liability related to
two irrevocable cash contributions to be made to the Steelworkers Pension
Trust (SPT) in 2003 and 2004 based on the number of National's represented
employees as of the date of the acquisition, less the number of these
employees estimated to participate in the TAP. The SPT is a multiemployer
pension plan to which U. S. Steel will make contributions for all former
National represented employees who join U. S. Steel and, after July 1,
2003, for all new U. S. Steel employees represented by the USWA.
The following is a summary of the allocation of the purchase price to
the assets acquired and liabilities assumed or recognized based on their
fair market values. Appraisals were obtained for inventory; property,
plant and equipment; intangible assets and other noncurrent assets. Based
on the appraisals, the fair value of the net assets acquired were in excess
of the purchase price, resulting in negative goodwill. In accordance with
Statement of Financial Accounting Standards (SFAS) No. 141 "Business
Combinations," the negative goodwill was allocated as a pro rata reduction
to the amounts that would have otherwise been assigned to the acquired
noncurrent assets, based on their relative fair values.
Allocated
Purchase Price
---------------
Acquired assets: (In millions)
Accounts receivable $ 222
Inventory 500
Other current assets 22
Property, plant & equipment 480
Intangible assets 42
Other noncurrent assets 3
------
Total assets 1,269
------
Acquired liabilities:
Accounts payable 157
Payroll and benefits payable 57
Other current liabilities 30
Employee benefits 150
Other noncurrent liabilities 36
------
Total liabilities 430
------
Purchase price-cash $ 839
======
9
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
3. (Continued)
Refinements to the allocated purchase price are expected to be made as
additional information becomes available, primarily relating to
environmental contingencies. These contingencies were identified as of the
closing of the transaction and include matters that are currently being
negotiated with government agencies, and matters for which technical
studies are being completed. Relevant information that is required to
finalize the determination of the fair value of environmental liabilities
for opening balance sheet purposes is expected to be received by May 2004.
The $42 million of intangible assets is primarily comprised of
proprietary software with a weighted average useful life of approximately
6 years. U. S. Steel recognized $2 million and $3 million, respectively,
of amortization expense in the third quarter and nine months of 2003
related to these intangible assets.
The following unaudited pro forma data for U. S. Steel includes the
results of operations of National as if it had been acquired at the
beginning of the periods presented, including the effects of the new labor
agreement as it pertains to the former National facilities and the
financings incurred to fund the acquisition. (See Notes 17 and 21.) The
unaudited pro forma data is based on historical information and does not
necessarily reflect the actual results that would have occurred nor is it
necessarily indicative of future results of operations.
Pro Forma Pro Forma
Nine Months Third Quarter
Ended Ended
September 30 September 30
(In millions, except per share data) 2003 2002 2002
----------------------------------------------------------------------
Revenues and other income $ 7,783 $ 7,067 $ 2,573
Income (loss) before extraordinary loss
loss and cumulative effect of change
in accounting principle (378) 60 137
Per share - basic (3.79) .49 1.30
- diluted (3.79) .49 1.13
Net income (loss), applicable to (450) 47 132
commmon stock
Per share - basic (4.37) .49 1.30
- diluted (4.37) .49 1.13
10
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
4. On September 12, 2003, USSB, a wholly owned Serbian subsidiary of
U. S. Steel, acquired Sartid a.d. (In Bankruptcy), an integrated steel
company majority-owned by the Government of the Union of Serbia and
Montenegro, and certain of its subsidiaries (collectively "Sartid") out of
bankruptcy. Sartid, headquartered in the Republic of Serbia, primarily
manufactures hot-rolled, cold-rolled, and tin-coated flat-rolled steel
products, and complements the operations of USSK. The completion of this
purchase resulted in the termination of a toll conversion agreement, a
facility management agreement and a commercial and technical support
agreement with Sartid.
The aggregate purchase price was $33 million consisting of $23 million in
cash, transaction costs of $6 million and the recognition of $4 million in
liabilities. In October 2003, $21 million of the cash portion of the
purchase price was disbursed and the remainder is expected to be disbursed
in the fourth quarter of 2003. Upon consummation of the purchase of two
small remaining subsidiaries of Sartid, a.d. (In Bankruptcy), whose
operations are currently being conducted by USSB pursuant to an interim
agreement, the transaction requires the following commitments by USSB; (i)
spending during the first five years for working capital, the repair,
rehabilitation, improvement, modification and upgrade of facilities and
community support and economic development of up to $157 million, subject
to certain conditions; (ii) a stable employment policy for three years
assuring employment of the approximately 9,000 employees, excluding natural
attrition and terminations for cause; and (iii) an agreement not to sell,
transfer or assign a controlling interest in the former Sartid assets to
any third party without government consent for a period of five years.
USSB did not assume or acquire any pre-acquisition liabilities including
environmental, tax, social insurance liabilities, product liabilities and
employee claims, other than $4 million in pension and other employee
related liabilities.
The acquisition was accounted for by the purchase method of accounting
under SFAS No. 141 and, accordingly, the statement of operations includes
the results of USSB beginning September 12, 2003. Prior to the acquisition,
the operating results of activities under facility management and support
agreements with Sartid were included in the results of USSK.
11
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
4. (Continued)
The following is a summary of the allocation of the purchase price to
the assets acquired and liabilities assumed or recognized based on their
fair market values. Based on appraisals, the fair value of the net
assets acquired was in excess of the purchase price, resulting in negative
goodwill. In accordance with SFAS No. 141, the negative goodwill was
allocated as a pro rata reduction to the amounts that would have otherwise
been assigned to the acquired noncurrent assets based on their relative
fair values.
Allocated
Purchase
Price
----------
Acquired assets: (In millions)
Accounts receivable $ 1
Inventory 6
Property, plant & equipment 26
------
Total assets 33
------
Acquired liabilities:
Employee benefits 4
------
Total liabilities 4
------
Purchase price-cash $ 29
======
From 1992 to 1995 and again from 1999 to October 2000 political and
economic sanctions were enforced against Serbia by the United Nations. As
a result of operating under the sanctions and government control, these
facilities have been operating at levels well below capacity and are in
disrepair. The limited financial data available for Sartid is not reliable
nor is it believed that reliable historical financial statements could be
prepared from the data that exists. In addition, any historical
information provided would not reflect a market-based operation. Therefore,
U. S. Steel management believes that historical financial information for
Sartid is irrelevant to investors and consequently, no historical
information for Sartid is presented nor will it be provided in future
filings. In addition, pro forma financial data is not presented for the
current or prior years because there is no reliable historical information
on which to base pro forma amounts.
5. On June 30, 2003, U. S. Steel completed the sale of the coal mines and
related assets of U. S. Steel Mining Company, LLC (Mining Sale) to PinnOak
Resources, LLC (PinnOak), which is not affiliated with U. S. Steel.
PinnOak acquired the Pinnacle No. 50 mine complex located near Pineville,
West Virginia and the Oak Grove mine complex located near Birmingham,
Alabama. In conjunction with the sale, U. S. Steel and PinnOak entered
into a long-term coal supply agreement, which runs through
December 31, 2006.
12
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
5. (Continued)
The gross proceeds from the sale were $56 million, of which
$50 million was received at closing and $6 million, relating to an
adjustment to the purchase price based on inventory levels at
June 30, 2003, is due to be received in the fourth quarter of 2003.
U. S. Steel recognized a pretax gain of $13 million on the sale in the
second quarter of 2003. In addition, EITF 92-13, "Accounting for Estimated
Payments in Connection with the Coal Industry Retiree Health Benefit Act of
1992" requires that enterprises that no longer have operations in the coal
industry must account for their entire obligation related to the
multiemployer health care benefit plans created by the Act as a loss in
accordance with SFAS No. 5, "Accounting for Contingencies." Accordingly,
U. S. Steel recognized the present value of these obligations in the amount
of $85 million, resulting in the recognition of an extraordinary loss of
$52 million, net of tax of $33 million in the second quarter of 2003. See
further information in Note 23.
6. U. S. Steel has various stock-based employee compensation plans. The
Company accounts for these plans under the recognition and measurement
principles of APB Opinion No. 25, "Accounting for Stock Issued to
Employees," and related Interpretations. No stock-based employee
compensation cost is reflected in net income for stock options or stock
appreciation rights (SARs) at the date of grant, as all options and SARs
granted had an exercise price equal to the market value of the underlying
common stock. When the stock price exceeds the grant price, SARs are
adjusted for changes in the market value and compensation expense is
recorded. The following tables illustrate the effect on net income and
earnings per share if the Company had applied the fair value recognition
provisions of SFAS No. 123, "Accounting for Stock-Based Compensation."
Third Quarter Ended
September 30
(In millions, except per share data) 2003 2002
--------------------------------------------------------------------
Net income (loss) $ (354) $ 106
Add: Stock-based employee compensation expense
included in reported net income (loss),
net of related tax effects 2 -
Deduct: Total stock-based employee compensation
expense determined under fair value methods for
all awards, net of related tax effects (1) (1)
----- -----
Pro forma net income (loss) $ (353) $ 105
===== =====
Basic and diluted net income (loss) per share:
- As reported $ (3.47) $ 1.04
- Pro forma (3.46) 1.03
13
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
6. (Continued)
The above pro forma amounts were based on a Black-Scholes option-
pricing model, which included the following information and assumptions:
Third Quarter
Ended
September 30
2003 2002
--------------------------------------------------------------------
Weighted average grant date exercise price per $ 14.38 $ 20.42
share
Expected annual dividends per share $ .20 $ .20
Expected life in years 5 5
Expected volatility 45.3 43.4
Risk-free interest rate 2.4 4.4
Weighted-average grant date fair value of options
granted during the period, as calculated from above $ 5.41 $ 8.29
Nine Months
Ended
September 30
(In millions, except per share data) 2003 2002
--------------------------------------------------------------------
Net income (loss) $ (441) $ 50
Add: Stock-based employee compensation expense
included in reported net loss, net of related
tax effects 3 -
Deduct: Total stock-based employee compensation
expense determined under fair value methods
for all awards, net of related tax effects (3) (3)
----- -----
Pro forma net income (loss) $ (441) $ 47
===== =====
Basic and diluted net income (loss) per share:
- As reported $ (4.39) $ .52
- Pro forma (4.39) .49
The above pro forma amounts were based on a Black-Scholes option-
pricing model, which included the following information and assumptions:
Nine Months
Ended
September 30
2003 2002
--------------------------------------------------------------------
Weighted average grant date exercise price per $ 16.97 $ 20.22
share
Expected annual dividends per share $ .20 $ .20
Expected life in years 5 5
Expected volatility 44.5 42.0
Risk-free interest rate 3.3 4.6
Weighted-average grant date fair value of options
granted during the period, as calculated from above $ 6.65 $ 8.07
14
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
7. In November 2002, the Financial Accounting Standards Board (FASB)
issued Interpretation No. 45, "Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness
of Others." The Interpretation elaborates on the disclosure to be made by a
guarantor about obligations under certain guarantees that it has issued.
It also clarifies that at the inception of a guarantee, the company must
recognize liability for the fair value of the obligation undertaken in
issuing the guarantee. The initial recognition and measurement provisions
apply on a prospective basis to guarantees issued or modified after
December 31, 2002. The disclosure requirements were adopted for the 2002
annual financial statements. U. S. Steel is applying the remaining
provisions of the Interpretation prospectively as required.
FASB Interpretation No. 46, "Consolidation of Variable Interest
Entities," was issued in January 2003 and addresses consolidation by
business enterprises of variable interest entities that do not have
sufficient equity investment to permit the entity to finance its activities
without additional subordinated financial support from other parties or
whose equity investors lack the characteristics of a controlling financial
interest. The FASB delayed the application of this Interpretation until
December 31, 2003. At this time U. S. Steel has not completed its
assessment of the effects of the application of this Interpretation on
either its financial position or results of operations.
In April 2003, the FASB issued SFAS No. 149, "Accounting for
Derivative Instruments and Hedging Activities." The Statement amends and
clarifies accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging
activities under SFAS No. 133. The amendments set forth in SFAS No. 149
improve financial reporting by requiring that contracts with comparable
characteristics be accounted for similarly. SFAS No. 149 is effective for
contracts entered into or modified after June 30, 2003, except for certain
outlined exceptions. This Statement was adopted with no initial impact.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity."
SFAS No. 150 changes the accounting for certain financial instruments that,
under previous guidance, could be classified as equity or "mezzanine"
equity, by now requiring these instruments be classified as liabilities (or
assets in some circumstances) in the balance sheet. Further, SFAS No. 150
requires disclosure regarding the terms of those instruments and settlement
alternatives. The guidance in the Statement is generally effective for all
financial instruments entered into or modified after May 31, 2003, and is
otherwise effective at the beginning of the first interim period beginning
after June 15, 2003. This Statement was adopted with no initial impact.
15
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
8. In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." SFAS No. 143 established a new accounting model
for the recognition and measurement of retirement obligations associated
with tangible long-lived assets. SFAS No. 143 requires that an asset
retirement obligation be capitalized as part of the cost of the related
long-lived asset and subsequently allocated to expense using a systematic
and rational method. SFAS No. 143 requires pro forma disclosure of the
amount of the liability for obligations as if the statement had been
applied during all periods affected, using current information, current
assumptions and current interest rates. In addition, the effect of
adopting a new accounting principle on net income and on the related per
share amounts is required to be shown on the face of the statement of
operations for all periods presented under Accounting Principles Board
Opinion No. 20, "Accounting Changes."
On January 1, 2003, the date of adoption, U. S. Steel recorded asset
retirement obligations (AROs) of $14 million (in addition to $15 million
already accrued), compared to the associated long-lived asset, net of
accumulated depreciation, of $7 million that was recorded, resulting in a
cumulative effect of adopting this Statement of $5 million, net of tax of
$2 million. The obligations recorded on January 1, 2003, and the amounts
acquired from National primarily relate to mine and landfill closure and
post-closure costs.
The following table reflects changes in the carrying values of AROs
for the nine months ended September 30, 2003, and the pro forma impacts for
the year ended December 31, 2002, as if SFAS No. 143 had been adopted on
January 1, 2002:
Nine
Months (Pro Forma)
Ended Year Ended
(In millions) Sept. 30, 2003 Dec. 31, 2002
--------------------------------------------------------------------
Balance at beginning of period $ 29 $ 26
Liabilities acquired with National's assets 2 -
Accretion expense 2 3
Liabilities removed with Mining Sale (14) -
------- -------
Balance at end of period $ 19 $ 29
======= =======
Certain asset retirement obligations related to disposal costs of
fixed assets at our steel facilities have not been recorded because they
have an indeterminate settlement date. These asset retirement obligations
will be initially recognized in the period in which sufficient information
exists to estimate fair value.
9. U. S. Steel has five reportable segments: Flat-rolled, Tubular, U. S.
Steel Europe (USSE), Straightline Source (Straightline) and USS Real Estate
(Real Estate). Effective with the acquisition of Sartid, the U. S. Steel
Kosice (USSK) segment was renamed U. S. Steel Europe (USSE) and includes
the operating results of USSB.
Effective with the third quarter of 2003, the composition of the Flat-
rolled segment was changed to include the results of the coke operations
that were previously reported in Other Businesses. This change reflects
the recent management consolidations. Comparative results for 2002 have
been conformed to the current year presentation.
16
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
9. (Continued)
The Flat-rolled segment includes the operating results of
U. S. Steel's domestic integrated steel mills and equity investees involved
in the production of sheet, plate and tin mill products, as well as all
domestic coke production facilities. These operations are principally
located in the United States and primarily serve customers in the
transportation (including automotive), appliance, service center,
conversion, container and construction markets. Effective May 20, 2003,
the Flat-rolled segment includes the operating results of Granite City,
Great Lakes, the Midwest finishing facility, ProCoil and U. S. Steel's
equity interest in Double G Coatings, which were acquired from National.
The Tubular segment includes the operating results of U. S. Steel's
domestic tubular production facilities and prior to May 2003, included
U. S. Steel's equity interest in Delta Tubular Processing (Delta). These
operations produce and sell both seamless and electric resistance weld
tubular products and primarily serve customers in the oil, gas and
petrochemical markets. In May 2003, U. S. Steel sold its interest in
Delta.
The USSE segment includes the operating results of USSK, U. S. Steel's
integrated steel mill in the Slovak Republic; and, effective September 12,
2003, the former Sartid facilities in Serbia, now operated as USSB. Prior
to September 12, 2003, this segment included the operating results of
activities under facility management and support agreements with Sartid.
These agreements were terminated in conjunction with the acquisition of
these assets. USSE operations produce and sell sheet, plate, tin, tubular,
precision tube and specialty steel products, as well as coke. USSE
primarily serves customers in the central and western European
construction, conversion, appliance, transportation, service center,
container, and oil, gas and petrochemical markets. In June 2003, USSK sold
its equity interest in Rannila Kosice, s.r.o.
The Straightline segment includes the operating results of
U. S. Steel's technology-enabled distribution business that serves steel
customers primarily in the eastern and central United States. Straightline
competes in the steel service center marketplace using a nontraditional
business process to sell, process and deliver flat-rolled steel products in
small to medium sized order quantities primarily to job shops, contract
manufacturers and original equipment manufacturers across an array of
industries.
The Real Estate segment includes the operating results of
U. S. Steel's domestic mineral interests that are not assigned to other
operating units; timber properties; and residential, commercial and
industrial real estate that is managed or developed for sale or lease. In
April of 2003, U. S. Steel sold certain coal seam gas interests in Alabama.
Prior to the sale, income generated from these interests was reported in
the Real Estate segment.
All other U. S. Steel businesses not included in reportable segments
are reflected in Other Businesses. These businesses are involved in the
production and sale of iron-bearing taconite pellets; transportation
services; and engineering and consulting services. Prior to the Mining Sale
on June 30, 2003, Other Businesses were involved in the mining, processing
and sale of coal. Effective May 20, 2003, Other Businesses include the
operating results of the Keewatin, Minnesota taconite pellet operations and
the Delray Connecting Railroad, which were acquired from National.
17
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
9. (Continued)
The chief operating decision maker evaluates performance and
determines resource allocations based on a number of factors, the primary
measure being income (loss) from operations. Income (loss) from operations
for reportable segments and Other Businesses does not include net interest
and other financial costs, the income tax provision (benefit), or items not
allocated to segments. Information on segment assets is not disclosed as
it is not reviewed by the chief operating decision maker.
The accounting principles applied at the operating segment level in
determining income (loss) from operations are generally the same as those
applied at the consolidated financial statement level. Intersegment sales
and transfers for some operations are accounted for at cost, while others
are accounted for at market-based prices, and are eliminated at the
corporate consolidation level. All corporate-level selling, general and
administrative expenses and costs related to certain former businesses are
allocated to the reportable segments and Other Businesses based on measures
of activity that management believes are reasonable.
The results of segment operations for the third quarter of 2003 and 2002 are:
Total
Flat- Straight- Real Reportable
(In millions) rolled Tubular USSE line Estate Segments
--------------------------------------------------------------------------------
Third Quarter 2003
------------------
Revenues and
other income:
Customer $ 1,820 $ 149 $ 440 $ 36 $ 19 $ 2,464
Intersegment 55 - 4 - 3 62
Equity income
(loss)(a) 1 - - - - 1
Other (1) - 1 - 3 3
----- ----- ----- ----- ----- -----
Total $ 1,875 $ 149 $ 445 $ 36 $ 25 $ 2,530
===== ===== ===== ===== ===== =====
Income (loss)
from operations $ (50) $ (10) $ 35 $ (15) $ 12 $ (28)
===== ===== ===== ===== ===== =====
Third Quarter 2002
------------------
Revenues and
other income:
Customer $ 1,261 $ 148 $ 322 $ 26 $ 22 $ 1,779
Intersegment 60 - 2 - 2 64
Equity income
(loss)(a) 4 - - - - 4
Other - - - - 2 2
----- ----- ----- ----- ----- -----
Total $ 1,325 $ 148 $ 324 $ 26 $ 26 $ 1,849
===== ===== ===== ===== ===== =====
Income (loss)
from operations $ 57 $ 3 $ 40 $ (11) $ 16 $ 105
===== ===== ===== ===== ===== =====
(a)Represents equity in earnings (losses) of unconsolidated investees.
18
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
9. (Continued)
Total
Reportable Other Reconciling Total
(In millions) Segments Businesses Items Corp.
----------------------------------------------------------------------------
Third Quarter 2003
------------------
Revenues and other income:
Customer $ 2,464 $ 42 $ - $ 2,506
Intersegment 62 189 (251) -
Equity income (loss)(a) 1 (3) - (2)
Other 3 1 - 4
------ ------ ------ ------
Total $ 2,530 $ 229 $ (251) $ 2,508
====== ====== ====== ======
Income (loss) from operations $ (28) $ (2) $ (664) $ (694)
====== ====== ====== ======
Third Quarter 2002
------------------
Revenues and other income:
Customer $ 1,779 $ 126 $ - $ 1,905
Intersegment 64 166 (230) -
Equity income (loss)(a) 4 (4) 2 2
Other 2 2 3 7
------ ------ ------ ------
Total $ 1,849 $ 290 $ (225) $ 1,914
====== ====== ====== ======
Income (loss) from operations $ 105 $ 30 $ 5 $ 140
====== ====== ====== ======
(a)Represents equity in earnings (losses) of unconsolidated investees.
The following is a schedule of reconciling items for the third quarter of
2003 and 2002:
Revenues Income (Loss)
And From
Other Income Operations
(In millions) 2003 2002 2003 2002
-------------------------------------------------------------------------
Elimination of intersegment revenues $ (251) $ (230) * *
----- -----
Items not allocated to segments:
Workforce reduction charge - - $ (618) $ -
Asset impairments - - (46) -
Federal excise tax refund - 3 - 3
Insurance recoveries related to USS- - 2 - 2
POSCO fire
----- ----- ----- -----
- 5 (664) 5
----- ----- ----- -----
Total reconciling items $ (251) $ (225) $ (664) $ 5
===== ===== ===== =====
* Elimination of intersegment revenues is offset by the elimination of
intersegment cost of revenues within income (loss) from operations at the
corporate consolidation level.
19
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
9. (Continued)
The results of segment operations for the nine months of 2003 and 2002 are:
Total
Flat- Straight- Real Reportable
(In millions) Rolled Tubular USSE line Estate Segments
--------------------------------------------------------------------------------
Nine Months 2003
----------------
Revenues and
other income:
Customer $ 4,539 $ 425 $ 1,333 $ 96 $ 70 $ 6,463
Intersegment 157 - 11 - 8 176
Equity income
(loss)(a) 11 - 1 - - 12
Other 7 5 3 - 7 22
----- ----- ----- ----- ----- -----
Total $ 4,714 $ 430 $ 1,348 $ 96 $ 85 $ 6,673
===== ===== ===== ===== ===== =====
Income (loss)
from operations $ (144) $ (20) $ 166 $ (49) $ 42 $ (5)
===== ===== ===== ===== ===== =====
Nine Months 2002
---------------
Revenues and
other income:
Customer $ 3,434 $ 415 $ 823 $ 51 $ 53 $ 4,776
Intersegment 147 - 2 - 6 155
Equity income
(loss)(a) (5) - 1 - - (4)
Other (1) - 3 - 6 8
----- ----- ----- ----- ----- -----
Total $ 3,575 $ 415 $ 829 $ 51 $ 65 $ 4,935
===== ===== ===== ===== ===== =====
Income (loss)
from operations $ (57) $ 10 $ 65 $ (28) $ 37 $ 27
===== ===== ===== ===== ===== =====
(a)Represents equity in earnings (losses) of unconsolidated investees.
20
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
9. (Continued)
Total
Reportable Other Reconciling Total
(In millions) Segments Businesses Items Corp.
----------------------------------------------------------------------------
Nine Months 2003
------------------
Revenues and other income:
Customer $ 6,463 $ 252 $ - $ 6,715
Intersegment 176 453 (629) -
Equity income (loss)(a) 12 (11) (11) (10)
Other 22 3 47 72
---- ---- ---- ----
Total $ 6,673 $ 697 $ (593) $ 6,777
==== ==== ==== ====
Income (loss) from operations $ (5) $ (38) $ (653) $ (696)
==== ==== ==== ====
Nine Months 2002
------------------
Revenues and other income:
Customer $ 4,776 $ 321 $ - $ 5,097
Intersegment 155 434 (589) -
Equity income (loss)(a) (4) (5) 20 11
Other 8 3 36 47
---- ---- ---- ----
Total $ 4,935 $ 753 $ (533) $ 5,155
==== ==== ==== ====
Income (loss) from operations $ 27 $ 59 $ 40 $ 126
==== ==== ==== ====
(a)Represents equity in earnings (losses) of unconsolidated investees.
The following is a schedule of reconciling items for the nine months of
2003 and 2002:
Revenues Income (Loss)
And From
Other Income Operations
(In millions) 2003 2002 2003 2002
-------------------------------------------------------------------------
Elimination of intersegment revenues $ (629) $ (589) * *
----- -----
Items not allocated to segments:
Workforce reduction charges - - $ (618) $ (10)
Asset impairments (11) - (57) (14)
Income from sale of coal seam gas 34 - 34 -
interests
Gain on sale of coal mining assets 13 - 13 -
Litigation items - - (25) 9
Federal excise tax refund - 36 - 36
Insurance recoveries related to US- - 20 - 20
POSCO fire
Costs related to Fairless shutdown - - - (1)
----- ----- ----- -----
36 56 (653) 40
----- ----- ----- -----
Total reconciling items $ (593) $ (533) $ (653) $ 40
===== ===== ===== =====
* Elimination of intersegment revenues is offset by the elimination of
intersegment cost of revenues within income (loss) from operations at the
corporate consolidation level.
21
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
10. In the nine months of 2003, U. S. Steel sold certain coal seam gas
interests in Alabama for net cash proceeds of $34 million, which is
reflected in other income.
In the second and third quarters of 2002, U. S. Steel recognized
pretax gains of $33 million and $3 million, respectively, associated with
the recovery of black lung excise taxes that were paid on coal export sales
during the period 1993 through 1999. These gains are included in other
income in the statement of operations and resulted from a 1998 federal
district court decision that found such taxes to be unconstitutional. Of
the $36 million recognized, $11 million represents the interest component
of the gain.
11. In the third quarter of 2003, U. S. Steel recorded curtailment
expenses of $310 million for pensions and $64 million for other post-
postretirement benefits related to employee reductions under the TAP for
employees (excluding former National employees retiring under the TAP),
other retirements, layoffs and pending asset dispositions. Termination
benefit harges of $34 million were recorded primarily for enhanced pension
benefits provided to U. S. Steel employees retiring under the TAP. Of the
above total charges, $336 million was recorded in cost of revenues
and $72 million was recorded in selling, general and administrative
expenses. Further charges of $105 million for early retirement cash
incentives related to the TAP, excluding amounts associated with former
National employees, were recorded in cost of revenues. Selling, general
and administrative expenses for the nine months of 2003 and nine months of
2002 also included pension settlement losses of $97 million and $10 million,
respectively, related to retirements of salaried personnel. Selling, general
and administrative expenses in the third quarter of 2003 also included $8
million for an accrual for salaried benefits under the layoff benefit plan.
12. Net interest and other financial costs include amounts related to the
remeasurement of USSK's and USSB's net monetary assets into the U.S. dollar,
which is their functional currency. During the third quarter and nine
months of 2003, net gains of $8 million and $5 million, respectively, were
recorded as compared with net gains of $1 million and $14 million,
respectively, in the third quarter and nine months of 2002. Additionally,
net interest and other financial costs in the third quarter and nine months
of 2003 included a favorable adjustment of $13 million related to
interest accrued for prior years' income taxes.
13. U. S. Steel records depreciation on a modified straight-line method
for domestic steel-producing assets based upon production levels. Applying
modification factors decreased expenses by $4 million and $1 million for
the third quarter of 2003 and 2002, respectively, and $15 million and $4
million for the nine months of 2003 and 2002, respectively.
22
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
14. Income from investees for the nine months of 2003 included an $11
million impairment of a cost method investment. Income from investees for
the nine months of 2002 includes a pretax gain of $20 million for
U. S. Steel's share of insurance recoveries related to the May 31, 2001
fire at the USS-POSCO joint venture.
15. Comprehensive Income
Third Quarter Nine Months
Ended Ended
Sept. 30 Sept. 30
(In millions) 2003 2002 2003 2002
----------------------------------------------------------------------------
Net income (loss) $(354) $ 106 $(441) $ 50
Other comprehensive income (loss):
Changes in (net of tax):
Minimum pension liability (167) - (160) 7
Foreign currency translation adjustments - - 1 1
State tax valuation allowance - - (6) -
---- ---- ---- ----
Comprehensive income (loss) $(521) $ 106 $(606) $ 58
==== ==== ==== ====
The change in the minimum pension liability recorded in the third quarter
2003 reflects $(169) million for the union pension plan and $2 million for
the non-union excess-supplemental pension plan. These plans were remeasured
in the third quarter 2003. See further information in Note 11.
16. The income tax benefit in the nine months of 2003 reflected an
estimated annual effective tax rate of 49%. The first nine months of 2003
included a $14 million favorable effect relating to an adjustment of prior
years' taxes, in addition to a $4 million deferred tax benefit relating to
the reversal of a state valuation allowance.
The tax benefit in the nine months of 2003 is based on an estimated
annual effective rate, which requires management to make its best estimate
of annual forecasted pretax income (loss) for the year. During the year,
management regularly updates forecast estimates based on changes in various
factors such as prices, shipments, product mix, plant operating performance
and cost estimates, including pension and other postretirement benefits.
To the extent that actual pretax results for domestic and foreign income in
2003 vary from forecast estimates applied at the end of the most recent
interim period, the actual tax benefit recognized in 2003 could be
materially different from the forecasted annual tax benefit as of the end
of the third quarter.
The income tax benefit in the nine months of 2002 reflected an
estimated annual effective tax benefit rate for 2002 of approximately 31%
and included a $4 million deferred tax charge related to a newly enacted
state tax law.
23
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
16. (Continued)
As of September 30, 2003, U. S. Steel had net federal and state deferred
tax assets of $470 million and $92 million, respectively, which are
expected to increase during the fourth quarter. Although U. S. Steel has
experienced domestic losses in the current and prior year, management
believes that it is more likely than not that tax planning strategies
generating future taxable income can be utilized to realize the deferred
tax assets recorded at September 30, 2003. Tax planning strategies include
the implementation of the previously announced plan to dispose of non-
strategic assets, as well as the ability to elect alternative tax
accounting methods to provide future taxable income to assure realization
of the anticipated deferred tax assets. During the fourth quarter, U. S.
Steel intends to merge two of its defined benefit pension plans. Depending
on the discount rate in effect on the measurement date and the growth in
plan assets during the fourth quarter, the additional minimum pension
liability determination at year end may increase federal and state deferred
tax assets substantially or may result in a net deferred tax liability if a
significant reversal of federal and state deferred tax assets occurs. The
amount of the realizable deferred tax assets at September 30, 2003, and
those expected to be recognized in the fourth quarter of the year could be
adversely affected to the extent that losses continue in the future, if
future events affect the ability to implement tax planning strategies or if
further charges result from an increase in the minimum pension liability.
Management will reassess the need for a valuation allowance at December 31,
2003.
The Slovak Income Tax Act provides an income tax credit which is
available to USSK if certain conditions are met. In order to claim the tax
credit in any year, 60% of USSK's sales must be export sales and USSK must
reinvest the tax credits claimed in qualifying capital expenditures during
the five years following the year in which the tax credit is claimed. The
provisions of the Slovak Income Tax Act permit USSK to claim a tax credit
of 100% of USSK's tax liability for years 2000 through 2004 and 50% for the
years 2005 through 2009. Management believes that USSK fulfilled all of
the necessary conditions for claiming the tax credit for the years for
which it was claimed and anticipates meeting such requirements in 2003. As
a result of claiming these tax credits and management's intent to reinvest
earnings in foreign operations, virtually no income tax provision is
recorded for USSK income.
In October 2002, a tax credit limit was negotiated by the Slovak government
as part of the Accession Treaty governing the Slovak Republic's entry into
the European Union (EU). The Treaty limits to $500 million the total tax
credit to be granted to USSK during the period 2000 through 2009. The
impact of the tax credit limit is expected to be minimal since Slovak tax
laws have been modified and tax rates have been reduced since the
acquisition of USSK. The Treaty also places limits upon USSK's flat-rolled
production and export sales to the EU, allowing for modest growth each year
through 2009. The limits upon export sales to the EU take effect upon the
Slovak Republic's entry into the EU, which is expected to occur in May
2004. A question has recently arisen with respect to the effective date of
the production limits. Slovak Republic representatives have stated their
belief that the Treaty intended that these limits take effect upon entry
into the EU, whereas the European Commission has taken the position that
the flat-rolled production limitations apply as of 2002. Discussions
between representatives of the Slovak Republic and the European Commission
are ongoing. Although it is not possible to predict the outcome of those
discussions, an agreement resolving this issue may be reached prior to the
end of 2003. That agreement could result in a reduction in USSK's tax
credit and/or the acceleration of the restrictions upon USSK's flat-rolled
production and/or sales into the EU. At this time, it is not possible to
predict the impact of such a settlement upon U. S. Steel's financial
position, results of operations or cash flows.
24
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
17. In February 2003, U. S. Steel sold 5 million shares of 7% Series B
Mandatory Convertible Preferred Shares (no par value, liquidation
preference $50 per share) (Series B Preferred) for net proceeds of
$242 million. The Series B Preferred have a dividend yield of 7%, a 20%
conversion premium (for an equivalent conversion price of $15.66 per common
share) and will mandatorily convert into shares of U. S. Steel common stock
on June 15, 2006. The net proceeds of the offering were used for general
corporate purposes and to fund a portion of the cash purchase price for the
acquisition of National's assets. The number of common shares that could
be issued upon conversion of the 5 million shares of Series B Preferred
ranges from approximately 16.0 million shares to 19.2 million shares, based
upon the timing of the conversion and the average market price of
U. S. Steel's common stock. Preferred stock dividends of $11 million paid
during 2003 reduced the paid-in capital of the Series B Preferred because
of the retained deficit.
18. Revenues from related parties and receivables from related parties
primarily reflect sales of steel products, raw materials and fees for
providing various management and other support services to equity and
certain other investees. Generally, transactions are conducted under long-
term market-based contractual arrangements.
Receivables from related parties at September 30, 2003 and
December 31, 2002, also included $16 million and $28 million, respectively,
due from Marathon Oil Corporation (Marathon) for tax settlements in
accordance with the tax sharing agreement.
Long-term receivables from related parties at September 30, 2003 and
December 31, 2002, reflect amounts due from Marathon related to contractual
reimbursements for the retirement of participants in the non-qualified
employee benefit plans. These amounts will be paid by Marathon as
participants retire.
Accounts payable to related parties reflect balances due to PRO-TEC
Coating Company (PRO-TEC) under an agreement whereby U. S. Steel provides
marketing, selling and customer service functions, including invoicing and
receivables collection, for PRO-TEC. U. S. Steel, as PRO-TEC's exclusive
sales agent, is responsible for credit risk associated with the
receivables. Payables to PRO-TEC under the agreement were $62 million and
$42 million at September 30, 2003 and December 31, 2002, respectively.
Accounts payable to related parties at September 30, 2003 and
December 31, 2002, also included amounts related to the purchase of outside
processing services from equity investees. At December 31, 2002, accounts
payable to related parties also included the net present value of the
second and final $37 million installment of contingent consideration
payable to VSZ a.s. related to the acquisition of USSK, which was paid in
July 2003.
25
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
19. Inventories are carried at the lower of cost or market. Cost of
inventories is determined primarily under the last-in, first-out (LIFO)
method.
(In millions)
-------------------------
September 30 December 31
2003 2002
--------- ---------
Raw materials $ 221 $ 228
Semi-finished products 613 472
Finished products 499 271
Supplies and sundry items 61 59
---- ----
Total $ 1,394 $ 1,030
==== ====
Costs of revenues decreased by $11 million and increased by $2 million in
the nine months of 2003 and 2002, respectively, as a result of liquidations
of LIFO inventories.
20. Net income (loss) per common share was calculated by adjusting net
income (loss) for dividend requirements of preferred stock and is based on
the weighted average number of common shares outstanding during the
quarter.
Diluted net income (loss) assumes the exercise of stock options and
conversion of preferred stock, provided in each case, the effect is
dilutive. For the third quarters ended September 30, 2003 and 2002, the
potential common stock related to employee options to purchase 6,776,877
shares and 5,073,601 shares of common stock, respectively, and 15,964,000
shares applicable to the conversion of preferred stock at
September 30, 2003, have been excluded from the computation of diluted net
income (loss) because the effect was antidilutive. For the nine months
ended September 30, 2003 and 2002, the potential common stock related to
employee options to purchase 6,871,324 shares and 5,071,380 shares of
common stock, respectively, and 13,624,952 shares applicable to the
conversion of preferred stock at September 30, 2003, have been excluded
from the computation of diluted net income (loss) because their effect was
antidilutive.
21. On May 20, 2003, U. S. Steel entered into a new revolving credit
facility that provides for borrowings of up to $600 million that replaced a
similar $400 million facility entered into on November 30, 2001. The new
facility, which is secured by a lien on U. S. Steel's inventory and
receivables (to the extent not sold under the Receivables Purchase
Agreement) expires in May 2007 and contains a number of covenants that
require lender consent to incur debt or make capital expenditures above
certain limits; sell assets used in the production of steel or steel
products or incur liens on assets; and limit dividends and other restricted
payments if the amount available for borrowings drops below certain levels.
The facility also contains a fixed charge coverage ratio, calculated as the
ratio of operating cash flow to cash charges as defined in the agreement,
which effectively reduces availability by $100 million if not met. At
September 30, 2003, $530 million was available under this facility.
At September 30, 2003, USSK had no borrowings against its $50 million
credit facilities. In addition, USSK had $3 million of customs guarantees
outstanding, reducing availability under these facilities to $47 million.
These facilities expire in the fourth quarter of 2004.
26
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
21. (Continued)
At September 30, 2003, in the event of a change in control of
U. S. Steel, debt obligations totaling $1,335 million may be declared
immediately due and payable. In such event, U. S. Steel may also be
required to either repurchase the leased Fairfield slab caster for $84
million or provide a letter of credit to secure the remaining obligation.
In May 2003, in connection with the National acquisition, U. S. Steel
issued $450 million of Senior Notes due May 15, 2010 (9-3/4% Senior Notes).
These notes have an interest rate of 9-3/4% per annum payable semi-annually
on May 15 and November 15, commencing November 15, 2003. The 9-3/4% Senior
Notes were issued under U. S. Steel's shelf registration statement and were
not listed on any national securities exchange. Proceeds from the sale of
the 9-3/4% Senior Notes were used to finance a portion of the purchase price
to acquire National's assets. In 2001, U. S. Steel issued $535 million of
10-3/4% Senior Notes. As of September 30, 2003, the aggregate principal
amount of 9-3/4% and 10-3/4% Senior Notes outstanding was $450 million and
$535 million, respectively. As of December 31, 2002, the aggregate
principal amount outstanding of the 10-3/4% Senior Notes was $535 million.
In conjunction with issuing the 9-3/4% Senior Notes, U. S. Steel
solicited the consent of the holders of the 10-3/4% Senior Notes to modify
certain terms of the notes to conform to the terms of the 9-3/4% Senior
Notes. Those conforming changes modified the definitions of Consolidated
Net Income, EBITDA and Like-Kind Exchange, permitted dividend payments on
the 7.00% Series B Mandatory Convertible Preferred Shares and expanded
permitted investments to include loans made for the purpose of facilitating
like-kind exchange transactions. U. S. Steel received the consent from
holders of more than 90% of the principal amount of the 10-3/4% Senior
Notes and the amendments were effective May 20, 2003.
The 9-3/4% and 10-3/4% Senior Notes impose certain restrictions that
limit U. S. Steel's ability to, among other things: incur debt; pay
dividends or make other payments from its subsidiaries; issue and sell
capital stock of its subsidiaries; engage in transactions with affiliates;
create liens on assets to secure indebtedness; transfer or sell assets;
and consolidate, merge or transfer all or substantially all of U. S. Steel's
assets or the assets of its subsidiaries.
U. S. Steel was in compliance with all of its debt covenants at
September 30, 2003.
22. On May 19, 2003, U. S. Steel entered into an amendment to the
Receivables Purchase Agreement, which increased fundings under the facility
to the lesser of eligible receivables or $500 million. During the nine
months ended September 30, 2003, U. S. Steel Receivables LLC (USSR) sold to
conduits and subsequently repurchased $190 million of revolving interest in
accounts receivable under the Receivables Purchase Agreement. During the
nine months ended September 30, 2002, USSR sold to conduits and
subsequently repurchased $320 million of revolving interest in accounts
receivable. As of September 30, 2003, $489 million was available to be
sold under this facility.
USSR pays the conduits a discount based on the conduits' borrowing
costs plus incremental fees. During the nine months ended
September 30, 2003 and 2002, U. S. Steel incurred costs on the sale of its
receivables of $1 million and $2 million, respectively.
27
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
22. (Continued)
While the facility expires in November 2006, the facility also
terminates on the occurrence and failure to cure certain events, including,
among others, certain defaults with respect to the Inventory Facility and
other debt obligations, any failure of USSR to maintain certain ratios
related to the collectibility of the receivables, and failure to extend the
commitments of the commercial paper conduits' liquidity providers which
currently terminate on November 26, 2003. U. S. Steel is negotiating a
renewal of the 364-day commitments of the liquidity providers in accordance
with the terms of the facility.
23. U. S. Steel is the subject of, or party to, a number of pending or
threatened legal actions, contingencies and commitments involving a variety
of matters, including laws and regulations relating to the environment.
Certain of these matters are discussed below. The ultimate resolution of
these contingencies could, individually or in the aggregate, be material to
the consolidated financial statements. However, management believes that
U. S. Steel will remain a viable and competitive enterprise even though it
is possible that these contingencies could be resolved unfavorably.
U. S. Steel accrues for estimated costs related to existing lawsuits,
claims and proceedings when it is probable that it will incur these costs
in the future.
Asbestos matters - U. S. Steel is a defendant in a large number of cases in
which approximately 14,000 claimants actively allege injury resulting from
exposure to asbestos. Almost all these cases involve multiple plaintiffs
and multiple defendants. These claims fall into three major groups: (1)
claims made under certain federal and general maritime laws by employees of
the Great Lakes Fleet or Intercoastal Fleet, former operations of
U. S. Steel; (2) claims made by persons who performed work at U. S. Steel
facilities (referred to as "premises claims"); and (3) claims made by
industrial workers allegedly exposed to an electrical cable product
formerly manufactured by U. S. Steel. While U. S. Steel has excess
casualty insurance, these policies have multi-million dollar self insured
retentions and, to date, U. S. Steel has not received any payments under
these policies relating to asbestos claims. In most cases, this excess
casualty insurance is the only insurance applicable to asbestos claims.
These cases allege a variety of respiratory and other diseases based on
alleged exposure to asbestos contained in a U. S. Steel electric cable
product or to asbestos on U. S. Steel's premises; approximately 200
plaintiffs allege they are suffering from mesothelioma. In many cases, the
plaintiffs cannot demonstrate that they have suffered any compensable loss
as a result of such exposure or that any injuries they have incurred did in
fact result from such exposure. Virtually all asbestos cases seek monetary
damages from multiple defendants. U. S. Steel is unable to provide
meaningful disclosure about the total amount of such damages alleged in
these cases for the following reasons: (1) many cases do not claim a
specific demand for damages, or contain a demand that is stated only as
being in excess of the minimum jurisdictional limit of the relevant court;
(2) even where there are specific demands for damages, there is no
meaningful way to determine what amount of the damages would or could be
assessed against any particular defendant; (3) plaintiffs' lawyers often
allege the same amount of damages irrespective of the specific harm that
has been alleged, even though the ultimate outcome of any claim may depend
upon the actual disease, if any, that the plaintiff is able to prove and
the actual exposure, if any, to the U. S. Steel product or the duration of
exposure, if any, on U. S. Steel's premises. U. S. Steel believes the
amount of any damages alleged in the complaints initially filed in these
cases is not relevant in assessing its potential liability.
28
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
23. (Continued)
Until March 2003, U. S. Steel was successful in all asbestos cases that it
tried to final judgment. On March 28, 2003, a jury in Madison County,
Illinois returned a verdict against U. S. Steel for $50 million in
compensatory damages and $200 million in punitive damages. The plaintiff,
an Indiana resident, alleged he was exposed to asbestos while working as a
U. S. Steel employee at Gary Works in Gary, Indiana from 1950 to 1981 and
that he suffers from mesothelioma as a result. U. S. Steel believes the
plaintiff's exclusive remedy was provided by the Indiana workers'
compensation law and that this issue and other errors at trial would have
enabled U. S. Steel to succeed on appeal. However, in order to avoid the
delay and uncertainties of further litigation and having to post an appeal
bond equal to the amount of the verdict and to allow U. S. Steel to
actively pursue its acquisition activities and other strategic initiatives,
U. S. Steel settled this case and the settlement was reflected in financial
results for the first quarter of 2003.
It is not possible to predict the ultimate outcome of asbestos-related
lawsuits, claims and proceedings due to the unpredictable nature of
personal injury litigation. Despite this and although our results of
operations or cash flows for a given period could be adversely affected by
asbestos-related lawsuits, claims and proceedings, the Company believes the
ultimate resolution of these matters will not have a material adverse
effect on the Company's financial condition.
Property taxes - U. S. Steel is a party to several property tax
disputes involving its Gary Works property in Indiana, including claims for
refunds totaling approximately $65 million pertaining to tax years 1994-96
and 1999, and assessments totaling approximately $133 million in excess of
amounts paid for the 2000, 2001 and 2002 tax years. In addition, interest
may be imposed upon any final assessment. The disputes involve property
values and tax rates and are in various stages of administrative appeal.
U. S. Steel is vigorously defending against the assessments and pursuing
its claims for refunds.
Environmental matters - U. S. Steel is subject to federal, state,
local and foreign laws and regulations relating to the environment. These
laws generally provide for control of pollutants released into the
environment and require responsible parties to undertake remediation of
hazardous waste disposal sites. Penalties may be imposed for noncompliance.
Accrued liabilities for remediation totaled $125 million and $135 million
at September 30, 2003 and December 31, 2002, respectively. Remediation
liabilities at September 30, 2003, included liabilities recorded for asset
retirement obligations under SFAS No. 143. It is not presently possible to
estimate the ultimate amount of all remediation costs that might be
incurred or the penalties that may be imposed.
29
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
23. (Continued)
For a number of years, U. S. Steel has made substantial capital
expenditures to bring existing facilities into compliance with various laws
relating to the environment. In the nine months of 2003 and for the years
2002 and 2001, such capital expenditures totaled $15 million, $14 million
and $15 million, respectively. U. S. Steel anticipates making additional
such expenditures in the future; however, the exact amounts and timing of
such expenditures are uncertain because of the continuing evolution of
specific regulatory requirements.
Throughout its history, U. S. Steel has sold numerous properties and
businesses and has provided various indemnifications with respect to many
of the assets that were sold. These indemnifications have been associated
with the condition of the property, the approved use, certain
representations and warranties, matters of title and environmental matters.
While the vast majority of indemnifications have not covered environmental
issues, there have been a few transactions in which U. S. Steel indemnified
the buyer for non-compliance with past, current and future environmental
laws related to existing conditions; however, most recent indemnifications
are of a limited nature only applying to non-compliance with past and/or
current laws. Some indemnifications only run for a specified period of
time after the transactions close and others run indefinitely. The amount
of potential liability associated with these transactions is not estimable
due to the nature and extent of the unknown conditions related to the
properties sold. Aside from approximately $15 million of liabilities
already recorded as a result of these indemnifications due to specific
environmental remediation cases (included in the $125 million of accrued
liabilities for remediation discussed above), there are no other known
liabilities related to these indemnifications.
Guarantees - Guarantees of the liabilities of unconsolidated entities
of U. S. Steel totaled $30 million at September 30, 2003, including $7
million related to an equity interest acquired as part of the National
asset purchase, and $27 million at December 31, 2002. If any defaults of
guaranteed liabilities occur, U. S. Steel has access to its interest in the
assets of the investees to reduce potential losses resulting from these
guarantees. As of September 30, 2003, the largest guarantee for a single
such entity was $14 million, which represents the maximum exposure to loss
under a guarantee of debt service payments of an equity investee. No
liability has been recorded for these guarantees.
Contingencies related to Separation from Marathon - U. S. Steel was
contingently liable for debt and other obligations of Marathon in the
amount of approximately $68 million at September 30, 2003, compared to
$168 million at December 31, 2002. In the event of the bankruptcy of
Marathon, these obligations for which U. S. Steel is contingently liable
may be declared immediately due and payable. If such event occurs,
U. S. Steel may not be able to satisfy such obligations. No liability has
been recorded for these contingencies because management believes the
likelihood of occurrence is remote.
30
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
23. (Continued)
If the Separation is determined to be a taxable distribution of the
stock of U. S. Steel, but there is no breach of a representation or
covenant by either U. S. Steel or Marathon, U. S. Steel would be liable for
any resulting taxes (Separation No-Fault Taxes) incurred by Marathon.
U. S. Steel's indemnity obligation for Separation No-Fault Taxes survives
until the expiration of the applicable statute of limitations. The maximum
potential amount of U. S. Steel's indemnity obligation for Separation
No-Fault Taxes at September 30, 2003 and December 31, 2002, was estimated
to be approximately $140 million. No liability has been recorded for this
indemnity obligation because management believes that the likelihood of the
Separation being determined to be a taxable distribution of the stock of
U. S. Steel is remote.
Other contingencies - U. S. Steel is contingently liable to its
Chairman and Chief Executive Officer for a $3 million retention bonus. The
bonus is payable upon the earlier of his retirement from active employment
or December 31, 2004, and is subject to certain performance measures.
Under certain operating lease agreements covering various equipment,
U. S. Steel has the option to renew the lease or to purchase the equipment
at the end of the lease term. If U. S. Steel does not exercise the
purchase option by the end of the lease term, U. S. Steel guarantees a
residual value of the equipment as determined at the lease inception date
(totaling approximately $51 million at both September 30, 2003 and
December 31, 2002). No liability has been recorded for these guarantees as
either management believes that the potential recovery of value from the
equipment when sold is greater than the residual value guarantee, or the
potential loss is not probable and/or estimable.
Mining sale - U. S. Steel remains secondarily liable in the event that
a withdrawal from a multiemployer pension plan is triggered within five
years of the sale. A withdrawal is triggered when annual contributions to
the plan are substantially less than contributions made in prior years.
The maximum exposure for the fee that would be assessed upon a withdrawal
is $79 million. U. S. Steel recorded the fair value of this liability as
of June 30, 2003. U. S. Steel has agreed to indemnify the purchaser for
certain environmental matters, which are included in the environmental
matters discussion above.
Transtar reorganization - The 2001 reorganization of Transtar was
intended to be tax-free for federal income tax purposes, with U. S. Steel
and Transtar Holdings, L.P. (Holdings) agreeing through various
representations and covenants to protect the reorganization's tax-free
status. If the reorganization is determined to be taxable, but there is no
breach of a representation or covenant by either U. S. Steel or Holdings,
U. S. Steel is liable for 44% of any resulting Holdings taxes (Transtar No-
Fault Taxes), and Holdings is responsible for 56% of any resulting
U. S. Steel taxes. U. S. Steel's indemnity obligation for Transtar No-
Fault Taxes survives until 30 days after the expiration of the applicable
statute of limitations. The maximum potential amount of U. S. Steel's
indemnity obligation for Transtar No-Fault Taxes at September 30, 2003 and
December 31, 2002, was estimated to be approximately $70 million. No
liability has been recorded for this indemnity obligation because
management believes that the likelihood of the reorganization being
determined to be taxable resulting in Transtar No-Fault Taxes is remote.
31
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
23. (Continued)
Clairton 1314B partnership - U. S. Steel has a commitment to fund
operating cash shortfalls of the partnership of up to $150 million.
Additionally, U. S. Steel, under certain circumstances, is required to
indemnify the limited partners if the partnership product sales fail to
qualify for the credit under Section 29 of the Internal Revenue Code. This
indemnity will effectively survive until the expiration of the applicable
statute of limitations. The maximum potential amount of this indemnity
obligation at September 30, 2003 and December 31, 2002, including interest
and tax gross-up, was approximately $600 million. Furthermore, U. S. Steel
under certain circumstances has indemnified the partnership for
environmental obligations. See discussion of environmental matters above.
The maximum potential amount of this indemnity obligation is not estimable.
Management believes that the $150 million deferred gain related to the
partnership, which is recorded in deferred credits and other liabilities,
is more than sufficient to cover any probable exposure under these
commitments and indemnifications.
Self-insurance - U. S. Steel is self-insured for certain
exposures including workers' compensation, auto liability and general
liability, as well as property damage and business interruption, within
specified deductible and retainage levels. Certain equipment that is
leased by U. S. Steel is also self-insured within specified deductible and
retainage levels. Liabilities are recorded for workers' compensation and
personal injury obligations. Other costs resulting from self-insured
losses are charged against income upon occurrence.
U. S. Steel uses surety bonds, trusts and letters of credit to provide
whole or partial financial assurance for certain obligations such as
workers' compensation. The total amount of active surety bonds, trusts and
letters of credit being used for financial assurance purposes was
approximately $140 million as of September 30, 2003 and $144 million as of
December 31, 2002, which reflects U. S. Steel's maximum exposure under
these financial guarantees, but not its total exposure for the underlying
obligations. Most of the trust arrangements and letters of credit are
collateralized by restricted cash that is recorded in other noncurrent
assets.
Commitments - At September 30, 2003 and December 31, 2002,
U. S. Steel's domestic contract commitments to acquire property, plant and
equipment totaled $34 million and $24 million, respectively.
USSK has a commitment to the Slovak government for a capital
improvements program of $700 million, subject to certain conditions, over a
period commencing with the acquisition date of November 24, 2000, and
ending on December 31, 2010. The remaining commitments under this capital
improvements program as of September 30, 2003 and December 31, 2002, were
$477 million and $541 million, respectively.
U. S. Steel entered into a 15-year take-or-pay arrangement in 1993,
which requires it to accept pulverized coal each month or pay a minimum
monthly charge of approximately $1 million. If U. S. Steel elects to
terminate the contract early, a maximum termination payment of $77 million
as of September 30, 2003, which declines over the duration of the
agreement, may be required.
32
UNITED STATES STEEL CORPORATION
SELECTED NOTES TO FINANCIAL STATEMENTS (Continued)
--------------------------------------------------
(Unaudited)
24. On September 30, 2003, U. S. Steel and International Steel Group Inc.
(ISG) reached an agreement to exchange the assets of U. S. Steel's plate
mill at Gary Works for the assets of ISG's No. 2 pickle line at its
Indiana Harbor Works. As a result of this non-monetary exchange, which
closed effective November 1, 2003, U. S. Steel recognized in the third
quarter of 2003, a pretax impairment charge of $46 million, which was
recorded in depreciation, depletion and amortization.
33
UNITED STATES STEEL CORPORATION
COMPUTATION OF RATIO OF EARNINGS TO COMBINED FIXED CHARGES
AND PREFERRED STOCK DIVIDENDS
--------------------------------------------------
(Unaudited)
Nine Months Ended
September 30 Year Ended December 31
------------------- --------------------------------------------------
2003 2002 2002 2001 2000 1999 1998
---- ---- ---- ---- ---- ---- ----
(a) 1.34 1.04 (b) 1.05 2.10 5.15
==== ==== ==== ==== ==== ==== ====
(a) Earnings did not cover combined fixed charges and preferred stock
dividends by $789 million.
(b) Earnings did not cover combined fixed charges and preferred stock
dividends by $598 million.
UNITED STATES STEEL CORPORATION
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
-------------------------------------------------
(Unaudited)
Nine Months Ended
September 30 Year Ended December 31
------------------- --------------------------------------------------
2003 2002 2002 2001 2000 1999 1998
---- ---- ---- ---- ---- ---- ----
(a) 1.34 1.04 (b) 1.13 2.33 5.89
==== ==== ==== ==== ==== ==== ====
(a) Earnings did not cover fixed charges by $767 million.
(b) Earnings did not cover fixed charges by $586 million.
34
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
On May 20, 2003, United States Steel Corporation (U. S. Steel) acquired
substantially all of the integrated steelmaking assets of National Steel
Corporation (National). See Note 3 of Selected Notes to Financial Statements
for information regarding the acquisition. The facilities that were acquired
included two integrated steel plants, Granite City in Granite City, Illinois,
and Great Lakes in Ecorse and River Rouge, Michigan; the Midwest finishing
facility in Portage, Indiana; ProCoil in Canton, Michigan; a 50% equity interest
in Double G Coatings, L.P. near Jackson, Mississippi; the taconite pellet
operations in Keewatin, Minnesota; and the Delray Connecting Railroad.
Granite City has annual raw steel production capability of approximately
2.8 million tons. Principal products include hot-rolled, hot-dipped galvanized
and Galvalume steel.
Great Lakes has annual raw steel production capability of approximately
3.8 million tons. Principal products include hot-rolled, cold-rolled,
electrolytic galvanized and hot dip galvanized.
The Midwest facility finishes hot-rolled bands. Principal products include
tin mill products, hot dip galvanized and Galvalume steel, cold-rolled and
electrical lamination steels.
ProCoil slits and cuts steel coils to desired specifications, provides
laser welding services and warehouses material to service automotive market
customers.
Double G Coatings, L.P. is a 300,000 ton per year hot dip galvanizing and
Galvalume facility.
The taconite pellet operations are located on the western end of the Mesabi
Iron Ore Range and have current annual effective iron ore pellet capacity of
over five million gross tons.
On June 30, 2003, U. S. Steel completed the sale of the coal mines and
related assets of U. S. Steel Mining Company, LLC (Mining Sale). See Note 5 of
Selected Notes to Financial Statements for details regarding the sale.
On September 12, 2003, U. S. Steel Balkan, d.o.o. (USSB), a wholly owned
Serbian subsidiary of U. S. Steel, acquired Sartid a.d. (In Bankruptcy), an
integrated steel company majority-owned by the Government of the Union of Serbia
and Montenegro, and certain of its subsidiaries (collectively "Sartid") out of
bankruptcy. U. S. Steel's technical assessment has determined that, with the
introduction of market-driven operating practices, an extensive rehabilitation
program and a capital spending program, the assets acquired have annual raw
steel design production capability of about 2.4 million tons. See Note 4 of
Selected Notes to Financial Statements for further information regarding the
acquisition.
The acquisition of the assets of National (National Acquisition) and the
acquisition of Sartid increased U. S. Steel's domestic and global annual raw
steel production capability to 19.4 million tons and 26.8 million tons,
respectively, making it the largest domestic producer and the sixth largest in
the world based upon raw steel production.
35
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
U. S. Steel has five reportable segments: Flat-rolled Products (Flat-
rolled), Tubular Products (Tubular), U. S. Steel Europe (USSE), Straightline
Source (Straightline) and USS Real Estate (Real Estate). Businesses not
included in the reportable segments are reflected in Other Businesses. The
National Acquisition changed the composition of the Flat-rolled segment and
Other Businesses as described below, but did not result in a change in
U. S. Steel's reportable segments. Effective with the Mining Sale, Other
Businesses are no longer involved in the mining, processing and sale of coal.
Effective with the acquisition of Sartid, the U. S. Steel Kosice (USSK) segment
was renamed U. S. Steel Europe (USSE) and includes the operating results of
USSB.
Effective with the third quarter of 2003, the composition of the Flat-
rolled segment was changed to include the results of the coke operations at
Clairton Works and Gary Works, which were previously reported in Other
Businesses. This change reflects our recent management consolidations.
Comparative results for 2002 have been conformed to the current year
presentation.
The Flat-rolled segment includes the operating results of U. S. Steel's
domestic integrated steel mills and equity investees involved in the production
of sheet, plate, and tin mill products, as well as all domestic coke production
facilities. These operations are principally located in the United States and
primarily serve customers in the transportation (including automotive),
appliance, service center, conversion, container, and construction markets.
Effective May 20, 2003, the Flat-rolled segment includes the operating results
of Granite City, Great Lakes, the Midwest finishing facility, ProCoil and
U. S. Steel's equity interest in Double G Coatings, which were acquired from
National.
The Tubular segment includes the operating results of U. S. Steel's
domestic tubular production facilities and, prior to May 2003, included
U. S. Steel's equity interest in Delta Tubular Processing (Delta). These
operations produce and sell both seamless and electric resistance weld tubular
products and primarily serve customers in the oil, gas and petrochemical
markets. In May 2003, U. S. Steel sold its interest in Delta.
The USSE segment includes the operating results of USSK, U. S. Steel's
integrated steel mill in the Slovak Republic; and, effective September 12, 2003,
the former Sartid facilities in Serbia, now operated as USSB. Prior to
September 12, 2003, this segment included the operating results of activities
under facility management and support agreements with Sartid. These agreements
were terminated in conjunction with the acquisition of these assets. USSE
operations produce and sell sheet, plate, tin, tubular, precision tube and
specialty steel products, as well as coke. USSE primarily serves customers in
the central and western European construction, conversion, appliance,
transportation, service center, container, and oil, gas and petrochemical
markets. In June 2003, USSK sold its equity interest in Rannila Kosice, s.r.o.
The Straightline segment includes the operating results of U. S. Steel's
technology-enabled distribution business that serves steel customers primarily
in the eastern and central United States. Straightline competes in the steel
service center marketplace using a nontraditional business process to sell,
process and deliver flat-rolled steel products in small to medium sized order
quantities primarily to job shops, contract manufacturers and original equipment
manufacturers across an array of industries.
36
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
The Real Estate segment includes the operating results of U. S. Steel's
domestic mineral interests that are not assigned to other operating units;
timber properties; and residential, commercial and industrial real estate that
is managed or developed for sale or lease. In April 2003, U. S. Steel sold
certain coal seam gas interests in Alabama. Prior to the sale, income generated
from these interests was reported in the Real Estate segment.
All other U. S. Steel businesses not included in reportable segments are
reflected in Other Businesses. These businesses are involved in the production
and sale of iron-bearing taconite pellets; transportation services; and
engineering and consulting services. Prior to the Mining Sale on June 30, 2003,
Other Businesses were involved in the mining, processing and sale of coal.
Effective May 20, 2003, Other Businesses include the operating results of the
Keewatin, Minnesota taconite pellet operations and the Delray Connecting
Railroad, which were acquired from National.
Certain sections of Management's Discussion and Analysis include forward-
looking statements concerning trends or events potentially affecting the
businesses of U. S. Steel. These statements typically contain words such as
"anticipates," "believes," "estimates," "expects," "intends" or similar words
indicating that future outcomes are not known with certainty and are subject to
risk factors that could cause these outcomes to differ significantly from those
projected. In accordance with "safe harbor" provisions of the Private
Securities Litigation Reform Act of 1995, these statements are accompanied by
cautionary language identifying important factors, though not necessarily all
such factors, that could cause future outcomes to differ materially from those
set forth in forward-looking statements. For discussion of risk factors
affecting the businesses of U. S. Steel, see Supplementary Data -- Disclosures
About Forward-Looking Statements in the U. S. Steel Annual Report on Form 10-K
for the year ended December 31, 2002.
Results of Operations
---------------------
Revenues and other income was $2,508 million in the third quarter of 2003,
compared with $1,914 million in the same quarter last year. The increase
primarily reflected higher shipment volumes for domestic sheet and tin products
due to the National Acquisition, and increased prices and shipment volumes for
USSE. These were partially offset by the loss of coal revenue due to the Mining
Sale. Revenues and other income for the first nine months of 2003 totaled
$6,777 million, compared with $5,155 million in the first nine months of 2002.
The increases primarily reflected higher shipment volumes for domestic sheet and
tin products due to the National Acquisition, increased prices and shipment
volumes for USSE and increased prices for domestic sheet products. The
improvements also reflected higher prices and volumes on commercial coke
shipments, increased shipments of slabs, and increased shipments for
Straightline. These were partially offset by lower coal revenue due to the
Mining Sale. Other income in the first nine months of 2003 included $34 million
from the sale of the coal seam gas interests. Other income in the first nine
months of 2002 included $36 million from a Federal excise tax refund.
37
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
Income (Loss) from operations for U. S. Steel for the third quarter and
first nine months of 2003 and 2002 is set forth in the following table:
Third Quarter Nine Months
Ended Ended
September 30 September 30
(Dollars in millions) 2003 2002 2003 2002
---------------------------------------------- ------ ------ ------ ------
Flat-rolled $(50) $57 $(144) $(57)
Tubular (10) 3 (20) 10
USSE 35 40 166 65
Straightline (15) (11) (49) (28)
Real Estate 12 16 42 37
------ ------ ------ ------
Total income (loss) from reportable (28) 105 (5) 27
segments
Other Businesses (2) 30 (38) 59
------ ------ ------ ------
Segment Income (Loss) from operations (30) 135 (43) 86
Items not allocated to segments:
Workforce reduction charges (618) - (618) (10)
Litigation items - - (25) 9
Asset impairments (46) - (57) (14)
Costs related to Fairless shutdown - - - (1)
Income from sale of coal seam gas interests - - 34 -
Gain on sale of coal mining assets - - 13 -
Federal excise tax refund - 3 - 36
Insurance recoveries related to USS-POSCO - 2 - 20
fire
------ ------ ------ ------
Total income (loss) from operations $(694) $140 $(696) $126
====== ====== ====== ======
Segment results for Flat-rolled
The segment loss for Flat-rolled was $50 million in the third quarter of
2003, compared with income of $57 million in the same quarter of 2002. The
decrease primarily reflected higher employee benefit costs, lower prices for
sheet products, increased prices for natural gas, and costs associated with the
August electrical grid power outage, which interrupted operations in Michigan
and Ohio. These were partially offset by favorable effects resulting from the
National Acquisition. Flat-rolled had a loss of $144 million in the first nine
months of 2003, compared with a loss of $57 million in the same period in 2002.
The increased loss mainly resulted from higher employee benefit costs, increased
prices for natural gas, costs for scheduled repair outages at Gary Works and
costs associated with the August power outage, partially offset by higher
average realized prices for sheet products and favorable effects resulting from
the National Acquisition.
38
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
Segment results for Tubular
The segment loss for Tubular was $10 million in the third quarter of 2003,
compared with income of $3 million in the same quarter last year. The decrease
was mainly due to a less favorable mix of seamless products, increased employee
benefit costs, and higher natural gas prices. Tubular reported a loss of
$20 million for the first nine months of 2003, compared with income of
$10 million in the first nine months of 2002. The declines resulted primarily
from increased employee benefit costs, lower average realized prices for
seamless products and higher natural gas prices, partially offset by income from
the sale of U. S. Steel's interest in Delta in May 2003.
Segment results for USSE
Segment income for USSE was $35 million in the third quarter of 2003,
compared with income of $40 million in the third quarter of 2002. The third
quarter change reflected increased costs mainly due to the unfavorable effect of
changes in foreign exchange rates, as well as costs associated with conversion
and facility management agreements with Sartid due mainly to operating and
maintenance expenses required under such agreements. These were offset by
higher average realized prices due to favorable exchange rate effects and
partial collection of announced price increases. The agreements with Sartid
were terminated September 12, 2003, in conjunction with the purchase of the
assets covered by these agreements. For the first nine months of 2003, USSE
recorded income of $166 million, compared with income of $65 million in the
corresponding period in 2002. The improvement was primarily due to higher
average realized prices as a result of favorable exchange rate effects and
partial collection of announced price increases, as well as increased shipment
volumes. Prior to September 12, 2003, USSE shipments included those realized
under toll conversion agreements with Sartid and, effective September 12, 2003,
included all shipments from Sartid, now USSB. These improvements were partially
offset by the unfavorable effect on costs of changes in foreign exchange rates
and costs associated with the conversion and facility management agreements with
Sartid.
Segment results for Straightline
The Straightline segment loss was $15 million in the third quarter 2003,
compared to an $11 million loss in the year earlier quarter. Straightline's
loss for the first nine months of 2003 was $49 million, compared with a loss of
$28 million in the same period last year. The increased losses resulted mainly
from higher 2003 sales volumes at negative margins. The negative margins were
largely due to selling higher-priced inventories purchased in the second half of
2002.
Segment results for Real Estate
Segment income for Real Estate was $12 million in the third quarter of
2003, compared with income of $16 million in the third quarter of 2002. The
decrease was primarily due to declines in mineral interests royalties. Real
Estate income for the first nine months of 2003 was $42 million, compared with
$37 million in the comparable 2002 period. The increase resulted primarily from
increased coal seam gas royalties.
39
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
Results for Other Businesses
The loss for Other Businesses in the third quarter of 2003 was $2 million,
compared with income of $30 million in the third quarter of 2002. For the first
nine months of 2003, Other Businesses generated a loss of $38 million, compared
with income of $59 million in the year earlier period. The declines in both
periods primarily reflected increased employee benefit costs and lower results
for iron ore operations and transportation services, as well as lower results
from coal operations due to the Mining Sale. Iron ore operations in both 2003
periods were negatively affected by higher natural gas prices as compared to the
respective 2002 periods.
Pension and Other Postretirement Benefit Costs
Pension and other postretirement benefit costs, which are included in
income (loss) from operations, were approximately $560 million and $700 million
for the third quarter and first nine months of 2003, respectively, compared to
$7 million and $31 million for the corresponding periods of 2002. Costs in the
third quarter and first nine months of 2003 included $505 million of the
workforce reduction charge of $618 million described below. Costs in the first
nine months of 2002 included a $10 million workforce reduction charge described
below. The increases in 2003 were also due to lower plan assets, reduced asset
return assumptions, a lower discount rate, increased medical claim costs and a
higher assumed escalation trend applied to those claim costs. These costs do
not include charges for defined contribution pension plans. These costs
totaled $4 million and $11 million in the third quarter and first nine months
of 2003, respectively, compared to $3 million and $10 million in the respective
2002 periods.
Selling, General and Administrative Expenses
Selling, general and administrative expenses included in income (loss) from
operations were $319 million for the third quarter of 2003, compared to
$74 million in the third quarter of 2002. Selling, general and administrative
expenses totaled $590 million for the first nine months of 2003, compared with
$245 million in the first nine months of 2002. The increases in 2003 were
primarily due to higher pension and other postretirement benefit costs as
previously discussed, and higher expenses at USSE due mainly to the unfavorable
effects of foreign currency exchange rate differences and increased business
development expenses. In the nine-month period, these were partially offset by
the favorable effect of the absence in 2003 of the impairment of retiree medical
cost reimbursements receivable from Republic, which occurred in the second
quarter of 2002. Selling, general and administrative expenses in the third
quarter and first nine months of 2003 included $169 million of the workforce
reduction charge described below. Selling, general and administrative expenses
in the first nine months of 2002 included the $10 million workforce reduction
charge described below.
40
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
Items not allocated to segments:
The workforce reduction charge of $618 million in the third quarter and
first nine months of 2003 related to U. S. Steel's ongoing operating and
administrative cost reduction programs and consisted of curtailment expenses of
$310 million for pensions and $64 million for other postretirement benefits
related to employee reductions under the Transition Assistance Program (TAP) for
union employees (excluding former National employees retiring under the TAP),
other retirements, layoffs and pending asset dispositions; termination benefit
charges of $34 million primarily for enhanced pension benefits provided to
U. S. Steel employees retiring under the TAP; $105 million for early retirement
cash incentives related to the TAP; $8 million for the cost of layoff
unemployment benefits provided to non-represented employees; and pension
settlement losses of $97 million due to a high level of retirements of salaried
employees. The workforce reduction charge of $10 million in the first nine
months of 2002 reflected pension settlement losses related to retirements of
personnel covered under the non tax-qualified excess and supplemental pension
plans for executive and senior management.
Litigation items resulted in a charge of $25 million in the first nine
months of 2003 and a credit of $9 million in the first nine months of 2002.
Asset impairments of $46 million in the third quarter of 2003 resulted from
a pending non-monetary asset exchange with International Steel Group, which
closed effective November 1, 2003. Asset impairments of $57 million in the
first nine months of 2003 also included U. S. Steel's impairment of a cost
method investment. Asset impairments in the first nine months of 2002 were for
charges to establish reserves against retiree medical cost reimbursements owed
by Republic.
Costs related to Fairless shutdown resulted from the permanent shutdown of
the pickling, cold-rolling and tin mill facilities at the Fairless Plant in the
fourth quarter of 2001.
Income from sale of coal seam gas interests resulted from the sale in April
2003 of certain coal seam gas interests in Alabama, which were included in the
Real Estate segment prior to the sale.
Gain on sale of coal mining assets resulted from the Mining Sale.
Federal excise tax refund represents the recovery of black lung excise
taxes that were paid on coal export sales during the period 1993 through 1999.
During the first nine months of 2002, U. S. Steel received cash and recognized
pre-tax income of $36 million, which was included in other income on the
statement of operations. Of the $36 million received, $11 million represented
interest.
Insurance recoveries related to USS-POSCO fire represent U. S. Steel's
share of insurance recoveries in excess of facility repair costs for the cold-
rolling mill fire at USS-POSCO, which occurred in May 2001.
41
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
Net interest and other financial costs were $26 million in the third
quarter of 2003, compared with $32 million during the same period in 2002. Net
interest and other financial costs in the first nine months of 2003 were
$106 million, compared with $85 million in the same period in 2002. The 2003
periods included a favorable adjustment of $13 million related to interest
accrued for prior years' income taxes. The decrease in the third quarter
primarily reflected the $13 million favorable adjustment and more favorable
changes in foreign currency effects, partially offset by interest on the new
9-3/4% senior notes that were issued in May 2003. The increase in the nine
month period was primarily due to interest on the new 9-3/4% senior notes, an
increase in interest for tax deficiencies and less favorable changes in foreign
currency effects, partially offset by the favorable $13 million adjustment.
The foreign currency effects were primarily due to remeasurement of USSK and
USSB net monetary assets into the U.S. dollar, which is their functional
currency, and resulted in net gains of $8 million and $1 million in the third
quarters of 2003 and 2002, respectively, and net gains of $5 million and
$14 million in the first nine months of 2003 and 2002, respectively.
The benefit for income taxes in the third quarter of 2003 was $366 million,
compared with a provision of $2 million in the third quarter last year. The
benefit for income taxes in the first nine months of 2003 was $418 million,
compared with a benefit of $9 million in the first nine months of 2002.
The income tax benefit in the nine months of 2003 reflected an estimated
annual effective tax rate of 49%. The first nine months of 2003 included a
$14 million favorable effect relating to an adjustment of prior years' taxes, in
addition to a $4 million deferred tax benefit relating to the reversal of a
state valuation allowance.
The income tax benefit in the nine months of 2002 reflected an estimated
annual effective tax rate of 31%. The tax benefit also included a $4 million
deferred tax charge related to a newly enacted state tax law.
The tax benefit in the nine months of 2003 is based on an estimated annual
effective rate, which requires management to make its best estimate of annual
forecasted pretax income (loss) for the year. During the year, management
regularly updates forecast estimates based on changes in various factors such as
prices, shipments, product mix, plant operating performance and cost estimates,
including pension and other postretirement benefits. An annual forecasted
pretax loss from domestic operations and pretax income from USSE have been
included in the development of U. S. Steel's estimated annual effective tax rate
for 2003 as of September 30, 2003. To the extent that actual pretax results for
domestic and foreign income in 2003 vary from forecast estimates applied at the
end of the most recent interim period, the actual tax benefit recognized in 2003
could be materially different from the forecasted annual tax benefit as of the
end of the third quarter.
42
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
As of September 30, 2003, U. S. Steel had net federal and state deferred
tax assets of $470 million and $92 million, respectively, which are expected to
increase during the fourth quarter. Although U. S. Steel has experienced
domestic losses in the current and prior year, management believes that it is
more likely than not that tax planning strategies generating future taxable
income can be utilized to realize the deferred tax assets recorded at
September 30, 2003. Tax planning strategies include the implementation of the
previously announced plan to dispose of non-strategic assets, as well as the
ability to elect alternative tax accounting methods to provide future taxable
income to assure realization of the anticipated deferred tax assets. During the
fourth quarter, U. S. Steel intends to merge its two defined benefit pension
plans. Depending upon the discount rate in effect on the measurement date and
the growth in plan assets during the fourth quarter, the additional minimum
pension liability determination at year end may increase federal and state
deferred tax assets by approximately $350 million or may result in a reversal of
federal and state deferred tax assets of approximately $590 million, resulting
in a net deferred tax liability at year-end. The amount of the realizable
deferred tax assets at September 30, 2003, and those expected to be recognized
in the fourth quarter of the year could be adversely affected to the extent that
losses continue in the future, if future events affect the ability to implement
tax planning strategies or if further charges result from an increase in the
minimum pension liability. Should net deferred tax assets increase, management
will reassess the need for a valuation allowance at December 31, 2003.
The Slovak Income Tax Act provides an income tax credit, which is available
to USSK if certain conditions are met. In order to claim the tax credit in any
year, 60% of USSK's sales must be export sales and USSK must reinvest the tax
credits claimed in qualifying capital expenditures during the five years
following the year in which the tax credit is claimed. The provisions of the
Slovak Income Tax Act permit USSK to claim a tax credit of 100% of USSK's tax
liability for years 2000 through 2004 and 50% for the years 2005 through 2009.
Management believes that USSK fulfilled all of the necessary conditions for
claiming the tax credit for the years for which it was claimed and anticipates
meeting such requirements in 2003. As a result of claiming these tax credits
and management's intent to reinvest earnings in foreign operations, virtually
no income tax provision is recorded for USSK income.
In October 2002, a tax credit limit was negotiated by the Slovak government
as part of the Accession Treaty governing the Slovak Republic's entry into the
European Union (EU). The Treaty limits to $500 million the total tax credit to
be granted to USSK during the period 2000 through 2009. The impact of the tax
credit limit is expected to be minimal since Slovak tax laws have been modified
and tax rates have been reduced since the acquisition of USSK. The Treaty also
places limits upon USSK's flat-rolled production and export sales to the EU,
allowing for modest growth each year through 2009. The limits upon export sales
to the EU take effect upon the Slovak Republic's entry into the EU, which is
expected to occur in May 2004. A question has recently arisen with respect to
the effective date of the production limits. Slovak Republic representatives
have stated their belief that the Treaty intended that these limits take effect
upon entry into the EU, whereas the European Commission has taken the position
that the flat-rolled production limitations apply as of 2002. Discussions
between representatives of the Slovak Republic and the European Commission are
ongoing. Although it is not possible to predict the outcome of those
discussions, an agreement resolving this issue may be reached prior to the end
of 2003. That agreement could result in a reduction in USSK's tax credit and/or
43
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
the acceleration of the restrictions upon USSK's flat-rolled production and/or
sales into the EU. At this time, it is not possible to predict the impact of
such a settlement upon U. S. Steel's financial position, results of operations
or cash flows.
The extraordinary loss, net of tax resulted from the Mining Sale, which
ended U. S. Steel's mining and processing of coal and resulted in the
recognition of the present value of obligations related to a multiemployer
health care benefit plan created by the Coal Industry Retiree Health Benefit Act
of 1992. The recognition of these obligations, which totaled $85 million,
resulted in an extraordinary loss of $52 million, net of tax benefits of
$33 million.
The cumulative effect of change in accounting principle, net of tax was a
charge of $5 million in the first quarter of 2003, and resulted from the
adoption on January 1, 2003, of Statement of Financial Accounting Standards
(SFAS) No. 143, "Accounting for Asset Retirement Obligations."
U. S. Steel's net loss was $354 million in the third quarter of 2003,
compared with net income of $106 million in the third quarter of 2002.
U. S. Steel's net loss in the first nine months of 2003 was $441 million,
compared with net income of $50 million in the same period in 2002. The
declines primarily reflected the factors discussed above.
Operating Statistics
--------------------
Flat-rolled shipments of 3.9 million tons for the third quarter of 2003
increased about 50 percent from the third quarter 2002, and 22 percent from the
second quarter of 2003. Flat-rolled shipments of 9.5 million tons in the first
nine months of 2003 increased about 27 percent from the prior year period.
Flat-rolled shipments in 2003 were favorably affected by the National
Acquisition. Tubular shipments of 231,000 tons for the third quarter of 2003
increased about 7 percent from the same period in 2002, and 9 percent from the
second quarter of 2003. For the first nine months of 2003, Tubular shipments
of 648,000 tons were up approximately 4 percent from the first nine months of
2002. At USSE, third quarter 2003 shipments of 1.2 million net tons were up
about 14 percent from third quarter 2002 shipments, and down about 5 percent
from shipments in the second quarter of 2003. USSE shipments for the first
nine months of 2003 totaled 3.6 million net tons, an increase of 24 percent
from the same period last year. Prior to September 12, 2003, USSE's
shipments included those realized under toll conversion agreements with Sartid
and, effective September 12, 2003, included all shipments from Sartid
(now USSB). USSE's shipments in the first nine months of 2002 were negatively
affected by an unplanned blast furnace outage in the first quarter of 2002.
44
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
Raw steel capability utilization for domestic facilities and USSE in the
third quarter of 2003 averaged 89.9 percent and 83.5 percent, respectively,
compared with 93.7 percent and 90.8 percent in the third quarter of 2002 and
84.5 percent and 96.5 percent in the second quarter of 2003. Raw steel
capability utilization for domestic facilities and USSE in the first nine months
of 2003 averaged 88.6 percent and 92.1 percent, respectively, compared with
93.2 percent and 87.0 percent in the first nine months of 2002. Capability
utilization for domestic facilities in the first nine months of 2003 was
negatively affected by a scheduled repair outage at Gary Works for U. S. Steel's
largest blast furnace. USSE's capability utilization in the third quarter and
first nine months of 2003 was negatively affected by a blast furnace outage at
USSK and the partial period inclusion of USSB as only about a third of its
annual raw steel design production capability of 2.4 million tons is currently
operational. USSE's capability utilization in the first nine months of 2002 was
negatively affected by the blast furnace outage mentioned in the preceding
paragraph.
Balance Sheet
-------------
Cash and cash equivalents of $160 million at September 30, 2003, decreased
$83 million from year-end 2002. For details, see cash flow discussion.
Receivables, less allowance for doubtful accounts increased $330 million
from year-end 2002, primarily due to the effects of the National Acquisition and
higher prices and shipment volumes for USSE. The increase also reflects a
$34 million receivable from National as a result of the working capital
adjustment determination associated with the National Acquisition.
Inventories increased $364 million from December 31, 2002, due mainly to
the addition of the National facilities.
Property, plant and equipment, less accumulated depreciation, depletion and
amortization increased $389 million from December 31, 2002, mainly reflecting
the addition of the National facilities.
The pension asset declined $136 million compared to year-end 2002,
primarily as a result of the settlement losses and curtailment charges related
to the pension plan for non-union employees.
The intangible pension asset decreased by $40 million from year-end 2002 as
a result of the additional minimum liability adjustments that were recorded for
the union pension plan.
Other intangible assets, net of $39 million were acquired from National and
were comprised primarily of proprietary software.
Deferred income tax benefits increased by $366 million from December 31,
2002, from the establishment of federal and state deferred tax assets primarily
related to employee benefits, including the adjustment to the additional minimum
liability for the union pension plan, and also as a result of net operating
losses generated in 2003.
45
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
Accounts payable of $940 million at September 30, 2003, increased
$263 million from year-end 2002, mainly due to the addition of the National
facilities.
Payroll and benefits payable increased $166 million from December 31, 2002,
mainly due to payables related to the Transition Assistance Program for union
employees and obligations related to active employees at the acquired National
facilities.
Long-term debt, less unamortized discount increased by $445 million from
year-end 2002 primarily due to the issuance of $450 million of 9-3/4% senior
notes in May 2003. For discussion, see "Liquidity."
Deferred income taxes decreased by $221 million from December 31, 2002, as
a result of the establishment of the deferred tax assets described above.
Employee benefits increased $938 million from year-end 2002, mainly as the
result of the remeasurement of pension and other postretirement benefit
liabilities, the resulting additional minimum liability recorded for the union
pension plan and liabilities related to active employees at the acquired
National facilities.
Preferred stock increased by $231 million from December 31, 2002, due to an
offering of 5 million shares of 7% Series B Mandatory Convertible Preferred
Shares (Series B Preferred) that was completed in February 2003 for
$242 million, partially offset by preferred stock dividend payments which were
applied against the Series B Preferred paid-in capital because of the retained
deficit.
Accumulated other comprehensive loss increased by $165 million from
December 31, 2002, primarily reflecting an incremental $169 million net charge
to equity resulting from the additional minimum liability adjustment for the
union pension plan.
Cash Flow
---------
Net cash provided from operating activities was $332 million for the first
nine months of 2003, compared with $76 million in the same period of 2002. The
improvement resulted mainly from lower working capital requirements following
the National Acquisition.
Capital expenditures in the first nine months of 2003 were $205 million,
compared with $150 million in the same period in 2002. Major domestic projects
in the first nine months of 2003 included the quench and temper line project at
Lorain Pipe Mills. Major projects at USSK in the first nine months of 2003
included a new dynamo line and the installation of additional tin mill
facilities.
U. S. Steel's domestic contract commitments to acquire property, plant and
equipment at September 30, 2003, totaled $34 million, compared with $24 million
at December 31, 2002.
46
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
USSK has a commitment to the Slovak government for a capital improvements
program of $700 million, subject to certain conditions, over a period commencing
with the acquisition date of November 24, 2000, and ending on December 31, 2010.
The remaining commitments under this capital improvements program as of
September 30, 2003, and December 31, 2002, were $477 million and $541 million,
respectively. Upon consummation of the purchase of two small remaining
subsidiaries of Sartid a.d. (In Bankruptcy), the transaction requires USSB to
spend up to $157 million during the first five years for working capital; the
repair, rehabilitation, improvement, modification and upgrade of facilities; and
community support and economic development. See Note 4 to Selected Notes to
Financial Statements for further information.
Capital expenditures for 2003 are expected to be approximately
$325 million, including approximately $120 million for USSE and $25 million for
the acquired National facilities. U. S. Steel broadly estimates that average
annual capital expenditures for the acquired National facilities will be between
$75 million and $100 million.
Acquisition - National assets resulted from $844 million paid at closing
and $29 million of transaction costs. A receivable from National of $34 million
for a working capital adjustment was collected in October 2003 and will reduce
the cash acquisition cost.
Acquisition - U. S. Steel Kosice represents payment of two installments of
contingent consideration related to the acquisition in November 2000. The final
installment was paid in July 2003.
Disposal of assets in the first nine months of 2003 consisted mainly of
proceeds from the Mining Sale and the sale of Delta.
Sale of coal seam gas interests reflected cash received for the sale of
certain coal seam gas interests in Alabama.
Restricted cash - withdrawals of $42 million in the first nine months of
2003 were due primarily to funds withdrawn from a property exchange trust and
utilized for the National Acquisition.
Restricted cash - deposits of $93 million in the first nine months of 2003
included the deposit of $35 million from certain property sales into a property
exchange trust. The balance for 2003 and the $60 million in the corresponding
2002 period were mainly used to collateralize letters of credit to meet
financial assurance requirements.
Issuance of long-term debt resulted from the issuance of $450 million of
9-3/4% senior notes in May 2003, net of deferred financing costs associated with
the notes and the new inventory facility. For discussion, see "Liquidity."
Settlement with Marathon of $54 million in the first nine months of 2002
reflected a cash payment made during the first quarter in accordance with the
terms of the separation.
47
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
Preferred stock issued in the first nine months of 2003 reflected net
proceeds from the offering of 5 million shares of Series B Preferred.
Common stock issued in the first nine months of 2003 and 2002 reflected
proceeds from stock sales to the U. S. Steel Corporation Savings Fund Plan for
Salaried Employees and sales through the Dividend Reinvestment and Stock
Purchase Plan. Common stock issued in the first nine months of 2002 also
reflected $192 million of net proceeds from U. S. Steel's equity offering
completed in May 2002.
Dividends paid in the first nine months of 2003 were $26 million, compared
with $14 million in the same period in 2002. Payments in both periods reflected
the quarterly dividend rate of five cents per common share established by
U. S. Steel after the separation from Marathon. Dividends paid in 2003 also
included an initial dividend of $1.206 per share for the Series B Preferred,
which was paid on June 16, 2003, and a quarterly dividend of 87.5 cents per
share, which was paid on September 15, 2003.
For discussion of restrictions on future dividend payments, see
"Liquidity."
Liquidity
---------
In November 2001, U. S. Steel entered into a five-year Receivables Purchase
Agreement with financial institutions. U. S. Steel established a wholly owned
subsidiary, U. S. Steel Receivables LLC (USSR), which is a consolidated special-
purpose, bankruptcy-remote entity that acquires, on a daily basis, eligible
trade receivables generated by U. S. Steel and certain of its subsidiaries.
USSR can sell an undivided interest in these receivables to certain commercial
paper conduits. USSR pays the conduits a discount based on the conduits'
borrowing costs plus incremental fees, certain of which are determined by credit
ratings of U. S. Steel.
On May 19, 2003, U. S. Steel entered into an amendment to the Receivables
Purchase Agreement, which increased fundings under the facility to the lesser of
eligible receivables or $500 million. Eligible receivables exclude certain
obligors, amounts in excess of defined percentages for certain obligors, and
amounts past due or due beyond a defined period. In addition, eligible
receivables are calculated by deducting certain reserves, which are based on
various determinants including concentration, dilution and loss percentages, as
well as the credit ratings of U. S. Steel. As of September 30, 2003,
U. S. Steel had $489 million of eligible receivables, none of which were sold.
In addition, on May 20, 2003, U. S. Steel entered into a new four-year
revolving credit facility that provides for borrowings of up to $600 million
secured by all domestic inventory and related assets (Inventory Facility),
including receivables other than those sold under the Receivables Purchase
Agreement. The Inventory Facility replaced a similar $400 million facility
entered into on November 30, 2001. The new facility expires in May 2007 and
contains a number of covenants that require lender consent to incur debt, or
make capital expenditures above certain limits; to sell assets used in the
production of steel or steel products or incur liens on assets; and to limit
dividends and other restricted payments if the amount available for borrowings
drops below certain levels. The Inventory Facility also contains a fixed charge
coverage ratio, calculated as the ratio of operating cash flow to cash charges
as defined in the agreement of not less
48
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
than 1.25 times on the last day of any fiscal quarter. This coverage ratio must
be met if availability, as defined in the agreement, is less than $100 million.
As of September 30, 2003, $530 million was available to U. S. Steel under the
Inventory Facility.
While the term of the Receivables Purchase Agreement is five years, the
facility also terminates on the occurrence and failure to cure certain events,
including, among others, certain defaults with respect to the Inventory Facility
and other debt obligations, any failure of USSR to maintain certain ratios
related to the collectability of the receivables, and failure to extend the
commitments of the commercial paper conduits' liquidity providers, which
currently terminate on November 26, 2003. U. S. Steel is negotiating a renewal
of the 364-day commitments of the liquidity providers and anticipates completing
the renewals before the termination date.
At September 30, 2003, USSK had no borrowings against its $50 million
credit facilities. In addition, USSK had $3 million of customs guarantees
outstanding, reducing availability under these facilities to $47 million.
These facilities expire in the fourth quarter of 2004.
In July 2001, U. S. Steel issued $385 million of 10-3/4% senior notes due
August 1, 2008 (10-3/4% Senior Notes), and in September 2001, U. S. Steel issued
an additional $150 million of 10-3/4% Senior Notes. As of September 30, 2003,
the aggregate principal amount of 10-3/4% Senior Notes outstanding was $535
million.
In May 2003, U. S. Steel sold $450 million of new senior notes due
May 15, 2010 (9-3/4% Senior Notes). These notes have an interest rate of 9-3/4%
per annum payable semi-annually on May 15 and November 15, commencing November
15, 2003. The 9-3/4% Senior Notes were issued under U. S. Steel's outstanding
universal shelf registration statement and are not listed on any national
securities exchange. Proceeds from the sale of the 9-3/4% Senior Notes were
used to finance a portion of the purchase price for the National Acquisition.
As of September 30, 2003, the aggregate principal amount of 9-3/4% Senior Notes
outstanding was $450 million.
In conjunction with issuing the 9-3/4% Senior Notes, U. S. Steel solicited
the consent of the 10-3/4% Senior Note holders to conform certain terms of the
10-3/4% Senior Notes to the terms of the 9-3/4% Senior Notes. Those conforming
changes modified the definitions of Consolidated Net Income, EBITDA and Like-
Kind Exchange, permitted dividend payments on the Series B Preferred shares and
expanded permitted investments to include loans made for the purpose of
facilitating like-kind exchange transactions. U. S. Steel received the consent
from holders of more than 90% of the principal amount of the 10-3/4% Senior
Notes and the amendments were effective May 20, 2003.
The 10-3/4% Senior Notes and the 9-3/4% Senior Notes (together the Senior
Notes) impose very similar limitations on U. S. Steel's ability to make
restricted payments. Restricted payments under the indentures include the
declaration or payment of dividends on capital stock; the purchase, redemption
or other acquisition or retirement for value of capital stock; the retirement
of any subordinated obligations prior to their scheduled maturity; and the
making of any investments other than those specifically permitted under the
indentures. In order to make restricted payments, U. S. Steel must satisfy
certain requirements, which include a consolidated coverage ratio based on
EBITDA and consolidated interest expense for
49
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
the four most recent quarters. In addition, the total of all restricted
payments made since the 10-3/4% Senior Notes were issued (excluding up to
$50 million of dividends paid on common stock through the end of 2003) cannot
exceed the cumulative cash proceeds from the sale of capital stock and certain
investments plus 50% of consolidated net income from October 1, 2001, through
the most recent quarter-end treated as one accounting period, or, if there is
a consolidated net loss for the period, less 100% of such consolidated net
loss. A complete description of the requirements and defined terms such as
restricted payments, EBITDA and consolidated net income can be found in the
indenture for the 10-3/4% Senior Notes that was filed as Exhibit 4(f) to
U. S. Steel's Annual Report on Form 10-K for the year ended December 31, 2001.
The amended indenture for the 10-3/4% Senior Notes and the Officer's
Certificate for the 9-3/4% Senior Notes were filed as Exhibit 4.2 and
Exhibit 4.1, respectively, to U. S. Steel's Current Report on Form 8-K dated
May 20, 2003.
As of September 30, 2003, U. S. Steel met the consolidated coverage ratio
and had approximately $340 million of availability to make restricted payments
under the calculation described in the preceding paragraph. Also, exclusive of
any limitations imposed, U. S. Steel can declare and (i) make payment of
dividends on the Series B Preferred and (ii) make aggregate dividend payments on
common stock of up to $12 million from July 1, 2003 through the end of 2003. In
addition, U. S. Steel has the ability to make other restricted payments of up to
$28 million as of September 30, 2003, which could also be used for future
dividend payments. U. S. Steel's ability to declare and pay dividends or make
other restricted payments in the future is subject to U. S. Steel's ability to
continue to meet the consolidated coverage ratio and have amounts available
under the calculation or one of the exclusions just discussed.
The Senior Notes also impose other significant restrictions on U. S. Steel
such as the following: limits on additional borrowings, including limiting the
amount of borrowings secured by inventories or accounts receivable; limits on
sale/leasebacks; limits on the use of funds from asset sales and sale of the
stock of subsidiaries; and restrictions on U. S. Steel's ability to invest in
joint ventures or make certain acquisitions.
If these covenants are breached or if U. S. Steel fails to make payments
under its material debt obligations or the Receivables Purchase Agreement,
creditors would be able to terminate their commitments to make further loans,
declare their outstanding obligations immediately due and payable and foreclose
on any collateral. This may also cause termination events to occur under the
Receivables Purchase Agreement and a default under the Senior Notes. Additional
indebtedness that U. S. Steel may incur in the future may also contain similar
covenants, as well as other restrictive provisions. Cross-default and cross-
acceleration clauses in the Receivables Purchase Agreement, the Inventory
Facility, the Senior Notes and any future additional indebtedness could have an
adverse effect upon U. S. Steel's financial position and liquidity.
U. S. Steel was in compliance with all of its debt covenants at
September 30, 2003.
On May 6, 2003, Moody's Investors Service reduced its ratings assigned to
U. S. Steel's senior unsecured debt from Ba3 to B1 and assigned a stable
outlook, and Fitch Ratings reduced its ratings from BB to BB- and assigned a
negative
50
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
outlook. On May 7, 2003, Standard & Poor's Ratings Services reduced its ratings
assigned to U. S. Steel's senior unsecured debt from BB to BB- and assigned a
negative outlook.
U. S. Steel has utilized surety bonds, trusts and letters of credit to
provide financial assurance for certain transactions and business activities.
U. S. Steel has replaced some surety bonds with other forms of financial
assurance. The use of other forms of financial assurance and collateral have a
negative impact on liquidity. U. S. Steel has used $48 million of liquidity
sources for financial assurance purposes during the first nine months of 2003,
and expects to use approximately $5 million more during the fourth quarter.
These amounts include requirements for the acquired National facilities.
The very high property taxes at U. S. Steel's Gary Works facility in
Indiana continue to be detrimental to Gary Works' competitive position, both
when compared to competitors in Indiana and with other steel facilities in the
United States and abroad. U. S. Steel is a party to several property tax
disputes involving Gary Works, including claims for refunds totaling
approximately $65 million pertaining to tax years 1994-96 and 1999 and
assessments totaling approximately $133 million in excess of amounts paid for
the 2000, 2001 and 2002 tax years. In addition, interest may be imposed upon
any final assessment. The disputes involve property values and tax rates and
are in various stages of administrative appeal. U. S. Steel is vigorously
defending against the assessments and pursuing its claims for refunds. See
discussion in "Outlook" regarding recently enacted Indiana property tax
legislation that will affect U. S. Steel's tax expense in future periods. The
legislation has no impact on the property taxes for past periods that are
currently being disputed.
U. S. Steel was contingently liable for debt and other obligations of
Marathon as of September 30, 2003, in the amount of $68 million. In the event
of the bankruptcy of Marathon, these obligations for which U. S. Steel is
contingently liable, as well as obligations relating to Industrial Development
and Environmental Improvement Bonds and Notes in the amount of $471 million that
were assumed by U. S. Steel from Marathon, may be declared immediately due and
payable. If that occurs, U. S. Steel may not be able to satisfy such
obligations. In addition, if Marathon loses its investment grade ratings,
certain of these obligations will be considered indebtedness under the Senior
Notes indentures and for covenant calculations under the Inventory Facility.
This occurrence could prevent U. S. Steel from incurring additional indebtedness
under the Senior Notes or may cause a default under the Inventory Facility.
The following table summarizes U. S. Steel's liquidity as of
September 30, 2003:
(Dollars in millions)
----------------------------------------------------------------------------
Cash and cash equivalents....................... $ 160
Amount available under Receivables
Purchase Agreement........................... 489
Amount available under Inventory Facility....... 530
Amounts available under USSK credit facilities.. 47
------
Total estimated liquidity..................... $1,226
51
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
U. S. Steel's liquidity has increased by $195 million since December 31,
2002, primarily reflecting net cash provided from operating activities, the sale
of the 9-3/4% Senior Notes, net proceeds of $242 million from U. S. Steel's
offering of Series B Preferred and increased availability under the Receivables
Purchase Agreement and the Inventory Facility, partially offset by cash used for
the National Acquisition, other investing activities and dividends paid.
The following table summarizes U. S. Steel's contractual obligations at
September 30, 2003, and the effect such obligations are expected to have on
U. S. Steel's liquidity and cash flow in future periods.
(Dollars in millions)
------------------------------------------------------------------------
Payments Due by Period
Fourth 2004 2006
Quarter through through Beyond
Contractual Obligations Total 2003 2005 2007 2007
------------------------------------------------------------------------
Long-term debt and capital $1,885 $21 $52 $61 $1,751
leases
Operating leases 566 35 224 138 169
Capital commitments(a) 511 5 29 177 300
Environmental commitments(a) 125 8 26 - 91(b)
Usher retention bonus(a) 3 - 3 - -
Steelworkers Pension Trust(c) (d) 14 53 45 (d)
Other postretirement benefits (e) 17 480 560 (e)
------- ------- ------- ------- -------
Total (d) $100 $867 $981 (d)
------------------------------------------------------------------------
(a) See Note 23 of Selected Notes to Financial Statements.
(b) Timing of potential cash flows is not determinable.
(c) Amount reflects two cash contributions to be made to the Steelworkers
Pension Trust based on the number of National's represented employees as of the
date of the acquisition, less the number of these employees participating in the
Transition Assistance Program, and reflects estimated future cash contributions
to be made to this trust based on contributory hours.
(d) Amount of contractual cash obligations is not determinable because the cash
obligations are not estimable beyond five years.
(e) U. S. Steel accrues an annual cost for these benefit obligations under plans
covering its active and retiree populations in accordance with generally
accepted accounting principles. These obligations will require corporate cash in
future years to the extent that trust assets are restricted or insufficient and
to the extent that company contributions are required by law or union labor
agreement. Amounts in the years 2003 through 2007 reflect our current estimate
of corporate cash outflows and are net of the use of funds available from a VEBA
trust. The accuracy of this forecast of future cash flows depends on various
factors such as actual asset returns, the mix of assets within the asset trusts,
medical escalation and discount rates used to calculate obligations, the
availability of surplus pension assets allowable for transfer to pay retiree
medical claims and company decisions or VEBA restrictions that impact the timing
of the use of trust assets. Also, as such, the amounts shown could differ
significantly from what is actually expended and, at this time, it is impossible
to make an accurate prediction of cash requirements beyond five years.
Contingent lease payments have been excluded from the above table.
Contingent lease payments relate to operating lease agreements that include a
floating rental charge, which is associated to a variable component. Future
contingent lease payments are not determinable to any degree of certainty.
U. S. Steel's annual incurred contingent lease expense is disclosed in Note 17
to the Financial Statements in U. S. Steel's Annual Report on Form 10-K for the
year ended December 31, 2002. Additionally, recorded liabilities related to
deferred income taxes and other liabilities that may have an impact on liquidity
and cash flow in future periods are excluded from the above table.
52
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
Pension obligations have been excluded from the above table. In the fourth
quarter of 2003, U. S. Steel intends to merge its defined benefit pension plan
for union employees and its defined benefit pension plan for non-union
employees. Preliminary valuations indicate that the merged plan will not
require cash funding for the 2003 or 2004 plan years. Thereafter, annual
funding of approximately $75 million per year is currently anticipated for the
merged plan. In the fourth quarter of 2003, U. S. Steel anticipates making a
$75 million voluntary contribution to its union or merged defined benefit
pension plan, consisting mainly of timber assets currently managed by the Real
Estate segment. U. S. Steel may also make voluntary contributions in one or
more future periods in order to mitigate potentially larger required
contributions in later years. Any such funding requirements could have an
unfavorable impact on U. S. Steel's debt covenants, borrowing arrangements and
cash flows. The funded status of U. S. Steel's pension plans is disclosed in
Note 12 to the Financial Statements in U. S. Steel's Annual Report on Form 10-K
for the year ended December 31, 2002. Also, contributions to a trust
established under the labor agreement with the USWA to assist National retirees
with health care costs have been excluded from the above table as it is not
possible to make an accurate prediction of cash requirements.
The following table summarizes U. S. Steel's commercial commitments at
September 30, 2003, and the effect such commitments could have on U. S. Steel's
liquidity and cash flow in future periods.
(Dollars in millions)
--------------------------------------------------------------------------
Scheduled Reductions by Period
Fourth 2004 2006
Quarter through through Beyond
Commercial Commitments Total 2003 2005 2007 2007
--------------------------------------------------------------------------
Standby letters of credit(a) $ 96 $ - $ 89 $ - $ 7
Surety bonds(a) 26 - 8 - 18
Funded Trusts(a) 24 - - - 24
Clairton 1314B partnership(a)(b) 150 - - - 150
Guarantees of indebtedness of
unconsolidated entities(a)(b) 30 2 11 6 11
Contingent liabilities:
- Marathon obligations(a)(b) 68 6 35 19 8
- Unconditional purchase 889 53 472 228 136
obligations(c) ----- ----- ----- ----- -----
Total $1,283 $ 61 $ 615 $ 253 $ 354
--------------------------------------------------------------------------
(a) Reflects a commitment or guarantee for which future cash outflow is not
considered likely.
(b) See Note 23 of Selected Notes to Financial Statements.
(c) Reflects contractual purchase commitments ("take or pay" arrangements)
primarily for purchases of certain energy and coal sources, and computer
programming services.
53
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
U. S. Steel management believes that U. S. Steel's liquidity will be
adequate to satisfy its obligations for the foreseeable future, including
obligations to complete currently authorized capital spending programs. Future
requirements for U. S. Steel's business needs, including the funding of
acquisitions and capital expenditures, debt service for outstanding financings,
and any amounts that may ultimately be paid in connection with contingencies,
are expected to be financed by a combination of internally generated funds
(including asset sales), proceeds from the sale of stock, borrowings and other
external financing sources. However, there is no assurance that our business
will continue to generate sufficient operating cash flow or that external
financing sources will be available in an amount sufficient to enable us to
service or refinance our indebtedness or to fund other liquidity needs in the
future. If there is a prolonged delay in the recovery of the manufacturing
sector of the U.S. economy, U. S. Steel believes that it can maintain adequate
liquidity through a combination of deferral of nonessential capital spending,
sales of non-strategic assets and other cash conservation measures.
U. S. Steel management's opinion concerning liquidity and U. S. Steel's
ability to avail itself in the future of the financing options mentioned in the
above forward-looking statements are based on currently available information.
To the extent that this information proves to be inaccurate, future availability
of financing may be adversely affected. Factors that could affect the
availability of financing include the performance of U. S. Steel (as measured by
various factors including cash provided from operating activities), levels of
inventories and accounts receivable, the state of worldwide debt and equity
markets, investor perceptions and expectations of past and future performance,
the overall U.S. financial climate, and, in particular, with respect to
borrowings, the level of U. S. Steel's outstanding debt and credit ratings by
rating agencies.
Environmental Matters, Litigation and Contingencies
---------------------------------------------------
U. S. Steel has incurred and will continue to incur substantial capital,
operating and maintenance, and remediation expenditures as a result of
environmental laws and regulations. In recent years, these expenditures have
been mainly for process changes in order to meet Clean Air Act obligations,
although ongoing compliance costs have also been significant. To the extent
these expenditures, as with all costs, are not ultimately reflected in the
prices of U. S. Steel's products and services, operating results will be
adversely affected. U. S. Steel believes that its major domestic integrated
steel competitors are confronted by substantially similar conditions and thus
does not believe that its relative position with regard to such competitors is
materially affected by the impact of environmental laws and regulations.
However, the costs and operating restrictions necessary for compliance with
environmental laws and regulations may have an adverse effect on U. S. Steel's
competitive position with regard to domestic mini-mills and some foreign steel
producers and producers of materials which compete with steel, which may not be
required to undertake equivalent costs in their operations. In addition, the
specific impact on each competitor may vary depending on a number of factors,
including the age and location of its operating facilities and its production
methods.
54
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
USSK is subject to the laws of the Slovak Republic. The environmental laws
of the Slovak Republic generally follow the requirements of the European Union
(EU), which are comparable to domestic standards. USSK has also entered into an
agreement with the Slovak government to bring, over time, its facilities into EU
environmental compliance.
USSB is subject to the laws of the Union of Serbia and Montenegro, which
are currently more lenient than either the EU or U.S. standards, but this is
expected to change over the next several years in anticipation of possible EU
accession. An environmental baseline study will be conducted at USSB's
facilities during the next six months. Under the terms of the acquisition, USSB
will be responsible for only those costs and liabilities associated with
environmental events occurring subsequent to the completion of that study. A
portion of the $157 million USSB committed to spend in connection with the
acquisition of Sartid is expected to be used for environmental controls and
upgrades.
U. S. Steel has been notified that it is a potentially responsible party
(PRP) at 20 waste sites under the Comprehensive Environmental Response,
Compensation and Liability Act (CERCLA) as of September 30, 2003. In addition,
there are 17 sites related to U. S. Steel where it has received information
requests or other indications that it may be a PRP under CERCLA but where
sufficient information is not presently available to confirm the existence of
liability or make any judgment as to the amount thereof. There are also 37
additional sites related to U. S. Steel where remediation is being sought under
other environmental statutes, both federal and state, or where private parties
are seeking remediation through discussions or litigation. At many of these
sites, U. S. Steel is one of a number of parties involved and the total cost of
remediation, as well as U. S. Steel's share thereof, is frequently dependent
upon the outcome of investigations and remedial studies. U. S. Steel accrues
for environmental remediation activities when the responsibility to remediate is
probable and the amount of associated costs is reasonably determinable. As
environmental remediation matters proceed toward ultimate resolution or as
additional remediation obligations arise, charges in excess of those previously
accrued may be required.
In 1988, U. S. Steel and two other PRPs (Bethlehem Steel Corporation and
William Fiore) agreed to the issuance of an administrative order by the U.S.
Environmental Protection Agency (EPA) to undertake emergency removal work at the
Municipal & Industrial Disposal Co. site in Elizabeth, Pa. The cost of such
removal, which has been completed, was approximately $4.2 million, of which
U. S. Steel paid $3.8 million. The EPA indicated that further remediation of
this site would be required. In October 1991, the Pennsylvania Department of
Environmental Resources (PADER) placed the site on the Pennsylvania State
Superfund list and began a Remedial Investigation, which was issued in 1997.
After a feasibility study by the Pennsylvania Department of Environmental
Protection (PADEP) and submission of a conceptual remediation plan in 2001 by
U. S. Steel, U. S. Steel submitted a revised remedial action plan on May 31,
2002. U. S. Steel and the PADEP signed a Consent Order and Agreement on August
30, 2002, under which U. S. Steel is responsible for remediation of this site.
On March 18, 2003, the PADEP notified U. S. Steel that the public comment period
was concluded and the Consent Order and Agreement is final. U. S. Steel
estimates its future liability at the site to be $6.6 million.
55
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
On January 26, 1998, pursuant to an action filed by the EPA in the United
States District Court for the Northern District of Indiana titled United States
of America v. USX, U. S. Steel entered into a consent decree with the EPA which
resolved alleged violations of the Clean Water Act National Pollution Discharge
Elimination System (NPDES) permit at Gary Works and provides for a sediment
remediation project for a five mile section of the Grand Calumet River that runs
through and beyond Gary Works. Contemporaneously, U. S. Steel entered into a
consent decree with the public trustees, which resolves potential liability for
natural resource damages on the same section of the Grand Calumet River. In
1999, U. S. Steel paid civil penalties of $2.9 million for the alleged water act
violations and $0.5 million in natural resource damages assessment costs. In
addition, U. S. Steel will pay the public trustees $1.0 million at the end of
the remediation project for future monitoring costs and U. S. Steel is obligated
to purchase and restore several parcels of property that have been or will be
conveyed to the trustees. During the negotiations leading up to the settlement
with the EPA, capital improvements were made to upgrade plant systems to comply
with the NPDES requirements. The sediment remediation project is an approved
final interim measure under the corrective action program for Gary Works. As of
September 30, 2003, project costs have amounted to $47.7 million with another
$2.7 million presently projected to complete the project, over the next two
months, and $0.5 million necessary to operate the water treatment plant through
March 2005. Construction began in January 2002 on a Corrective Action
Management Unit (CAMU) to contain the dredged material on company property and
construction was completed in February 2003. The water treatment plant,
specific to this project, was completed in November 2002, and placed into
operation in March 2003. Phase 1 removal of PCB-contaminated sediment was
completed in December 2002. Dredging resumed in February 2003 and will continue
until dredging on the river is concluded, which is expected to occur in December
2003. Closure costs for the CAMU are estimated to be an additional $4.9
million.
On March 11, 2003, Gary Works received a notice of violation from the EPA
alleging construction of two desulfurization facilities without proper
installation permitting. Negotiations began April 24, 2003, and the cost of
settlement of this matter is currently indeterminable.
In December 1995, U. S. Steel reached an agreement in principle with the
EPA and the U.S. Department of Justice (DOJ) with respect to alleged Resource
Conservation and Recovery Act (RCRA) violations at Fairfield Works. A consent
decree was signed by U. S. Steel, the EPA and the DOJ and filed with the United
States District Court for the Northern District of Alabama (United States of
America v. USX Corporation) on December 11, 1997, under which U. S. Steel will
pay a civil penalty of $1.0 million, implement two Supplemental Environmental
Projects (SEPs) costing a total of $1.75 million and implement a RCRA corrective
action at the facility. One SEP was completed during 1998. The second SEP was
completed in 2003. As of February 22, 2000, the Alabama Department of
Environmental Management assumed primary responsibility for regulation and
oversight of the RCRA corrective action program at Fairfield Works, with the
approval of the EPA. The first Phase I RCRA Facility Investigation (RFI) work
plan was approved for the site on September 16, 2002. Field sampling for the
work plan commenced immediately after approval and will continue through the end
of 2003. The cost to complete this study is estimated to be $770,000.
56
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
On October 23, 1998, a final Administrative Order on Consent was issued by
the EPA addressing Corrective Action for Solid Waste Management Units throughout
Gary Works. This order requires U. S. Steel to perform an RFI and a Corrective
Measure Study at Gary Works. The Current Conditions Report, U. S. Steel's first
deliverable, was submitted to the EPA in January 1997 and was approved by the
EPA in 1998. Phase I RFI work plans have been approved for the Coke Plant, the
Process Sewers, and Background Soils at the site, along with the approval of one
self-implementing interim stabilization measure and a corrective measure.
Another eight Phase I RFI work plans have been submitted for EPA approval,
thereby completing the Phase I requirement, along with two Phase II RFI work
plans and one further self-implementing interim stabilization measure. The
costs to complete these studies and corrective measures are estimated to be $4.8
million. Until the studies are completed, it is impossible to assess what
additional expenditures will be necessary.
On February 12, 1987, U. S. Steel and the PADER entered into a Consent
Order to resolve an incident in January 1985 involving the alleged unauthorized
discharge of benzene and other organic pollutants from Clairton Works in
Clairton, Pa. That Consent Order required U. S. Steel to pay a penalty of
$50,000 and a monthly payment of $2,500 for five years. In 1990, U. S. Steel
and the PADER reached agreement to amend the Consent Order. Under the amended
Order, U. S. Steel agreed to remediate the Peters Creek Lagoon (a former coke
plant waste disposal site); to pay a penalty of $300,000; and to pay a monthly
penalty of up to $1,500 each month until the former disposal site is closed.
Remediation costs have amounted to $11.0 million with another $0.6 million
presently estimated to complete the project.
In 1997, USS/Kobe, a joint venture between U. S. Steel and Kobe Steel, Ltd.
(Kobe), was the subject of a multi-media audit by the EPA that included an air,
water and hazardous waste compliance review. USS/Kobe and the EPA entered into
a tolling agreement pending issuance of the final audit and commenced settlement
negotiations in July 1999. In August 1999, the steelmaking and bar producing
operations of USS/Kobe were combined with companies controlled by Blackstone
Capital Partners II to form Republic. The tubular operations of USS/Kobe were
transferred to a newly formed entity, Lorain Tubular Company, LLC (Lorain
Tubular), which operated as a joint venture between U. S. Steel and Kobe until
December 31, 1999, when U. S. Steel purchased all of Kobe's interest in Lorain
Tubular. U. S. Steel is continuing negotiations with the EPA, and has made an
offer of settlement that involves a cash penalty of $100,025 and a supplemental
environmental project to do PCB transformer replacement for a combined amount of
$774,025. Most of the matters raised by the EPA relate to Republic's
facilities; however, air discharges from U. S. Steel's #3 seamless pipe mill
have also been cited. U. S. Steel will be responsible for matters relating to
its facilities. The final report and citations from the EPA have not been
issued. Issues related to Republic have been resolved in its bankruptcy
proceedings.
57
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
Prior to U. S. Steel's acquisition of the Granite City, Great Lakes and
Midwest facilities, the DOJ had filed against National Steel Corporation proofs
of claim asserting noncompliance allegations under various environmental
statutes, including the Clean Air Act, RCRA, the Clean Water Act, the Emergency
Planning and Community Right to Know Act, CERCLA and the Toxic Substances
Control Act at these three facilities. The EPA had conducted inspections of the
facilities and entered into negotiations with National Steel Corporation toward
resolving these allegations with a consent decree. U. S. Steel is currently
engaged in discussions with the DOJ, the EPA and the State of Illinois related
to the conditions previously noted at these facilities. At Granite City Works,
the EPA had determined that ditches and dewatering beds currently in operation
were allegedly not in compliance with applicable waste oil management standards.
Dredging of the ditches and dewatering beds is expected to cost $1.3 million.
U. S. Steel is currently discussing with the EPA, the DOJ and the State of
Illinois appropriate measures to investigate and remediate the ditches and
dewatering beds. Air emissions from the steelmaking shop at Great Lakes are
also under discussion. It has not been determined what, if any, corrective
action may be necessary to address those emissions. Other, less significant
issues are also under discussion, including Ferrous Chloride Solution handling
at Granite City and Great Lakes, Spill Prevention Control and Countermeasures
Plans at both facilities, RCRA training at Great Lakes and other waste handling
issues.
Prior to U. S. Steel's acquisition of the Great Lakes facility it had
operated under a permit for indirect discharge of wastewater to the Detroit
Water and Sewerage Department (DWSD). National had reported to the DWSD
violations of effluent limitations, including mercury, contained in the
facility's indirect discharge to the DWSD treatment plant and had entered into a
consent order with the DWSD that required improvements in plant equipment to
remedy the violations. The Great Lakes facility continues to operate under a
DWSD permit for this discharge and anticipates spending approximately $2.9
million to improve operating equipment to come into compliance with discharge
limits in the current DWSD permit. As of September 30, 2003, project costs have
amounted to $2.2 million.
During the third quarter and first nine months of 2003, U. S. Steel accrued
$11 million and $22 million, respectively, for environmental remediation for
domestic and foreign facilities. The total accrual for such liabilities at
September 30, 2003, was $105 million. Environmental spending during the third
quarter and first nine months of 2003 totaled $11 million and $35 million,
respectively. These amounts exclude liabilities related to asset retirement
obligations under SFAS No. 143.
U. S. Steel is the subject of, or a party to, a number of pending or
threatened legal actions, contingencies and commitments involving a variety of
matters, including laws and regulations relating to the environment. The
ultimate resolution of these contingencies could, individually or in the
aggregate, be material to the U. S. Steel Financial Statements. However,
management believes that U. S. Steel will remain a viable and competitive
enterprise even though it is possible that these contingencies could be resolved
unfavorably to U. S. Steel.
58
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
Outlook
-------
Looking ahead to the fourth quarter, shipments and prices for the Flat-
rolled segment are expected to remain about the same versus the third
quarter. Fourth quarter results will be negatively affected by
approximately $40 million in pre-tax costs for several major planned
facility outages. For full-year 2003, Flat-rolled shipments are expected to
exceed 13.0 million net tons. U. S. Steel has announced price increases of
$30 per ton for sheet products and 4 percent for tin products effective
January 5, 2004. PinnOak Resources, LLC (PinnOak), the purchaser
U. S. Steel Mining's assets, has experienced a fire at one of its operations
and has therefore curtailed coal shipments to U. S. Steel. U. S. Steel has
replaced this lost volume from other sources at the current market price,
which is higher than the PinnOak contract price.
The Tubular segment is expected to realize slight improvements in
shipments and prices in the fourth quarter compared to the third quarter.
Full year shipments are expected to be approximately 900,000 tons and will
be impacted by continued weak oil country tubular goods markets. The quench
and temper line at Lorain Pipe Mills commenced operation early in the third
quarter and should reach full production capability during the fourth
quarter.
USSE fourth quarter shipments are expected to remain in line with the
third quarter of 2003 and shipments for the full year are projected to be
approximately 4.7 million net tons. USSE is expecting a slight increase in
the fourth quarter 2003 average realized price as compared to third quarter,
and has announced a price increase of 20 euros per metric ton for all flat-
rolled products effective January 1, 2004.
With recent increases in world demand for raw materials to support
steelmaking, prices for these commodities are increasing. U. S. Steel
purchases all of its domestic coal requirements and a portion of its
domestic scrap, coke and iron ore requirements. In addition, U. S. Steel
purchases all of USSE's coal and iron ore requirements and a portion of
USSE's coke requirements. Future results will be impacted by market prices
for these purchased commodities.
The National Acquisition and the new labor agreement with the United
Steelworkers of America (USWA) covering all of U. S. Steel's domestic facilities
provides U. S. Steel with an opportunity to achieve a major reduction in the
cost structure of its domestic business. Near-term, U. S. Steel's operating
focus is on achieving savings from its combined operating configuration,
consolidating purchasing and raw materials sourcing, optimizing freight savings,
and expanding U. S. Steel's comprehensive supply chain management system to
support customers from the new facilities.
In total, savings from National operational synergies, workforce reductions
at both U. S. Steel and former National plants, and administrative cost
reduction programs are expected to exceed $400 million in annual repeatable cost
savings. U. S. Steel expects to realize significant savings in the fourth
quarter of 2003 and expects full implementation by year-end 2004.
59
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
At the time of the National acquisition in May, domestic employees at
U. S. Steel and National totaled 28,000. As a result of the implementation of
the new labor agreement, the elimination of redundant personnel following the
acquisition, efforts to reduce domestic administrative costs and the Mining
Sale, U. S. Steel reduced domestic employment to 23,800 as of September 30,
2003. This number will decline further over the next several months as
U. S. Steel completes the TAP reductions, continues to reduce administrative
costs and completes the asset exchange with International Steel Group. This may
result in additional workforce reduction charges.
U. S. Steel's underfunded benefit obligations for retiree medical and life
insurance increased from $1.8 billion at year-end 2001 to $2.6 billion at year-
end 2002. U. S. Steel estimates that its underfunded benefit obligation at
year-end 2003 will be $2.6 billion. As of September 30, 2003, a one percentage
point increase in the discount rate would have decreased OPEB liabilities in
the company's main plans by approximately $250 million while a one percentage
point decrease would have increased OPEB liabilities by approximately $300
million. As of September 30, 2003, a one percentage point increase in the
escalation rate would have increased OPEB liabilities in the company's main
plans by approximately $170 million while a one percentage point decrease would
have decreased OPEB liabilities by approximately $150 million. Other
postretirement benefit expense is expected to be approximately $40 million in
the fourth quarter and $180 million for full year 2003, excluding previously
recorded charges of approximately $65 million related to workforce reductions.
Assuming a discount rate of 6.25 percent, other postretirement benefit expense
is expected to be approximately $160 million in 2004.
The funded status of the defined benefit pension plans declined from an
overfunded position of $1.2 billion at year-end 2001 to an underfunded position
of $0.4 billion at year-end 2002. With the expected workforce reduction and
certain retirement rate assumption changes, the plan, after the merger discussed
below, is expected to have a year-end 2003 underfunded position of approximately
$0.7 billion. As of September 30, 2003, a one percentage point increase in the
discount rate would have decreased pension liabilities in the company's main
domestic plans by approximately $640 million while a one percentage point
decrease would have increased pension liabilities by approximately $670 million.
Pension costs for domestic defined benefit plans are expected to be
approximately $50 million for the fourth quarter 2003 and $100 million for full
year 2003, excluding previously recorded charges of approximately $440 million
connected with workforce reductions. Assuming a discount rate of 6.25 percent,
pension costs for domestic defined benefit plans are expected to be
approximately $210 million in 2004. These amounts do not include expenses for
payments to the multi-employer Steelworkers Pension Trust for former National
union employees who joined U. S. Steel and for union employees who join
U. S. Steel after July 1, 2003. Nor do they include expenses for non-union
employees who join U. S. Steel after July 1, 2003, including non-union employees
formerly employed by National, who will participate in a defined contribution
pension program.
60
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
During the fourth quarter of 2003, U. S. Steel intends to merge its two
major defined benefit pension plans. Because of this merger, pension accounting
rules may require that U. S. Steel increase the additional minimum liability
that was recorded at September 30, 2003. This increase would result in a non-
cash net charge against equity, which is currently estimated in a range of
$500 million to $600 million. The actual amount of such charge will be
determined based upon facts and circumstances on the measurement date.
Therefore, the result could be materially different from the estimate above.
Such differences could range from a reversal of the $927 million net charge
against equity that was recorded at September 30, 2003, up to a cumulative
charge against equity of $1.4 billion to $1.5 billion. These entries will have
no impact on income. These charges against equity would result in an increase
in federal and state deferred tax assets, which management will assess to
determine if such assets may be realized. Should a valuation allowance be
required, the upper range of the cumulative charge against equity could increase
from $1.5 billion discussed above to as much as $2.5 billion, representing an
increase of as much as $1 billion related to a valuation allowance for the full
or partial effects of the plan merger and the tax benefit included in the net
charge as of September 30, 2003.
Preliminary valuations indicate that the merged plan will not require cash
funding for the 2003 or 2004 plan years. Thereafter, annual funding of
approximately $75 million per year is currently anticipated for the merged plan.
In the fourth quarter of 2003, U. S. Steel anticipates making a $75 million
voluntary contribution to its union or merged defined benefit pension plan,
consisting mainly of timber assets currently managed by the Real Estate segment.
U. S. Steel may also make voluntary contributions in one or more future periods
in order to mitigate potentially larger required contributions in later years.
Cash payments for retiree medical and life insurance in 2002 and 2001
totaled $212 million and $183 million, respectively. During 2002 and 2001,
substantially all payments on behalf of union retirees were paid from the VEBA
trust. U. S. Steel expects that all payments on behalf of union retirees will
also be paid from the VEBA trust in 2003, but beginning in early 2004, corporate
funds will be used for these payments. Corporate funds used for all retiree
health and life benefits in 2004 and 2005 are expected to total $220 million and
$260 million, respectively.
Legislation enacted in Indiana in April 2003 permits certain steel
companies and refinery operations to claim additional depreciation on older
facilities for Indiana property tax reporting. As a result of this
legislation, U. S. Steel is projected to realize a reduction in Gary Works'
property tax expenses of approximately $11 million in 2003 compared with
2002. This reduction does not fully address the detrimental impact of
property taxes on Gary Works' competitive position, when compared to
competitors in Indiana and to other steel facilities in the United States
and abroad.
U. S. Steel's Real Estate segment continues to pursue the sale of its
mineral interests pursuant to a letter of intent, and the contribution of
timber assets to a defined benefit pension plan. These transactions are
targeted for completion in the first quarter of 2004 and the fourth quarter
of 2003, respectively.
61
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
The preceding discussion contains forward-looking statements with
respect to market conditions, operating costs, shipments and prices,
National acquisition synergies, workforce reductions, administrative cost
reductions, the new labor agreement, net periodic benefit costs and cash
requirements, the merger of U. S. Steel's two major pension plans, tax
relief and potential asset dispositions. Some factors, among others, that
could affect 2003 market conditions, costs, shipments and prices for both
domestic operations and USSE include product demand, prices and mix, global
and company steel production levels, plant operating performance, the
timing and completion of facility projects, natural gas prices and usage,
changes in environmental, tax and other laws, the resumption of operation
of steel facilities sold under the bankruptcy laws, employee strikes, power
outages and U.S. and European economic performance and political
developments. Domestic steel shipments and prices could be affected by
import levels and actions taken by the U.S. Government and its agencies.
Additional factors that may affect USSE's results are foreign currency
fluctuations and political factors in Europe that include, but are not
limited to, taxation, nationalization, inflation, currency fluctuations,
increased regulation, export quotas, tariffs, and other protectionist
measures. Factors that may affect expected synergies from the National
Acquisition include management's ability to, and the speed with which
management is able to, successfully integrate the acquired National
operations. Factors that may affect expected cost reductions include
management's ability to, and the speed with which management is able to,
complete the TAP program, identify and eliminate redundancies, and operate
effectively with fewer employees. Factors that may affect the amount of
net periodic benefit costs and the amount of any additional minimum
liability include among others, pension fund investment performance,
liability changes and interest rates. Cash funding requirements for
pensions and other postretirement benefits depend upon various factors such
as future asset performance, the level of interest rates used to measure
ERISA minimum funding levels, medical cost inflation, the impacts of
business acquisitions or sales, union negotiated changes and future
government regulation. Consummation of the sale of the mineral interests
will depend upon a number of factors including regulatory approvals,
negotiation of definitive documentation and the ability of the purchaser to
arrange financing. Contribution of the timber assets to a pension plan is
contingent on and may be influenced by factors that include regulatory
approvals. In accordance with "safe harbor" provisions of the Private
Securities Litigation Reform Act of 1995, cautionary statements identifying
important factors, but not necessarily all factors, that could cause actual
results to differ materially from those set forth in the forward-looking
statements have been included in the Form 10-K of U. S. Steel for the year
ended December 31, 2002, and in subsequent filings for U. S. Steel.
Steel imports to the United States accounted for an estimated 20% of the
domestic steel market in the first eight months of 2003, 26% for the year 2002,
and 24% for the year 2001.
The trade remedies announced by President Bush, under Section 201 of the
Trade Act of 1974, on March 5, 2002, became effective for imports entering the
United States on and after March 20, 2002. They provide for tariffs and quotas
on some steel products for three years, with the tariff rates dropping and the
quotas increasing on the first and second anniversary of their being in effect.
Various countries and various products are exempt, and the United States Trade
Representative maintains a process by which additional products can be exempted.
62
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
The United States International Trade Commission (ITC) has conducted, as
required by law, a mid-term review regarding the effectiveness of the Section
201 remedies and, at the request of the House Committee on Ways and Means, has
conducted a general fact finding investigation under Section 332 of the Tariff
Act of 1930 to examine the impact of the Section 201 tariffs on the domestic
steel-consuming industries. The report of the ITC in both proceedings was
submitted to the President and Congress on September 19, 2003. The President
may make a determination as to whether the Section 201 relief will remain in
effect for the remainder of the three-year term or be modified or terminated
prior to March 2005.
Various countries have challenged President Bush's action at the World
Trade Organization (WTO) and taken other actions responding to the Section 201
remedies. In August 2003, a panel of the Dispute Settlement Body of the WTO
issued a final ruling against the United States. The United States has appealed
the ruling to the WTO's Appellate Body.
The Bush Administration is continuing discussions at the Organization of
Economic Cooperation and Development aimed at the reduction of inefficient steel
production capacity and the elimination and limitation of certain subsidies to
the steel industry throughout the world.
On December 20, 2001, the European Commission commenced an anti-dumping
investigation concerning hot-rolled coils imported into the EU from the Slovak
Republic and five other countries. On January 20, 2003, the Commission issued a
final disclosure advising of its determinations relative to the dumping and
injury margins applicable to those imports. The Commission's findings set the
dumping margin applicable to those imports at 25.8% and the injury margin at
18.6%. On March 18, 2003, however, this case was dismissed upon the rejection,
by the EU's General Affairs and External Relations Council, of the Commission's
proposal to impose definitive anti-dumping duties. The Council's decision is
final and, accordingly, no anti-dumping duties will be imposed against hot
rolled coils shipped by USSK into the EU.
Definitive measures were announced on September 27, 2002, in a separate
safeguard trade action commenced by the European Commission. In that
proceeding, which is similar to the U.S. Section 201 proceedings, quota/tariff
measures were announced relative to the import of certain steel products into
the EU. USSK is impacted by the quota/tariff measures on four products: non-
alloy hot-rolled coils, hot-rolled strip, hot-rolled sheet and cold-rolled flat
products. Annual shipment quotas were set for all four products. The shipment
quotas on all products, other than non-alloy hot-rolled coils, are country-
specific. The hot-rolled coil quota is a global quota. The annual hot-rolled
coil quota was effectively exhausted on July 29, 2003. Accordingly, a 15.7%
tariff was imposed on hot-rolled coils shipped into the EU from that date until
the quota expired on September 28, 2003, the anniversary date of the imposition
of the measures. Slovakia's country-specific quotas for hot-rolled sheet, hot-
rolled strip and/or cold-rolled flat products were not exceeded prior to
September 28, 2003. On September 29, 2003, new annual quotas, set at 5% above
the first year quotas, went into effect. The EU safeguard measures are
scheduled to expire on March 28, 2005. However, these measures will cease to
impact USSK at such time that Slovakia becomes a member of the EU. Slovakia has
been accepted for membership in the EU and entry is expected to occur in
May 2004.
63
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
Safeguard measures similar to those in effect in the EU were imposed by
Poland (on March 8, 2003) and Hungary (on March 28, 2003). On April 30, 2003,
the Czech Republic's Trade Ministry published its decision dismissing the
safeguard proceedings commenced in that country, based upon its conclusion that
the conditions for the imposition of such measures were not met. That decision
is final and cannot be appealed. The impact on USSK of these trade actions in
the EU and Central Europe cannot be predicted at this time. However, in light
of market opportunities elsewhere; and USSK's experience operating under these
safeguard measures, it appears unlikely that these matters will have a material
adverse effect on USSK's operating profit in 2003.
Accounting Standards
--------------------
In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 143 "Accounting for Asset Retirement Obligations." SFAS No. 143 established
a new accounting model for the recognition and measurement of retirement
obligations associated with tangible long-lived assets. SFAS No. 143 requires
that an asset retirement obligation be capitalized as part of the cost of the
related long-lived asset and subsequently allocated to expense using a
systematic and rational method. U. S. Steel adopted this Statement effective
January 1, 2003. See Note 8 to Selected Notes to Financial Statements.
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others." The Interpretation elaborates on the
disclosure to be made by a guarantor about obligations under certain guarantees
that it has issued. It also clarifies that at the inception of a guarantee, the
company must recognize liability for the fair value of the obligation undertaken
in issuing the guarantee. The initial recognition and measurement provisions
apply on a prospective basis to guarantees issued or modified after December 31,
2002. The disclosure requirements were adopted for the 2002 annual financial
statements. U. S. Steel is applying the remaining provisions of the
Interpretation prospectively as required.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure," which amends SFAS No. 123. SFAS
No. 148 provides alternative methods of transition for a voluntary change to the
fair value based method of accounting for stock-based employee compensation. In
addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to
require more prominent and more frequent disclosures in financial statements
about the effects of stock-based compensation. U. S. Steel adopted the annual
disclosure provisions of SFAS No. 148 for the annual financial statements and
adopted the interim provisions effective with the second quarter of 2003.
U. S. Steel is not changing to the fair value based method of accounting for
stock-based employee compensation; therefore, the transition provisions are not
applicable. See Note 6 to Selected Notes to Financial Statements.
64
UNITED STATES STEEL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
FASB Interpretation No. 46, "Consolidation of Variable Interest Entities,"
was issued in January 2003 and addresses consolidation by business enterprises
of variable interest entities that do not have sufficient equity investment to
permit the entity to finance its activities without additional subordinated
financial support from other parties or whose equity investors lack the
characteristics of a controlling financial interest. The FASB delayed the
application of this Interpretation until December 31, 2003. At this time,
U. S. Steel has not completed its assessment of the effects of the application
of this Interpretation on either its financial position or results of
operations.
In April 2003, the FASB issued SFAS No. 149, "Accounting for Derivative
Instruments and Hedging Activities." The Statement amends and clarifies
accounting for derivative instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities under SFAS No. 133. The
amendments set forth in SFAS No. 149 improve financial reporting by requiring
that contracts with comparable characteristics be accounted for similarly. SFAS
No. 149 is effective for contracts entered into or modified after June 30, 2003,
except for certain outlined exceptions. This Statement was adopted with no
initial impact.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity."
SFAS No. 150 changes the accounting for certain financial instruments that,
under previous guidance, could be classified as equity or "mezzanine" equity, by
now requiring these instruments be classified as liabilities (or assets in some
circumstances) in the balance sheet. Further, SFAS No. 150 requires disclosure
regarding the terms of those instruments and settlement alternatives. The
guidance in the Statement is generally effective for all financial instruments
entered into or modified after May 31, 2003, and is otherwise effective at the
beginning of the first interim period beginning after June 15, 2003. This
Statement was adopted with no initial impact.
65
UNITED STATES STEEL CORPORATION
QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
-------------------------------------
Commodity Price Risk and Related Risks
--------------------------------------
Sensitivity analyses of the incremental effects on pretax income of
hypothetical 10% and 25% decreases in commodity prices for open derivative
commodity instruments as of September 30, 2003, are provided in the following
table(a):
Incremental Decrease in
Income Before Income Taxes
Assuming a Hypothetical
Price Decrease of:
(Dollars in millions) 10% 25%
--------------------------------------------------------------------------------
Commodity-Based Derivative Instruments
Zinc 1.2 3.0
Tin 0.2 0.4
(a) With the adoption of SFAS No. 133, the definition of a derivative
instrument has been expanded to include certain fixed price physical
commodity contracts. Such instruments are included in the above table.
Amounts reflect the estimated incremental effects on pretax income of
hypothetical 10% and 25% decreases in closing commodity prices for each
open contract position at September 30, 2003. Management evaluates the
portfolio of derivative commodity instruments on an ongoing basis and
adjusts strategies to reflect anticipated market conditions, changes in
risk profiles and overall business objectives. Changes to the portfolio
subsequent to September 30, 2003, may cause future pretax income effects
to differ from those presented in the table.
66
UNITED STATES STEEL CORPORATION
QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
-------------------------------------
Interest Rate Risk
------------------
U. S. Steel is subject to the effects of interest rate fluctuations on
certain of its non-derivative financial instruments. A sensitivity analysis of
the projected incremental effect of a hypothetical 10% decrease in September 30,
2003, interest rates on the fair value of U. S. Steel's non-derivative financial
instruments is provided in the following table:
(Dollars in millions)
--------------------------------------------------------------------------------
As of September 30, 2003 Incremental
Increase in
Non-Derivative Fair Fair
Financial Instruments(a) Value Value(b)
--------------------------------------------------------------------------------
Financial assets:
Investments and
long-term receivables $23 $-
--------------------------------------------------------------------------------
Financial liabilities:
Long-term debt (c)(d) $1,909 $79
--------------------------------------------------------------------------------
(a) Fair values of cash and cash equivalents, receivables, notes payable,
accounts payable and accrued interest approximate carrying value and are
relatively insensitive to changes in interest rates due to the short-term
maturity of the instruments. Accordingly, these instruments are excluded
from the table.
(b) Reflects, by class of financial instrument, the estimated incremental
effect of a hypothetical 10% decrease in interest rates at September 30,
2003, on the fair value of U. S. Steel's non-derivative financial
instruments.
(c) Includes amounts due within one year.
(d) Fair value was based on market prices or estimated borrowing rates for
financings with similar maturities.
At September 30, 2003, U. S. Steel's portfolio of long-term debt was
comprised primarily of fixed-rate instruments. Therefore, the fair value of the
portfolio is relatively sensitive to effects of interest rate fluctuations.
This sensitivity is illustrated by the $79 million increase in the fair value of
long-term debt assuming a hypothetical 10% decrease in interest rates. However,
U. S. Steel's sensitivity to interest rate declines and corresponding increases
in the fair value of its debt portfolio would unfavorably affect U. S. Steel's
results and cash flows only to the extent that U. S. Steel elected to repurchase
or otherwise retire all or a portion of its fixed-rate debt portfolio at prices
above carrying value.
67
UNITED STATES STEEL CORPORATION
QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
------------------------------------
Foreign Currency Exchange Rate Risk
-----------------------------------
U. S. Steel, primarily through USSE, is subject to the risk of price
fluctuations due to the effects of exchange rates on revenues and operating
costs, firm commitments for capital expenditures and existing assets or
liabilities denominated in currencies other than U.S. dollars, in particular the
euro, the Slovak koruna and the Serbian dinar. U. S. Steel has not generally
used derivative instruments to manage this risk. However, U. S. Steel has made
limited use of forward currency contracts to manage exposure to certain currency
price fluctuations. At September 30, 2003, U. S. Steel had open euro forward
sale contracts for both U.S. dollars (total notional value of approximately
$17.8 million) and Slovak koruna (total notional value of approximately
$37.7 million). A 10% increase in the September 30, 2003 euro forward rates
would result in a $5.6 million charge to income.
Safe Harbor
-----------
U. S. Steel's Quantitative and Qualitative Disclosures About Market Risk
include forward-looking statements with respect to management's opinion about
risks associated with U. S. Steel's use of derivative instruments. These
statements are based on certain assumptions with respect to market prices,
industry supply and demand for steel products and certain raw materials, and
foreign exchange rates. To the extent that these assumptions prove to be
inaccurate, future outcomes with respect to U. S. Steel's hedging programs may
differ materially from those discussed in the forward-looking statements.
68
UNITED STATES STEEL CORPORATION
CONTROLS AND PROCEDURES
------------------------------------
Disclosure Controls and Procedures
-----------------------------------
U. S. Steel has evaluated the effectiveness of the design and operation of
its disclosure controls and procedures as of September 30, 2003. These
disclosure controls and procedures are the controls and other procedures that
were designed to ensure that information required to be disclosed in reports
that are filed with or submitted to the SEC is: (1) accumulated and communicated
to management, including the Chief Executive Officer and Chief Financial
Officer, to allow timely decisions regarding required disclosures and (2)
recorded, processed, summarized and reported within the time periods specified
in applicable law and regulations. Based on this evaluation, the Chief
Executive Officer and Chief Financial Officer concluded that, as of September
30, 2003, U. S. Steel's disclosure controls and procedures were effective.
Internal Controls
-----------------
As of September 30, 2003, there have not been any significant changes in
U. S. Steel's internal control over financial reporting or in other factors that
could significantly affect that control.
69
UNITED STATES STEEL CORPORATION
SUPPLEMENTAL STATISTICS (Unaudited)
----------------------------------------
Third Quarter Nine Months
Ended September 30 Ended September 30
(Dollars in millions) 2003 2002 2003 2002
-------------------------------------------------------------------------------
INCOME (LOSS) FROM OPERATIONS
Flat-rolled Products $(50) $57 $(144) $(57)
Tubular Products (10) 3 (20) 10
U. S. Steel Europe 35 40 166 65
Straightline (15) (11) (49) (28)
Real Estate 12 16 42 37
Other Businesses (2) 30 (38) 59
----- ----- ----- -----
Segment Income (Loss) from Operations (30) 135 (43) 86
Items not allocated to segments:
Workforce reduction charges (618) - (618) (10)
Litigation items - - (25) 9
Asset impairments (46) - (57) (14)
Costs related to Fairless shutdown - - - (1)
Income from sale of coal seam gas - - 34 -
interests
Gain on sale of coal mining assets - - 13 -
Federal excise tax refund - 3 - 36
Insurance recoveries related to USS- - 2 - 20
POSCO fire
----- ----- ----- -----
Total Income (Loss) from Operations $(694) $140 $(696) $126
CAPITAL EXPENDITURES
Flat-rolled Products $23 $8 $57 $27
Tubular Products 6 13 44 28
U. S. Steel Europe 30 11 72 45
Straightline 1 2 2 7
Real Estate 1 - 1 1
Other Businesses 12 12 29 42
----- ----- ----- -----
Total $73 $46 $205 $150
OPERATING STATISTICS
Average realized price: ($/net ton)(a)
Flat-rolled Products $424 $428 $422 $403
Tubular Products 625 663 635 647
U. S. Steel Europe 351 290 354 265
Steel Shipments:(a)(b)
Flat-rolled Products 3,909 2,598 9,547 7,500
Tubular Products 231 216 648 621
U. S. Steel Europe 1,153 1,009 3,561 2,870
Raw Steel-Production:(b)
Domestic Facilities 4,396 3,022 10,629 8,926
U. S. Steel Europe 1,158 1,144 3,561 3,252
Raw Steel-Capability Utilization:(c)
Domestic Facilities 89.9% 93.7% 88.6% 93.2%
U. S. Steel Kosice 83.5% 90.8% 92.1% 87.0%
Domestic iron ore shipments(b)(d) 5,830 4,819 12,896 12,167
Domestic coke shipments(b)(d) 1,743 1,342 4,412 3,862
-----------
(a) Excludes intersegment transfers.
(b) Thousands of net tons.
(c) Based on annual raw steel production capability of 12.8 million net
tons prior to May 20, 2003, and 19.4 million net tons thereafter for
domestic facilities; and 5.0 million net tons prior to September 12,
2003, and 7.4 million net tons thereafter for U. S. Steel Europe.
(d) Includes intersegment transfers.
70
Part II - Other Information:
----------------------------
Item 1. LEGAL PROCEEDINGS
Environmental Proceedings
In 1988, U. S. Steel and two other PRPs (Bethlehem Steel Corporation and
William Fiore) agreed to the issuance of an administrative order by the U.S.
Environmental Protection Agency (EPA) to undertake emergency removal work at the
Municipal & Industrial Disposal Co. site in Elizabeth, Pa. The cost of such
removal, which has been completed, was approximately $4.2 million, of which
U. S. Steel paid $3.8 million. The EPA indicated that further remediation of
this site would be required. In October 1991, the Pennsylvania Department of
Environmental Resources (PADER) placed the site on the Pennsylvania State
Superfund list and began a Remedial Investigation, which was issued in 1997.
After a feasibility study by the Pennsylvania Department of Environmental
Protection (PADEP) and submission of a conceptual remediation plan in 2001 by
U. S. Steel, U. S. Steel submitted a revised remedial action plan on May 31,
2002. U. S. Steel and the PADEP signed a Consent Order and Agreement on August
30, 2002, under which U. S. Steel is responsible for remediation of this site.
On March 18, 2003, the PADEP notified U. S. Steel that the public comment period
was concluded and the Consent Order and Agreement is final. U. S. Steel
estimates its future liability at the site to be $6.6 million.
On January 26, 1998, pursuant to an action filed by the EPA in the United
States District Court for the Northern District of Indiana titled United States
of America v. USX, U. S. Steel entered into a consent decree with the EPA which
resolved alleged violations of the Clean Water Act National Pollution Discharge
Elimination System (NPDES) permit at Gary Works and provides for a sediment
remediation project for a five mile section of the Grand Calumet River that runs
through and beyond Gary Works. Contemporaneously, U. S. Steel entered into a
consent decree with the public trustees, which resolves potential liability for
natural resource damages on the same section of the Grand Calumet River. In
1999, U. S. Steel paid civil penalties of $2.9 million for the alleged water act
violations and $0.5 million in natural resource damages assessment costs. In
addition, U. S. Steel will pay the public trustees $1.0 million at the end of
the remediation project for future monitoring costs and U. S. Steel is obligated
to purchase and restore several parcels of property that have been or will be
conveyed to the trustees. During the negotiations leading up to the settlement
with the EPA, capital improvements were made to upgrade plant systems to comply
with the NPDES requirements. The sediment remediation project is an approved
final interim measure under the corrective action program for Gary Works. As of
September 30, 2003, project costs have amounted to $47.7 million with another
$2.7 million presently projected to complete the project, over the next two
months, and $0.5 million necessary to operate the water treatment plant through
March 2005. Construction began in January 2002 on a Corrective Action
Management Unit (CAMU) to contain the dredged material on company property and
construction was completed in February 2003. The water treatment plant,
specific to this project, was completed in November 2002, and placed into
operation in March 2003. Phase 1 removal of PCB-contaminated sediment was
completed in December 2002. Dredging resumed in February 2003 and will continue
until dredging on the river is concluded, which is expected to occur in December
2003. Closure costs for the CAMU are estimated to be an additional $4.9
million.
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On March 11, 2003, Gary Works received a notice of violation from the EPA
alleging construction of two desulfurization facilities without proper
installation permitting. Negotiations began April 24, 2003, and the cost of
settlement of this matter is currently indeterminable.
In December 1995, U. S. Steel reached an agreement in principle with the
EPA and the U.S. Department of Justice (DOJ) with respect to alleged Resource
Conservation and Recovery Act (RCRA) violations at Fairfield Works. A consent
decree was signed by U. S. Steel, the EPA and the DOJ and filed with the United
States District Court for the Northern District of Alabama (United States of
America v. USX Corporation) on December 11, 1997, under which U. S. Steel will
pay a civil penalty of $1.0 million, implement two Supplemental Environmental
Projects (SEPs) costing a total of $1.75 million and implement a RCRA corrective
action at the facility. One SEP was completed during 1998. The second SEP was
completed in 2003. As of February 22, 2000, the Alabama Department of
Environmental Management assumed primary responsibility for regulation and
oversight of the RCRA corrective action program at Fairfield Works, with the
approval of the EPA. The first Phase I RCRA Facility Investigation (RFI) work
plan was approved for the site on September 16, 2002. Field sampling for the
work plan commenced immediately after approval and will continue through the end
of 2003. The cost to complete this study is estimated to be $770,000.
On October 23, 1998, a final Administrative Order on Consent was issued by
the EPA addressing Corrective Action for Solid Waste Management Units throughout
Gary Works. This order requires U. S. Steel to perform an RFI and a Corrective
Measure Study at Gary Works. The Current Conditions Report, U. S. Steel's first
deliverable, was submitted to the EPA in January 1997 and was approved by the
EPA in 1998. Phase I RFI work plans have been approved for the Coke Plant, the
Process Sewers, and Background Soils at the site, along with the approval of one
self-implementing interim stabilization measure and a corrective measure.
Another eight Phase I RFI work plans have been submitted for EPA approval,
thereby completing the Phase I requirement, along with two Phase II RFI work
plans and one further self-implementing interim stabilization measure. The
costs to complete these studies and corrective measures are estimated to be $4.8
million. Until the studies are completed, it is impossible to assess what
additional expenditures will be necessary.
On February 12, 1987, U. S. Steel and the PADER entered into a Consent
Order to resolve an incident in January 1985 involving the alleged unauthorized
discharge of benzene and other organic pollutants from Clairton Works in
Clairton, Pa. That Consent Order required U. S. Steel to pay a penalty of
$50,000 and a monthly payment of $2,500 for five years. In 1990, U. S. Steel
and the PADER reached agreement to amend the Consent Order. Under the amended
Order, U. S. Steel agreed to remediate the Peters Creek Lagoon (a former coke
plant waste disposal site); to pay a penalty of $300,000; and to pay a monthly
penalty of up to $1,500 each month until the former disposal site is closed.
Remediation costs have amounted to $11.0 million with another $0.6 million
presently estimated to complete the project.
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In 1997, USS/Kobe, a joint venture between U. S. Steel and Kobe Steel, Ltd.
(Kobe), was the subject of a multi-media audit by the EPA that included an air,
water and hazardous waste compliance review. USS/Kobe and the EPA entered into
a tolling agreement pending issuance of the final audit and commenced settlement
negotiations in July 1999. In August 1999, the steelmaking and bar producing
operations of USS/Kobe were combined with companies controlled by Blackstone
Capital Partners II to form Republic. The tubular operations of USS/Kobe were
transferred to a newly formed entity, Lorain Tubular Company, LLC (Lorain
Tubular), which operated as a joint venture between U. S. Steel and Kobe until
December 31, 1999, when U. S. Steel purchased all of Kobe's interest in Lorain
Tubular. U. S. Steel is continuing negotiations with the EPA, and has made an
offer of settlement that involves a cash penalty of $100,025 and a supplemental
environmental project to do PCB transformer replacement for a combined amount of
$774,025. Most of the matters raised by the EPA relate to Republic's
facilities; however, air discharges from U. S. Steel's #3 seamless pipe mill
have also been cited. U. S. Steel will be responsible for matters relating to
its facilities. The final report and citations from the EPA have not been
issued. Issues related to Republic have been resolved in its bankruptcy
proceedings.
Prior to U. S. Steel's acquisition of the Granite City, Great Lakes and
Midwest facilities, the DOJ had filed against National Steel Corporation proofs
of claim asserting noncompliance allegations under various environmental
statutes, including the Clean Air Act, RCRA, the Clean Water Act, the Emergency
Planning and Community Right to Know Act, CERCLA and the Toxic Substances
Control Act at these three facilities. The EPA had conducted inspections of the
facilities and entered into negotiations with National Steel Corporation toward
resolving these allegations with a consent decree. U. S. Steel is currently
engaged in discussions with the DOJ, the EPA and the State of Illinois related
to the conditions previously noted at these facilities. At Granite City Works,
the EPA had determined that ditches and dewatering beds currently in operation
were allegedly not in compliance with applicable waste oil management standards.
Dredging of the ditches and dewatering beds is expected to cost $1.3 million.
U. S. Steel is currently discussing with the EPA, the DOJ and the State of
Illinois appropriate measures to investigate and remediate the ditches and
dewatering beds. Air emissions from the steelmaking shop at Great Lakes are
also under discussion. It has not been determined what, if any, corrective
action may be necessary to address those emissions. Other, less significant
issues are also under discussion, including Ferrous Chloride Solution handling
at Granite City and Great Lakes, Spill Prevention Control and Countermeasures
Plans at both facilities, RCRA training at Great Lakes and other waste
handling issues.
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Asbestos Litigation
U. S. Steel is a defendant in a large number of cases in which
approximately 14,000 claimants actively allege injury resulting from exposure to
asbestos. Almost all these cases involve multiple plaintiffs and multiple
defendants. These claims fall into three major groups: (1) claims made under
certain federal and general maritime laws by employees of the Great Lakes Fleet
or Intercoastal Fleet, former operations of U. S. Steel; (2) claims made by
persons who performed work at U. S. Steel facilities (referred to as "premises
claims"); and (3) claims made by industrial workers allegedly exposed to an
electrical cable product formerly manufactured by U. S. Steel. While
U. S. Steel has excess casualty insurance, these policies have multi-million
dollar self insured retentions and, to date, U. S. Steel has not received any
payments under these policies relating to asbestos claims. In most cases, this
excess casualty insurance is the only insurance applicable to asbestos claims.
These cases allege a variety of respiratory and other diseases based on
alleged exposure to asbestos contained in a U. S. Steel electric cable product
or to asbestos on U. S. Steel's premises; approximately 200 plaintiffs allege
they are suffering from mesothelioma. In many cases, the plaintiffs cannot
demonstrate that they have suffered any compensable loss as a result of such
exposure or that any injuries they have incurred did in fact result from such
exposure. Virtually all asbestos cases seek monetary damages from multiple
defendants. U. S. Steel is unable to provide meaningful disclosure about the
total amount of such damages alleged in these cases for the following reasons:
(1) many cases do not claim a specific demand for damages, or contain a demand
that is stated only as being in excess of the minimum jurisdictional limit of
the relevant court; (2) even where there are specific demands for damages,
there is no meaningful way to determine what amount of the damages would or
could be assessed against any particular defendant; (3) plaintiffs' lawyers
often allege the same amount of damages irrespective of the specific harm that
has been alleged, even though the ultimate outcome of any claim may depend upon
the actual disease, if any, that the plaintiff is able to prove and the actual
exposure, if any, to the U. S. Steel product or the duration of exposure, if
any, on U. S. Steel's premises. U. S. Steel believes the amount of any damages
alleged in the complaints initially filed in these cases is not relevant in
assessing its potential liability.
U. S. Steel aggressively pursues grounds for the dismissal of U. S. Steel
from pending cases and makes efforts to settle appropriate cases for reasonable,
and frequently nominal, amounts. In 2000, U. S. Steel settled 22 claims for a
total of approximately $80,000, had 4,157 claims dismissed or otherwise resolved
and 3,860 new claims filed, so that as of December 31, 2000, we had a total of
approximately 30,700 active claims outstanding. In 2001, U. S. Steel settled
11,166 claims for a total of approximately $190,000, had about 4,102 claims
dismissed or otherwise resolved and 1,679 new claims filed so that as of
December 31, 2001, we had a total of approximately 17,100 active claims
outstanding. In 2002, U. S. Steel settled 1,135 claims for a total of
approximately $700,000, had a total of 2,662 claims dismissed or otherwise
resolved and 842 new claims filed, so that as of December 31, 2002, we had a
total of approximately 14,100 active claims outstanding.
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U. S. Steel also litigates cases to verdict where it believes that
litigation is appropriate. Until March 2003, U. S. Steel was successful in all
asbestos cases that it tried to final judgment. On March 28, 2003, a jury in
Madison County, Illinois returned a verdict against U. S. Steel for $50 million
in compensatory damages and $200 million in punitive damages. The plaintiff, an
Indiana resident, alleged he was exposed to asbestos while working as a
U. S. Steel employee at Gary Works in Gary, Indiana from 1950 to 1981 and that
he suffers from mesothelioma as a result. U. S. Steel believes the plaintiff's
exclusive remedy was provided by the Indiana workers' compensation law and that
this issue and other errors at trial would have enabled U. S. Steel to succeed
on appeal. However, in order to avoid the delay and uncertainties of further
litigation and having to post an appeal bond equal to the amount of the verdict
and to allow U. S. Steel to actively pursue its acquisition activities and other
strategic initiatives, U. S. Steel settled this case and the settlement was
reflected in financial results for the first quarter of 2003.
Management views the Madison County verdict as aberrational and continues
to believe that it is unlikely that the resolution of the pending asbestos
actions against U. S. Steel would have a material adverse effect on
U. S. Steel's financial condition. Among the factors considered in reaching
this conclusion were: (1) that U. S. Steel had been subject to a total of
approximately 34,000 asbestos claims over the last 12 years that had been
administratively dismissed or were inactive due to the failure of the claimants
to present any medical evidence supporting their claims; (2) that over the last
several years, the total number of pending claims had remained steady; (3) that
it had been many years since U. S. Steel employed maritime workers or
manufactured electrical cable; and (4) U. S. Steel's history of trial outcomes,
settlements and dismissals, including such matters since the March 28 jury
decision. Management concluded the recent verdict in Madison County,
Illinois was an aberration and that the likelihood of similar results is
remote, although not impossible.
It is not possible to predict the ultimate outcome of asbestos-related
lawsuits, claims and proceedings due to the unpredictable nature of personal
injury litigation. Despite this and although our results of operations or cash
flows for a given period could be adversely affected by asbestos-related
lawsuits, claims and proceedings, the Company believes the ultimate resolution
of these matters will not have a material adverse effect on the Company's
financial condition.
This statement of belief is a forward-looking statement. Predictions as to
the outcome of pending litigation are subject to substantial uncertainties with
respect to (among other things) factual and judicial determinations, and actual
results could differ materially from those expressed in this forward-looking
statement. U. S. Steel does not know whether the jury verdict described above
will have any impact upon the number of claims filed against U. S. Steel in the
future or on the amount of future settlements.
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Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
3.1 U. S. Steel Restated Certificate of Incorporation dated
September 30, 2003
10.1 First Amendment dated as of August 19, 2003 to the Credit Agreement
dated as of May 20, 2003 among U. S. Steel, the lenders party
thereto, the LC issuing banks party thereto, JPMorgan Chase Bank,
as Administrative Agent, Collateral Agent, Co-Syndication Agent and
Swingline Lender, and General Electric Capital Corporation, as Co-
Collateral Agent and Co-Syndication Agent
10.2 Second Amendment dated as of September 30, 2003 to the Credit
Agreement dated as of May 20, 2003 among U. S. Steel, the lenders
party thereto, the LC issuing banks party thereto, JPMorgan Chase
Bank, as Administrative Agent, Collateral Agent, Co-Syndication
Agent and Swingline Lender, and General Electric Capital
Corporation, as Co-Collateral Agent and Co-Syndication Agent
12.1 Computation of Ratio of Earnings to Combined Fixed Charges and
Preferred Stock Dividends
12.2 Computation of Ratio of Earnings to Fixed Charges
31.1 Certification of Chief Executive Officer required by Item 307 of
Regulation S-K as promulgated by the Securities and Exchange
Commission and pursuant to Section 302 of the Sarbanes-Oxley Act of
2002
31.2 Certification of Chief Financial Officer required by Item 307 of
Regulation S-K as promulgated by the Securities and Exchange
Commission and pursuant to Section 302 of the Sarbanes-Oxley Act of
2002
32.1 Certification of Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002
32.2 Certification of Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002
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(b) REPORTS ON FORM 8-K
Form 8-K dated June 30, 2003, reporting under Item 2. Acquisition or
Disposition of Assets, that U. S. Steel completed the sale of the mines
and related assets of U. S. Steel Mining Company, LLC.
* Form 8-K dated July 1, 2003, reporting under Item 9. Regulation FD
Disclosure, that U. S. Steel is furnishing information for the
July 1, 2003 press release titled "U. S. Steel Completes Sale of Mining
Company Assets."
* Form 8-K dated August 4, 2003, reporting under Item 12. Results of
Operations and Financial Condition, that U. S. Steel is furnishing
information for the August 4, 2003, U. S. Steel Earnings Release.
Form 8-K dated September 22, 2003, reporting under Item 5. Other Events
that U. S. Steel Balkan d.o.o., an indirect wholly owned subsidiary of
U. S. Steel, acquired out of bankruptcy Sartid a.d. (In Bankruptcy) and
four of its subsidiaries.
* Form 8-K dated October 10, 2003, reporting under Item 12. Results of
Operations and Financial Condition, that U. S. Steel is furnishing
information for the October 10, 2003 press release titled "U. S. Steel
Reports on Pending Asset Swap and Third Quarter Charges."
* Form 8-K dated October 28, 2003, reporting under Item 12. Results of
Operations and Financial Condition, that U. S. Steel is furnishing
information for the October 28, 2003, U. S. Steel Earnings Release.
------------------------------------------------------------------------
* Reports submitted to the Securities and Exchange Commission under
Item 9 and Item 12. Pursuant to General Instruction B of Form 8-K, the
reports submitted under Items 9 and 12 are not deemed to be "filed" for
the purpose of Section 18 of the Securities Exchange Act of 1934 and are
not subject to the liabilities of that section. Unless it specifically
does so, U. S. Steel is not incorporating, and does not intend to
incorporate, by reference these reports into a filing under the
Securities Act or the Exchange Act.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned chief accounting officer thereunto duly authorized.
UNITED STATES STEEL CORPORATION
By /s/ Larry G. Schultz
--------------------
Larry G. Schultz
Vice President & Controller
November 7, 2003
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WEB SITE POSTING
This Form 10-Q will be posted on the U. S. Steel web site, www.ussteel.com,
within a few days of its filing.