FERRO CORPORATION 10-Q
Table of Contents

 
 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
     
þ   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2005
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 1-584
FERRO CORPORATION
(Exact name of registrant as specified in its charter)
     
Ohio   34-0217820
(State of Corporation)   (IRS Employer Identification No.)
     
1000 Lakeside Avenue    
Cleveland, OH   44114
(Address of Principal executive offices)   (Zip Code)
216-641-8580
(Telephone Number)
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 o NO þ
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 Act). YES o NO þ
At September 29, 2006, there were 42,758,302 shares of Ferro Common Stock, par value $1.00, outstanding.
 
 

 


TABLE OF CONTENTS

PART I — FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
PART II — OTHER INFORMATION
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 3. Defaults Upon Senior Securities
Item 4. Submission of Matters to a Vote of Security Holders
Item 5. Other Information
Item 6. Exhibits
SIGNATURES
EXHIBIT INDEX
EX-31.1
EX-31.2
EX-32.1
EX-32.2


Table of Contents

PART I — FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Ferro Corporation and Consolidated Subsidiaries
Condensed Consolidated Statements of Income
                                 
    Three months ended     Nine months ended  
    September 30,     September 30,  
    2005     2004     2005     2004  
    (Dollars in thousands, except per share amounts)  
Net sales
  $ 466,116     $ 451,605     $ 1,424,416     $ 1,395,817  
Cost of sales
    371,705       358,919       1,132,581       1,094,311  
Selling, general and administrative expenses
    75,267       73,457       237,622       231,641  
Other expense (income):
                               
Interest expense
    12,156       10,395       34,862       30,743  
Foreign currency transactions, net
    53       (18 )     1,039       2,933  
Gain on sale of businesses
                      (5,195 )
Miscellaneous (income) expense, net
    (5,176 )     (886 )     (5,219 )     525  
 
                       
Income before taxes
    12,111       9,738       23,531       40,859  
Income tax expense
    4,929       3,230       7,689       13,501  
 
                       
Income from continuing operations
    7,182       6,508       15,842       27,358  
Discontinued operations:
                               
Loss on disposal of discontinued operations, net of tax
    (332 )     (592 )     (551 )     (664 )
 
                       
Net income
    6,850       5,916       15,291       26,694  
Dividends on preferred stock
    367       420       1,129       1,308  
 
                       
Net income available to common shareholders
  $ 6,483     $ 5,496     $ 14,162     $ 25,386  
 
                       
 
                               
Per common share data
                               
Basic earnings (loss):
                               
From continuing operations
  $ 0.16     $ 0.14     $ 0.34     $ 0.62  
From discontinued operations
    (0.01 )     (0.01 )     (0.01 )     (0.02 )
 
                       
 
  $ 0.15     $ 0.13     $ 0.33     $ 0.60  
 
                       
 
                               
Diluted earnings (loss):
                               
From continuing operations
  $ 0.16     $ 0.14     $ 0.34     $ 0.62  
From discontinued operations
    (0.01 )     (0.01 )     (0.01 )     (0.02 )
 
                       
 
  $ 0.15     $ 0.13     $ 0.33     $ 0.60  
 
                       
 
                               
Dividends
  $ 0.145     $ 0.145     $ 0.435     $ 0.435  
 
                       
See accompanying notes to Condensed Consolidated Financial Statements

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Ferro Corporation and Consolidated Subsidiaries
Condensed Consolidated Balance Sheets
                 
    September 30,     December 31,  
    2005     2004  
    (Dollars in thousands)  
ASSETS
               
Current assets:
               
Cash and cash equivalents
  $ 17,841     $ 13,939  
Accounts and trade notes receivable, net
    193,446       184,470  
Notes receivable
    122,096       114,030  
Inventories
    217,087       220,126  
Deferred income taxes
    45,869       45,647  
Other current assets
    29,672       34,137  
 
           
Total current assets
    626,011       612,349  
Property, plant & equipment, net
    549,311       598,719  
Intangibles, net
    413,284       412,507  
Deferred income taxes
    49,717       46,696  
Other non-current assets
    60,495       63,166  
 
           
Total assets
  $ 1,698,818     $ 1,733,437  
 
           
 
               
LIABILITIES and SHAREHOLDERS’ EQUITY
               
Current liabilities:
               
Loans payable and current portion of long-term debt
  $ 6,462     $ 9,674  
Accounts payable
    237,565       260,215  
Income taxes
    1,615       3,609  
Accrued payrolls
    30,396       31,468  
Accrued expenses and other current liabilities
    98,993       96,017  
 
           
Total current liabilities
    375,031       400,983  
Long-term debt, less current portion
    542,221       497,314  
Post-retirement and pension liabilities
    229,847       247,132  
Other non-current liabilities
    39,409       42,914  
 
           
Total liabilities
    1,186,508       1,188,343  
Series A convertible preferred stock
    20,933       22,829  
Shareholders’ equity
    491,377       522,265  
 
           
Total liabilities and shareholders’ equity
  $ 1,698,818     $ 1,733,437  
 
           
See accompanying notes to Condensed Consolidated Financial Statements

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Ferro Corporation and Consolidated Subsidiaries
Condensed Consolidated Statements of Cash Flows
                 
    Nine months ended  
    September 30,  
    2005     2004  
    (Dollars in thousands)  
Cash flows from operating activities
               
Net cash provided by continuing operations
  $ 15,512     $ 46,528  
Net cash used for discontinued operations
    (1,097 )     (345 )
 
           
Net cash provided by operating activities
    14,415       46,183  
Cash flows from investing activities
               
Capital expenditures for plant and equipment
    (29,183 )     (24,740 )
Acquisitions, net of cash acquired
    (1,908 )     (2,533 )
Cash adjustments to purchase price of prior acquisition
          8,505  
Proceeds from sale of assets and businesses
    747       7,864  
Other investing activities
    (51 )     2,606  
 
           
Net cash used for investing activities
    (30,395 )     (8,298 )
Cash flows from financing activities
               
Net payments under short term facilities
    (3,211 )     (1,880 )
Proceeds from revolving credit facility
    668,767       520,673  
Principal payments on revolving credit facility
    (624,391 )     (549,985 )
Cash dividends paid
    (19,541 )     (19,551 )
Other financing activities
    (1,454 )     4,511  
 
           
Net cash provided by (used for) financing activities
    20,170       (46,232 )
Effect of exchange rate changes on cash
    (288 )     54  
 
           
Increase (decrease) in cash and cash equivalents
    3,902       (8,293 )
Cash and cash equivalents at beginning of period
    13,939       23,381  
 
           
Cash and cash equivalents at end of period
  $ 17,841     $ 15,088  
 
           
 
               
Cash paid during the period for:
               
Interest
  $ 34,514     $ 30,930  
Income taxes
  $ 6,791     $ 17,802  
See accompanying notes to Condensed Consolidated Financial Statements

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Ferro Corporation and Consolidated Subsidiaries
Notes to Condensed Consolidated Financial Statements
1. Basis of presentation
     These unaudited condensed consolidated financial statements of Ferro Corporation and its consolidated subsidiaries (“Company”) have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements, and therefore should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2005, which was previously filed. The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the condensed consolidated financial statements. Actual amounts could differ from these estimates. In the opinion of management, all adjustments that are necessary for a fair presentation have been made and are of a normal recurring nature unless otherwise noted. The results for the three and nine months ended September 30, 2005, are not necessarily indicative of the results expected in subsequent quarters or for the full year.
2. Accounting pronouncements adopted in the nine months ended September 30, 2005
     FASB Interpretation No. 47, “Accounting for Conditional Asset Retirement Obligations,” (Interpretation No. 47) was issued in March 2005 and is effective for fiscal years ending after December 15, 2005. Interpretation No. 47 clarifies that the term “conditional asset retirement obligation” as used in FASB Statement No. 143, “Accounting for Asset Retirement Obligations,” refers to an unconditional legal obligation to perform an asset retirement activity in which the timing or method of settlement are conditional on a future event. This obligation should be recognized at its fair value, if that value can be reasonably estimated. The Company adopted Interpretation No. 47 as of January 1, 2005, and recorded additional conditional asset retirement obligations of $0.9 million. The effect of Interpretation No. 47 on the Company’s net income and earnings per share for the three and nine months ended  September 30, 2004, is not material.
3. Newly issued accounting pronouncement
     In September 2006, the FASB issued Statement No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans – an amendment of FASB Statements No. 87, 88, 106, and 132(R),” (FAS No. 158). This statement will require the Company to:
    Recognize the overfunded or underfunded status of defined benefit post retirement plans as an asset or liability in its consolidated balance sheets and to recognize changes in that funded status through comprehensive income in the year in which the changes occur;
 
    Recognize as a component of other comprehensive income, net of tax, the actuarial gains or losses and prior service costs or benefits that arise during the period but are not recognized as components of net periodic cost;
 
    Measure defined benefit plan assets and obligations as of the balance sheet date; and
 
    Disclose additional information concerning the delayed recognition of actuarial gains or losses and prior service costs or benefits.
     The Company will be required to adopt the recognition and disclosure provisions of FAS No. 158 as of December 31, 2006. Upon adoption of the recognition provisions of FAS No. 158, the Company anticipates adjustments to increase the accrued benefit liability by approximately $26.0 million and increase the accumulated other comprehensive loss, net of tax, by approximately $16.9 million.
     The Company will be required to adopt the measurement provisions of FAS No. 158 as of December 31, 2008. The Company is currently evaluating the requirements of the measurement provisions of FAS No. 158 and has not yet determined the impact, if any, this may have on its consolidated financial statements.
4. Shareholders’ equity
     Comprehensive income (loss) represents net income adjusted for foreign currency translation adjustments, minimum pension liability adjustments, and unrealized gain (loss) adjustments associated with investments in marketable equity

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securities that are available for sale. Comprehensive income was $7.2 million and $10.6 million for the three months ended September 30, 2005 and 2004, respectively. Comprehensive income (loss) was $(14.4) million and $23.0 million for the nine months ended September 30, 2005 and 2004, respectively. Accumulated other comprehensive loss at September 30, 2005, and December 31, 2004, was $97.4 million and $67.7 million, respectively.
     Transactions involving benefit plans increased shareholders’ equity by $0.4 million and $1.1 million for the three months ended September 30, 2005 and 2004, respectively, and by $3.2 million and $11.3 million for the nine months ended September 30, 2005 and 2004, respectively.
5. Inventories
     Inventories are comprised of the following:
                 
    September 30,     December 31,  
    2005     2004  
    (Dollars in thousands)  
Raw materials
  $ 64,331     $ 61,249  
Work in process
    37,770       35,091  
Finished goods
    127,888       135,541  
 
           
FIFO cost (approximates replacement cost)
    229,989       231,881  
LIFO reserve
    (12,902 )     (11,755 )
 
           
Total
  $ 217,087     $ 220,126  
 
           
6. Financing and long-term debt
     Long-term debt consists of the following:
                 
    September 30,     December 31,  
    2005     2004  
    (Dollars in thousands)  
$200,000 Senior notes, 9.125%, due 2009 (a)
  $ 198,818     $ 197,549  
$25,000 Debentures, 7.625%, due 2013 (a)
    24,873       24,864  
$25,000 Debentures, 7.375%, due 2015 (a)
    24,964       24,961  
$50,000 Debentures, 8.0%, due 2025 (a)
    49,544       49,526  
$55,000 Debentures, 7.125%, due 2028 (a)
    54,527       54,511  
Revolving credit agreement
    181,900       137,400  
Capitalized lease obligations
    7,499       8,161  
Other notes
    1,791       1,857  
 
           
 
    543,916       498,829  
Less current portion
    1,695       1,515  
 
           
Total
  $ 542,221     $ 497,314  
 
           
 
(a)   Net of unamortized discounts
Revolving Credit and Term Loan Agreement
     At September 30, 2005, the Company had borrowed $181.9 million under a $300 million revolving credit facility that was scheduled to expire in September 2006 (“Prior Revolving Credit Facility”). The average interest rates for borrowings against the Prior Revolving Credit Facility at September 30, 2005, and December 31, 2004, were 5.8% and 4.0%, respectively.
     The Prior Revolving Credit Facility contained financial covenants relating to total debt, fixed charges and EBITDA, cross default provisions with other debt obligations, and customary operating covenants that limited the Company’s ability to engage in certain activities, including significant acquisitions. In addition, when the Company’s senior credit rating was downgraded below Ba2 by Moody’s in March 2006, the Company and its domestic material subsidiaries were required to grant security interests in their tangible and intangible assets (with the exception of the receivables sold as part of the Company’s asset securitization program), pledge 100% of the stock of domestic material subsidiaries and pledge 65% of the stock of foreign material subsidiaries, in each case, in favor of the lenders under the Prior Revolving Credit Facility. This lien grant and pledge of stock was substantially completed in April 2006. Liens on principal domestic manufacturing properties

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and the stock of domestic subsidiaries were also granted to and shared with the holders of the Company’s senior notes and debentures, as required by their indentures.
     In March 2006, the Company accepted a commitment from a syndicate of lenders to underwrite a $700 million credit facility (the “New Credit Facility”) and, in June 2006, finalized the agreement. The New Credit Facility is comprised of a five year, $250 million multi-currency senior revolving credit facility and a six year, $450 million senior delayed-draw term loan facility. Under the terms of the New Credit Facility, the Company can request that the revolving credit facility be increased by $50 million at no additional fee.
     The New Credit Facility was entered into to replace the Prior Revolving Credit Facility that was scheduled to expire in September 2006. In addition, the financing, through the term loan facility, provided capital resources sufficient to refinance the $200 million of senior notes and $155 million of debentures that could have become immediately due and payable due to defaults associated with the Company’s delayed SEC financial filings for 2005. Because one of the purposes of the term loan facility is to fund the potential acceleration of the senior notes and debentures, the term facility contains certain restrictions including, but not limited to, the following:
    $355 million of the facility is reserved to repay the senior notes and debentures;
 
    $95 million of the facility is immediately available for refunding indebtedness other than the senior notes and debentures;
 
    The Company may access up to $55 million of the $355 million reserved to repay the senior notes and debentures if these obligations have not already been paid in full and no event of default for these obligations exists and is continuing; and
 
    The Company may draw on the delayed-draw facility for up to one year with any unused commitment under the term facility terminating on June 6, 2007.
     At the close of the New Credit Facility in June 2006, the Company drew $95 million of the term loan facility to partially repay the Prior Revolving Credit Facility. In addition, during the third quarter of 2006, the Company drew down another $155 million of the term loan facility to repay $155 million of outstanding debentures, as bondholders accelerated payment on these obligations due to the previously mentioned 2005 SEC financial reporting delays. See further discussion under “Senior Notes and Debentures” below.
     The New Credit Facility bears interest at a rate equal to, at the Company’s option, either (1) LIBOR or (2) the Alternate Base Rate which is the higher of the Prime Rate and the Federal Funds Effective Rate plus 0.5%; plus, in each case, applicable margins based on the Company’s index debt rating. The New Credit Facility is secured by substantially all of the Company’s assets, including the assets and 100% of the shares of the Company’s material domestic subsidiaries and 65% of the shares of the Company’s “first tier” foreign subsidiaries, but excluding trade receivables sold pursuant to the Company’s accounts receivable sales programs. These liens are shared with the holders of the Company’s senior notes, as required under the respective indenture.
     The New Credit Facility contains customary operating covenants that limit the Company’s ability to engage in certain activities, including limitations on additional loans and investments; creation of additional liens; prepayments, redemptions and repurchases of debt; and mergers, acquisitions and asset sales. The Company is also subject to customary financial covenants including a leverage ratio and a fixed charge coverage ratio. Additional covenants of the New Credit Facility require the Company to file its 2006 Forms 10-Q by December 29, 2006. Failure to satisfy certain of these covenants, either immediately or after a brief period allowing the company to satisfy the covenant, would result in an event of default. If any event of default should occur and be continuing and a waiver not have been obtained, the obligations under the New Credit Facility may become immediately due and payable at the option of providers of more than 50% of the credit facility commitment.
Senior Notes and Debentures
     At September 30, 2005, the Company had $355.0 million principal amount outstanding under debentures and senior notes, which had an estimated fair market value of $357.0 million. Fair market value represents a third party’s indicative bid prices for these obligations. The Company’s senior credit rating was Ba1 by Moody’s Investor Service, Inc. (“Moody’s”) and BB by Standard & Poor’s Rating Group (“S&P”) at September 30, 2005. In March 2006, Moody’s lowered its rating to B1 and then withdrew its ratings, and S&P lowered its rating to B+. See further information regarding this matter in Note 17.

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     The indentures under which the senior notes and the debentures were issued contain operating covenants that limit the Company’s ability to engage in certain activities, including limitations on consolidations, mergers, and transfers of assets; and sale and leaseback transactions. The indentures contain cross-default provisions with other debt obligations that exceed $10 million of principal outstanding. In addition, the terms of the indentures require, among other things, the Company to file with the Trustee copies of its annual reports on Form 10-K, quarterly reports on Form 10-Q and an Officers’ Certificate relating to the Company’s compliance with the terms of the indentures within 120 days after the end of its fiscal year. The Company has been in default on these reporting requirements since it delayed filing its Form 10-Q for the second quarter of 2004 due to the restatement of its 2003 and first quarter 2004 results. As the Company anticipated and planned for, in March and April 2006, the Company received notices of default from a holder and the Trustee of the senior notes and debentures of which $355 million was outstanding. The notices of default related only to reporting requirements and the related Officers’ Certificate. Under the terms of the indentures, the Company had 90 days from the notices of default in which to cure the deficiencies identified in the notices of default or obtain waivers, or events of default would have occurred and the holders of the senior notes or debentures or the Trustee could declare the principal immediately due and payable. At the end of these periods, the deficiencies had not been cured and waivers had not been obtained. During July and August 2006, the bondholders accelerated the payment of the principal amount of the debentures, of which $155 million was outstanding, and the Company financed the accelerated repayments by use of the aforementioned $450 million term loan facility.
     As of the date of this filing, the $200 million senior notes currently remain outstanding, although they could be declared immediately due and payable at any time. In the event the bondholders of the senior notes provide a notice of acceleration prior to the Company curing the existing reporting default, the Company believes it has sufficient liquidity resources, primarily through the term loan facility, to fully satisfy any potential acceleration. In addition, the senior notes are redeemable at the option of the Company at any time for the principal amount of the senior notes then outstanding plus the sum of any accrued but unpaid interest and the present value of any remaining scheduled interest payments. The senior notes are redeemable at the option of the holders only upon a change in control of the Company combined with a rating by either Moody’s or S&P below investment grade as defined in the indenture. Currently, the rating by S&P of the senior notes is below investment grade.
Asset Securitization Program
     The Company has a $100 million program to sell (securitize), on an ongoing basis, a pool of its U.S. trade accounts receivable. This program serves to accelerate cash collections of the Company’s trade accounts receivable at favorable financing costs and helps manage the Company’s liquidity requirements. In June 2006, the Company amended the program to extend it up to June 2, 2009, to cure a default resulting from a credit rating downgrade, and to modify the reporting requirements to more closely match those in the New Credit Facility. While the Company expects to maintain a satisfactory U.S. asset securitization program to help meet the Company’s liquidity requirements, factors beyond the Company’s control such as prevailing economic, financial and market conditions may prevent the Company from doing so.
     Under this program, certain of the Company’s receivables are sold to Ferro Finance Corporation (“FFC”), a wholly-owned unconsolidated qualified special purpose entity (“QSPE”), as defined by Statement of Financial Accounting Standards No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities,” (FAS No. 140). FFC finances its acquisition of trade accounts receivable assets by issuing financial interests to multi-seller receivables securitization companies (“commercial paper conduits”). At December 31, 2004, $3.6 million had been advanced to the Company, net of repayments, under this program. During the three months ended September 30, 2005, $240.1 million of accounts receivable were sold under this program and $241.0 million of receivables were collected and remitted to FFC and the commercial paper conduits. During the nine months ended September 30, 2005, $709.2 million of accounts receivable were sold under this program and $712.7 million of receivables were collected and remitted to FFC and the commercial paper conduits, resulting in a net decrease in advances of $3.5 million and total advances outstanding at September 30, 2005, of $0.1 million.
     The Company on behalf of FFC and the commercial paper conduits provides normal collection and administration services with respect to the receivables. In accordance with FAS No. 140, no servicing asset or liability is reflected on the Company’s consolidated balance sheet. FFC and the commercial paper conduits have no recourse to the Company’s other assets for failure of debtors to pay when due as the assets transferred are legally isolated in accordance with the bankruptcy laws of the United States. Under FAS No. 140 and FASB Interpretation No. 46R, “Consolidation of Variable Interest Entities,” neither the amounts advanced nor the corresponding receivables sold are reflected in the Company’s consolidated

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balance sheet as the trade receivables have been de-recognized with an appropriate accounting loss recognized in the Company’s consolidated statements of income.
     The Company retains a beneficial interest in the receivables transferred to FFC in the form of a note receivable to the extent that cash flows collected from receivables transferred exceed cash flows used by FFC to pay the commercial paper conduits. The note receivable balance was $120.5 million as of September 30, 2005, and $108.5 million as of December 31, 2004. The Company, on a monthly basis, measures the fair value of the retained interests using management’s best estimate of the undiscounted expected future cash collections on the transferred receivables. Actual cash collections may differ from these estimates and would directly affect the fair value of the retained interests.
Liquidity
     The Company’s level of debt and debt service requirements could have important consequences to its business operations and uses of cash flows. In addition, a reduction in overall demand for the Company’s products, as well as the potential requirement to repay the senior notes due to the Company’s delayed SEC filings, could adversely affect cash flows. As of September 30, 2006, the Company had borrowed $157.7 million against its $250 million revolving credit facility and drawn $64.5 million on the $100 million asset securitization program. In addition, the Company had drawn $250 million on the $450 million term loan facility, although the $200 million remaining availability is reserved for the repayment of the 9 1/8% senior notes should they be accelerated by the bondholders.
7. Earning per share computation
     Information concerning the calculation of basic and diluted earnings per share is shown below:
                                 
    Three months ended     Nine months ended  
    September 30,     September 30,  
    2005     2004     2005     2004  
    (In thousands, except per share amounts)  
Basic earnings per share computation:
                               
Net income available to common shareholders
  $ 6,483     $ 5,496     $ 14,162     $ 25,386  
Add back: Loss from discontinued operations
    332       592       551       664  
 
                       
 
  $ 6,815     $ 6,088     $ 14,713     $ 26,050  
 
                       
 
                               
Weighted-average common shares outstanding
    42,325       42,049       42,300       41,942  
 
                               
Basic earnings per share from continuing operations
  $ 0.16     $ 0.14     $ 0.34     $ 0.62  
 
                       
 
                               
Diluted earnings per share computation:
                               
Net income available to common shareholders
  $ 6,483     $ 5,496     $ 14,162     $ 25,386  
Add back: Loss from discontinued operations
    332       592       551       664  
Plus: Convertible preferred stock
                       
 
                       
 
  $ 6,815     $ 6,088     $ 14,713     $ 26,050  
 
                       
 
                               
Weighted-average common shares outstanding
    42,325       42,049       42,300       41,942  
Assumed conversion of convertible preferred stock
                       
Assumed exercise of stock options
    51       94       44       301  
 
                       
Weighted-average diluted shares outstanding
    42,376       42,143       42,344       42,243  
 
                       
 
                               
Diluted earnings per share from continuing operations
  $ 0.16     $ 0.14     $ 0.34     $ 0.62  
 
                       
     The convertible preferred shares were anti-dilutive for the three and nine months ended September 30, 2005 and 2004, and thus not included in the diluted shares outstanding for those periods.

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8. Restructuring and cost reduction programs
     The following table summarizes the activities relating to the Company’s reserves for restructuring and cost reduction programs:
                         
            Other        
    Severance     costs     Total  
    (Dollars in thousands)  
Balance, December 31, 2004
  $ 4,897     $ 976     $ 5,873  
Gross charges
    5,964             5,964  
Non-cash items
    (710 )           (710 )
Cash payments
    (5,413 )     (734 )     (6,147 )
 
                 
Balance, September 30, 2005
  $ 4,738     $ 242     $ 4,980  
 
                 
     Charges in the three months and nine months ended September 30, 2005, relate to the Company’s ongoing restructuring and cost reduction programs. Total gross charges for the three months ended September 30, 2005, were $0.5 million of which $0.3 million were included in cost of sales and $0.2 million were included in selling, general and administrative expenses. Total gross charges for the nine months ended September 30, 2005, were $6.0 million of which $2.3 million and $3.7 million were included in cost of sales and selling, general and administrative expenses, respectively.
     The remaining reserve balance for restructuring and cost reduction programs primarily represents cash payments expected to be made over the following twelve months except where certain legal or contractual restrictions on the Company’s ability to complete the program exist. The Company will continue to evaluate further steps to reduce costs and improve efficiencies.
9. Discontinued operations
     Discontinued operations relate to the Powder Coatings, Petroleum Additives and Specialty Ceramics businesses that were sold in 2002 and 2003. There were no sales, income before taxes, or related tax expense from discontinued operations for the three or nine months ended September 30, 2005 or 2004. In connection with certain divestitures, the Company has continuing obligations with respect to environmental remediation. The Company accrued $3.1 million as of September 30, 2005, and December 31, 2004, for these matters. These amounts are based on management’s best estimate of the nature and extent of soil and/or groundwater contamination, as well as expected remedial actions as determined by agreements with relevant authorities, where applicable, and existing technologies.
     Disposal of discontinued operations resulted in pre-tax losses of $545,000 and $905,000 for the three and nine months ended September 30, 2005, respectively, and $133,000 and $244,000 for the three and nine months ended September 30, 2004, respectively. The related tax benefits (expenses) were $213,000 and $354,000 for the three and nine months ended September 30, 2005, respectively, and $(459,000) and $(420,000) for the three and nine months ended September 30, 2004, respectively. Selling prices are subject to certain post-closing adjustments with respect to assets sold to and liabilities assumed by the buyers. The loss on disposal of discontinued operations includes such post-closing adjustments to the selling prices and ongoing legal costs and reserve adjustments directly related to discontinued operations.
     There were no cash flows from investing or financing activities related to discontinued operations for the three or nine months ended September 30, 2005 or 2004.
10. Contingent liabilities
     In February 2003, the Company was requested to produce documents in connection with an investigation by the United States Department of Justice into possible antitrust violations in the heat stabilizer industry. In April 2006, the Company was notified by the Department of Justice that the Government had closed its investigation and that the Company was relieved of any obligation to retain documents that were responsive to the Government’s earlier document request. Before closing its investigation, the Department of Justice took no action against the Company or any current or former employee of the Company. The Company was previously named as a defendant in several lawsuits alleging civil damages and requesting injunctive relief relating to the conduct the Government was investigating. The Company is vigorously defending itself in those actions and believes it would have a claim of indemnification by the former owner of its heat stabilizer business if the

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Company were found liable. In any case, management does not expect the pending lawsuits to have a material effect on the consolidated financial position, results of operations, or cash flows of the Company.
     In a July 23, 2004, press release, Ferro announced that its Polymer Additives business performance in the second quarter of 2004 fell short of expectations and that its Audit Committee would investigate possible inappropriate accounting entries in Ferro’s Polymer Additives business. A consolidated putative securities class action lawsuit arising from and related to the July 23, 2004, announcement is currently pending in the United States District Court for the Northern District of Ohio against Ferro, its deceased former Chief Executive Officer, its Chief Financial Officer, and a former operating Vice President of Ferro. This claim is based on alleged violations of Federal securities laws. Ferro and the named executives consider these allegations to be unfounded, are vigorously defending this action and have notified Ferro’s directors and officers liability insurer of the claim. Because this action is in its preliminary stage, the outcome of this litigation cannot be determined at this time.
     Also, following the July 23, 2004, announcement, two derivative lawsuits were commenced in the United States District Court for the Northern District of Ohio on behalf of Ferro against Ferro’s Directors, its deceased former Chief Executive Officer, and Chief Financial Officer. Two other derivative actions were subsequently filed in the Court of Common Pleas for Cuyahoga County, Ohio. The state court actions were removed to the United States District Court for the Northern District of Ohio and all of the derivative lawsuits were then consolidated into a single action. The derivative lawsuits alleged breach of fiduciary duties and mismanagement-related claims. On March 21, 2006, the Court dismissed the consolidated derivative action without prejudice. On April 8, 2006, plaintiffs filed a motion seeking relief from the judgment dismissing the derivative lawsuit and seeking to further amend their complaint following discovery, which was denied. On April 13, 2006, plaintiffs also filed a Notice of Appeal to the Sixth Circuit Court of Appeals. The Directors and named executives consider the allegations contained in the derivative actions to be unfounded, have vigorously defended this action and will defend against the new filings. The Company has notified Ferro’s directors and officers liability insurer of the claim. Because this appeal is in the preliminary stage, the outcome of this litigation cannot be determined at this time.
     On June 10, 2005, a putative class action lawsuit was filed against Ferro, and certain former and current employees alleging breach of fiduciary duty with respect to ERISA plans. The Company considers these allegations to be unfounded, has vigorously defended this action, and has notified Ferro’s fiduciary liability insurer of the claim. In October 2006, the parties reached a settlement in principle that would result in the dismissal of the lawsuit with prejudice in exchange for the settlement amount of $4.0 million, which would be paid by the Company’s liability insurer subject to the Company’s satisfaction of the remaining retention amount under the insurance policy. The Company and the individual defendants expressly deny any and all liability. Several contingent events must be satisfied before the settlement becomes final, including preliminary and final approval by the United States District Court where the matter is pending. Management does not expect the ultimate outcome of the lawsuit to have a material effect on the financial position, results of operations or cash flows of the Company.
     On October 15, 2004, the Belgian Ministry of Economic Affairs’ Commercial Policy Division (the “Ministry”) served on Ferro’s Belgian subsidiary a mandate requiring the production of certain documents related to an alleged cartel among producers of butyl benzyl phthalate (“BBP”) from 1983 to 2002. Subsequently, German and Hungarian authorities initiated their own national investigations in relation to the same allegations. Ferro’s Belgian subsidiary acquired its BBP business from Solutia Europe S.A./N.V. (“SOLBR”) in August 2000. Ferro promptly notified SOLBR of the Ministry’s actions and requested SOLBR to indemnify and defend Ferro and its Belgian subsidiary with respect to these investigations. In response to Ferro’s notice, SOLBR exercised its right under the 2000 acquisition agreement to take over the defense and settlement of these matters, subject to reservation of rights. In December 2005, the Hungarian authorities imposed a de minimus fine on Ferro’s Belgian subsidiary, and the Company expects the German and Belgian authorities also to assess fines for the alleged conduct. Management cannot predict the amount of fines that will ultimately be assessed and cannot predict the degree to which SOLBR will indemnify Ferro’s Belgian subsidiary for such fines.
     In October 2005, the Company performed a routine environmental, health and safety audit of its Bridgeport, New Jersey facility. In the course of this audit, internal environmental, health and safety auditors assessed the Company’s compliance with the New Jersey Department of Environmental Protection’s (“NJDEP”) laws and regulations regarding water discharge requirements pursuant to the New Jersey Water Pollution Control Act (“WPCA”). On October 31, 2005, the Company disclosed to the NJDEP that it had identified potential violations of the WPCA and the Company commenced an investigation and committed to report any violations and to undertake any necessary remedial actions. In September 2006, the

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Company entered into an agreement with the NJDEP under which the Company paid the State of New Jersey a civil administrative penalty of $0.2 million in full settlement of the violations.
     There are various other lawsuits and claims pending against the Company and its consolidated subsidiaries. In the opinion of management, the ultimate liabilities, if any, and expenses resulting from such lawsuits and claims will not materially affect the consolidated financial position, results of operations, or cash flows of the Company.
11. Stock-based compensation plans
     The following table shows pro forma information regarding net income and earnings per share as if the Company had accounted for stock options based on the fair value at the grant date under the fair value recognition provisions of FASB Statement No. 123 “Accounting for Stock-Based Compensation.” The fair value for these options was estimated at the date of grant using a Black-Scholes option-pricing model.
                                 
    Three months ended     Nine months ended  
    September 30,     September 30,  
    2005     2004     2005     2004  
    (Dollars in thousands, except per share amounts)  
Income available to common shareholders from continuing operations—as reported
  $ 6,815     $ 6,088     $ 14,713     $ 26,050  
Add: Stock-based employee compensation expense included in reported income, net of tax
    36       36       107       107  
Deduct: Total stock-based employee compensation expense determined under fair value methods for all awards, net of tax
    (859 )     (887 )     (2,492 )     (2,580 )
 
                       
Income available to common shareholders from continuing operations—pro forma
  $ 5,992     $ 5,237     $ 12,328     $ 23,577  
 
                       
 
                               
Basic earnings per share from continuing operations—as reported
  $ 0.16     $ 0.14     $ 0.34     $ 0.62  
Basic earnings per share from continuing operations—pro forma
  $ 0.14     $ 0.12     $ 0.29     $ 0.56  
 
                               
Diluted earnings per share from continuing operations—as reported
  $ 0.16     $ 0.14     $ 0.34     $ 0.62  
Diluted earnings per share from continuing operations—pro forma
  $ 0.14     $ 0.12     $ 0.29     $ 0.56  
     There was no impact from pro forma expense on discontinued operations for any period presented.
     Compensation expense (reduction of expenses) for the Company’s stock performance plan was $(0.6) million and $(0.4) million for the three months ended September 30, 2005 and 2004, respectively, and $0.1 million and $(0.5) million for the nine months ended September 30, 2005 and 2004, respectively.

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12. Retirement benefits
     Information concerning net periodic benefit costs of the pension and other postretirement benefit plans of the Company is as follows:
                                                                 
    Pension benefits     Other benefits     Pension benefits     Other benefits  
    Three months ended     Three months ended     Nine months ended     Nine months ended  
    September 30,     September 30,     September 30,     September 30,  
    2005     2004     2005     2004     2005     2004     2005     2004  
    (Dollars in thousands)  
Components of net periodic cost:
                                                               
Service cost
  $ 3,857     $ 3,628     $ 200     $ 226     $ 11,680     $ 10,906     $ 600     $ 677  
Interest cost
    6,535       6,303       790       840       19,715       18,928       2,370       2,521  
Expected return on plan assets
    (5,510 )     (5,428 )                 (16,619 )     (16,304 )            
Amortization of prior service cost
    25       49       (140 )     (140 )     74       150       (420 )     (419 )
Net amortization and deferral
    1,658       1,485       (58 )     (24 )     4,985       4,456       (174 )     (72 )
Curtailment and settlement effects
    (222 )                       (222 )                  
 
                                               
Net periodic benefit cost
  $ 6,343     $ 6,037     $ 792     $ 902     $ 19,613     $ 18,136     $ 2,376     $ 2,707  
 
                                               
     In February 2006, the Company announced changes to certain of its postretirement benefit plans. See additional information regarding this matter in Note 17.
13. Income taxes
     Income tax expense as a percentage of pre-tax income from continuing operations for the three months ended September 30, 2005, was 40.7% compared to 33.2% in the same period in 2004. The 2005 rate was higher as a result of the mix of income by subsidiary and country.
14. Reporting for segments
     The Company has six reportable segments: Performance Coatings, Electronic Materials, Color and Glass Performance Materials, Polymer Additives, Specialty Plastics and Other, which is comprised of two business units, Pharmaceuticals and Fine Chemicals, which do not meet the quantitative thresholds for separate disclosure. The Company uses the criteria outlined in Statement of Financial Accounting Standards No. 131, “Disclosures about Segments of an Enterprise and Related Information,” to identify segments which management has concluded are its seven major business units. Further, the Company has concluded that it is appropriate to aggregate its Tile and Porcelain Enamel business units into one reportable segment, Performance Coatings, based on their similar economic and operating characteristics.

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     The accounting policies of the segments are consistent with those described for the Company’s consolidated financial statements in the summary of significant accounting policies contained in the Company’s Annual Report on Form 10-K for the year ended December 31, 2005, which was previously filed. Net sales to external customers are presented in the following table. Inter-segment sales were not material.
                                 
    Three months ended     Nine months ended  
    September 30,     September 30,  
    2005     2004     2005     2004  
            (Dollars in thousands)          
Performance Coatings
  $ 118,209     $ 116,796     $ 366,969     $ 347,981  
Electronic Materials
    92,945       91,633       263,759       301,302  
Color and Glass Performance Materials
    88,610       87,720       277,223       271,272  
Polymer Additives
    74,279       68,813       229,158       209,904  
Specialty Plastics
    68,415       65,649       211,733       199,710  
Other
    23,658       20,994       75,574       65,648  
 
                       
Total consolidated sales
  $ 466,116     $ 451,605     $ 1,424,416     $ 1,395,817  
 
                       
     The Company measures segment income for reporting purposes as net operating profit before interest and taxes. Net segment income also excludes unallocated corporate expenses and charges associated with employment cost reduction programs. Reconciliation of segment income to income (loss) before taxes from continuing operations follows:
                                 
    Three months ended     Nine months ended  
    September 30,     September 30,  
    2005     2004     2005     2004  
            (Dollars in thousands)          
Performance Coatings
  $ 6,303     $ 7,864     $ 23,433     $ 22,581  
Electronic Materials
    5,096       8,035       9,286       31,958  
Color and Glass Performance Materials
    9,370       7,671       32,240       31,744  
Polymer Additives
    5,395       (611 )     15,797       (797 )
Specialty Plastics
    3,812       2,476       10,676       9,943  
Other
    899       515       2,944       2,653  
 
                       
Total segment income
    30,875       25,950       94,376       98,082  
Unallocated expenses
    (11,731 )     (6,721 )     (40,163 )     (28,217 )
Interest expense
    (12,156 )     (10,395 )     (34,862 )     (30,743 )
Foreign currency
    (53 )     18       (1,039 )     (2,933 )
Gain on sale of businesses
                      5,195  
Miscellaneous — net
    5,176       886       5,219       (525 )
 
                       
Income before taxes from continuing operations
  $ 12,111     $ 9,738     $ 23,531     $ 40,859  
 
                       
     Geographic revenues are based on the region in which the customer invoice is generated. The United States of America is the single largest country for customer sales. No other single country represents more than 10% of the Company’s consolidated sales. Net sales by geographic region are as follows:
                                 
    Three months ended     Nine months ended  
    September 30,     September 30,  
    2005     2004     2005     2004  
            (Dollars in thousands)          
United States
  $ 231,541     $ 234,541     $ 697,656     $ 726,084  
International
    234,575       217,064       726,760       669,733  
 
                       
Total sales
  $ 466,116     $ 451,605     $ 1,424,416     $ 1,395,817  
 
                       
15. Financial instruments
     The Company consigns, from various financial institutions, precious metals (primarily silver, gold, platinum and palladium, collectively “metals”) used in the production of certain products for customers. Under these consignment arrangements, the financial institutions provide the Company with metals for a specified period of one year or less in

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duration, for which the Company pays a fee. Under these arrangements, the financial institutions own the metals, and accordingly, the Company does not report these consigned materials as part of its inventory on its consolidated balance sheet. These agreements are cancelable by either party at the end of each consignment period, however, because the Company has access to a number of consignment arrangements with available capacity, consignment needs can be shifted among the other participating institutions. At September 30, 2005, the Company had 6.2 million troy ounces of metals (primarily silver) on consignment for periods of less than one year with a market value of $82.5 million. At December 31, 2004, the Company had 9.4 million troy ounces of metals on consignment for periods of less than one year with a market value of $106.4 million. Beginning in the fourth quarter of 2005, certain participating institutions required cash deposits to provide additional collateral beyond the underlying precious metals.
16. Property, plant and equipment
     Property, plant and equipment is reported net of accumulated depreciation of $598.3 million at September 30, 2005, and $574.4 million at December 31, 2004.
17. Subsequent events
Credit Ratings Downgrade
     In March 2006, the Company’s senior credit rating was downgraded to B1 by Moody’s. Moody’s then withdrew its ratings. Moody’s cited the absence of audited financials for a sustained period of time and the concern that there may be additional delays in receiving audited financial statements for 2005. Moody’s also noted that the Company’s business profile is consistent with a rating in the Ba category, according to Moody’s rating methodology for the chemical industry. Moody’s indicated it could reassign ratings to the Company once it has filed audited financials for 2004 and 2005 with the Securities and Exchange Commission. Also in March 2006, S&P lowered its rating to B+. S&P cited delays in filing, a recent absence of transparency with regard to current results and near term prospects, and a diminished business profit that resulted in weak operating margins and earnings. Although there are negative implications to these actions, the Company anticipates that it will continue to have access to sufficient liquidity, albeit at higher borrowing costs.
     Moody’s rating downgrade triggered the springing lien in the Company’s prior revolving credit facility. Under the terms of that agreement, the lenders became entitled to security interests in the Company’s and its domestic material subsidiaries’ tangible and intangible assets (with the exception of the receivables sold as part of the Company’s asset securitization program) and the pledge of 100% of the stock of the Company’s domestic material subsidiaries and 65% of the stock of the Company’s foreign material subsidiaries. This lien grant and pledge of stock was substantially completed in April 2006. Under the terms of the Company’s senior unsecured notes and debentures, the holders of the Company’s notes became equally secured with the revolving credit lenders with security interests in the Company’s principal domestic manufacturing facilities and the pledge of 100% of the stock of the Company’s domestic subsidiaries. The Company obtained a waiver from the lenders in the revolving credit facility in place at the time (“Prior Revolving Credit Facility”) to extend reporting requirements through June 2006 for the 2004, 2005 and 2006 periods. The extension gave the Company time to put in place the New Credit Facility as described below.
New Credit Facility
     In March 2006, the Company accepted a commitment from a syndicate of lenders to underwrite a $700 million credit facility (the “New Credit Facility”) and, in June 2006, finalized the agreement. The New Credit Facility is comprised of a five year, $250 million multi-currency senior revolving credit facility and a six year, $450 million senior delayed-draw term loan facility. Under the terms of the New Credit Facility, the Company can request that the revolving credit facility be increased by $50 million at no additional fee.
     The New Credit Facility was entered into to replace the Prior Revolving Credit Facility that was scheduled to expire in September 2006. In addition, the financing, through the term loan facility, provided capital resources sufficient to refinance the $200 million of senior notes and $155 million of debentures that could have become immediately due and payable due to defaults associated with the Company’s delayed SEC financial filings for 2005. Because one of the purposes of the term loan facility is to fund the potential acceleration of the senior notes and debentures, the term facility contains certain restrictions including, but not limited to, the following:

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    $355 million of the facility is reserved to repay the senior notes and debentures;
 
    $95 million of the facility is immediately available for refunding indebtedness other than the senior notes and debentures;
 
    The Company may access up to $55 million of the $355 million reserved to repay the senior notes and debentures if these obligations have not already been paid in full and no event of default for these obligations exists and is continuing; and
 
    The Company may draw on the delayed-draw facility for up to one year with any unused commitment under the term facility terminating on June 6, 2007.
     At the close of the New Credit Facility in June 2006, the Company drew $95 million of the term loan facility to partially repay the Prior Revolving Credit Facility. In addition, during the third quarter of 2006, the Company drew down another $155 million of the term loan facility to repay $155 million of outstanding debentures, as bondholders accelerated payment on these obligations due to the previously mentioned 2005 SEC financial reporting delays. See further discussion under “Accelerated Repayment of Debentures” below.
     The New Credit Facility bears interest at a rate equal to, at the Company’s option, either (1) LIBOR or (2) the Alternate Base Rate which is the higher of the Prime Rate and the Federal Funds Effective Rate plus 0.5%; plus, in each case, applicable margins based on the Company’s index debt rating. The New Credit Facility is secured by substantially all of the Company’s assets, including the assets and 100% of the shares of the Company’s material domestic subsidiaries and 65% of the shares of the Company’s “first tier” foreign subsidiaries, but excluding trade receivables sold pursuant to the Company’s accounts receivable sales programs. These liens are shared with the holders of the Company’s senior notes, as required under the respective indenture.
     The New Credit Facility contains customary operating covenants that limit the Company’s ability to engage in certain activities, including limitations on additional loans and investments; creation of additional liens; prepayments, redemptions and repurchases of debt; and mergers, acquisitions and asset sales. The Company is also subject to customary financial covenants including a leverage ratio and a fixed charge coverage ratio. Additional covenants of the New Credit Facility require the Company to file its 2006 Forms 10-Q by December 29, 2006. Failure to satisfy certain of these covenants, either immediately or after a brief period allowing the company to satisfy the covenant, would result in an event of default. If any event of default should occur and be continuing and a waiver not have been obtained, the obligations under the New Credit Facility may become immediately due and payable at the option of providers of more than 50% of the credit facility commitment.
Accelerated Repayment of Debentures
     As the Company anticipated and planned for, in March and April 2006, the Company received notices of default from a holder and the Trustee of the senior notes and debentures of which $355 million was outstanding. The notices of default related only to reporting requirements and the related Officers’ Certificate. Under the terms of the indentures, the Company had 90 days from the notices of default to cure the deficiencies identified in the notices of default or obtain waivers, or events of default would have occurred and the holders or the bondholders of the senior notes or debentures could declare the principal immediately due and payable. At the end of these periods, the deficiencies had not been cured and waivers had not been obtained. During July and August 2006, the bondholders accelerated the payment of the principal amount of the debentures, of which $155 million was outstanding, and the Company financed the accelerated repayments by use of the aforementioned $450 million term loan facility.
Asset Securitization Program
     In June 2006, the Company amended the asset securitization program to extend it up to June 2, 2009, to cure a default resulting from a credit rating downgrade, and to modify the reporting requirements to more closely match those in the New Credit Facility. While the Company expects to maintain a satisfactory U.S. asset securitization program to help meet the Company’s liquidity requirements, factors beyond the Company’s control such as prevailing economic, financial and market conditions may prevent the Company from doing so.

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Pension and Other Postretirement Benefits
     On April 1, 2006, the Company froze retirement benefit accumulations for its largest defined benefit pension plan, which covers certain salaried and certain hourly employees in the United States. The affected employees now receive benefits in the Company’s defined contribution plan that previously covered only U.S. salaried employees hired after June 30, 2003. The new plan supports a diverse and mobile workforce with a competitive, flexible and portable retirement benefit, while lowering and providing greater predictability to the Company’s cost structure. These changes do not affect current retirees or former employees.
     Additionally, the Company limited eligibility for the retiree medical and life insurance coverage for all eligible nonunion employees. Only employees age 55 or older with 10 or more years of service as of December 31, 2006, will be eligible for post-retirement medical and life insurance benefits. Moreover, these benefits will be available only to those employees who retire by December 31, 2007, after having advised the Company of their retirement plans by March 31, 2007. These changes do not affect current retirees.
     The Company estimates that the changes in these retirement plans will reduce expenses by $30 to $40 million in total over the upcoming five years. Ferro expects its overall annual net periodic cost (U.S. pension, U.S. retiree medical, and non-U.S. pension) to decrease approximately $5.2 million from 2005 to 2006, primarily due to $10.0 million in expense reductions relating to the aforementioned changes in the pension and retiree medical programs, offset by $4.2 million in charges primarily relating to a lump sum payment to the beneficiary of its deceased former Chief Executive Officer from a nonqualified defined benefit retirement plan.
Legal Proceedings
     In February 2003, the Company was requested to produce documents in connection with an investigation by the United States Department of Justice into possible antitrust violations in the heat stabilizer industry. In April 2006, the Company was notified by the Department of Justice that the Government had closed its investigation and that the Company was relieved of any obligation to retain documents that were responsive to the Government’s earlier document request.
     Four derivative lawsuits were commenced in 2004 and subsequently consolidated into a single action in the United States District Court for the Northern District of Ohio. These lawsuits alleged breach of fiduciary duties and mismanagement-related claims. On March 31, 2006, the Court dismissed the consolidated derivative action without prejudice. On April 8, 2006, plaintiffs filed a motion seeking relief from the judgment dismissing the derivative lawsuit and seeking to further amend their complaint following discovery, which was denied. On April 13, 2006, plaintiffs also filed a Notice of Appeal to the Sixth Circuit Court of Appeals.
     In October 2005, the Company disclosed to the New Jersey Department of Environmental Protection (“NJDEP”) that it had identified potential violations of the New Jersey Water Pollution Control Act and the Company commenced an investigation and committed to report any violations and to undertake any necessary remedial actions. In September 2006, the Company entered into an agreement with the NJDEP under which the Company paid the State of New Jersey a civil administrative penalty of $0.2 million in full settlement of the violations.
     On June 10, 2005, a putative class action lawsuit was filed against Ferro, and certain former and current employees alleging breach of fiduciary duty with respect to ERISA plans. In October 2006, the parties reached a settlement in principle that would result in the dismissal of the lawsuit with prejudice in exchange for the settlement amount of $4.0 million, which would be paid by the Company’s liability insurer subject to the Company’s satisfaction of the remaining retention amount under the insurance policy. Several contingent events must be satisfied before the settlement becomes final, including preliminary and final approval by the United States District Court where the matter is pending.
Specialty Plastics
     In May 2006, the Company announced that it had entered into a non-binding letter of intent to divest its Specialty Plastics business unit and had entered into negotiations with a potential buyer. In October 2006, the Company announced that it had discontinued negotiations with the potential buyer and will continue to operate the Specialty Plastics business.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
     Net income for the three months ended September 30, 2005, increased to $6.9 million from $5.9 million for the three months ended September 30, 2004. Earnings in the current quarter reflect increased mark-to-market gains on supply contracts, mainly for natural gas. Revenues were increased by improved pricing and product mix that was only partially offset by declining volumes. Expenses were higher, due to increased fees related to the accounting investigation and restatement efforts and higher interest expenses.
Outlook
     Due to the timing of the filing, it is not meaningful to provide an outlook for the remainder of calendar year 2005. Refer to the Company’s Annual Report on Form 10-K for the year ended December 31, 2005, which was previously filed.
Results of Operations
Comparison of the three months ended September 30, 2005 and 2004
     Net sales for the three months ended September 30, 2005, of $466.1 million were 3.2% higher than the $451.6 million of net sales for the comparable 2004 period. Across the business, price and product mix improvements were partially offset by volume declines. The revenue increase was primarily driven by improved pricing and product mix in the Polymer Additives, Specialty Plastics and Electronic Materials segments. North America, Latin America and the Asia-Pacific regions all recorded sales increases while Europe experienced a modest sales decline. A slight strengthening of foreign currencies, principally the Euro, accounted for less than one percentage point of the growth in revenues compared to 2004.
     Gross margins (net sales less cost of sales) were 20.3% of sales for the three months ended September 30, 2005, compared with 20.5% for the comparable 2004 period. Gross margins for the three months ended September 30, 2005, included charges of $0.1 million for costs associated with restructuring versus charges of $0.6 million in 2004. In the quarter, the favorable effects of higher pricing were more than offset by the negative impacts of raw material cost increases and lower volumes.
     Selling, general and administrative (“SG&A”) expenses were $75.3 million in the third quarter of 2005 compared to $73.5 million in the third quarter of 2004. Restructuring expenses and charges related to the accounting investigation and restatement recorded in SG&A in 2005 were $3.7 million versus $1.5 million in 2004. Overall, SG&A expenses as a percentage of net sales were largely unchanged at 16.1% and 16.2% for the three months ended September 30, 2005 and 2004, respectively.
     Interest expense was $12.2 million for the third quarter of 2005, an increase from the $10.4 million in the same period of 2004. The increase was due to a combination of higher average outstanding levels of debt coupled with higher interest rates on the Company’s variable rate borrowings.
     Miscellaneous income, net, for the three months ended September 30, 2005, was $5.2 million as compared to income of $0.9 million for the same period in the prior year. In 2005 the Company realized $5.3 million in gains associated with marked-to-market valuation of natural gas contracts versus a gain of $0.5 million in 2004.
     Income tax expense as a percentage of pre-tax income from continuing operations for the quarter was 40.7% compared to 33.2% in the same period in 2004. The 2005 rate was higher as a result of the mix of income by subsidiary and country.
     Income from continuing operations for the three months ended September 30, 2005, totaled $7.2 million compared with $6.5 million for the same period in 2004. Diluted earnings per share from continuing operations for the quarter totaled $0.16 compared to $0.14 in 2004.
     There were no businesses reported as discontinued operations in the quarters ended September 30, 2003 and 2004. The Company, however, realized losses in both periods related to certain post-closing matters associated with businesses sold in prior periods. In the quarter ended September 30, 2005, the Company recorded a $0.3 million loss, net of tax, and, in the

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same period for 2004, the Company realized a $0.6 million loss, net of tax. Diluted earnings per share for discontinued operations totaled a loss of $0.01 and $0.01 in the third quarter of 2005 and 2004, respectively.
     Performance Coatings Segment Results. Net sales for the Performance Coatings segment increased 1.2% to $118.2 million compared to $116.8 million in the third quarter of 2004. Segment income declined to $6.3 million from $7.9 million in 2004. The revenue increase was driven primarily by increased demand for tile coatings partially offset by lower volumes in porcelain enamels. Favorable currency exchange rates, primarily related to the strengthening of the Euro, also contributed to the sales growth. Increased sales in North America and Latin America were partially offset by declines in Europe and Asia. The decline in segment income reflects the impact of lower volumes and higher raw materials costs that were not fully offset by higher pricing.
     Electronic Materials Segment Results. Net sales for the Electronic Materials segment were $92.9 million versus $91.6 million in the third quarter of 2004. Segment revenues increased by 1.4% driven by improved product mix, partially offset by lower volumes. Segment income declined to $5.1 million from $8.0 million in 2004. The decline in segment income was the result of increased raw materials costs and lower manufacturing volumes.
     Color and Glass Performance Materials Segment Results. Net sales for the Color and Glass Performance Materials segment were $88.6 million, an increase of 1.0% versus $87.7 million in the third quarter of 2004. Segment income increased to $9.4 million from $7.7 million in 2004. Sales improved primarily due to an increase in volumes, partially offset by a less favorable combination of price and product mix. The increase in segment income was primarily driven by lower SG&A expense and improved volume.
     Polymer Additives Segment Results. Net sales for the Polymer Additives segment were $74.3 million, an increase of 7.9% versus $68.8 million in the third quarter of 2004. Segment income increased to $5.4 million from a loss of $0.6 million in 2004. The revenue increase was driven by an improved pricing environment in North America. Increased pricing more than offset raw material cost increases and was the primary driver for segment income improvement.
     Specialty Plastics Segment Results. Net sales for the Specialty Plastics segment were $68.4 million, an increase of 4.2% versus $65.6 million in the third quarter of 2004. Segment income increased to $3.8 million from $2.5 million in 2004. The revenue increase was driven by increased demand from appliance and automotive end markets, resulting in improved average selling prices. Segment income also benefited from the improved selling prices, which increased faster than costs.
     Other Segment Results. Net sales in the Other segment were $23.7 million for the third quarter of 2005, an increase of 12.7% versus $21.0 million in the prior year. Segment income increased to $0.9 million from $0.5 million in the third quarter of 2004.
     Geographic Sales. Sales increased in the United States, Latin America and Asia, while declining in Europe. North American sales were $231.5 million for the third quarter of 2005 compared with $234.5 million in the same period of 2004. International net sales were $234.6 million compared to $217.1 million. The increase was primarily due to increased sales in Latin America and Asia-Pacific partially offset by declines in Europe.
Comparison of the nine months ended September 30, 2005 and 2004
     Net sales from continuing operations for the first nine months of 2005 of $1,424.4 million were 2.0% higher than the $1,395.8 million recorded in 2004. Net sales benefited from improved economic conditions in North America and continued growth in the Asia-Pacific region. The impact of strengthening currencies, in particular the Euro, improved revenue by slightly more than one percentage point. Net sales were also increased by higher average selling prices in the Polymer Additives, Performance Coatings and Specialty Plastics product lines, partially offset by volume declines in Electronic Materials, Polymer Additives and Specialty Plastics businesses.
     Gross margins were 20.5% of sales compared with 21.6% for the prior year period. The reduced gross margins compared with the prior year stemmed primarily from raw material cost increases, which were only partially recovered through sales price adjustments and higher operating efficiencies. Gross margins for the nine months ended September 30, 2005, included $2.3 million for costs associated with restructuring versus $2.9 million in 2004.

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     Selling, general and administrative (SG&A) expenses were $237.6 million for the first nine months of 2005 versus $231.6 million for 2004. Expenses of $12.0 million related to restructuring and the accounting investigation and restatement process are included in the SG&A expenses for the 2005 period. In the first nine months of 2004, expenses for these items were $2.6 million. SG&A as a percentage of net sales was largely unchanged at 16.7% for the nine months ended September 30, 2005, compared with 16.6% for the nine months ended September 30, 2004.
     Interest expense from continuing operations increased to $34.9 million for the first nine months of 2005 from $30.7 million for the same period in 2004. This change was driven by an increase in debt levels coupled with an increase in interest rates on the Company’s variable rate borrowings.
     Net foreign currency loss for the period ending September 30, 2005, was $1.0 million as compared to $2.9 million for the same 2004 period. The 2004 period included a $1.0 million loss associated with the liquidation of a joint venture company. The Company uses certain foreign currency instruments to offset the effect of changing exchange rates on foreign subsidiary earnings and short-term transaction exposure. The carrying values of such contracts are adjusted to market value and resulting gains or losses are charged to income or expense in the period.
     A pre-tax gain of $5.2 million was recognized during the nine months ended September 30, 2004, for the sale of the Company’s interest in Tokan Material Technology Co. Limited, an unconsolidated affiliate. There were no similar gains or losses in 2005.
     Miscellaneous income, net, for the nine months ended September 30, 2005, was $5.2 million as compared to expense of $0.5 million for the same period in the prior year. In 2005 the Company realized $6.9 million in gains associated with marked-to-market valuation of natural gas contracts versus a gain of $0.5 million in 2004.
     Income tax expense as a percentage of pre-tax income from continuing operations for the nine months ended September 30, 2005, was 32.7% compared to 33.0% in 2004.
     Income from continuing operations for the first nine months of 2005 was $15.8 million versus $27.4 million in 2004. Diluted earnings per share from continuing operations in the first nine months of 2005 were $0.34 compared to $0.62 in 2004.
     There were no businesses reported as discontinued operations for the nine-month period ended September 30, 2005. The Company, however, recorded a $0.6 million loss, net of tax, for the period related to certain post-closing matters associated with businesses sold in prior periods, including Powder Coatings and Specialty Ceramics. The reported loss from discontinued operations, net of tax, for the nine months ended September 30, 2004, was $0.7 million. Diluted earnings per share for discontinued operations totaled a loss of $0.01 for the first three quarters of 2005 versus a loss of $0.02 for the same period in 2004.
     Performance Coatings Segment Results. Net sales in the Performance Coatings segment were $367.0 million in the nine months ended September 30, 2005, compared with $348.0 million in the same period in 2004. The 5.5% increase in segment revenue is primarily due to increased demand and higher average selling prices, principally driven by increased market demand in North America, Latin America and Europe. Revenues also benefited from the favorable impact of foreign currency exchange rates. These gains were partially offset by lower volumes of porcelain enamel products sold in Europe and Asia. Segment income was $23.4 million for the nine months ended September 30, 2005, compared with segment income of $22.6 million in the prior year. The increase in segment income reflects lower segment SG&A expense, improved overall volume and manufacturing productivity, partially offset by higher raw material costs.
     Electronic Materials Segment Results. Net sales in the Electronic Materials segment were $263.8 million in the nine months ended September 30, 2005, a 12.5% decline from the $301.3 million recorded in the same period in the prior year. The revenue decline was driven by weak demand among manufacturers of multilayer capacitors, particularly in the first half of 2005. As a result, volume was down sharply, although offset slightly by price/mix improvements and favorable currency exchange rates relative to the U.S. dollar. Segment income declined to $9.3 million from $32.0 million in 2004. The decline in segment income reflects the lower volumes, particularly in the first half of the year, which resulted in lower manufacturing utilization rates compared to the same period in the prior year as well as a less favorable mix of products.

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     Color and Glass Performance Materials Segment Results. Net sales for the Color and Glass Performance Materials segment were $277.2 million, an increase of 2.2% versus $271.3 million in the third quarter of 2004. Segment income increased to $32.2 million from $31.7 million in 2004. Net sales improved primarily due to an increase in volumes, particularly in Asia, and the favorable impact of foreign currency exchange rate differences relative to the U.S. dollar. These gains were partially offset by a less favorable product mix. The improvement in segment income was primarily driven by lower SG&A expense, improved manufacturing productivity and a more favorable price/mix, partially offset by increased raw material costs.
     Polymer Additives Results. Net sales in the Polymer Additives segment were $229.2 million in the nine months ended September 30, 2005, compared with net sales of $209.9 million in the nine months ended September 30, 2004. The increase of 9.2% was driven by higher prices in North America, partially offset by lower volumes. Segment income increased to $15.8 million from a loss of $0.8 million in 2004. Improved pricing was the primary driver of the improvement in segment income.
     Specialty Plastics Segment Results. Net sales in the Specialty Plastics segment were $211.7 million in the nine months ended September 30, 2005, compared to $199.7 million in the same period in 2004. The increase of 6.0% was driven by increased pricing in North America, resulting in increased revenue despite lower volumes. Segment income increased to $10.7 million from $9.9 million in 2004. Segment income increased primarily due to the more favorable pricing environment that more than offset raw material cost increases.
     Other Segment Results. Net sales in the Other segment were $75.6 million for the nine-month period ended September 30, 2005, an increase of 15.1% versus $65.6 million in the prior year. Segment income improved to $2.9 million from $2.7 million in the same period of 2004.
     Geographic Sales. Net sales in North America were $697.7 million for the nine-month period of 2005 compared with $726.1 million in the same period of 2004. The decline in sales in Electronic Materials was the primary driver of the lower sales. International sales were $726.8 million in the first nine months of 2005 compared to $669.7 million in 2004. For the nine-month period, increased sales in Asia and Latin America were partially offset by lower sales in Europe.
     Cash Flows. Net cash provided by operating activities of continuing operations for the nine months ended September 30, 2005, was $15.5 million, compared with $46.5 million for the same period in 2004. The decrease in net cash provided by operating activities of continuing operations is primarily due to lower net income and higher pension plan contributions during 2005.
     Net cash used for investing activities was $30.4 million for the nine months ended September 30, 2005, compared with $8.3 million for the same period in 2004. Capital expenditures in 2005 were $29.2 million. In 2004, the Company used funds for capital expenditures relating to continuing operations of $24.7 million, and these expenditures were partially offset by proceeds from the sale of assets and a business in the first nine months of 2004, and a cash adjustment to the purchase price of a prior acquisition.
     Net cash provided by financing activities was $20.2 million in the nine months ended September 30, 2005, compared with net cash used for financing activities of $46.2 million during the same period in 2004. Cash provided in 2005 primarily reflects debt increases, partially offset by dividends paid to the Company’s shareholders.
     Net cash used for operating activities of discontinued operations was $1.1 million during the nine months ended September 30, 2005, compared with $0.3 million of net cash used for discontinued operations for the same period in 2004.
Liquidity and Capital Resources
     The Company’s liquidity requirements include primarily debt service, working capital requirements, capital investments, post-retirement obligations and dividend payments. The Company expects to be able to meet its liquidity requirements from a variety of sources, including cash flow from operations and use of its credit facilities. At September 30, 2005, the Company had a $300 million revolving credit facility that was scheduled to expire in September 2006, as well as $200 million of senior notes due in 2009 and $155 million of debentures with varying maturities beyond 2012. The Company also had an accounts receivable securitization facility under which the Company could receive advances of up to $100 million, subject to the level of qualifying accounts receivable. The accounts receivable securitization facility was due to mature in June 2006.

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     Subsequent to September 30, 2005, the Company replaced and/or modified its existing facilities to secure future financial liquidity. The $300 million revolving credit facility was replaced by a $700 million credit facility, consisting of a $250 million multi-currency senior revolving credit facility expiring in 2011 and a $450 million senior delayed-draw term loan facility expiring in 2012. See further discussion under “Revolving Credit and Term Loan Facility” below. In addition, the Company extended its $100 million accounts receivable securitization facility for up to three additional years. See further discussion under “Off Balance Sheet Arrangements” below. For further information regarding the Company’s credit facilities, refer to Note 6 to the Company’s Condensed Consolidated Financial Statements under Item 1 herein.
     The Company’s senior credit rating was Ba1 by Moody’s Investor Service, Inc. (“Moody’s”) and BB by Standard & Poor’s Rating Group (“S&P”) at September 30, 2005. In March 2006, Moody’s lowered its rating to B1 and then withdrew its ratings, and S&P lowered its rating to B+. The rating agencies may, at any time, based on various factors including changing market, political or economic conditions, reconsider the current rating of the Company’s outstanding debt. Based on rating agency disclosures, Ferro understands that ratings changes within the general industrial sector are evaluated based on quantitative, qualitative and legal analyses. Factors considered by the rating agencies include: industry characteristics, competitive position, management, financial policy, profitability, capital structure, cash flow production and financial flexibility. Moody’s and S&P have disclosed that the Company’s ability to improve earnings, reduce the Company’s level of indebtedness and strengthen cash flow protection measures, whether through asset sales, increased free cash flows from operations or otherwise, will be factors in their ratings determinations going forward.
Revolving Credit and Term Loan Facility
     In March 2006, the Company accepted a commitment from a syndicate of lenders to underwrite a $700 million credit facility (the “New Credit Facility”) and, in June 2006, finalized the agreement. The New Credit Facility is comprised of a five year, $250 million multi-currency senior revolving credit facility and a six year, $450 million senior delayed-draw term loan facility. Under the terms of the New Credit Facility, the Company can request that the revolving credit facility be increased by $50 million at no additional fee.
     The New Credit Facility was entered into to replace the prior revolving credit facility that was scheduled to expire in September 2006. In addition, the financing, through the term loan facility, provided capital resources sufficient to refinance the $200 million of senior notes and $155 million of debentures that could have become immediately due and payable due to defaults associated with the Company’s delayed SEC financial filings for 2005. Because one of the purposes of the term loan facility is to fund the potential acceleration of the senior notes and debentures, the term facility contains certain restrictions including, but not limited to, the following:
    $355 million of the facility is reserved to repay the senior notes and debentures;
 
    $95 million of the facility is immediately available for refunding indebtedness other than the senior notes and debentures;
 
    The Company may access up to $55 million of the $355 million reserved to repay the senior notes and debentures if these obligations have not already been paid in full and no event of default for these obligations exists and is continuing; and
 
    The Company may draw on the delayed-draw facility for up to one year with any unused commitment under the term facility terminating on June 6, 2007.
     At the close of the New Credit Facility in June 2006, the Company drew $95 million of the term loan facility to partially repay the old revolving credit facility. In addition, during the third quarter of 2006, the Company drew down another $155 million of the term loan facility to repay $155 million of outstanding debentures, as bondholders accelerated payment on these obligations due to the previously mentioned 2005 SEC financial reporting delays. See further discussion under “Senior Notes and Debentures” below.
     The New Credit Facility is secured by substantially all of the Company’s assets, including the assets and 100% of the shares of the Company’s material domestic subsidiaries and 65% of the shares of the Company’s “first tier” foreign subsidiaries, but excluding trade receivables sold pursuant to the Company’s accounts receivable sales programs (see below). These liens are shared with the holders of the Company’s senior notes, as required under the respective indenture. The New Credit Facility contains customary operating covenants that limit the Company’s ability to engage in certain activities, including limitations on additional loans and investments; creation of additional liens; prepayments, redemptions and

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repurchases of debt; and mergers, acquisitions and asset sales. The Company is also subject to customary financial covenants including a leverage ratio and a fixed charge coverage ratio. Additional covenants of the New Credit Facility require the Company to file its 2006 Forms 10-Q by December 29, 2006. Failure to satisfy certain of these covenants, either immediately or after a brief period allowing the company to satisfy the covenant, would result in an event of default. If any event of default should occur and be continuing and a waiver not have been obtained, the obligations under the New Credit Facility may become immediately due and payable at the option of providers of more than 50% of the credit facility commitment.
Senior Notes and Debentures
     The indentures under which the senior notes and the debentures were issued contain operating covenants that limit the Company’s ability to engage in certain activities including limitations on consolidations, mergers, and transfers of assets; and sale and leaseback transactions. The indentures contain cross-default provisions with other debt obligations that exceed $10 million of principal outstanding. In addition, the terms of the indentures require, among other things, the Company to file with the Trustee copies of its annual reports on Form 10-K, quarterly reports on Form 10-Q and an Officers’ Certificate relating to the Company’s compliance with the terms of the indenture within 120 days after the end of its fiscal year. The Company has been in default on these reporting requirements since it delayed filing its Form 10-Q for the second quarter of 2004 due to the restatement of its 2003 and first quarter 2004 results. As the Company anticipated and planned for, in March and April 2006, the Company received notices of default from a holder and the Trustee of the senior notes and debentures of which $355 million was outstanding. The notices of default related only to reporting requirements and the related Officers’ Certificate. Under the terms of the indentures, the Company had 90 days from the notices of default to cure the deficiencies identified in the notices of default or obtain waivers, or events of default would have occurred and the holders or the Trustee of the senior notes or debentures could declare the principal immediately due and payable. At the end of these periods, the deficiencies had not been cured and waivers had not been obtained. During July and August 2006, the bondholders accelerated the payment of the principal amount of the debentures, of which $155 million was outstanding, and the Company financed the accelerated repayments by use of the aforementioned $450 million term loan facility.
     As of the date of this filing, the $200 million senior notes currently remain outstanding, although they could be declared immediately due and payable at any time. In the event the bondholders of the senior notes provide a notice of acceleration prior to the Company curing the existing reporting default, the Company believes it has sufficient liquidity resources, primarily through the term loan facility, to fully satisfy any potential acceleration. In addition, the senior notes are redeemable at the option of the Company at any time for the principal amount of the senior notes then outstanding plus the sum of any accrued but unpaid interest and the present value of any remaining scheduled interest payments. The senior notes are redeemable at the option of the holders only upon a change in control of the Company combined with a rating by either Moody’s or S&P below investment grade as defined in the indenture. Currently, the rating by S&P of the senior notes is below investment grade.
Off Balance Sheet Arrangements
     Asset Securitization Program. The Company has a $100 million program to sell (securitize), on an ongoing basis, a pool of its trade accounts receivable. This program serves to accelerate cash collections of the Company’s trade accounts receivable at favorable financing costs and helps manage the Company’s liquidity requirements. In June 2005, the Company amended the program to resolve issues related to a credit rating downgrade and delayed SEC filings and to extend the program through June 2006. In June 2006, the Company amended the program to extend it up to June 2, 2009, to cure a default resulting from a credit rating downgrade, and to modify the reporting requirements to more closely match those in the New Credit Facility. While the Company expects to maintain a satisfactory U.S. asset securitization program to help meet the Company’s liquidity requirements, factors beyond the Company’s control such as prevailing economic, financial and market conditions may prevent the Company from doing so.
     Under this program, certain of the Company’s receivables are sold to Ferro Finance Corporation (“FFC”), a wholly-owned unconsolidated qualified special purpose entity (“QSPE”), as defined by Statement of Financial Accounting Standards No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities,” (FAS No. 140). FFC finances its acquisition of trade accounts receivables assets by issuing financial interests to multi-seller receivables securitization companies (“commercial paper conduits”). At December 31, 2004, $3.6 million had been advanced to the Company, net of repayments, under this program. During the three months ended September 30, 2005, $240.1 million of accounts receivable were sold under this program and $241.0 million of receivables were collected and remitted to FFC and

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the commercial paper conduits. During the nine months ended September 30, 2005, $709.2 million of accounts receivable were sold under this program and $712.7 million of receivables were collected and remitted to FFC and the commercial paper conduits, resulting in a net decrease in advances of $3.5 million and total advances outstanding at September 30, 2005, of $0.1 million.
     Consignment Arrangements. The Company consigns, from various financial institutions, precious metals (primarily silver, gold, platinum and palladium, collectively “metals”) used in the production of certain products for customers. Under these consignment arrangements, the financial institutions provide the Company with metals for a specified period of one year or less in duration, for which the Company pays a fee. Under these arrangements, the financial institutions own the metals, and accordingly, the Company does not report these consigned materials as part of its inventory on its consolidated balance sheet. These agreements are cancelable by either party at the end of each consignment period, however, because the Company has access to a number of consignment arrangements with available capacity, consignment needs can be shifted among the other participating institutions. At September 30, 2005, the Company had 6.2 million troy ounces of metals (primarily silver) on consignment for periods of less than one year with a market value of $82.5 million. Beginning in the fourth quarter of 2005, certain participating institutions required cash deposits to provide additional collateral beyond the underlying precious metals. At September 30, 2006, the Company had outstanding deposits of $93.3 million. The Company anticipates that the majority of these cash deposits will be returned by December 31, 2006.
Other Financing Arrangements
     In addition, the Company maintains other lines of credit and receivable sales programs to provide global flexibility for the Company’s liquidity requirements. Most of these facilities, including receivable sales programs, are uncommitted lines for the Company’s international operations.
Liquidity
     Ferro’s level of debt and debt service requirements could have important consequences to its business operations and uses of cash flows. In addition, a reduction in overall demand for the Company’s products, as well as the potential requirement to repay the senior notes due to the Company’s delayed SEC filings, could adversely affect cash flows. Despite these potential constraints on cash flows, the Company maintains considerable resources. At September 30, 2005, the Company had a $300.0 million revolving credit facility of which $118.1 million was available. This liquidity, along with the liquidity from the Company’s asset securitization program of which $99.9 million was available as of September 30, 2005, other financing arrangements, available cash flows from operations, asset sales, and the New Credit Facility, should allow the Company to meet its funding requirements and other commitments. However, factors beyond the Company’s control such as prevailing economic, financial and market conditions may prevent the Company from doing so. As of September 30, 2006, the Company had borrowed $157.7 million against its $250 million revolving credit facility and drawn $64.5 million on the $100 million asset securitization program. In addition, the Company had drawn $250 million on the $450 million term loan facility, although the $200 million remaining availability is reserved for the repayment of the 9 1/8% senior notes should they be accelerated by the bondholders.
Critical Accounting Policies
     Please refer to the Company’s Annual Report on Form 10-K for the year ended December 31, 2005, which was previously filed, for a detailed description of Critical Accounting Policies.
Risk Factors
     Certain statements contained here and in future filings with the Securities and Exchange Commission reflect the Company’s expectations with respect to future performance and constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21F of the Securities Exchange Act of 1934, as amended. These statements are subject to a variety of uncertainties, unknown risks and other factors concerning the Company’s operations and business environment, which are difficult to predict and are beyond the control of the Company. Please refer to the Company’s Annual Report on Form 10-K for the year ended December 31, 2005, which was previously filed, for a detailed description of such uncertainties, risks and other factors under the heading “Risk Factors.”

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Item 3. Quantitative and Qualitative Disclosures About Market Risk
     The Company’s exposure to market risks is primarily limited to fluctuations in interest rates, foreign currency exchange rates, and costs of raw materials and natural gas.
     Ferro’s exposure to interest rate risk relates primarily to its debt portfolio including obligations under the accounts receivable securitization program. The Company’s interest rate risk management objective is to limit the effect of interest rate changes on earnings, cash flows and overall borrowing costs. In managing the percentage of fixed versus variable rate debt, consideration is given to the interest rate environment and forecasted cash flows. This policy limits exposure from rising interest rates and allows the Company to benefit during periods of falling rates. The Company’s interest rate exposure is generally limited to the amounts outstanding under the revolving credit facility and amounts outstanding under its asset securitization program. Based on the amount of variable-rate indebtedness outstanding at September 30, 2005, a 1% increase or decrease in interest rates would have resulted in a $1.9 million corresponding change in interest expense. At September 30, 2005, the Company had $354.5 million carrying value of fixed rate debt outstanding with an average effective interest rate of 8.6%, substantially all maturing after 2008. The fair market value of these debt securities was approximately $358.8 million at September 30, 2005. During July and August 2006, the bondholders accelerated the payment of the principal amount of the Company’s fixed-rate debentures, of which $155 million was outstanding. The debentures were repaid through use of the term loan facility (see further information included under Liquidity and Capital Resources under Item 2 of this Form 10-Q), which increased the level of floating-rate debt.
     Ferro manages its currency risks principally by entering into forward contracts to mitigate the impact of currency fluctuations on transaction and other exposures. At September 30, 2005, the Company held forward contracts with a notional amount of $120.4 million and an aggregate fair value of $(0.2) million. A 10% appreciation of the U.S. dollar would have resulted in a $0.6 million decrease in the fair value of these contracts in the aggregate at September 30, 2005. A 10% depreciation of the U.S. dollar would have resulted in a $0.8 million increase in the fair value of these contracts in the aggregate at September 30, 2005.
     The Company is also subject to cost changes with respect to its raw materials and natural gas purchases. The Company attempts to mitigate raw materials cost increases with price increases to the Company’s customers. In addition, the Company purchases portions of its natural gas requirements under fixed price contracts, over short time periods, to reduce the volatility of this cost. At September 30, 2005, contracts for 1.2 million MMBTU’s of natural gas had a fair value of $6.0 million. A 10% increase or decrease in the forward prices of natural gas would have resulted in a $1.6 million corresponding change in the fair value of the contracts as of September 30, 2005.
Item 4. Controls and Procedures
     For a discussion of the Company’s Controls and Procedures, see Item 9A in the Company’s Annual Report on Form 10-K for the year ended December 31, 2005, which was previously filed. Item 9A in the Company’s Annual Report on Form 10-K for the year ended December 31, 2005, is incorporated herein by reference.
Evaluation of Disclosure Controls and Procedures
     The Company’s management, under the supervision and with the participation of the Chief Executive Officer and the Chief Financial Officer, evaluated the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of September 30, 2005. Based on that evaluation, management concluded that the disclosure controls and procedures were not effective as of September 30, 2005.
     Procedures were undertaken in order for management to conclude that reasonable assurance exists regarding the reliability of the Condensed Consolidated Financial Statements contained in this filing. Accordingly, management believes that the Condensed Consolidated Financial Statements included in this Form 10-Q present fairly, in all material respects, the financial position, results of operations and cash flows for the periods presented.
Changes in Internal Control over Financial Reporting
     As disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2005, which was previously filed, the Company initiated a number of remediation activities during 2005 that materially improved, or were

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reasonably likely to improve, the Company’s internal control over financial reporting. During the quarterly period ended September 30, 2005, the following remediation activities were taken in response to material weaknesses identified by management:
    Added the positions of Chief Accounting Officer and Director of Financial Reporting to the accounting organization, as well as added upgraded technical resources within the Corporate accounting staff (including the use of contract personnel); and
 
    Further refinement, expansion and communication of the Accounting Policies and Procedures manual.

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PART II — OTHER INFORMATION
Item 1. Legal Proceedings
     The information regarding legal proceedings included in Note 10 and Note 17 to the Condensed Consolidated Financial Statements is incorporated herein by reference.
Item 1A. Risk Factors
     There are no changes to the risk factors disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2005, which was previously filed.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
     None.
Item 3. Defaults Upon Senior Securities
     The Company’s prior revolving credit agreement required the Company and its material subsidiaries, as the result of Moody’s rating downgrade in March 2006, to grant, within 30 days from the rating downgrade, security interests in their tangible and intangible assets (with the exception of the receivables sold as part of the Company’s asset securitization program), pledge 100% of the stock of domestic material subsidiaries and pledge 65% of the stock of foreign material subsidiaries, in each case, in favor of the lenders under the senior credit facility. This lien grant and pledge of stock was substantially completed in April 2006. Liens on principal domestic manufacturing properties and the stock of domestic subsidiaries were also granted to and shared with the holders of the Company’s senior notes and debentures, as required by their indentures. In June 2006, the Company replaced the prior revolving credit agreement with a new credit facility.
     In March and April 2006, the Company received notices of default from a holder and the Trustee of the Company’s senior notes and debentures, listed below, with an aggregate principal amount of $355 million. The carrying value of the notes and debentures was not materially different from the principal amounts originally issued. Under the terms of the indentures, the Company had 90 days from the notices of default to cure the deficiencies identified in the notices of default or obtain waivers, or events of default would have occurred and the holders of the senior notes or debentures or the Trustee could declare the principal immediately due and payable. At the end of these periods, the deficiencies had not been cured and waivers had not been obtained. During July and August 2006, the bondholders accelerated the payment of the principal amount of the debentures, of which $155 million was outstanding, and the Company financed the accelerated repayments by use of the term loan portion of the aforementioned new credit facility.
     Notes and debentures included in the notices of default:
    $200 million 9.125% Senior Notes due January 1, 2009
 
    $25 million 7.625% Debentures due May 1, 2013
 
    $25 million 7.375% Debentures due November 1, 2015
 
    $50 million 8.0% Debentures due June 15, 2025
 
    $55 million 7.125% Debentures due April 1, 2028
Item 4. Submission of Matters to a Vote of Security Holders
     Not applicable.
Item 5. Other Information
     None.
Item 6. Exhibits
     The exhibits listed in the attached Exhibit Index are filed pursuant to Item 6(a) of Form 10-Q.

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SIGNATURES
     Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
         
 
  FERRO CORPORATION    
 
  (Registrant)    
 
       
Date: November 3, 2006
       
 
       
 
  /s/ James F. Kirsch    
 
 
 
James F. Kirsch
   
 
  President and Chief Executive Officer    
 
  (Principal Executive Officer)    
 
       
Date: November 3, 2006
       
 
       
 
  /s/ Thomas M. Gannon    
 
 
 
Thomas M. Gannon
   
 
  Vice President and Chief Financial Officer    
 
  (Principal Financial Officer)    

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EXHIBIT INDEX
     The following exhibits are filed with this report or are incorporated here by reference to a prior filing in accordance with Rule 12b-32 under the Securities and Exchange Act of 1934.
Exhibit:
(3)   Articles of Incorporation and by-laws
  (a)   Eleventh Amended Articles of Incorporation. (Reference is made to Exhibit 3(a) to Ferro Corporation’s Annual Report on Form 10-K for the year ended December 31, 2003, which Exhibit is incorporated here by reference.)
 
  (b)   Certificate of Amendment to the Eleventh Amended Articles of Incorporation of Ferro Corporation filed December 28, 1994. (Reference is made to Exhibit 3(b) to Ferro Corporation’s Annual Report on Form 10-K for the year ended December 31, 2003, which Exhibit is incorporated here by reference.)
 
  (c)   Certificate of Amendment to the Eleventh Amended Articles of Incorporation of Ferro filed June 19, 1998. (Reference is made to Exhibit 3(c) to Ferro Corporation’s Annual Report on Form 10-K for the year ended December 31, 2003, which Exhibit is incorporated here by reference.)
 
  (d)   Amended Code of Regulations. (Reference is made to Exhibit 3(d) to Ferro Corporation’s Annual Report on Form 10-K for the year ended December 31, 2003, which Exhibit is incorporated here by reference.)
(4)   Instruments defining rights of security holders, including indentures
  (a)   The rights of the holders of Ferro’s Debt Securities issued and to be issued pursuant to a Senior Indenture between Ferro and J. P. Morgan Trust Company, National Association (successor-in-interest to Chase Manhattan Trust Company, National Association) as Trustee, are described in the Senior Indenture, dated March 25, 1998. (Reference is made to Exhibit 4(b) to Ferro Corporation’s Annual Report on Form 10-K for the year ended December 31, 2003, which Exhibit is incorporated here by reference.)
 
  (b)   Officers’ Certificate dated December 20, 2001, pursuant to Section 301 of the Indenture dated as of March 25, 1998, between the Company and J. P. Morgan Trust Company, National Association (the successor-in-interest to Chase Manhattan Trust Company, National Association), as Trustee (excluding exhibits thereto). (Reference is made to Exhibit 4.1 to Ferro Corporation’s Current Report on Form 8-K filed December 21, 2001, which Exhibit is incorporated herein by reference.)
 
  (c)   Form of Global Note (9-1/8% Senior Notes due 2009). (Reference is made to Exhibit 4.2 to Ferro Corporation’s Current Report on Form 8-K filed December 21, 2001, which Exhibit is incorporated here by reference.)
The Company agrees, upon request, to furnish to the Securities and Exchange Commission a copy of any instrument authorizing long-term debt that does not authorize debt in excess of 10% of the total assets of the Company and its subsidiaries on a consolidated basis.
(31.1) Certification of Principal Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a).
(31.2) Certification of Principal Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a).
(32.1) Certification of Principal Executive Officer Pursuant to 18 U.S.C. 1350.
(32.2) Certification of Principal Financial Officer Pursuant to 18 U.S.C. 1350.

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