STEPAN CO (SCL) FY 2021 MD&A

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following is management’s discussion and analysis (MD&A) of certain significant factors that have affected the Company’s financial condition and results of operations during the annual periods included in the accompanying consolidated financial statements.

Overview

The Company produces and sells intermediate chemicals that are used in a wide variety of applications worldwide. The overall business is comprised of three reportable segments:

Surfactants - Surfactants, which accounted for 67 percent of the Company’s consolidated net sales in 2021, are principal ingredients in consumer and industrial cleaning and disinfection products such as detergents for washing clothes, dishes, carpets, floors and walls, as well as shampoos and body washes. Other applications include fabric softeners, germicidal quaternary compounds, disinfectants, lubricating ingredients, emulsifiers for spreading agricultural products and industrial applications such as latex systems, plastics and composites. Surfactants are manufactured at five sites in the United States, two European sites (United Kingdom and France), five Latin American sites (one site in Colombia and two sites in each of Brazil and Mexico) and two Asian sites (Philippines and Singapore).  Recent significant events include:

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Polymers - Polymers, which accounted for 30 percent of consolidated net sales in 2021, include polyurethane polyols, polyester resins and phthalic anhydride. Polyurethane polyols are used in the manufacture of rigid foam for thermal insulation in the construction industry and are also a base raw material for coatings, adhesives, sealants and elastomers (collectively, CASE products). Powdered polyester resins are used in coating applications.  CASE and powdered polyester resins are collectively referred to as specialty polyols. Phthalic anhydride is used in unsaturated polyester resins, alkyd resins and plasticizers for applications in construction materials and components of automotive, boating and other consumer products. In addition, the Company uses phthalic anhydride internally in the production of polyols. In the United States, polyurethane polyols are manufactured at the Company’s Millsdale, Illinois, and Wilmington, North Carolina sites (see the INVISTA acquisition discussion below). Phthalic anhydride is manufactured at the Company’s Millsdale, Illinois site and specialty polyols are manufactured at the Company’s Columbus, Georgia, site. In Europe, polyurethane polyols are manufactured at the Company’s subsidiaries in Germany and Vlissingen, Netherlands (see the INVISTA acquisition discussion below) and specialty polyols are manufactured by the Company’s Poland subsidiary. In China, polyurethane polyols and specialty polyols are manufactured at the Company’s Nanjing, China, plant.  Recent significant events include:

Specialty Products – Specialty products, which accounted for three percent of consolidated net sales in 2021, include flavors, emulsifiers, and solubilizers used in food, flavoring, nutritional supplement and pharmaceutical applications. Specialty products are primarily manufactured at the Company’s Maywood, New Jersey, site and, in some instances, by third-party contractors. Recent significant events include:

2021 Acquisitions

INVISTA

In January 2021, the Company purchased INVISTA’s aromatic polyester polyol business and associated assets. Included in the transaction were two manufacturing sites, one in Wilmington, North Carolina and the other in Vlissingen, Netherlands along with intellectual property, customer relationships, inventory and working capital. This acquisition expanded the Company’s manufacturing capabilities in both the United States and Europe and enhanced the Company’s business continuity capabilities for the market. The Company believes that INVISTA’s available spare capacity, combined with debottlenecking opportunities in both plants, will allow Stepan to support future market growth in a capital efficient way.  This acquisition was accounted for as a business combination, and accordingly, the assets acquired were measured and recorded at their fair values. The purchase price of the acquisition was $165.0 million, plus $21.6 million of working capital and $3.0 million of associated value-added taxes (VAT).  The working capital acquired included $5.9 million of cash.  The acquisition was paid with cash on hand.  See Note 20, Acquisitions, of the notes to the Company’s condensed consolidated financial statements (included in Item 8 of this Form 10-K) for additional details.

Fermentation Plant - Lake Providence, Louisiana

In February 2021, the Company acquired a fermentation plant located in Lake Providence, Louisiana. The Company believes this plant complements the rhamnolipid-based bio-surfactant technology the Company acquired from Logos Technologies in March 2020.  Fermentation is a new platform technology for the Company and the Company is focusing efforts to further develop, integrate, produce and commercialize these unique surfactants moving forward.  Bio-surfactants, produced via fermentation, are attractive due to their biodegradability, low toxicity, and in some cases, unique antimicrobial properties. These bio-surfactants offer synergies in several strategic end use markets including oilfield, agriculture, personal care and household, industrial and institutional cleaning.  The acquisition of this industrial scale fermentation plant represents the latest step in the Company’s bio-surfactant commercialization efforts.  This acquisition was accounted for as an asset acquisition. The purchase price of the acquisition was $3.5 million and was

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paid with cash on hand.  See Note 20, Acquisitions, of the notes to the Company’s condensed consolidated financial statements (included in Item 8 of this Form 10-K) for additional details.

Deferred Compensation Plans

The accounting for the Company’s deferred compensation plans can cause period-to-period fluctuations in Company income and expenses. Compensation expense is recognized when the value of Company common stock and mutual fund investment assets held for the plans increase, and compensation income is recognized when the value of Company common stock and mutual fund investment assets decline. The pretax effect of all deferred compensation-related activities (including realized and unrealized gains and losses on the mutual fund assets held to fund deferred compensation obligations) and the income statement line items in which the effects of the activities were recorded are displayed in the following tables:

Below are the year-end Company common stock market prices used in the computation of deferred compensation income and expense:

Effects of Foreign Currency Translation

The Company’s foreign subsidiaries transact business and report financial results in their respective local currencies. As a result, foreign subsidiary income statements are translated into U.S. dollars at average foreign exchange rates appropriate for the reporting period. Because foreign exchange rates fluctuate against the U.S. dollar over time, foreign currency translation affects year-over-year comparisons of financial statement items (i.e., because foreign exchange rates fluctuate, similar year-to-year local currency results for a foreign subsidiary may translate into different U.S. dollar results). The following tables present the effects that foreign currency translation had on the year-over-year changes in consolidated net sales and various income statement line items for 2021 compared to 2020 and 2020 compared to 2019:

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Results of Operations

2021 Compared with 2020

Summary

Net income attributable to the Company in 2021 increased nine percent to $137.8 million, or $5.92 per diluted share, from $126.8 million, or $5.45 per diluted share in 2020. Adjusted net income increased nine percent to $143.5 million, or $6.16 per diluted share, from $132.0 million, or $5.68 per diluted share in 2020 (see the “Reconciliation of Non-GAAP Adjusted Net Income and Diluted Earnings per Share” section of this MD&A for a reconciliation between reported net income attributable to the Company and reported earnings per diluted share and non-GAAP adjusted net income and adjusted earnings per diluted share). Below is a summary discussion of the major factors leading to the year-over-year changes in net sales, expenses and income for 2021 compared to 2020.  A detailed discussion of segment operating performance for 2021, compared to 2020, follows the summary.

Consolidated net sales increased $476.2 million, or 25 percent, between years. Higher average selling prices, a two percent increase in sales volume and the favorable impact of foreign currency translation positively impacted the change in net sales by $415.2 million, $36.6 million and $24.4 million, respectively.  The increase in average selling prices was primarily due to the pass-through of higher raw material costs and more favorable product and customer mix.  Sales volume in the Polymer and Specialty Products segments increased 29 percent and six percent, respectively. The increase in Polymer sales volume was primarily attributable to the first quarter 2021 INVISTA aromatic polyester polyol acquisition, the gradual recovery from COVID-19 delays and cancellations of reroofing and new construction projects, and the non-recurrence of the power outage at the Company’s Millsdale, Illinois facility in the first quarter of 2020. Sales volume for the Surfactant segment declined five percent year-over-year mostly due to lower sales volume in the consumer product end markets. The consumer product business has been negatively impacted by supply chain disruptions, feedstock supply issues in 2021 (following severe weather in Texas and the U.S. Gulf Coast area), customer inventory rebalancing efforts and lower demand for consumer cleaning products versus the COVID-19 pandemic peak in 2020.  The favorable foreign currency translation reflects a weaker U.S. dollar against the majority of currencies where the Company has foreign operations.

Operating income decreased slightly from $171.5 million in 2020 to $170.8 million in 2021. Surfactant operating income decreased $3.1 million, or two percent, versus operating income reported in 2020.  Polymer and Specialty Products operating income increased $5.4 million and $0.2 million, respectively, year-over-year. Corporate expenses, including deferred compensation and business restructuring/asset disposition expenses, increased $3.2 million year-over-year. Deferred compensation expense decreased $3.1 million and business restructuring/asset disposition expenses increased $2.1 million between years. Corporate expenses, excluding deferred compensation and business restructuring/asset disposition expenses, increased $4.2 million between years largely due to higher insurance premiums, cloud application costs, USEPA environmental oversight costs at the Company’s Maywood, New Jersey site, and corporate headquarter-related expenses (inclusive of the non-recurrence of a sales and use tax refund received in the second quarter of 2020). Foreign currency translation had a $1.4 million positive impact on operating income in 2021 versus the prior year.

Operating expenses (including deferred compensation and business restructuring/asset disposition expenses) increased $12.9 million, or six percent, year-over-year. Changes in the individual income statement line items that comprise the Company’s operating expenses were as follows:

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Net interest expense in 2021 increased $0.3 million, or six percent, versus the prior year.  This increase was primarily due to lower interest income earned in 2021 due to lower cash deposits.

Other, net was $7.5 million of income in 2021 versus $5.0 million of income in 2020.  The Company recognized $5.2 million of investment income (including realized and unrealized gains and losses) for the Company’s deferred compensation and supplemental defined contribution mutual fund assets in 2021 compared to $4.8 million of investment income in 2020. The Company also recognized $1.0 million of income related to the dissolution of its China joint venture in 2021. In addition, the Company recognized $2.1 million of lower net periodic pension costs and other retirement obligations in 2021 versus the prior year along with foreign exchange gains of $0.5 million in 2021 versus $1.4 million of foreign exchange gains in 2020.

The Company’s effective tax rate was 20.1 percent in 2021 compared to 25.4 percent in 2020. This decrease was primarily attributable to: (a) an increase in U.S. tax benefits related to the Company’s 2021 research and development tax credits and FDII/GILTI computations; (b) an increase in U.S. tax benefits related to the Company’s prior year research and development tax credits and FDII/GILTI computations; and (c) a non-recurring unfavorable tax cost in the fourth quarter of 2020 related to cash repatriations to facilitate the 2021 INVISTA acquisition.  See Note 9, Income Taxes, of the notes to the Company’s consolidated financial statements (included in Item 8 of this Form 10-K) for a reconciliation of the statutory U.S. federal income tax rate to the effective tax rate.

Segment Results

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Surfactants

Surfactant 2021 net sales increased $211.1 million, or 16 percent, versus 2020 net sales. Higher average selling prices and the favorable impact of foreign currency translation positively impacted the change in net sales by $267.4 million and $18.3 million, respectively.  The higher average selling prices were primarily due to more favorable product and customer mix and the pass-through of higher raw material costs. A five percent decline in sales volume negatively impacted the change in net sales by $74.6 million.  Lower sales volume in the consumer product end markets accounted for most of the sales volume decrease. A year-over-year comparison of net sales by region follows:

Net sales for North American operations increased $77.6 million, or nine percent, between years. Higher average selling prices and the favorable impact of foreign currency translation positively impacted the change in net sales by $141.6 million and $2.0 million, respectively. The higher average selling prices were primarily due to more favorable product and customer mix and the pass-through of higher raw material costs.  Sales volume declined eight percent and negatively impacted the year-over-year change in net sales by $66.0 million. Lower sales volume into the consumer product end markets accounted for most of the decline. Higher demand for products sold into the agricultural, oilfield and institutional cleaning end markets, partially offset the above. The consumer product business was negatively impacted by supply chain disruptions, inclusive of feedstock supply issues following the first quarter 2021 severe weather in Texas and the third quarter 2021 severe weather in the U.S. Gulf Coast, customer inventory rebalancing efforts and lower demand for consumer products versus the COVID-19 pandemic peak in 2020.

Net sales for European operations increased $54.1 million, or 23 percent, year-over-year. Higher average selling prices and the favorable impact of foreign currency translation positively impacted the change in net sales by $42.2 million and $13.5 million, respectively. The higher average selling prices were primarily due to the pass-through of higher raw material costs. A weaker U.S. dollar relative to the European euro and British pound sterling led to the favorable foreign currency translation effect. Sales volume decreased one percent and negatively impacted the change in net sales by $1.6 million year-over-year.

Net sales for Latin American operations increased $65.0 million, or 28 percent, between years. Higher average selling prices and the favorable impact of foreign currency translation positively impacted the change in net sales by $72.4 million and $2.0 million respectively. The higher average selling prices reflect more favorable product and customer mix, the pass-through of higher raw material costs, and $3.3 million of revenue recognition in 2021 related to a VAT tax recovery. Sales volume declined four percent and negatively impacted the change in net sales by $9.4 million.  The decline in sales volume primarily reflects lower demand for products sold into the consumer product end markets that was partially offset by higher demand for products sold into the agricultural end market.

Net sales for Asian operations increased $14.3 million, or 26 percent, year-over-year. Higher average selling prices, a four percent increase in sales volume, and the favorable impact of foreign currency translation positively impacted the change in net sales by $11.2 million, $2.4 million and $0.7 million, respectively. The higher average selling prices were primarily due to the pass through of higher raw material costs and more favorable product and customer mix. The sales volume growth was mostly due to higher demand for products sold into the agricultural end market.

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Surfactant operating income for 2021 decreased $3.1 million, or two percent, versus operating income reported in 2020. Gross profit increased $3.5 million, or one percent year-over-year.  Operating expenses increased $6.6 million, or seven percent. Year-over-year comparisons of gross profit by region and total segment operating expenses and operating income follow:

Gross profit for North American operations decreased $4.5 million, or three percent, year-over-year primarily due to an eight percent decline in sales volume which negatively affected the change in gross profit by $13.8 million.  Lower sales volume into the consumer product end markets accounted for most of the decline.  Higher demand for products sold into the agricultural, oilfield and institutional cleaning end markets, partially offset the above. Higher unit margins positively impacted the change in gross profit by $9.2 million. The higher unit margins primarily reflect a more favorable customer and product mix that helped to partially offset higher 2021 supply chain expenses due to raw material availability, inflationary pressures, logistic constraints and higher planned maintenance. Prior year average unit margins were negatively impacted by high supply chain expenses related to the Millsdale, Illinois plant power outage that were partially offset by $5.2 million of insurance recovery.

Gross profit for European operations increased $0.7 million, or two percent, year-over-year.  The favorable impact of foreign currency translation positively impacted the change in gross profit by $1.8 million.  A weaker U.S. dollar relative to the European euro and British pound sterling led to the favorable foreign currency translation effect. Lower average unit margins and a one percent decline in sales volume negatively impacted the year-over-year change in gross profit by $0.8 million and $0.3 million, respectively.

Gross profit for Latin American operations increased $8.5 million, or 18 percent, primarily due to higher average unit margins.  These higher average unit margins positively impacted the change in gross profit by $10.8 million. The higher average unit margins primarily reflect more favorable customer and product mix and $3.3 million of revenue recognized in 2021 related to a VAT tax recovery.  A four percent decline in sales volume and the unfavorable impact of foreign currency translation negatively impacted the change in gross profit by $1.8 million and $0.5 million, respectively.

Gross profit for Asian operations decreased $1.2 million, or ten percent, primarily due to lower average unit margins.  The lower unit margins negatively impacted the year-over-year change in gross profit by $1.8 million.  Sales volume growth of four percent and the favorable impact of foreign currency translation positively impact the change in gross profit by $0.5 million and $0.1 million, respectively.

Operating expenses for the Surfactant segment increased $6.6 million, or seven percent, year-over-year. Most of this increase   was attributable to higher salaries, outside services, corporate headquarter-related expenses (inclusive of the non-recurrence of a sales and use tax refund received in the second quarter of 2020) and the unfavorable effect of foreign currency translation.

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Polymers

Polymers 2021 net sales increased $261.2 million, or 58 percent, versus net sales in 2020.  A 29 percent increase in sales volume, higher average selling prices and the favorable impact of foreign currency translation positively impacted the change in net sales by $129.1 million, $126.4 million and $5.7 million, respectively. The higher sales volume primarily reflects the first quarter 2021 acquisition of INVISTA’s polyester polyol business as well as higher demand for specialty polyols and phthalic anhydride.  The higher average selling prices were mainly due to the pass-through of higher raw material costs.  A year-over-year comparison of net sales by region follows:

Net sales for North American operations increased $98.7 million, or 37 percent, due to a 23 percent increase in sales volume and higher average selling prices. These two items positively impacted the change in net sales by $61.2 million and $37.5 million, respectively.  Sales volume of polyols used in rigid foam applications increased 19 percent year-over-year primarily due to the first quarter 2021 INVISTA polyester polyol acquisition and the gradual recovery from COVID-19 related delays of re-roofing and new construction projects. Sales volume of polyols used in rigid foam applications, excluding the impact of the INVISTA acquisition, increased two percent. Sales volume of specialty polyols and phthalic anhydride increased 36 percent and 33 percent, respectively, due to stronger demand within these markets. The phthalic anhydride sales volume improvement was also attributable to the non-recurrence of the Millsdale, Illinois plant power outage in 2020. Higher average selling prices were primarily due to the pass-through of higher raw material costs.

Net sales for European operations increased $154.8 million, or 105 percent, year-over-year.  Higher average selling prices, a 45 percent increase in sales volume and the favorable impact of foreign currency translation positively impacted the year-over-year change in net sales by $85.9 million, $66.1million and $2.8 million, respectively.  The increase in sales volume is primarily due to the first quarter 2021 INVISTA polyester polyol business acquisition.  Sales volume, excluding the impact of the INVISTA acquisition, was flat versus prior year.  The higher average selling prices were primarily due to the pass-through of higher raw material costs.

Net sales for Asian and Other operations increased $7.6 million, or 19 percent, primarily due to higher average selling prices and the favorable impact of foreign currency translation.  These items positively impacted the change in net sales by $5.0 million and $2.9 million, respectively. The higher average selling prices were primarily due to the pass-through of higher raw material costs. Sales volume declined one percent year-over-year.

Polymer operating income for 2021 increased $5.4 million, or eight percent, versus operating income for 2020. Gross profit increased $8.6 million, or nine percent, year-over-year.  Operating expenses increased $3.3 million, or 12 percent, versus prior year.  Year-over-year comparisons of gross profit by region and total segment operating expenses and operating income follow:

Gross profit for North American operations decreased $6.6 million, or 11 percent primarily due to lower average unit margins.  The lower average unit margins negatively impacted the year-over-year change in gross profit by $20.4 million. The lower average unit margins reflect higher feedstock costs, feedstock availability and supply chain inflationary pressures in 2021 that exceeded the year-over-year benefit from the non-recurrence of the power outage at the Company’s Millsdale, Illinois site (partially offset by $12.8 million of insurance recovery) and incremental raw material costs incurred in 2020 as a result of the Illinois River lock closures. Sales volume increased 23 percent year-over-year and positively impacted the change in gross profit by $13.8 million.

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Gross profit for European operations increased $19.8 million, or 75 percent, due to a 45 percent increase in sales volume, higher average unit margins and the favorable impact of foreign currency translation. These items positively impacted the year-over-year change in gross profit by $11.9 million, $7.2 million, and $0.7 million, respectively.

Gross profit for Asia and Other operations declined $4.6 million, or 48 percent, primarily due to lower average unit margins that negatively impacted the change in gross profit by $4.9 million. The lower unit margins were primarily due to the non-recurrence of $3.7 million of government settlements, related to the government-mandated China JV shutdown in 2012, received in 2020. A one percent decline in sales volume negatively impacted the change in gross profit by $0.1 million. The favorable impact of foreign currency translation positively impacted the change in gross profit by $0.4 million.

Operating expenses for the Polymers segment increased $3.3 million, or 12 percent, year-over-year. The majority of the increase was due to higher salaries and incremental expenses incurred in 2021 due to the INVISTA polyester polyol acquisition.

Specialty Products

Specialty Products net sales increased $3.9 million, or six percent, versus net sales in 2020. This increase reflects sales volume growth of six percent and higher average selling prices. Gross profit was flat versus prior year and operating income increased $0.2 million.  Most of the sales volume growth reflects improved volume within the medium chain triglycerides (MCT) product line.

Corporate Expenses

Corporate expenses, which include deferred compensation, business restructuring/asset disposition and other operating expenses that are not allocated to the reportable segments, increased $3.2 million between years. Corporate expenses were $83.0 million in 2021 versus $79.8 million in the prior year. This increase was primarily attributable to higher insurance premiums, salaries, USEPA environmental remediation oversight costs at the Company’s Maywood, New Jersey site, cloud application costs, corporate headquarter-related expenses (inclusive of the non-recurrence of a sales and use tax refund received in the second quarter of 2020) and the unfavorable impact of foreign currency translation. In addition, business restructuring/asset disposition expenses increased $2.1 million between years primarily due to a $2.7 million loss incurred on the sale of a corporate headquarter building in 2021. Partially offsetting the above were lower deferred compensation expenses, which declined $3.1 million year-over-year.

Deferred compensation expense decreased $3.1 million, or 31 percent, between years. This decrease was primarily due to a $4.97 per share increase in the market price of the Company’s common stock during 2021 compared to a $16.88 per share increase during 2020. The following table presents the period-end Company common stock prices used in the computation of deferred compensation expenses in 2021 and 2020:

2020 Compared with 2019

Summary

Net income attributable to the Company for 2020 increased 23 percent from $103.1 million, or $4.42 per diluted share in 2019 to $126.8 million, or $5.45 per diluted share, in 2020. Adjusted net income increased 11 percent to $132.0 million, or $5.68 per diluted share, from $119.4 million, or $5.12 per diluted share in 2019 (see the “Reconciliations of Non-GAAP Adjusted Net Income and Diluted Earnings per Share” section of this MD&A for reconciliations between reported net income attributable to the Company and reported earnings per diluted share and non-GAAP adjusted net income and adjusted earnings per diluted share). Below is a summary discussion of the major factors leading to the year-over-year changes in net sales, expenses and income. A detailed discussion of segment operating performance for 2020 compared to 2019 follows the summary.

Consolidated net sales increased $11.1 million, or one percent, year-over-year.  Consolidated sales volume increased three percent, which positively impacted the change in net sales by $49.6 million. Sales volume in the Surfactant segment increased six percent while sales volume in the Polymer and Specialty Products segments decreased five and three percent, respectively. Higher average selling prices positively impacted the change in net sales by $7.1 million. Foreign currency translation negatively impacted the year-over-year change in net sales by $45.7 million primarily due to a stronger U.S. dollar against the Latin American currencies used in certain of the Company’s foreign operations.

Operating income increased $44.3 million, or 35 percent, year-over-year.  Surfactant operating income increased $46.3 million, or 38 percent versus operating income reported in 2019.  Polymer and Specialty Products operating income decreased $1.4 million and

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$2.4 million, respectively.  Deferred compensation expenses and business restructuring expenses decreased $5.2 million and $1.5 million, respectively, year-over-year. Corporate expenses, excluding deferred compensation and business restructuring expenses, were up $4.9 million year-over-year. Most of this increase reflects higher incentive-based compensation and acquisition-related expenses, partially offset by lower environmental remediation expenses. Foreign currency translation had an unfavorable $7.7 million effect on year-over-year consolidated operating income.

Operating expenses (including deferred compensation expense and business restructuring expenses) decreased $0.4 million, or less than one percent, between years. Changes in the individual income statement line items that comprise the Company’s operating expenses were as follows:

Net interest expense in 2020 declined $0.5 million, or nine percent, versus 2019. This decrease was primarily attributable to lower interest expense resulting from scheduled debt repayments and the non-recurrence of two one-time events in 2019: (a) the recognition of make-whole interest expense associated with the Company’s voluntary prepayment of its 5.88 percent Senior Notes, partially offset by (b) the recognition of interest income associated with a Brazilian VAT tax recovery. Partially offsetting the above was lower interest income earned in 2020 as a result of lower global interest rates.

Other, net was $5.0 million of income in 2020 versus $4.6 million of income in 2019. The Company recognized $4.8 million of investment income (including realized and unrealized gains and losses) for the Company’s deferred compensation and supplemental defined contribution mutual fund assets in 2020 compared to $4.9 million of investment income in 2019. In addition, the Company reported foreign exchange gains of $1.4 million in 2020 versus $0.1 million of foreign exchange gains in 2019. The Company also reported $0.5 million of higher net periodic pension cost expense in 2020 versus 2019. Other miscellaneous items resulted in $0.2 million of higher expense in 2020 versus 2019.

The year-to-date effective tax rate was 25.4 percent in 2020 compared to 18.1 percent in 2019. This increase was primarily attributable to: (a) the non-recurrence of a favorable tax benefit recognized in the third quarter of 2019 on incremental U.S. tax credits identified as part of a research and development tax credit study; (b) a non-recurring unfavorable tax cost in the fourth quarter of 2020 related to cash repatriations to facilitate the 2021 INVISTA acquisition, and (c) a less favorable geographical mix of income in 2020 versus 2019.  See Note 9, Income Taxes, of the notes to the Company’s consolidated financial statements (included in Item 8 of this Form 10-K) for a reconciliation of the statutory U.S. federal income tax rate to the effective tax rate.

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Segment Results

Surfactants

Surfactant 2020 net sales increased $79.0 million, or six percent, versus 2019 net sales.  A six percent increase in sales volume and higher average selling prices positively impacted the change in net sales by $67.2 million and $55.0 million, respectively. The unfavorable impact of foreign currency translation negatively impacted the change in net sales by $43.2 million. A year-over-year comparison of net sales by region follows:

Net sales for North American operations increased $60.5 million, or eight percent, year-over-year. A six percent increase in sales volume and higher average selling prices positively impacted the change in net sales by $43.3 million and $17.6 million, respectively. The sales volume growth was primarily due to higher demand for products sold into the consumer product end markets, driven by increased demand for cleaning, disinfection and personal wash products as a result of COVID-19, partially offset by lower demand in the functional product end markets, principally agriculture and oilfield.  Foreign currency translation negatively impacted the change in net sales by $0.4 million.

Net sales for European operations decreased $6.1 million, or three percent, year-over-year. A seven percent decrease in sales volume negatively impacted the change in net sales $16.6 million. The lower sales volume reflects lost business at one customer that was partially offset by higher demand for products from our distribution partners.  Higher average selling prices and the favorable impact of foreign currency translation positively impacted the change in net sales by $7.5 million and $3.0 million, respectively. A weaker U.S. dollar relative to the European euro and British pound sterling led to the foreign currency translation effect.

Net sales for Latin American operations increased $22.2 million, or ten percent, between years, primarily due to an 18 percent increase in sales volume and higher average selling prices.  These items positively impacted the year-over-year change in net sales by $38.8 million and $31.3 million, respectively. The sales volume growth primarily reflects higher demand for products sold into the consumer product end markets, driven by increased demand for cleaning products, and a fully operational Ecatepec, Mexico facility in 2020.  Partially offsetting the above was the unfavorable impact of foreign currency translation which negatively impacted the change in net sales by $47.9 million. The year-over-year strengthening of the U.S dollar against the Brazilian real, Mexican peso and the Colombian peso led to the foreign currency effect.

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Net sales for Asian operations increased $2.4 million, or four percent, primarily due to a three percent increase in sales volume and the favorable impact of foreign currency translation. These items favorably impacted the change in net sales by $1.7 million and $2.1 million, respectively. The sales volume growth was mostly due to higher demand for products sold into the agricultural end market. A weaker U.S. dollar relative to the Philippine peso led to the foreign currency translation effect. Lower average selling prices negatively impacted the change in net sales by $1.4 million.

Surfactant operating income for 2020 increased $46.3 million, or 38 percent, versus operating income reported in 2019. Gross profit increased $49.1 million, or 22 percent year-over-year. Operating expenses increased $2.8 million, or three percent. Year-over-year comparisons of gross profit by region and total segment operating expenses and operating income follow:

Gross profit for North American operations increased $32.9 million, or 23 percent, between years primarily due to higher unit margins that positively impacted the change in gross profit by $25.0 million. The higher unit margins primarily reflect a more favorable customer and product mix largely due to increased volume to the Company’s Tier 2 and Tier 3 customers. A six percent increase in sales volumes positively impacted the change in gross profit by $7.9 million. Most of the sales volume increase was attributable to increased demand for cleaning, disinfection and personal wash products.

Gross profit for European operations increased $3.5 million, or ten percent, primarily due to higher unit margins and the favorable impact of foreign currency translation.  These items positively impacted the change in gross profit by $5.4 million and $0.4 million, respectively.  The higher unit margins were attributable to a more favorable product and customer mix in 2020 resulting from higher demand for biocidal quaternaries and lower demand for commodity softeners. A seven percent decline in sales volume negatively impacted the change in gross profit by $2.3 million.

Gross profit for Latin American operations increased $14.0 million, or 43 percent, year-over-year primarily due to higher unit margins that contributed $19.0 million to the increase in net sales.  The higher unit margins primarily reflect the Company’s Mexican sites being fully operational in 2020 versus the prior year when Mexico incurred higher freight and supply chain expenses as a result of the 2019 sulfonation equipment failure at the Ecatepec, Mexico site.  In addition, more favorable customer and product mix favorably impacted gross margins largely due to increased volume to the Company’s Tier 2 and Tier 3 customers.  An 18 percent increase in sales volume favorably impacted net sales by $5.9 million.  The sales volume growth primarily reflects higher demand for products sold into the consumer products end markets, driven by increased demand for cleaning and disinfection products, and a fully operational Ecatepec, Mexico facility in 2020. The unfavorable impact of foreign currency translation negatively impacted gross margins by $10.9 million.

Gross profit for Asian operations decreased $1.2 million, or nine percent, primarily due to lower unit margins. The lower unit margins negatively impacted the change in gross profit by $1.9 million. The lower unit margins were partially offset by a three percent increase in sales volume and the favorable impact of foreign currency translation.  These items positively impacted the change in gross profit by $0.4 million and $0.3 million, respectively.

Operating expenses for the Surfactant segment increased $2.8 million, or three percent, year-over-year. Most of this increase   was attributable to higher salaries and incentive-based compensation expense.

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Polymers

Polymers 2020 net sales decreased $60.1 million, or 12 percent, versus net sales in 2019. A five percent decrease in sales volume negatively impacted the year-over-year change in net sales by $29.9 million.  The unfavorable impact of lower average selling prices and foreign currency translation negatively impacted the year-over-year change in net sales by $27.6 million and $2.6 million, respectively.  A year-over-year comparison of net sales by region follows:

Net sales for North American operations declined $48.8 million, or 16 percent, primarily due to a 10 percent decrease in sales volume. The decline in sales volume negatively impacted the year-over-year change in net sales by $32.2 million. Sales volume of phthalic anhydride decreased 38 percent due to volume lost as a result of the first quarter 2020 Millsdale, Illinois plant power outage, share loss at one customer and soft market demand. Sales volume of polyols used in rigid foam applications decreased two percent due to COVID-19 related construction project delays and cancellations.  Lower average selling prices negatively impacted the change in net sales by $16.6 million.  The lower average selling prices reflect lower raw material market prices.

Net sales for European operations decreased $11.2 million, or seven percent, year-over-year. Lower average selling prices, the unfavorable impact of foreign currency translation and a one percent decrease in sales volume negatively impacted the year-over-year change in net sales by $8.2 million, $1.9 million and $1.0 million, respectively. The lower average selling prices reflect lower raw material costs and a stronger U.S. dollar relative to the Polish zloty led to the foreign currency translation impact. The decline in sales volume principally reflects softer demand during the first half of 2020 due to deferred and canceled construction projects as a result of COVID-19.

Net sales for Asian and Other operations were flat year-over-year. A nine percent increase in sales volume favorably impacted the change in net sales by $3.4 million and was primarily attributable to higher demand in livestock and cold storage end markets within China.  Lower average selling prices and the unfavorable impact of foreign currency translation negatively impacted the change in net sales by $2.7 million and $0.7 million, respectively.  The lower average selling prices reflect lower raw material costs.

Polymer operating income for 2020 decreased $1.4 million, or two percent, versus operating income for 2019. Gross profit decreased $2.0 million, or two percent, year-over-year.  Operating expenses decreased $0.7 million, or two percent, in 2020 versus 2019.  Year-over-year comparisons of gross profit by region and total segment operating expenses and operating income follow:

Gross profit for North American operations decreased $9.2 million, or 13 percent, primarily due to a 10 percent decline in sales volume and lower unit margins.  These two items negatively impacted the year-over-year change in gross profit by $7.1 million and $2.1 million, respectively. The decrease in sales volume primarily reflects lost phthalic anhydride volume due to the first quarter 2020 Millsdale, Illinois power outage and share loss at one customer, combined with lower rigid polyols demand as a result of COVID-19 related construction project delays and cancellations. The lower unit margins were primarily attributable to the first quarter 2020 power outage at the Company’s Millsdale, Illinois facility, which forced a temporary production shutdown and resulted in higher maintenance, supply chain costs and unit overhead rates.  In addition, incremental raw material costs were incurred in 2020 as a result of the Illinois River lock closures.  Partially offsetting the above was a $12.8 million insurance recovery related to the Millsdale power outage.

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Gross profit for European operations increased $3.3 million, or 14 percent, primarily due to higher unit margins. The higher unit margins positively impacted the year-over-year change in gross profit by $3.6 million. The higher unit margins partially reflect the non-recurrence of a maintenance shutdown at the Company’s Germany site in 2019. The unfavorable impact of foreign currency translation and a one percent decline in sales volume negatively impacted the change in gross profit by $0.2 million and $0.1 million, respectively. The decline in sales volume primarily reflects lower demand for polyols used in rigid foam applications during the first half of 2020 due to deferred or canceled construction projects as a result of COVID-19.

Gross profit for Asia and Other operations improved $3.9 million, or 68 percent, due to higher unit margins, nine percent volume growth and the favorable impact of foreign currency translation. These items positively impacted the year-over-year change in gross profit by $3.2 million, $0.5 million and $0.2 million, respectively. Unit margins benefited from a government reimbursement related to the government-mandated China JV shutdown in 2012 ($3.7 million) and were negatively impacted by the higher cost of outsourcing due to unplanned production issues in the fourth quarter of 2020.

Operating expenses for the Polymers segment decreased $0.7 million, or two percent, year-over-year.

Specialty Products

Specialty Products net sales decreased $7.9 million, or 11 percent, versus net sales in 2019.  This decrease was primarily due to a three percent decrease in sales volume and lower average selling prices.  Gross profit and operating income decreased $2.5 million and $2.4 million, respectively, primarily due to lower margins within the Company’s medium chain triglycerides product line.

Corporate Expenses

Corporate expenses, which include deferred compensation, business restructuring and other operating expenses that are not allocated to the reportable segments, decreased $1.7 million between 2020 and 2019.  Corporate expenses were $79.8 million in 2020 versus $81.5 million in 2019. This decrease was primarily attributable to lower deferred compensation ($5.2 million), business restructuring ($1.5 million) and environmental remediation expenses ($3.7 million) in 2020. Higher incentive-based compensation and acquisition-related expenses partially offset the decreases above.

Deferred compensation expense decreased $5.2 million between years. This decrease was primarily due to a $16.88 per share increase in the market price of the Company’s common stock in 2020 compared to a $28.44 per share increase in 2019. The following table presents the period-end Company common stock market prices used in the computation of deferred compensation expenses in 2020 and 2019:

Liquidity and Capital Resources

Overview

Historically, the Company’s principal sources of liquidity have included cash flows from operating activities, available cash and cash equivalents and the proceeds from debt issuance and borrowings under credit facilities. The Company’s principal uses of cash have included funding operating activities, capital investments and acquisitions. The generation of cash from operations and the Company’s ability to access capital markets is expected to meet the Company’s requirements and plans for cash for working capital, capital expenditures, debt maturities, contributions to pension plans, dividend distributions to stockholders, share repurchases and other needs.

For 2021, cash generated from operating activities was a cash source of $72.1 million versus a source of $235.2 million in 2020. For 2021, investing cash outflows totaled $376.8 million versus a cash outflow of $139.0 million in 2020. Financing activities were a source of $117.3 million in 2021 versus a use of $64.9 million in 2020. Cash and cash equivalents decreased by $190.8 million compared to December 31, 2020, inclusive of a $3.4 million unfavorable foreign exchange rate impact.

As of December 31, 2021, the Company’s cash and cash equivalents totaled $159.2 million. Cash in U.S. demand deposit accounts and money market funds totaled $25.3 million and $46.7 million, respectively. The Company’s non-U.S. subsidiaries held $87.2 million of cash outside the United States as of December 31, 2021.

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Operating Activity

Net income in 2021 increased by $10.2 million versus the comparable period in 2020.  Working capital was a cash use of $140.5 million in 2021 versus a cash source of $3.0 million in 2020.

Accounts receivable were a use of $104.2 million in 2021 compared to a use of $23.4 million in 2020. Inventories were a use of $79.3 million in 2021 versus a use of $15.4 million in 2020. Accounts payable and accrued liabilities were a source of $44.4 million in 2021 compared to a source of $55.7 million for the same period in 2020.

Working capital requirements were higher in 2021 compared to 2020 primarily due to the changes noted in the preceding paragraph.  The major factors driving the increase in working capital in 2021 were significantly higher raw material costs, sales volume growth of two percent and significantly higher average selling prices. It is management’s opinion that the Company’s liquidity is sufficient to provide for potential increases in working capital requirements during 2022.

Investing Activity

Cash used for investing activities increased $237.8 million year-over-year. Cash used for capital expenditures was $194.5 million in 2021 versus $125.8 million in 2020.  This increase is largely attributable to the previously announced alkoxylation plant the Company is building at its Pasadena, Texas site and equipment upgrades to meet new 1,4 Dioxane regulatory requirements. Other investing activities were a use of $182.3 million in 2021 versus a use of $13.2 million in 2020. The current year increase primarily reflects the Company’s acquisition of INVISTA’s aromatic polyester polyol business and associated assets for $183.7 million, net of cash received, during the first quarter of 2021.

For 2022, the Company estimates that total capital expenditures will range from $350.0 million to $375.0 million. This projected spending includes the new alkoxylation plant that is being built in Pasadena, Texas, equipment upgrades to meet new 1,4 Dioxane regulatory requirements, growth initiatives, infrastructure, and optimization spending in the United States, Germany and Mexico.

Financing Activity

Cash flow from financing activities was a source of $117.3 million in 2021 versus a use of $64.9 million in 2020. The year-over-year change is primarily due to $200.0 million of cash received from the issuance of private placement notes in 2021.

The Company purchases shares of its common stock in the open market or from its benefit plans from time to time to fund its own benefit plans and to mitigate the dilutive effect of new shares issued under its compensation plans. The Company may, from time to time, seek to purchase additional amounts of its outstanding equity and/or retire debt securities through cash purchases and/or exchanges for other securities, in open market purchases, privately negotiated transactions or otherwise, including pursuant to plans meeting the requirements of Rule 10b5-1 promulgated by the SEC.  Such repurchases or exchanges, if any, will depend on prevailing market conditions, the Company’s liquidity requirements, contractual restrictions and other factors. The amounts involved may be material. For the twelve months ended December 31, 2021, the Company purchased 135,103 shares of its common stock on the open market at a total cost of $17.0 million. At December 31, 2021, the Company has $150.0 million remaining under its Board of Directors share repurchase authorization.

Debt and Credit Facilities

Consolidated balance sheet debt increased by $164.9 million in 2021, from $198.7 million at December 31, 2020 to $363.6 million, primarily due to higher domestic debt.  Net debt (which is defined as total debt minus cash – See the “Reconciliation of Non-GAAP Net Debt” section of this MD&A) increased by $355.7 million in 2021, from a negative $151.3 million to $204.4 million. This net debt change was due to a cash reduction of $190.8 million and debt increase of $164.9 million.

As of December 31, 2021, the ratio of total debt to total debt plus shareholders’ equity was 25.3 percent compared to 16.8 percent at December 31, 2020. As of December 31, 2021, the ratio of net debt to net debt plus shareholders’ equity was 16.0 percent versus a negative 18.1 percent as of December 31, 2020. At December 31, 2021, the Company’s debt included $360.7 million of unsecured private placement notes, with maturities ranging from 2022 through 2031, that were issued to insurance companies pursuant to note purchase agreements (the Note Purchase Agreements) and $2.9 million of foreign credit line borrowings. The proceeds from the private placement notes are the Company’s primary source of long-term debt financing and are supplemented by bank credit facilities to meet short and medium-term liquidity needs.

On June 10, 2021, the Company entered into a note purchase and private shelf agreement (the Prudential note purchase agreement) pursuant to which it issued and sold $50.0 million in aggregate principal amount of its 2.30% Senior Notes, Series 2021-A, due June 10, 2028 (the Series 2021-A Notes). The Series 2021-A Notes bear interest at a fixed rate of 2.30 percent, with interest to be

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paid semi-annually and with equal annual principal payments beginning on June 10, 2024 and continuing through final maturity on June 10, 2028. On December 10, 2021, pursuant to the Prudential note purchase agreement, the Company issued and sold $50.0 million in aggregate principal amount of its 2.73% Senior Notes, Series 2021-D, due December 10, 2031 (the Series 2021-D Notes). The Series 2021-D Notes bear interest at a fixed rate of 2.73 percent, with interest to be paid semi-annually and with equal annual principal payments beginning on December 10, 2025 and continuing through final maturity on December 10, 2031.

On June 10, 2021, the Company entered into a note purchase and master note agreement (the NYL note purchase agreement) pursuant to which, on September 23, 2021, the Company issued and sold $50.0 million in aggregate principal amount of its 2.37% Senior Notes, Series 2021-B, due September 23, 2028 (the Series 2021-B Notes). The Series 2021-B Notes bear interest at a fixed rate of 2.37 percent, with interest to be paid semi-annually and with equal annual principal payments beginning on September 23, 2024 and continuing through final maturity on September 23, 2028.

On December 10, 2021, pursuant to the NYL note purchase agreement, the Company issued and sold $50.0 million in aggregate principal amount of its 2.73% Senior Notes, Series 2021-C, due December 10, 2031 (the Series 2021-C Notes). The Series 2021-C Notes bear interest at a fixed rate of 2.73 percent, with interest to be paid semi-annually and with equal annual principal payments beginning on December 10, 2025 and continuing through final maturity on December 10, 2031.

On November 19, 2021, pursuant to the NYL note purchase agreement, the Company agreed to issue $25 million in aggregate principal amount of its 2.83% Senior Notes, Series 2022-A, due March 1, 2032 (the Series 2022-A Notes) on March 1, 2022, subject to customary closing conditions. On November 19, 2021, pursuant to the Prudential note purchase agreement, the Company agreed to issue $50 million in aggregate principal amount of its 2.83% Senior Notes, Series 2022-B, due March 1, 2032 (the Series 2022-B Notes) on March 1, 2022, subject to customary closing conditions. The Series 2022-A Notes and the Series 2022-B Notes will bear interest at a fixed rate of 2.83 percent, with interest to be paid semi-annually and with equal annual principal payments beginning on March 1, 2026 and continuing through final maturity on March 1, 2032.

The proceeds of the issuance of the Series 2021-A Notes, Series 2021-B Notes, Series 2021-C Notes and Series 2021-D Notes are being used and the proceeds of the issuance of the Series 2022-A Notes and the Series 2022-B Notes will be used primarily for capital expenditures, to pay down existing debt and for other corporate purposes. The Prudential note purchase agreement and the NYL note purchase agreement require the maintenance of certain financial ratios, contain covenants that are substantially similar to the Company’s existing long-term debt and provide for customary events of default.

On January 30, 2018, the Company entered into a five-year committed $350.0 million multi-currency revolving credit facility with a syndicate of banks that matures on January 30, 2023. This credit agreement allows the Company to make unsecured borrowings, as requested from time to time, to finance working capital needs, permitted acquisitions, capital expenditures and for general corporate purposes. This unsecured facility is the Company’s primary source of short-term borrowings. As of December 31, 2021, the Company had outstanding letters of credit totaling $6.7 million under the revolving credit agreement and no borrowings, with $343.3 million remaining available.

The Company anticipates that cash from operations, committed credit facilities and cash on hand will be sufficient to fund anticipated capital expenditures, working capital, dividends and other planned financial commitments for the foreseeable future.

Certain foreign subsidiaries of the Company maintain short-term bank lines of credit in their respective local currencies to meet working capital requirements as well as to fund capital expenditure programs and acquisitions. At December 31, 2021, the Company’s foreign subsidiaries had outstanding debt of 2.9 million.

The Company has material debt agreements that require the maintenance of minimum interest coverage and minimum net worth. These agreements also limit the incurrence of additional debt as well as the payment of dividends and repurchase of treasury shares. As of December 31, 2021, testing for these agreements was based on the Company’s consolidated financial statements. Under the most restrictive of these debt covenants:

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The Company believes it was in compliance with all of its loan agreements as of December 31, 2021.

Material Cash Requirements

At December 31, 2021, the Company’s material cash requirements included the following contractual obligations (including estimated payments by period):

The above table does not include $64.6 million of other non-current liabilities recorded on the balance sheet at December 31, 2021, as summarized in Note 15, Other Non-Current Liabilities, of the notes to the Company’s consolidated financial statements (included in Item 8 of this Form 10-K). The significant non-current liabilities excluded from the table are defined benefit pension, deferred compensation, environmental and legal liabilities and unrecognized tax benefits for which payment periods cannot be reasonably determined. In addition, deferred income tax liabilities are excluded from the table due to the uncertainty of their timing.

Off-Balance Sheet Arrangements

During the periods covered by this Form 10-K, the Company was not party to any off-balance sheet arrangements that have or are reasonably likely to have a material current or future effect on the Company’s financial condition, revenues or expenses, results of operations, liquidity, cash requirements or capital resources.

Pension Plans

The Company sponsors a number of defined benefit pension plans, the most significant of which cover employees in the Company’s U.S. and U.K. locations.  The U.S. and U.K. plans are frozen, and service benefit accruals are no longer being made.  The overfunded status (pretax) of the Company’s defined benefit pension plans was $7.9 million at December 31, 2021, versus underfunded status (pretax) of $9.1 million at December 31, 2020.  See Note 13, Postretirement Benefit Plans, of the notes to the Company’s consolidated financial statements (included in Item 8 of this Form 10-K) for additional details.

The Company contributed $0.8 million to its defined benefit plans in 2021. In 2022, the Company expects to contribute a total of $0.5 million to the U.K. defined benefit plan. As a result of pension funding relief included in the Highway and Transportation

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Funding Act of 2014, the Company has no 2022 contribution requirement to the U.S. pension plans. Payments to participants in the unfunded non-qualified plans should approximate $0.3 million in 2022, which is similar to payments made in 2021.

Letters of Credit

The Company maintains standby letters of credit under its workers’ compensation insurance agreements and for other purposes as needed. The insurance letters of credit are renewed annually and amended to the amounts required by the insurance agreements. As of December 31, 2021, the Company had a total of $6.7 million of outstanding standby letters of credit.

Environmental and Legal Matters

The Company’s operations are subject to extensive federal, state and local environmental laws and regulations or similar laws in the other countries in which the Company does business. Although the Company’s environmental policies and practices are designed to ensure compliance with these regulations, future developments and increasingly stringent environmental regulations may require the Company to make additional unforeseen environmental expenditures. The Company will continue to invest in the equipment and facilities necessary to comply with existing and future regulations. During 2021, the Company’s expenditures for capital projects related to the environment were $13.4 million. Expenditures for capital projects related to the environment are capitalized and depreciated over their estimated useful lives, which are typically 10 to 15 years. Recurring costs associated with the operation and maintenance of facilities for waste treatment, waste disposal and managing environmental compliance in ongoing operations at the Company’s manufacturing locations were approximately $34.9 million for 2021, $35.4 million for 2020 and $31.8 million for 2019.

Over the years, the Company has received requests for information related to or has been named by government authorities as a potentially responsible party at a number of waste disposal sites where cleanup costs have been or may be incurred under CERCLA and similar state or foreign statutes. In addition, damages are being claimed against the Company in general liability actions for alleged personal injury or property damage in the case of some disposal and plant sites. The Company believes that it has made adequate provisions for the costs it is likely to incur with respect to these sites. See the Critical Accounting Policies section that follows for a discussion of the Company’s environmental liabilities accounting policy.  After partial remediation payments at certain sites, the Company has estimated a range of possible environmental and legal losses from $23.1 million to $41.7 million at December 31, 2021, compared to $22.9 million to $41.1 million at December 31, 2020. Within the range of possible environmental losses, management has currently concluded that there are no amounts within the ranges that are more likely to occur than any other amounts in the ranges and, thus, has accrued at the lower end of the ranges.  The Company’s environmental and legal accruals totaled $23.1 million at December 31, 2021 as compared to $22.9 million at December 31, 2020. Because the liabilities accrued are estimates, actual amounts could differ materially from the amounts reported. During 2021, cash outlays related to legal and environmental matters approximated $3.5 million compared to $4.5 million expended in 2020.

For certain sites, the Company has responded to information requests made by federal, state or local government agencies but has received no response confirming or denying the Company’s stated positions. As such, estimates of the total costs, or range of possible costs, of remediation, if any, or the Company’s share of such costs, if any, cannot be determined with respect to these sites. Consequently, the Company is unable to predict the effect thereof on the Company’s financial position, cash flows and results of operations.  Based upon the Company’s present knowledge with respect to its involvement at these sites and the possibility of other viable entities’ responsibilities for cleanup, management believes that the Company has no liability at these sites and that these matters, individually and in the aggregate, will not have a material effect on the Company’s financial position.

See Item 3. Legal Proceedings, in this Form 10-K and Note 16, Contingencies, in the notes to the Company’s consolidated financial statements (included in Item 8 of this Form 10-K) for a summary of the significant environmental proceedings related to certain environmental sites.

Outlook

Management believes that demand for Surfactant products sold into the institutional cleaning, agricultural and oilfield end markets should improve versus 2021.  Management remains cautiously optimistic that consumer consumption of cleaning, disinfection and personal wash products will improve slightly in 2022 after significant de-stocking efforts in 2021.  Management believes the Polymer segment will deliver year-over-year growth in 2022 and that the long-term prospects for the Polymer segment remain attractive as energy conservation efforts and more stringent building codes are expected to continue.  Management believes its Specialty Products segment will improve slightly year-over-year.  Despite optimism that demand for the Company’s products will remain strong, management also believes the Company will continue to be challenged by the same external factors that impacted the Company in 2021.

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Climate Change Legislation

Based on currently available information, the Company does not believe that existing or pending climate change legislation or regulation is reasonably likely to have a material effect on the Company’s financial condition, results of operations or cash flows.

Critical Accounting Policies

The Company prepares its financial statements in accordance with accounting principles generally accepted in the United States of America (generally accepted accounting principles or GAAP). Preparation of financial statements in accordance with generally accepted accounting principles requires the Company to make estimates and assumptions that affect the reported amounts of assets, liabilities, income and expenses at the date of the financial statements and to provide disclosures of contingent assets, liabilities and related amounts of revenues and expenses during the reporting period.  The following is a summary of the accounting policies the Company believes are the most important to aid in understanding its financial results:

Business Combinations

The Company makes acquisitions from time to time. When such acquisitions occur, the Company applies the accounting guidance per FASB ASC Topic 805, Business Combinations (ASC 805), to determine whether the acquisition should be treated as an asset acquisition or a business combination. When the acquisition meets the criteria of a business combination the Company recognizes the identifiable assets acquired and liabilities assumed at their estimated fair values as of the date of the acquisition. The Company recognizes goodwill for any portion of the purchase price that exceeds the sum of the net fair value of all the assets purchased in the acquisition and the liabilities assumed. Considerable estimates, complex judgments and assumptions are typically required to arrive at the fair value of elements acquired in a business combination, inclusive of discount rates, customer attrition rates, royalty rates, economic lives, and estimated future cash flows expected to be generated from the assets acquired. These items are typically most relevant to the fair valuation of identifiable intangible assets and property, plant and equipment.

In some instances, the purchase price allocation of an acquisition is not complete by the end of a reporting period.  This situation most typically arises when an acquisition is complex and/or completed very close to the end of a reporting period and all necessary information is not available by the end of the reporting period in which the acquisition occurs. In these instances, the Company reports provisional amounts for any incomplete items and makes subsequent adjustments as necessary information becomes available or determines that additional information is not obtainable. Any subsequent adjustments could have a material impact on the Company’s financial condition or results of operations as they could impact the initial fair values assigned to intangible assets and property, plant and equipment and/or their estimated economic lives. ASC 805 requires purchase price allocations to be finalized within one year from the acquisition date.

Goodwill and Intangible Assets

The Company’s intangible assets include patents, agreements not to compete, trademarks, customer lists and relationships, technological and manufacturing know-how and goodwill, all of which were acquired as part of business combinations or asset acquisitions.  Goodwill represents the excess of cost over the fair value of net assets acquired in a business combination. Intangible assets, other than goodwill, are determined to have either finite or indefinite useful lives. The Company currently has no indefinite-life intangible assets other than goodwill.  Intangible assets with finite lives are amortized over the useful lives of the assets. Currently, the useful lives for the Company’s finite-life intangible assets are as follows: patents – 15 years; non-compete agreements – three years; trademarks – eight to 11 years; customer relationships – 12 to 20 years and know-how – seven to 20 years. Finite-life intangible assets are tested for impairment when events or changes in circumstances indicate that the carrying value of an intangible asset may not be recoverable.

Goodwill is not amortized but is tested for impairment on a reporting unit level. The Company’s reporting units are typically defined as one level below operating segments and highly correlated to geographic regions. The Company tests goodwill for impairment annually (the Company conducts its goodwill impairment testing during the second quarter of each calendar year), or more frequently when events or changes in circumstances indicate it is more likely than not that the fair value of the reporting unit to which goodwill relates has declined below its carrying value. In this case, the Company would recognize an impairment charge for the amount by which the carrying value exceeds the reporting unit’s fair value.  Goodwill is evaluated for impairment using qualitative and/or quantitative testing procedures. The Company has the option to first perform qualitative testing to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying value. If the Company chooses not to complete a qualitative assessment for a given reporting unit, or if the initial assessment indicates that it is more likely than not that the estimated fair value of a reporting unit is less than its carrying value, additional quantitative testing is performed.

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When estimating a reporting unit’s fair value as part of the quantitative assessment, the Company uses a combination of market and income-based methodologies. The market approach uses a combination of earnings before interest, taxes, depreciation and amortization (EBITDA) and EBITDA multiples to estimate a reporting unit’s fair value.  EBITDA multiples typically mirror similar businesses or comparative companies whose securities are actively traded in public markets. Significant degradation of either EBITDA or EBITDA multiples could result in a triggering event, requiring goodwill to be tested for impairment during an interim period.  The income approach takes into consideration multiple variables, including forecasted sales volume and operating income, current industry and economic conditions, historical results and other elements to calculate the present value of future cash flows. The income approach fair value calculations include estimates of long-term growth rates and discount rates that are commensurate with the risks and uncertainty inherent in the respective reporting units.  The Company reported no goodwill or intangible asset impairments in any of the periods presented in these condensed consolidated financial statements.

Deferred Compensation

The Company sponsors deferred compensation plans that allow management employees to defer receipt of their annual bonuses and outside directors to defer receipt of their fees until retirement, departure from the Company or as elected by the participant. The plans allow for the deferred compensation to grow or decline based on the results of investment options chosen by the participants.  The investment options include Company common stock and a limited selection of mutual funds.  The Company funds the obligations associated with these plans by purchasing investment assets that match the investment choices made by the plan participants. A sufficient number of shares of treasury stock are maintained on hand to cover the equivalent number of shares that result from participants electing the Company common stock investment option. As a result, the Company must periodically purchase its common shares in the open market or in private transactions. Upon retirement or departure from the Company or at the elected time, participants receive cash amounts equivalent to the payment date value of the investment choices they have made or Company common stock shares equal to the number of share equivalents held in the accounts.

Some plan distributions may be made in cash or Company common stock at the option of the participant. Other plan distributions can only be made in Company common stock. For deferred compensation obligations that may be settled in cash, the Company must record appreciation in the market value of the investment choices made by participants as additional compensation expense.  Conversely, declines in the value of Company stock or the mutual funds result in a reduction of compensation expense since such declines reduce the cash obligation of the Company as of the date of the financial statements. These market price movements may result in significant period-to-period fluctuations in the Company’s income. The increases or decreases in compensation expenses attributable to market price movements are reported in the operating expenses section of the consolidated statements of income. Because the obligations that must be settled only in Company common stock are treated as equity instruments, fluctuations in the market price of the underlying Company stock do not affect earnings.

At December 31, 2021 and December 31, 2020, the Company’s deferred compensation liability was $61.2 million and $61.6 million, respectively.  In 2021 and 2020, approximately 47 percent and 53 percent, respectively, of deferred compensation liability represented deferred compensation tied to the performance of the Company’s common stock. The remainder of the deferred compensation liability was tied to the chosen mutual fund investment assets. A $1.00 increase in the market price of the Company’s common stock will result in approximately $0.2 million of additional compensation expense.  A $1.00 reduction in the market price of the common stock will reduce compensation expense by a like amount. The expense or income associated with the mutual fund component will generally fluctuate in line with the overall percentage increase or decrease of the U.S. stock markets.

The mutual fund assets related to the deferred compensation plans are recorded on the Company’s balance sheet at cost when acquired and adjusted to their market values at the end of each reporting period. As allowed by generally accepted accounting principles, the Company elected the fair value option for recording the mutual fund investment assets. Therefore, market value changes for the mutual fund investment assets are recorded in the income statement in the same periods that the offsetting changes in the deferred compensation liabilities are recorded. Dividends, capital gains distributed by the mutual funds and realized and unrealized gains and losses related to mutual fund shares are recognized as investment income or loss in the other, net line of the consolidated statements of income.

Environmental Liabilities

It is the Company’s accounting policy to record environmental liabilities when environmental assessments and/or remedial efforts are probable, and the cost or range of possible costs can be reasonably estimated.  When no amount within a range of possible costs is a better estimate than any other amount, the minimum amount in the range is accrued. Estimating the possible costs of remediation requires making assumptions related to the nature and extent of contamination and the methods and resulting costs of remediation.  Some of the factors on which the Company bases its estimates include information provided by decisions rendered by State and Federal environmental regulatory agencies, information provided by feasibility studies, and remedial action plans developed.

Estimates for environmental liabilities are subject to potentially significant fluctuations as new facts emerge related to the various sites where the Company is exposed to liability for the remediation of environmental contamination.  See the Environmental and Legal Matters section of this MD&A for discussion of the Company’s recorded liabilities and range of cost estimates.

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Recent Accounting Pronouncements

See Note 1, Summary of Significant Accounting Policies, of the notes to the Company’s consolidated financial statements (included in Item 8 of this Form 10-K) for information on recent accounting pronouncements which affect the Company.

Non-GAAP Reconciliations

The Company believes that certain non-GAAP measures, when presented in conjunction with comparable GAAP measures, are useful for evaluating the Company’s performance and financial condition. Internally, the Company uses this non-GAAP information as an indicator of business performance and evaluates management’s effectiveness with specific reference to these indicators. These measures should be considered in addition to, not a substitute for or superior to, measures of financial performance prepared in accordance with GAAP. The Company’s definitions of these adjusted measures may differ from similarly titled measures used by other entities.

Reconciliations of Non-GAAP Adjusted Net Income and Dilutive Earnings per Share

Management uses the non-GAAP adjusted net income metric to evaluate the Company’s operating performance.  Management excludes the items listed in the table below because they are non-operational items.  The cumulative tax effect was calculated using the statutory tax rates for the jurisdictions in which the transactions occurred.

Reconciliations of Non-GAAP Net Debt

Management uses the non-GAAP net debt metric to show a more complete picture of the Company’s overall liquidity, financial flexibility and leverage level.

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