form10q.htm

 


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549

 
 

 
FORM 10-Q





(Mark One)
 
 
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended March 31, 2007
 
OR
 
 
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
For the transition period from _________ to ___________
 
 
Commission file number 1-32532
 
ASHLAND INC.
 
(a Kentucky corporation)
I.R.S. No. 20-0865835
 
50 E. RiverCenter Boulevard
P.O. Box 391
Covington, Kentucky 41012-0391
Telephone Number (859) 815-3333






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 þ     No o

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.  (Check One):

Large Accelerated Filer þ          Accelerated Filer o          Non-Accelerated Filer o

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o    No þ

At March 31, 2007, there were 62,774,541 shares of Registrant’s Common Stock outstanding.

 
 




PART I - FINANCIAL INFORMATION

ITEM 1.  FINANCIAL STATEMENTS
 

ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
STATEMENTS OF CONSOLIDATED INCOME
 
 
 
   
 
   
 
   
 
 
   
Three months ended
   
Six months ended
 
   
March 31
   
March 31
 
(In millions except per share data - unaudited)
 
2007
   
2006
   
2007
   
2006
 
                         
REVENUES
                       
Sales and operating revenues
  $
1,915
    $
1,786
    $
3,717
    $
3,472
 
Equity income
   
3
     
2
     
6
     
4
 
Other income
   
7
     
7
     
14
     
14
 
     
1,925
     
1,795
     
3,737
     
3,490
 
COSTS AND EXPENSES
                               
Cost of sales and operating expenses
   
1,575
     
1,484
     
3,064
     
2,880
 
Selling, general and administrative expenses (a)
   
309
     
262
     
574
     
515
 
     
1,884
     
1,746
     
3,638
     
3,395
 
OPERATING INCOME
   
41
     
49
     
99
     
95
 
Loss on the MAP Transaction  (b)
    (4 )     (3 )     (4 )     (2 )
Net interest and other financing income
   
9
     
9
     
25
     
20
 
INCOME FROM CONTINUING OPERATIONS
                               
BEFORE INCOME TAXES
   
46
     
55
     
120
     
113
 
Income taxes
    (15 )     (5 )     (36 )     (29 )
INCOME FROM CONTINUING OPERATIONS
   
31
     
50
     
84
     
84
 
Income (loss) from discontinued operations (net of income taxes) (c)
   
18
      (1 )    
14
     
30
 
NET INCOME
  $
49
    $
49
    $
98
    $
114
 
                                 
BASIC EARNINGS PER SHARE - Note H
                               
Income from continuing operations
  $
.49
    $
.69
    $
1.32
    $
1.18
 
Income (loss) from discontinued operations
   
.29
      (.01 )    
.23
     
.42
 
Net income
  $
.78
    $
.68
    $
1.55
    $
1.60
 
                                 
DILUTED EARNINGS PER SHARE - Note H
                               
Income from continuing operations
  $
.49
    $
.68
    $
1.30
    $
1.16
 
Income (loss) from discontinued operations
   
.28
      (.01 )    
.22
     
.41
 
Net income
  $
.77
    $
.67
    $
1.52
    $
1.57
 
                                 
DIVIDENDS PAID PER COMMON SHARE
  $
.275
    $
.275
    $
.55
    $
.55
 
 
                               


(a)
The three and six months ended March 31, 2007 includes a $25 million charge for costs associated with Ashland’s voluntary severance offer.  See Note D of the Notes to Condensed Consolidated Financial Statements for further information.
 
(b)   
“MAP Transaction” refers to the June 30, 2005 transfer of Ashland’s 38% interest in Marathon Ashland Petroleum LLC (MAP) and two other businesses to Marathon Oil Corporation.  The loss for the periods presented reflects adjustments in the recorded receivable for future estimated tax deductions related primarily to environmental and other postretirement reserves.
 
(c)
The three and six months ended March 31, 2007 includes income of $18 million resulting from an increase in Ashland’s asbestos insurance receivable.  The prior periods primarily include after-tax operating results of APAC (excluding previously allocated corporate costs) as a result of the sale of APAC to Oldcastle Materials, Inc. in August 2006 for approximately $1.3 billion.

 
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.                     
        
      
      
                                 
    
-2-


ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS

   
March 31
   
September 30
   
March 31
 
(In millions - unaudited)
 
2007
   
2006
   
2006
 
                   
ASSETS
                 
                   
CURRENT ASSETS
                 
Cash and cash equivalents
  $
584
    $
1,820
    $
476
 
Available-for-sale securities
   
371
     
349
     
621
 
Accounts receivable
   
1,497
     
1,441
     
1,315
 
Allowance for doubtful accounts
    (49 )     (40 )     (36 )
Inventories - Note F
   
576
     
532
     
494
 
Deferred income taxes
   
86
     
93
     
74
 
Other current assets
   
79
     
55
     
86
 
Current assets of discontinued operations
   
-
     
-
     
439
 
     
3,144
     
4,250
     
3,469
 
INVESTMENTS AND OTHER ASSETS
                       
Goodwill and other intangibles - Note G
   
375
     
310
     
230
 
Asbestos insurance receivable (noncurrent portion)
   
449
     
444
     
345
 
Deferred income taxes
   
194
     
186
     
231
 
Other noncurrent assets
   
438
     
450
     
469
 
Noncurrent assets of discontinued operations
   
-
     
-
     
954
 
     
1,456
     
1,390
     
2,229
 
PROPERTY, PLANT AND EQUIPMENT
                       
Cost
   
2,045
     
2,007
     
1,891
 
Accumulated depreciation and amortization
    (1,088 )     (1,057 )     (1,037 )
     
957
     
950
     
854
 
                         
    $
5,557
    $
6,590
    $
6,552
 
                         
LIABILITIES AND STOCKHOLDERS’ EQUITY
                       
                         
CURRENT LIABILITIES
                       
Current portion of long-term debt
  $
10
    $
12
    $
12
 
Trade and other payables
   
1,143
     
1,302
     
1,083
 
Dividends payable
   
-
     
674
     
-
 
Income taxes
   
22
     
53
     
6
 
Current liabilities of discontinued operations
   
-
     
-
     
211
 
     
1,175
     
2,041
     
1,312
 
NONCURRENT LIABILITIES
                       
Long-term debt (less current portion)
   
67
     
70
     
77
 
Employee benefit obligations
   
318
     
313
     
404
 
Asbestos litigation reserve (noncurrent portion)
   
569
     
585
     
500
 
Other long-term liabilities and deferred credits
   
507
     
485
     
477
 
Noncurrent liabilities of discontinued operations
   
-
     
-
     
88
 
     
1,461
     
1,453
     
1,546
 
                         
STOCKHOLDERS’ EQUITY
   
2,921
     
3,096
     
3,694
 
                         
    $
5,557
    $
6,590
    $
6,552
 
                         

      
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.               
      
        
      
      
                                 
    
-3-


ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
STATEMENTS OF CONSOLIDATED STOCKHOLDERS’ EQUITY

                     
Accumulated
         
                     
other
         
   
Common
   
Paid-in
   
Retained
   
comprehensive
         
(In millions - unaudited)
 
stock
   
capital
   
earnings
   
loss
 
(a)
 
Total
 
                                 
BALANCE AT SEPTEMBER 30, 2005
  $
1
    $
605
    $
3,251
    $ (118 )     $
3,739
 
Total comprehensive income (b)
                   
114
      (5 )      
109
 
Cash dividends, $.55 per common share
                    (40 )               (40 )
Issued 506,569 common shares under
                                         
  stock incentive and other plans (c)
           
24
                       
24
 
Repurchase of 2,402,030 common shares
            (138 )                       (138 )
BALANCE AT MARCH 31, 2006
  $
1
    $
491
    $
3,325
    $ (123 )     $
3,694
 
                                           
                                           
BALANCE AT SEPTEMBER 30, 2006
  $
1
    $
240
    $
2,899
    $ (44 )     $
3,096
 
Total comprehensive income (b)
                   
98
     
15
       
113
 
Cash dividends, $.55 per common share
            (1 )     (34 )               (35 )
Issued 629,375 common shares under
                                         
  stock incentive and other plans (c)
           
35
                       
35
 
Repurchase of 4,712,000 common shares
            (267 )     (21 )               (288 )
BALANCE AT MARCH 31, 2007
  $
1
    $
7
    $
2,942
    $ (29 )     $
2,921
 
                                           

(a)
At March 31, 2007 and 2006, the accumulated other comprehensive loss (after-tax) of $29 million for 2007 and $123 million for 2006 was comprised of a minimum pension liability of $113 million for 2007 and $160 million for 2006, net unrealized translation gains of $85 million for 2007 and $38 million for 2006, and net unrealized losses on cash flow hedges of $1 million for 2007 and $1 million for 2006.
 
(b)
Reconciliations of net income to total comprehensive income follow.
 
                         
   
Three months ended
   
Six months ended
 
   
March 31
   
March 31
 
(In millions)
 
2007
   
2006
   
2007
   
2006
 
                         
Net income
  $
49
    $
49
    $
98
    $
114
 
Unrealized translation gains (losses)
   
4
     
6
     
13
      (5 )
    Related tax benefit
   
-
     
-
     
1
     
-
 
Net unrealized gains on cash flow hedges
   
-
     
1
     
1
     
-
 
Net unrealized losses on available-for-sale securities
   
-
      (1 )    
-
     
-
 
Total comprehensive income
  $
53
    $
55
    $
113
    $
109
 
                                 
 
 (c)  Includes income tax benefits resulting from the exercise of stock options of $11 million and $4 million for the six months ended March 31, 2007 and 2006, respectively.

 


      
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.           
      
                            
-4-


ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
STATEMENTS OF CONDENSED CONSOLIDATED CASH FLOWS

   
 
 
   
Six months ended March 31
 
(In millions - unaudited)
 
2007
   
2006
 
             
CASH FLOWS FROM OPERATING ACTIVITIES FROM CONTINUING OPERATIONS
           
Net Income
 
$
98
    $
114
 
Income from discontinued operations (net of income taxes)
    (14 )     (30
)
  Adjustments to reconcile income from continuing operations to cash flows from operating activities
               
Depreciation and amortization
   
57
     
52
 
Deferred income taxes
    (1 )    
22
 
Equity income from affiliates
    (6 )     (4 )
Distributions from equity affiliates
   
3
     
2
 
Loss on the MAP Transaction
   
4
     
2
 
Change in operating assets and liabilities (a)
    (223 )     (310 )
Other items
    (1 )    
-
 
      (83 )     (152 )
CASH FLOWS FROM FINANCING ACTIVITIES FROM CONTINUING OPERATIONS
               
Proceeds from issuance of common stock
   
17
     
14
 
Excess tax benefits related to share-based payments
   
8
     
4
 
Repayment of long-term debt
    (5 )     (5 )
Repurchase of common stock
    (288 )     (138 )
Cash dividends paid
    (709 )     (40 )
      (977 )     (165 )
CASH FLOWS FROM INVESTING ACTIVITIES FROM CONTINUING OPERATIONS
               
Additions to property, plant and equipment
    (66 )     (75 )
Purchase of operations - net of cash acquired
    (73 )     (3 )
Proceeds from sale of operations
   
1
     
1
 
Purchases of available-for-sale securities
    (306 )     (549 )
Proceeds from sales and maturities of available-for-sale securities
   
286
     
337
 
Other - net
   
12
     
1
 
      (146 )     (288 )
CASH USED BY CONTINUING OPERATIONS
    (1,206 )     (605 )
Cash provided (used) by discontinued operations
               
Operating cash flows
    (2 )    
132
 
Investing cash flows
    (28 )     (36 )
DECREASE IN CASH AND CASH EQUIVALENTS
    (1,236 )     (509 )
                 
CASH AND CASH EQUIVALENTS - BEGINNING OF PERIOD
   
1,820
     
985
 
                 
CASH AND CASH EQUIVALENTS - END OF PERIOD
  $
584
    $
476
 
                 
 
 (a)     Excludes changes resulting from operations acquired or sold.

 

      
 SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.               
      
        
      
      
                                 
    
-5-



ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE A BASIS OF PRESENTATION
 
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial reporting and Securities and Exchange Commission regulations.  In the opinion of management all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included.  These condensed consolidated financial statements should be read in conjunction with Ashland’s Annual Report on Form 10-K for the fiscal year ended September 30, 2006.  Results of operations for the period ended March 31, 2007, are not necessarily indicative of results to be expected for the year ending September 30, 2007.  Certain prior period data has been reclassified in the condensed consolidated financial statements and accompanying footnotes to conform to current period presentation.
 
On August 28, 2006, Ashland completed the sale of the stock of its wholly owned subsidiary, Ashland Paving And Construction, Inc. (APAC), to Oldcastle Materials, Inc. (Oldcastle).  The operating results and assets and liabilities related to APAC have been reflected as discontinued operations in the condensed consolidated financial statements for all periods presented.  Unless otherwise noted, amounts in these Notes to Condensed Consolidated Financial Statements exclude amounts attributable to discontinued operations.
 
In June 2006, Ashland redefined its reportable business segments as it continues to evolve into a diversified, global chemical company.  Performance Materials and Water Technologies, formerly combined under Ashland Specialty Chemical, have now been separately disclosed since these businesses serve different markets and recent acquisitions have made Water Technologies a much larger and more distinct part of Ashland.  Performance Materials includes three related business groups:  Composite Polymers, Casting Solutions, and Specialty Polymers and Adhesives.  Water Technologies also includes three related business groups:  Drew Industrial, Drew Marine, and Environmental and Process Solutions (which is the business acquired from Degussa AG in May 2006).  Disclosing Performance Materials and Water Technologies separately provides greater visibility to Ashland’s strategy of expanding its products, services and geographical reach in key market segments where it competes.  For further information on this revised disclosure see “Information by Industry Segment” immediately following the Notes to Condensed Consolidated Financial Statements on pages 16 and 17 of this document.  Prior periods have been conformed to the current period presentation.
 
The preparation of Ashland’s condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and the disclosures of contingent assets and liabilities.  Significant items that are subject to such estimates and assumptions include but are not limited to long-lived assets, employee benefit obligations, income taxes, reserves and associated receivables for asbestos litigation and environmental remediation.  Although management bases its estimates on historical experience and various other assumptions that are believed to be reasonable under the circumstances, actual results could differ significantly from the estimates under different assumptions or conditions.

NOTE B – NEW ACCOUNTING STANDARDS
 
In June 2006, the Financial Accounting Standards Board (FASB) issued Interpretation No. 48 (FIN 48), “Accounting for Uncertainty in Income Taxes,” an interpretation of FASB Statement No. 109, “Accounting for Income Taxes.”  FIN 48 prescribes a minimum recognition threshold and measurement attribute for the financial statement recognition of a tax position taken or expected to be taken in a tax return.  FIN 48 also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition for tax related positions.  FIN 48 becomes effective for Ashland on October 1, 2007.  Ashland is currently in the process of determining the effect, if any, the adoption of FIN 48 will have on the consolidated financial statements.
 

 


-6-




ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE B – NEW ACCOUNTING STANDARDS (continued)
 
In September 2006, the FASB issued Financial Accounting Standard No. 157 (FAS 157), “Fair Value Measurements,” which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements.  This Statement applies under other accounting pronouncements that require or permit fair value measurements since the FASB has previously concluded in those accounting pronouncements that fair value is the relevant measurement attribute.  FAS 157 becomes effective for Ashland on October 1, 2008.  Ashland is currently in the process of determining the effect, if any, the adoption of FAS 157 will have on the consolidated financial statements.
 
In September 2006, the FASB issued Financial Accounting Standard No. 158 (FAS 158), “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans,” which requires an employer to recognize the overfunded or underfunded status of a defined benefit pension or other postretirement plan (other than a multiemployer plan) as an asset or liability in its Consolidated Balance Sheet and to recognize changes in that funded status in the year in which the changes occur through accumulated other comprehensive income, which is a component of stockholders’ equity.  FAS 158 also requires additional disclosures in the notes to the consolidated financial statements about certain effects on net periodic benefit costs for the next fiscal year that arise from delayed recognition of the gains or losses, prior service costs or credits, and transition asset or obligation.  FAS 158 is effective for Ashland on September 30, 2007 and will not have an impact on the Statement of Consolidated Income, but will affect Ashland’s Consolidated Balance Sheet.  If Ashland had adopted this statement as of September 30, 2006, it would have increased accrued benefit liabilities by $117 million with a corresponding deferred tax asset increase of $46 million and an additional reduction in accumulated other comprehensive income of $71 million.

NOTE C – DISCONTINUED OPERATIONS
 
As described in Note D of Ashland’s Annual Report on Form 10-K for the fiscal year ended September 30, 2006, Ashland completed the sale of the stock of its wholly owned subsidiary, APAC, to Oldcastle on August 28, 2006.  The sale price of $1.30 billion was subject to adjustments for changes in working capital and certain other accounts from September 30, 2005, until the closing date.  Oldcastle paid $34 million at closing as a preliminary estimate of the working capital adjustment that was subsequently calculated at $7 million.  During the December 2006 quarter, Ashland repaid $25 million of the estimated purchase price adjustment to Oldcastle.  Per the agreement, Oldcastle had a defined period of time to review this working capital calculation, which was completed in the March 2007 quarter.  As a result, Ashland repaid the remaining $2 million purchase price adjustment, which completed the sale.  The total gain on the sale of APAC recorded in the September 2006 quarter, including a pension and other postretirement curtailment gain, amounted to $162 million pretax and $110 million after-tax.  The post-closing adjustments made during the six months ended March 31, 2007 adjusted the total gain on sale of APAC to $162 million pretax and $105 million after-tax.
 
Ashland’s Board of Directors authorized that substantially all of the $1.23 billion after-tax proceeds of the sale of APAC be distributed to the shareholders of Ashland by funding the completion of the then existing share repurchase authorization, an additional repurchase authorization and a one time special dividend.  For further information on the special dividend and share repurchase programs see Note J – Capital Stock.
 
APAC qualifies as discontinued operations under FASB Statement No. 144 (FAS 144), “Accounting for the Impairment or Disposal of Long-Lived Assets.”  Accordingly, the operating results, net of tax, and assets and liabilities of discontinued operations are presented separately in Ashland’s condensed consolidated financial statements and the notes to condensed consolidated financial statements have been adjusted to reflect discontinued operations.  The amounts eliminated from continuing operations did not include allocations of corporate expenses to APAC included in the selling, general and administrative expenses caption in the Statements of Consolidated Income and the combined 39% U.S. federal (35%) and
 


-7-




ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE C – DISCONTINUED OPERATIONS (continued)
 
state (4%, net of federal deductions) statutory income tax benefits related to such expenses.  These corporate expenses were $12 million for the March 2006 quarter and $22 million for the six months ended March 31, 2006.  In accordance with a consensus of the Emerging Issues Task Force (EITF 87-24), allocations of general corporate overhead may not be allocated to discontinued operations for financial statement presentation.
 
Components of amounts in the Statements of Consolidated Income related to discontinued operations are presented in the following table for the three and six months ended March 31, 2007 and 2006.
 
 
                         
   
 
   
 
 
   
Three months ended March 31
   
Six months ended March 31
 
(In millions)
 
2007
   
2006
   
2007
   
2006
 
Revenues from discontinued operations
                       
APAC
  $
-
    $
505
    $
-
    $
1,238
 
Income (loss) from discontinued operations (net of income taxes)
                               
APAC
   
-
      (1 )    
-
     
31
 
Asbestos-related litigation reserves and expenses
   
18
     
-
     
18
      (1 )
Loss on disposal of discontinued operations (net of income taxes)
                               
APAC
   
-
     
-
      (4 )    
-
 
 

NOTE D – ACQUISITIONS AND DIVESTITURES
 
Acquisitions
 
In December 2006, Ashland acquired Northwest Coatings of Oak Creek, Wisconsin, a formulator and manufacturer of adhesives and coatings employing ultraviolet and electron beam (UV/EB) polymerization technologies from Caltius Equity Partners.  The transaction, which includes production facilities in Milwaukee, Wisconsin and Greensboro, North Carolina, was valued at $74 million.  At the time this purchase transaction was announced, Northwest Coatings had trailing twelve month sales of approximately $40 million.  The results of Northwest Coatings are included in the Statement of Consolidated Income from the date of acquisition within the Performance Materials business segment.
 
In May 2006, Ashland acquired the water treatment business of Degussa AG (Degussa), branded under the Stockhausen name, with five manufacturing facilities operating in Germany, China, Brazil, Russia and the United States.  The acquisition allows Ashland’s Water Technologies segment to expand its technology base, product line and service levels while continuing to develop its presence in key emerging international markets.  For its fiscal year ended December 31, 2005, Degussa reported sales and operating revenues (translated to U.S. dollars) of $258 million and operating income of $10 million.  The transaction, denominated in Euros, was valued at $162 million at the exchange rate on the acquisition date.  For further information on the purchase price allocation of this transaction see Note L in Ashland’s Annual Report on Form 10-K for the fiscal year ended September 30, 2006.
 
Divestitures
 
On August 28, 2006, Ashland completed the sale of the stock of its wholly owned subsidiary, APAC, to Oldcastle.  The operating results and assets and liabilities related to APAC have been reflected as discontinued operations in the condensed consolidated financial statements for all periods presented.  For further information on this transaction see Note C – Discontinued Operations.
 
As a result of the APAC divestiture certain identified remaining corporate costs that had been previously allocated to this business needed to be eliminated to maintain Ashland’s overall competitiveness.  Consequently, Ashland offered an enhanced early retirement or voluntary severance opportunity to
 


-8-




ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE D – ACQUISITIONS AND DIVESTITURES (continued)
 
administrative and corporate employees.  In total, Ashland accepted voluntary severance offers from 172 employees under the program.  As a result, a $25 million pretax charge was recorded for severance, pension and other postretirement benefit costs, of which $5 million was paid, during the March 2007 quarter.  This cost is classified in the selling, general and administrative expenses caption of the Statements of Consolidated Income and grouped within “unallocated and other” for segment presentation purposes.  The termination dates for employees participating in the program will continue to occur over the next several quarters with the last expected to occur by the end of the quarter ending December 31, 2007.  As of March 31, 2007, the liability related to curtailment was $6 million and the remaining severance liability was $14 million.

NOTE E – DEBT
 
In April 2007 Ashland replaced its revolving credit agreement with a new five year revolving credit facility which provides for up to $300 million in borrowings.  Up to an additional $100 million in borrowings is available with the consent of one or more of the lenders.  The borrowing capacity under this new facility would have been reduced by $105 million for letters of credit outstanding under the credit agreement at March 31, 2007.  The revolving credit agreement contains a covenant limiting the total debt Ashland may incur from all sources as a function of Ashland’s stockholders’ equity.  The covenant’s terms would have permitted Ashland to borrow $4.3 billion at March 31, 2007, in addition to the actual total debt incurred at that time.  Permissible total Ashland debt under the covenant’s terms increases (or decreases) by 150% of any increase (or decrease) in stockholders’ equity.
 
During the December 2005 quarter Ashland entered into an in-substance defeasance of approximately $49 million to repay current and long-term debt that had a carrying value of $44 million on the balance sheet as of December 31, 2005.  Because the transaction was not a legal defeasance the investment has been placed into a trust and will be exclusively restricted to future obligations and repayments related to these debt instruments.  The investments have been classified on the balance sheet as other current assets or other noncurrent assets based on the contractual debt repayment schedule.  The carrying value of the investments to defease debt, including other defeasements that previously occurred, at March 31, 2007 was $45 million, at September 30, 2006 was $51 million and at March 31, 2006 was $57 million.  The carrying value of the debt at March 31, 2007 was $39 million, at September 30, 2006 was $44 million and at March 31, 2006 was $49 million.

NOTE F – INVENTORIES
 
Inventories are carried at the lower of cost or market.  Certain chemicals, plastics and lubricants are valued at cost using the last-in, first-out (LIFO) method.  The remaining inventories are stated at cost using the first-in, first-out (FIFO) method or average cost method (which approximates FIFO).  The following table summarizes Ashland’s inventories as of the reported Condensed Consolidated Balance Sheet dates.
 
                   
   
March 31
   
September 30
   
March 31
 
(In millions)
 
2007
   
2006
   
2006
 
Chemicals and plastics
  $
568
    $
540
    $
486
 
Lubricants
   
89
     
84
     
88
 
Other products and supplies
   
60
     
55
     
60
 
Excess of replacement costs over LIFO carrying values
    (141 )     (147 )     (140 )
    $
576
    $
532
    $
494
 


-9-




ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE G – GOODWILL AND OTHER INTANGIBLES
 
In accordance with FASB Statement No. 142 (FAS 142), “Goodwill and Other Intangible Assets,” Ashland conducts an annual review for impairment.  Impairment is to be examined more frequently if certain indicators are encountered.  In accordance with FAS 142, Ashland reviewed goodwill for impairment based on reporting units, which are defined as operating segments or groupings of businesses one level below the operating segment level.  Ashland has completed its most recent annual goodwill impairment test required by FAS 142 as of July 1, 2006 and has determined that no impairment exists.  The following is a progression of goodwill by segment for the six months ended March 31, 2007.  There was no significant goodwill activity for the six months ended March 31, 2006.

                             
   
Performance
               
Water
     
(In millions)
 
Materials
   
Distribution
   
Valvoline
   
Technologies
   
Total
Balance at September 30, 2006
  $
110
    $
1
    $
29
    $
70
    $
210
Acquisitions
   
49
     
-
     
1
      (1 )    
49
Currency translation adjustment
   
-
     
-
     
-
     
1
     
1
Balance at March 31, 2007
  $
159
    $
1
    $
30
    $
70
    $
260
                                       

Intangible assets consist of trademarks and trade names, patents and licenses, non-compete agreements, sale contracts, customer lists and intellectual property.  Intangibles are amortized on a straight-line basis over their estimated useful lives.  The cost of trademarks and trade names is amortized principally over 15 to 25 years, intellectual property over 5 to 17 years and other intangibles over 3 to 30 years.  Ashland reviews intangible assets for possible impairment whenever events or changes in circumstances indicate that carrying amounts may not be recoverable.  Intangible assets were comprised of the following as of March 31, 2007 and 2006.

                                   
   
2007
   
2006
   
Gross
         
Net
   
Gross
         
Net
   
carrying
   
Accumulated
   
carrying
   
carrying
   
Accumulated
   
carrying
(In millions)
 
amount
   
amortization
   
amount
   
amount
   
amortization
   
amount
Trademarks and trade names
  $
65
    $ (20 )   $
45
    $
54
    $ (19 )   $
35
Intellectual property
   
40
      (7 )    
33
     
19
      (4 )    
15
Other intangibles
   
49
      (12 )    
37
     
23
      (7 )    
16
Total intangible assets
  $
154
    $ (39 )   $
115
    $
96
    $ (30 )   $
66
                                               

 
Amortization expense recognized on intangible assets for the six months ended March 31 was $4 million for 2007 and $5 million for 2006.  As of March 31, 2007, all of Ashland’s intangible assets that had a carrying value were being amortized except for certain trademarks and trade names that currently have been determined to have indefinite lives.  These assets had a balance of $32 million as of March 31, 2007 and $23 million as of March 31, 2006.  In accordance with FAS 142, Ashland annually reviews these assets to determine whether events and circumstances continue to support the indefinite useful life.  Estimated amortization expense for future periods is $11 million in 2007 (includes six months actual and six months estimated), $11 million in 2008, $10 million in 2009, $8 million in 2010 and $8 million in 2011.


-10-




ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 
NOTE H EARNINGS PER SHARE
 
Following is the computation of basic and diluted earnings per share (EPS) from continuing operations.
             
         
   
Three months ended March 31
   
Six months ended March 31
 
(In millions except per share data)
 
2007
   
2006
   
2007
   
2006
 
Numerator
                       
Numerator for basic and diluted EPS – Income
                       
from continuing operations
  $
31
    $
50
    $
84
    $
84
 
Denominator
                               
Denominator for basic EPS – Weighted average
                               
common shares outstanding
   
63
     
71
     
63
     
72
 
Common shares issuable upon exercise of stock options
                               
and stock appreciation rights
   
1
     
1
     
1
     
1
 
Denominator for diluted EPS – Adjusted weighted
                               
average shares and assumed conversions
   
64
     
72
     
64
     
73
 
                                 
EPS from continuing operations
                               
Basic
  $
.49
    $
.69
    $
1.32
    $
1.18
 
Diluted
  $
.49
    $
.68
    $
1.30
    $
1.16
 
                                 

NOTE I – EMPLOYEE BENEFIT PLANS
 
Presently, Ashland anticipates contributing $50 million to its U.S. pension plans and $7 million to its non-U.S. pension plans during fiscal 2007.  As of March 31, 2007, contributions of $20 million have been made to the U.S. plans and $2 million to the non-U.S. plans.  The following table details the components of pension and other postretirement benefit costs.
                   
                   
   
Pension benefits    
 
Other postretirement benefits   
 
(In millions)
 
2007
   
2006
   
2007
   
2006
 
Three months ended March 31
                       
Service cost
  $
10
    $
15
    $
1
    $
2
 
Interest cost
   
24
     
20
     
3
     
4
 
Expected return on plan assets
    (27 )     (24 )    
-
     
-
 
Amortization of prior service credit
   
-
     
-
      (1 )     (2 )
Amortization of net actuarial loss
   
7
     
10
     
-
     
-
 
    $
14
    $
21
    $
3
    $
4
 
                                 
                                 
Six months ended March 31
                               
Service cost
  $
19
    $
30
    $
2
    $
4
 
Interest cost
   
43
     
41
     
6
     
7
 
Expected return on plan assets
    (48 )     (50 )    
-
     
-
 
Amortization of prior service credit
   
-
     
-
      (2 )     (5 )
Amortization of net actuarial loss
   
12
     
21
     
-
     
1
 
    $
26
    $
42
    $
6
    $
7
 
                                 



-11-




ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE J – CAPITAL STOCK
 
On September 14, 2006, Ashland’s Board of Directors authorized the distribution of a substantial portion of the proceeds of the sale of APAC to the Ashland Common Stock shareholders as a one-time special dividend.  Each shareholder of record as of October 10, 2006, received $10.20 per share, for a total of $674 million.  This amount was accrued as dividends payable in the Condensed Consolidated Balance Sheet at September 30, 2006 and subsequently paid in the December 2006 quarter.  Substantially all of the remaining after-tax proceeds were directed to be used to repurchase Ashland Common Stock in accordance with the terms authorized by Ashland’s Board of Directors and as further described below.
 
The stock repurchases were made pursuant to two different programs authorized by Ashland’s Board of Directors.  The first program, originally approved on July 21, 2005, authorized the purchase of $270 million of Ashland common stock in the open market.  After 3.5 million shares at a cost of $196 million had been purchased under the initial authorization, on January 25, 2006, Ashland’s Board of Directors increased the remaining authorization by $176 million to $250 million.  As of September 14, 2006, Ashland had completed all repurchases to be made under this program.
 
The second program was authorized by Ashland’s Board of Directors on September 14, 2006, employing the remaining after-tax proceeds from the sale of APAC to repurchase up to an additional 7 million shares.  To facilitate this repurchase program, Ashland entered into a stock trading plan with Credit Suisse Securities (USA) LLC (Credit Suisse).  The stock trading plan, amended and restated on September 20, 2006, allowed Credit Suisse to make daily repurchases of stock starting on October 2, 2006, in accordance with the instructions set forth in the filed plan and within the safe harbor from insider trading liability provided under Exchange Act Rule 10b5-1.
 
Ashland repurchased 4.7 million shares for $288 million for the six months ended March 31, 2007 and 2.4 million shares for $138 million for the six months ended March 31, 2006.  Since the inception of the first described share repurchase program on July 21, 2005, through the completion of the second share repurchase program on December 19, 2006, Ashland repurchased a total of 13.2 million shares at a cost of $793 million.  These repurchases represent approximately 18% of shares outstanding on June 30, 2005.  The stock repurchase actions are consistent with certain representations of intent made to the Internal Revenue Service with respect to the transfer of MAP.

NOTE K – LITIGATION, CLAIMS AND CONTINGENCIES
 
Asbestos-related litigation
 
Ashland is subject to liabilities from claims alleging personal injury caused by exposure to asbestos.  Such claims result primarily from indemnification obligations undertaken in 1990 in connection with the sale of Riley Stoker Corporation (Riley), a former subsidiary.  Although Riley was neither a producer nor a manufacturer of asbestos, its industrial boilers contained some asbestos-containing components provided by other companies.
 
A summary of asbestos claims activity follows.  Because claims are frequently filed and settled in large groups, the amount and timing of settlements and number of open claims can fluctuate significantly from period to period.

-12-




ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE K – LITIGATION, CLAIMS AND CONTINGENCIES (continued)
                         
                       
   
Six months ended March 31
   
Years ended September 30
 
(In thousands)
 
2007
   
2006
   
2006
   
2005
   
2004
 
Open claims - beginning of period
   
162
     
184
     
184
     
196
     
198
 
New claims filed
   
3
     
3
     
6
     
12
     
29
 
Claims settled
    (1 )     (2 )     (3 )     (6 )     (7 )
Claims dismissed
    (19 )     (11 )     (25 )     (18 )     (24 )
Open claims - end of period
   
145
     
174
     
162
     
184
     
196
 


Since October 1, 2003, Riley has been dismissed as a defendant in 83% of the resolved claims.  Amounts spent on litigation defense and claim settlements averaged $812 per claim resolved in the six months ended March 31, 2007, compared to $1,594 in the six months ended March 31, 2006, and annual averages of $1,428 in 2006, $1,985 in 2005 and $1,655 in 2004.  A progression of activity in the asbestos reserve is presented in the following table.
                         
   
 
                   
   
Six months ended March 31
   
Years ended September 30
 
(In millions)
 
2007
   
2006
   
2006
   
2005
   
2004
 
Asbestos reserve - beginning of period
  $
635
    $
571
    $
571
    $
618
    $
610
 
Expense incurred
   
-
     
-
     
104
     
-
     
59
 
Amounts paid
    (16 )     (21 )     (40 )     (47 )     (51 )
Asbestos reserve - end of period
  $
619
    $
550
    $
635
    $
571
    $
618
 
                                         
 
Ashland retained Hamilton, Rabinovitz & Alschuler, Inc. (HR&A) to assist in developing and periodically updating independent and accurate reserve estimates for future asbestos claims and related costs given various assumptions.  The methodology used by HR&A to project future asbestos costs is based largely on Ashland’s recent experience, including claim-filing and settlement rates, disease mix, enacted legislation, open claims, and litigation defense and claim settlement costs.  Ashland’s claim experience is compared to the results of previously conducted epidemiological studies estimating the number of people likely to develop asbestos-related diseases.  Those studies were undertaken in connection with national analyses of the population expected to have been exposed to asbestos.  Using that information, HR&A estimates a range of the number of future claims that may be filed, as well as the related costs that may be incurred in resolving those claims.
 
From the range of estimates, Ashland records the amount it believes to be the best estimate of future payments for litigation defense and claim settlement costs.  During the most recent update of this estimate completed during the June 2006 quarter, it was determined that the reserves for asbestos claims should be increased by $104 million.  This increase in the reserves was based on the results of a non-inflated, non-discounted 51-year model developed with the assistance of HR&A.  This increase resulted in total reserves for asbestos claims of $619 million at March 31, 2007, compared to $635 million at September 30, 2006 and $550 million at March 31, 2006.
 
Projecting future asbestos costs is subject to numerous variables that are extremely difficult to predict.  In addition to the significant uncertainties surrounding the number of claims that might be received, other variables include the type and severity of the disease alleged by each claimant, the long latency period associated with asbestos exposure, dismissal rates, costs of medical treatment, the impact of bankruptcies of other companies that are co-defendants in claims, uncertainties surrounding the litigation process from jurisdiction to jurisdiction and from case to case, and the impact of potential changes in legislative or
 


-13-




ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE K – LITIGATION, CLAIMS AND CONTINGENCIES (continued)
 
judicial standards.  Furthermore, any predictions with respect to these variables are subject to even greater uncertainty as the projection period lengthens.  In light of these inherent uncertainties, Ashland believes its asbestos reserve represents the best estimate within a range of possible outcomes.  As a part of the process to develop Ashland’s estimates of future asbestos costs, a range of long-term cost models is developed.  These models are based on national studies that predict the number of people likely to develop asbestos-related diseases and are heavily influenced by assumptions regarding long-term inflation rates for indemnity payments and legal defense costs, as well as other variables mentioned previously.  Ashland has estimated that it is reasonably possible that total future litigation defense and claim settlement costs on an inflated and undiscounted basis could range as high as approximately $1.9 billion, depending on the combination of assumptions selected in the various models.  If actual experience is worse than projected relative to the number of claims filed, the severity of alleged disease associated with those claims or costs incurred to resolve those claims, Ashland may need to increase further the estimates of the costs associated with asbestos claims and these increases could potentially be material over time.
 
Ashland has insurance coverage for most of the litigation defense and claim settlement costs incurred in connection with its asbestos claims, and coverage-in-place agreements exist with the insurance companies that provide substantially all of the coverage currently being accessed.  As a result, increases in the asbestos reserve have been largely offset by probable insurance recoveries.  The amounts not recoverable generally are due from insurers that are insolvent, rather than as a result of uninsured claims or the exhaustion of Ashland’s insurance coverage. Ashland has estimated the value of probable insurance recoveries associated with Ashland’s estimate of its asbestos liabilities.  Such recoveries are based on management’s assumptions and estimates surrounding the available or applicable insurance coverage.  One such assumption is that all solvent insurance carriers remain solvent.
 
Equitas Limited (Equitas) and other London companies collectively provide a significant portion of Ashland’s insurance coverage for asbestos claims.  Ashland discounts a substantial portion of these receivables based upon the projected timing of the receipt of cash.  On March 27, 2007, Equitas announced that it had completed the first phase of a transaction previously announced on October 20, 2006, under which it has purchased reinsurance for all of its coverage obligations from National Indemnity Corporation (National Indemnity), a member of the Berkshire Hathaway group of insurance companies with a current A. M. Best rating of A++.  National Indemnity has agreed to reinsure all of Equitas’ liabilities up to a limit of $5.7 billion over and above the March 2006 reserves ($8.7 billion) of Equitas less adjustments for payments and recoveries since that date.  National Indemnity will also take on the staff and operations of Equitas and manage the run-off of Equitas’ liabilities.  Upon the completion of this phase of the transaction, Ashland reassessed its assumptions for the receivable recorded from Equitas.  As a result of the improved credit quality associated with Equitas’ reinsurance of liabilities, Ashland increased its recorded receivable by $21 million during the current quarter.
 
At March 31, 2007, Ashland’s receivable for recoveries of litigation defense and claim settlement costs from insurers amounted to $479 million, of which $83 million relates to costs previously paid.  Receivables from insurers amounted to $474 million at September 30, 2006 and $375 million at March 31, 2006.  The receivable was increased by $104 million during the June 2006 quarter, reflecting the updated model used for purposes of valuing the reserve described above, and its impact on the valuation of future recoveries from insurers.  Approximately 31% of the estimated receivables from insurance companies at March 31, 2007 are expected to be due from Equitas and other London companies.  Of the remainder, approximately 97% is expected to come from companies or groups that are rated A or higher by A. M. Best.


-14-




ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE K – LITIGATION, CLAIMS AND CONTINGENCIES (continued)
 
Environmental remediation
 
Ashland is subject to various federal, state and local environmental laws and regulations that require environmental assessment or remediation efforts (collectively environmental remediation) at multiple locations.  At March 31, 2007, such locations included 69 waste treatment or disposal sites where Ashland has been identified as a potentially responsible party under Superfund or similar state laws, 115 current and former operating facilities (including certain operating facilities conveyed to MAP) and about 1,230 service station properties, of which 233 are being actively remediated. Ashland’s reserves for environmental remediation amounted to $190 million at March 31, 2007, compared to $199 million at September 30, 2006 and $178 million at March 31, 2006, of which $159 million at March 31, 2007, $168 million at September 30, 2006 and $145 million at March 31, 2006 were classified in noncurrent liabilities on the Condensed Consolidated Balance Sheets.  The total reserves for environmental remediation reflect Ashland’s estimates of the most likely costs that will be incurred over an extended period to remediate identified conditions for which the costs are reasonably estimable, without regard to any third-party recoveries.  Engineering studies, probability techniques, historical experience and other factors are used to identify and evaluate remediation alternatives and their related costs in determining the estimated reserves for environmental remediation.  Ashland regularly adjusts its reserves as environmental remediation continues.  Environmental remediation expense amounted to $4 million for the six months ended March 31, 2007 and $15 million for the six months ended March 31, 2006, and annual expense was $57 million in 2006, $52 million in 2005 and $7 million in 2004.
 
Environmental remediation reserves are subject to numerous inherent uncertainties that affect Ashland’s ability to estimate its share of the costs.  Such uncertainties involve the nature and extent of contamination at each site, the extent of required cleanup efforts under existing environmental regulations, widely varying costs of alternate cleanup methods, changes in environmental regulations, the potential effect of continuing improvements in remediation technology, and the number and financial strength of other potentially responsible parties at multiparty sites.  Although it is not possible to predict with certainty the ultimate costs of environmental remediation, Ashland currently estimates that the upper end of the reasonably possible range of future costs for identified sites could be as high as approximately $310 million.  No individual remediation location is material to Ashland, as its largest reserve for any site is less than 10% of the remediation reserve.
 
Other legal proceedings
 
In addition to the matters described above, there are various claims, lawsuits and administrative proceedings pending or threatened against Ashland and its current and former subsidiaries.  Such actions are with respect to commercial matters, product liability, toxic tort liability, and other environmental matters, which seek remedies or damages, some of which are for substantial amounts.  While these actions are being contested, their outcome is not predictable.

-15-



ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
INFORMATION BY INDUSTRY SEGMENT

 
         
   
Three months ended March 31
   
Six months ended March 31
 
(In millions - unaudited)
 
2007
   
2006
   
2007
   
2006
 
                         
REVENUES
                       
Sales and operating revenues
                       
Performance Materials (a)
  $
376
    $
347
    $
742
    $
698
 
Distribution
   
1,008
     
1,029
     
1,956
     
1,996
 
Valvoline
   
382
     
353
     
734
     
663
 
Water Technologies (a)
   
190
     
100
     
368
     
197
 
Intersegment sales
                               
Performance Materials (a)
    (39 )     (37 )     (75 )     (69 )
Distribution
    (2 )     (5 )     (6 )     (11 )
Valvoline
   
-
      (1 )     (1 )     (1 )
Water Technologies (a)
   
-
     
-
      (1 )     (1 )
     
1,915
     
1,786
     
3,717
     
3,472
 
Equity income
                               
Performance Materials (a)
   
3
     
3
     
5
     
5
 
Valvoline
   
-
      (1 )    
1
      (1 )
     
3
     
2
     
6
     
4
 
Other income
                               
Performance Materials (a)
   
2
     
1
     
3
     
1
 
Distribution
   
1
     
1
     
2
     
2
 
Valvoline
   
2
     
2
     
4
     
5
 
Water Technologies (a)
   
1
     
1
     
2
     
2
 
Unallocated and other
   
1
     
2
     
3
     
4
 
     
7
     
7
     
14
     
14
 
    $
1,925
    $
1,795
    $
3,737
    $
3,490
 
OPERATING INCOME
                               
Performance Materials (a)
  $
23
    $
27
    $
48
    $
53
 
Distribution
   
20
     
30
     
34
     
65
 
Valvoline
   
22
     
2
     
40
     
3
 
Water Technologies (a)
   
6
      (1 )    
12
     
-
 
Unallocated and other (b)
    (30 )     (9 )     (35 )     (26 )
    $
41
    $
49
    $
99
    $
95
 
                                 
                                 
(a)
In June 2006, Ashland redefined its reportable business segments as it continues to evolve into a diversified chemical company.  Performance Materials and Water Technologies, formerly combined under Ashland Specialty Chemical, have now been separately disclosed.  Prior periods have been conformed to the current period presentation.
 
(b)
The current quarter includes a $25 million charge for costs associated with Ashland’s voluntary severance offer.  In addition, corporate costs previously allocated to APAC of $12 million for the three months ended March 31, 2006 and $22 million for the six months ended March 31, 2006 are included.





-16-



ASHLAND INC. AND CONSOLIDATED SUBSIDIARIES
INFORMATION BY INDUSTRY SEGMENT

         
   
Three months ended March 31
   
Six months ended March 31
 
(In millions)
 
2007
   
2006
   
2007
   
2006
 
                         
PERFORMANCE MATERIALS (a) (b)
                       
Sales per shipping day
  $
5.9
    $
5.4
    $
5.9
    $
5.6
 
Pounds sold per shipping day
   
4.7
     
4.5
     
4.8
     
4.9
 
Gross profit as a percent of sales
    20.5 %     23.0 %     20.8 %     22.3 %
DISTRIBUTION (a)
                               
Sales per shipping day
  $
15.7
    $
16.1
    $
15.6
    $
16.0
 
Pounds sold per shipping day
   
19.8
     
20.3
     
19.4
     
20.4
 
Gross profit as a percent of sales
    9.0 %     9.6 %     8.8 %     9.9 %
VALVOLINE (a)
                               
Lubricant sales (gallons)
   
41.8
     
44.2
     
80.4
     
82.7
 
Premium lubricants (percent of U.S. branded volumes)