10-Q 1 y17483e10vq.txt FORM 10-Q SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended December 30, 2005 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE EXCHANGE ACT For the transition period from to Commission file number 333-28157 TEKNI-PLEX, INC. (Exact name of registrant as specified in its charter) Delaware 22-3286312 (State or other jurisdiction (IRS Employer Identification Number)\ of incorporation or organization) 260 North Denton Tap Road (972) 304-5077 Coppell, TX 75019 (Registrant's telephone number) (Address of principal executive office) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark whether the registrant is 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[ ] Accelerated filer[ ] Non-accelerated filer[X] Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X] TEKNI-PLEX, INC.

PAGE PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS Consolidated Balance Sheets as of December 30, 2005 (unaudited) and July 1, 2005................................ 3 Consolidated Statements of Operations for the six months and three months ended December 30, 2005 and December 31, 2004....................................................................................................... 4 Consolidated Statements of Comprehensive Income (Loss) for the six months and three months ended December 30, 2005 and December 31, 2004..................................................................................... 4 Consolidated Statements of Cash Flows for the six months ended December 30, 2005 and December 31, 2004......... 5 Notes to Consolidated Financial Statements...................................................................... 6-13 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS............................... 14-18 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.......................................................... 18 ITEM 4. CONTROLS AND PROCEDURES............................................................................................. 18-20 PART II. OTHER INFORMATION Item 1. Legal proceedings................................................................................................... 20 Item 2. Changes in securities............................................................................................... 20 Item 3. Defaults upon senior securities..................................................................................... 20 Item 4. Submission of matters to a vote of securities holders............................................................... 20 Item 5. Subsequent events................................................................................................... 20 Item 6. Exhibits............................................................................................................ 20

2 TEKNI-PLEX, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (in thousands)

DECEMBER 30, JULY 1, 2005 2005 (UNAUDITED) (AUDITED) ------------ ------------ ASSETS CURRENT: Cash $ 14,537 $ 18,584 Accounts receivable, net of allowances of $6,241 and $9,144 respectively 82,104 138,383 Inventories 157,884 129,617 Prepaid expenses and other current assets 10,574 5,845 ------------ ------------ TOTAL CURRENT ASSETS 265,099 292,429 PROPERTY, PLANT AND EQUIPMENT, NET 170,764 176,182 GOODWILL 163,401 198,532 INTANGIBLE ASSETS, NET OF ACCUMULATED AMORTIZATION OF $5,834 AND $4,943 RESPECTIVELY 5,156 6,110 DEFERRED CHARGES, NET OF ACCUMULATED AMORTIZATION OF $14,062 AND $12,817 RESPECTIVELY 15,672 16,677 OTHER ASSETS 1,729 1,765 ------------ ------------ $ 621,821 $ 691,695 ============ ============ LIABILITIES AND STOCKHOLDERS' DEFICIT CURRENT LIABILITIES: Current portion of long-term debt $ 1,235 $ 1,082 Accounts payable - trade 34,787 48,060 Accrued payroll and benefits 12,807 12,185 Accrued interest 14,400 6,385 Accrued liabilities - other 25,127 17,508 Income taxes payable 2,618 6,391 ------------ ------------ TOTAL CURRENT LIABILITIES 90,974 91,611 LONG-TERM DEBT 745,091 744,613 SERIES A REDEEMABLE PREFERRED STOCK 67,508 54,822 OTHER LIABILITIES 10,507 13,976 ------------ ------------ TOTAL LIABILITIES 914,080 905,022 ------------ ------------ COMMITMENTS AND CONTINGENCIES STOCKHOLDERS' DEFICIT: Common stock -- -- Additional paid-in capital 188,018 188,018 Accumulated other comprehensive loss (10,399) (10,294) Retained earnings (249,355) (170,528) Less: Treasury stock (220,523) (220,523) ------------ ------------ TOTAL STOCKHOLDERS' DEFICIT (292,259) (213,327) ------------ ------------ $ 621,821 $ 691,695 ============ ============

See accompanying notes to consolidated financial statements. 3 TEKNI-PLEX, INC. AND SUBSIDIARIES (Unaudited -- in thousands) CONSOLIDATED STATEMENTS OF OPERATIONS

THREE MONTHS ENDED SIX MONTHS ENDED DECEMBER 30, DECEMBER 31, DECEMBER 30, DECEMBER 31, 2005 2004 2005 2004 ------------ ------------ ------------ ------------ NET SALES $ 152,396 $ 138,247 $ 315,147 $ 281,708 COST OF SALES 129,922 113,124 274,165 228,170 ---------- ---------- ---------- ---------- GROSS PROFIT 22,474 25,123 40,982 53,538 OPERATING EXPENSES: Selling, general and administrative 49,122 14,200 64,136 30,043 Integration expense 1,339 2,219 3,396 4,822 ---------- ---------- ---------- ---------- OPERATING PROFIT (LOSS) (27,987) 8,704 (26,550) 18,673 OTHER EXPENSES: Interest expense 25,493 20,354 52,445 42,157 Unrealized gain on derivative contracts (250) (1,008) (2,525) (4,184) Other expenses 138 420 118 782 ---------- ---------- ---------- ---------- LOSS BEFORE INCOME TAXES (53,368) (11,062) (76,588) (20,082) PROVISION FOR INCOME TAXES 1,160 660 2,239 1,524 ---------- ---------- ---------- ---------- NET LOSS $ (54,528) $ (11,722) $ (78,827) $ (21,606) ========== ========== ========== ========== CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS NET LOSS $ (54,528) $ (11,722) $ (78,827) $ (21,606) OTHER COMPREHENSIVE INCOME (LOSS) Foreign currency translation adjustment (81) 4,087 (105) 5,726 ---------- ---------- ---------- ---------- COMPREHENSIVE LOSS $ (54,609) $ (7,635) $ (78,932) $ (15,880) ========== ========== ========== ==========

See accompanying notes to consolidated financial statements. 4 TEKNI-PLEX, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (Unaudited)

SIX MONTHS ENDED DECEMBER 30, DECEMBER 31, 2005 2004 ------------ ------------ CASH FLOWS FROM OPERATING ACTIVITIES: Net loss $ (78,827) $ (21,606) Adjustment to reconcile net loss to net cash provided by (used in) operating activities: Depreciation and amortization 15,785 15,253 Goodwill impairment 35,131 -- Unrealized (gain) loss on derivative contracts (2,525) (4,184) Interest accretion on Series A Redeemable Preferred Stock 7,263 -- Deferred income taxes -- 32 Changes in operating assets and liabilities: Accounts receivable 56,479 52,800 Inventories (28,342) (44,819) Prepaid expenses and other current assets (4,889) 1,645 Income taxes (3,773) (1,035) Accounts payable-trade (13,525) (18,320) Accrued interest 8,015 (618) Accrued expenses and other liabilities 7,467 1,569 ---------- ------------ Net cash used in operating activities (1,741) (19,283) ---------- ------------ CASH FLOWS FROM INVESTING ACTIVITIES: Capital expenditures (7,466) (13,357) Acquisition costs -- (39) Additions to intangibles 62 (1,078) Deposits and other assets 36 (36) ---------- ------------ Net cash used in investing activities (7,368) (14,510) ---------- ------------ CASH FLOWS FROM FINANCING ACTIVITIES: (Repayments) borrowings of long-term debt (140) 17,336 Proceeds from issuance of Series A Redeemable Preferred Stock 5,423 -- Debt financing costs (240) (500) ---------- ------------ Net cash provided by financing activities 5,043 16,836 ---------- ------------ EFFECT OF EXCHANGE RATE CHANGES ON CASH 19 (315) ---------- ------------ Net decrease in cash (4,047) (17,272) Cash, beginning of period 18,584 29,735 ---------- ------------ Cash, end of period $ 14,537 $ 12,463 ========== ============ SUPPLEMENTAL CASH FLOW INFORMATION: Cash paid for: Interest $ 36,376 $ 42,225 Income taxes 2,468 2,502

See accompanying notes to consolidated financial statements. 5 TEKNI-PLEX, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (in thousands) NOTE 1 - GENERAL DESCRIPTION OF BUSINESS We are a global, diversified manufacturer of packaging components, products and materials as well as tubing products. We primarily serve the food, healthcare and consumer markets. We have built leadership positions in our core markets, and focus on vertically integrated production of highly specialized products. We have operations in the United States, Europe, Argentina and Canada. We believe that our end market and product line diversity has the effect of reducing overall risk related to any single product or customer. Our operations are aligned under two business segments: Packaging and Tubing Products. Products that do not fit in either of these two segments, including recycled PET, vinyl compounds and specialty resins have been reflected in Other. Representative product lines in each of our business segments are listed below: BUSINESS SEGMENTS

PACKAGING TUBING PRODUCTS --------- --------------- - Foam egg cartons - Garden and irrigation hose - Pharmaceutical blister films - Medical tubing - Poultry and meat processor trays - Pool and vacuum hose - Closure Liners - Aerosol and pump packaging components - Foam plates

The results for the second quarter of fiscal 2006 are not necessarily indicative of the results to be expected for the full fiscal year and have not been audited. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments, consisting primarily of normal recurring accruals, necessary for a fair statement of the results of operations for the periods presented and the consolidated balance sheet at December 30, 2005. Certain information and footnote disclosure normally included in financial statements prepared in accordance with generally accepted accounting principles has been condensed or omitted pursuant to the SEC rules and regulations. These financial statements should be read in conjunction with the financial statements and notes thereto that were included in the Company's latest annual report on Form 10-K for the fiscal year ended July 1, 2005. RESTATEMENT As previously disclosed on Form 8-K filed September 21, 2005, and the Company's latest annual report on Form 10-K for the fiscal year ended July 1, 2005, Tekni-Plex has identified certain inventory overstatements at its American Gasket & Rubber Division which resulted in a $6.8 million overstatement of inventory. With the assistance of outside legal counsel as well as an independent registered public accounting firm other than BDO Seidman, LLP, the Audit Committee of the Board of Directors of Tekni-Plex has concluded an internal investigation into this matter. These inventory overstatements at American Gasket and Rubber Division have required a non-cash charge to results of operations for fiscal 2005 as follows: 1st Quarter $(1.0) million 2nd Quarter $(0.9) million 3rd Quarter $(1.0) million 4th Quarter $(0.0) million Total Fiscal 2005 $(2.8) million Results of operations for the first half and second quarter of fiscal 2005 have been restated herein. Management has concluded that the impact of these errors on interim reporting periods filed under Form 10-Q during fiscal 2005 are not material. Consequently investors can continue to rely on all financial reports filed during fiscal 2005 on Form 10-Q. The following table sets forth selected line items from the Company's historical consolidated statements of operations that are affected by the restatement on a restated basis and as previously reported. 6

THREE MONTHS ENDED SIX MONTHS ENDED DECEMBER 31, 2004 DECEMBER 31, 2004 AS RESTATED AS REPORTED AS RESTATED AS REPORTED ----------- ------------ ----------- ------------ Cost of Sales $ 113,124 $ 112,225 $ 228,170 $ 226,311 Net (Loss) $ ( 11,722) $ ( 10,823) $ ( 21,606) $ (19,747)

NEW ACCOUNTING PRONOUNCEMENTS In May 2005, the FASB issued SFAS No. 154, "Accounting Changes and Error Corrections, a replacement of APB Opinion No. 20 and SFAS No. 3." This Statement provides guidance on the accounting for and reporting of accounting changes and error corrections. It establishes, unless impracticable, retrospective application as the required method for reporting a change in accounting principle, in the absence of explicit transition requirements specific to the newly adopted accounting principle. This Statement also provides guidance for determining whether retrospective application of a change in accounting principle is impracticable and for reporting a change when retrospective application is impracticable. The correction of an error in previously issued financial statements is not an accounting change. However, the reporting of an error correction involves adjustments to previously issued financial statements similar to those generally applicable to reporting an accounting change retrospectively. Therefore, the reporting of a correction of an error by restating previously issued financial statements is also addressed by this Statement. This Statement is effective for accounting changes made in fiscal years beginning after December 15, 2005. The Company does not believe the adoption of SFAS No. 154 will have a material impact on the Company's financial statements or results of operations. In March 2005, the FASB issued FASB Interpretation ("FIN") No. 47,"Accounting for Conditional Asset Retirement Obligations." FIN No. 47 provides guidance relating to the identification of and financial reporting for legal obligations to perform an asset retirement activity. The Interpretation requires recognition of a liability for the fair value of a conditional asset retirement obligation when incurred if the liability's fair value can be reasonably estimated. FIN No. 47 also defines when an entity would have sufficient information to reasonably estimate the fair value of an asset retirement obligation. The provision is effective no later than the end of fiscal years ending after December 15, 2005. The Company does not believe the adoption of FIN No. 47 will have a material impact on the Company's financial statements or results of operations. NOTE 2 - INVENTORIES Inventories as of December 30, 2005 and July 1, 2005 are summarized as follows:

DECEMBER 30, 2005 JULY 1, 2005 ----------------- ------------ Raw materials $ 68,619 $ 53,450 Work-in-process 12,274 12,466 Finished goods 76,991 63,701 ----------- ----------- $ 157,884 $ 129,617 ----------- -----------

7 NOTE 3 - LONG-TERM DEBT Long-term debt consists of the following:

DECEMBER 30, 2005 JULY 1, 2005 ----------------- ------------ Revolving line of credit $ 12,000 $ 12,000 Senior Subordinated Notes issued June 21, 2000 at 12-3/4% due June 15, 2010 (less unamortized discount of $1,695 and $1,883) $ 273,305 $ 273,117 Senior Subordinated Notes issued May 2002 at 12-3/4% due June 15, 2010 (plus unamortized premium of $325 and $362) 40,325 40,362 Senior Secured Notes issued November 21, 2003 at 8-3/4% due November 15, 2013 (less unamortized discount of $5,987 and $6,365) 269,013 268,635 Senior Secured Notes issued June 10, 2005 at 10.87% due August 15, 2012 (less unamortized discount of $3,140 and $3,375) 146,860 146,625 Series A Redeemable Preferred Stock 67,508 54,822 Other, primarily foreign term loans, with interest rates ranging from 4.44% to 5.44% and maturities from 2005 to 2010 4,823 4,956 ----------- ----------- 813,834 800,517 Less: Current maturities 1,235 1,082 ----------- ----------- $ 812,599 $ 799,435 =========== ===========

NOTE 4 - CONTINGENCIES The Company is a party to various legal proceedings arising in the normal conduct of business. Management believes that the final outcome of these proceedings will not have a material adverse effect on the Company's financial position. NOTE 5 - SEGMENT INFORMATION Tekni-Plex management reviews its operating plants to evaluate performance and allocate resources. As a result, Tekni-Plex has aggregated its operating plants into two industry segments: Packaging and Tubing Products. The Packaging segment principally produces foam egg cartons, pharmaceutical blister films, poultry and meat processor trays, closure liners, aerosol and pump packaging components and foam plates. The Tubing Products segment principally produces garden and irrigation hose, medical tubing and pool hose. Products that do not fit in either of these segments, including recycled PET, vinyl compounds and specialty resins have been reflected in Other. The Packaging and Tubing Products segments have operations in the United States, Europe and Canada. Other products not included in either segment are produced in the United States. Financial information concerning the Company's business segments and the geographic areas in which it operates are as follows:

TUBING PACKAGING PRODUCTS OTHER TOTAL ------------------ ---------------- ----------- ----------- Three Months Ended December 30, 2005 Revenues from external customers $ 92,905 $ 23,508 $ 35,983 $ 152,396 Interest expense 8,136 11,959 5,398 25,493 Depreciation and amortization 3,435 2,350 1,879 7,664 Segment income (loss) from operations 14,887 (39,278) 14 (24,377) Expenditures for segment assets 2,632 632 577 3,841 ------------------ ---------------- ----------- ----------- Three Months Ended December 31, 2004 Revenues from external customers $ 83,310 $ 25,322 $ 29,615 $ 138,247 Interest expense 6,476 9,551 4,327 20,354 Depreciation and amortization 3,619 2,123 1,677 7,419 Segment income (loss) from operations 11,440 2,158 (873) 12,725 Capital Expenditures for segment assets 4,811 726 1,749 7,286 ------------------ ---------------- ----------- -----------

TUBING PACKAGING PRODUCTS OTHER TOTAL ------------------ ---------------- ----------- ----------- Six months ended December 30, 2005 Revenues from external Customers $ 177,962 $ 66,729 $ 70,456 $ 315,147 Interest expense 16,747 24,597 11,101 52,445 Depreciation and Amortization 6,954 4,594 3,725 15,273 Income (loss) from operations 27,658 (46,836) 847 (18,331) Capital Expenditures for segment Assets 4,359 1,159 1,597 7,115 ------------------ ---------------- ----------- -----------

8 Six months ended December 31, 2004 Revenues from external Customers $ 165,072 $ 56,358 $ 60,278 $ 281,708 Interest expense 13,427 19,782 8,948 42,157 Depreciation and Amortization 7,276 4,196 3,269 14,741 Segment income (loss) from operations 24,082 4,571 (509) 28,144 Capital Expenditures for segment Assets 8,153 1,829 2,993 12,975 ------------------ ---------------- ----------- -----------

THREE MONTHS ENDED SIX MONTHS ENDED DECEMBER 30, DECEMBER 31, DECEMBER 30 DECEMBER 31, 2005 2004 2005 2004 ------------ ------------ ----------- ------------ PROFIT OR LOSS Total operating profit for reportable segments $ (24,377) $ 12,725 $ (18,331) $ 28,144 Corporate and eliminations (3,610) (4,021) (8,219) (9,471) ---------- ---------- ---------- ---------- Consolidated total $ (27,987) $ 8,704 $ (26,550) $ 18,673 =========== ========== =========== ========== DEPRECIATION AND AMORTIZATION Segment totals $ 7,664 $ 7,419 $ 15,273 $ 14,741 Corporate 256 256 512 512 ---------- ---------- ---------- ---------- Consolidated total $ 7,920 $ 7,675 $ 15,785 $ 15,253 ========== ========== ========== ========== CAPITAL EXPENDITURES FOR SEGMENT ASSETS Total reportable-segment expenditures $ 3,841 $ 7,286 $ 7,115 $ 12,975 Other unallocated expenditures 345 153 351 382 ---------- ---------- ---------- ---------- Consolidated total $ 4,186 $ 7,439 $ 7,466 $ 13,357 ========== ========== ========== ==========

SEGMENT ASSETS

TUBING PACKAGING PRODUCTS OTHER TOTAL ----------- ---------- ----------- ----------- December 30, 2005 $ 258,303 $ 212,984 $ 142,019 $ 613,306 ----------- ---------- ----------- ----------- July 1, 2005 255,827 295,176 132,166 683,169 ----------- ---------- ----------- -----------

DECEMBER 30, 2005 JULY 1, 2005 ----------------- ------------ TOTAL ASSETS Total assets from reportable segments $ 613,306 $ 683,169 Other unallocated amounts 8,515 8,526 ----------- ----------- Consolidated total $ 621,821 $ 691,695 =========== ===========

GEOGRAPHIC INFORMATION

THREE MONTHS ENDED SIX MONTHS ENDED DECEMBER 30, DECEMBER 31, DECEMBER 30, DECEMBER 31, 2005 2004 2005 2004 ------------ ------------ ------------ ------------ REVENUES United States $ 131,157 $ 117,728 $ 274,199 $ 239,838 International 21,239 20,519 40,948 41,870 ---------- ---------- ---------- ---------- Total $ 152,396 $ 138,247 $ 315,147 $ 281,708 ========== ========== ========== ==========

9

DECEMBER 30, 2005 JULY 1, 2005 ----------------- ------------ LONG-LIVED ASSETS United States $ 324,614 $ 364,864 International 32,108 34,402 ----------- ----------- Total $ 356,722 $ 399,266 =========== ===========

NOTE 6 - SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL STATEMENTS Tekni-Plex, Inc. issued 12 3/4% Senior Subordinated Notes in June 2000 and May 2002 and 8 3/4% Senior Secured Notes in November 2003. These notes are guaranteed by all domestic subsidiaries of Tekni-Plex. The guarantor subsidiaries are 100% owned by the issuer. The guarantees are full and unconditional and joint and several. There are no restrictions on the transfer of funds from guarantor subsidiaries to the issuer. The following condensed consolidating financial statements present separate information for Tekni-Plex (the "Issuer") and its domestic subsidiaries (the "Guarantors") and the foreign subsidiaries (the "Non-Guarantors"). The following condensed consolidation financial statements do not have debt and interest expense allocated to guarantors and non-guarantors. Consolidated Statement of Operations (in thousands) (Unaudited) For the three months ended December 30, 2005

NON- TOTAL ISSUER GUARANTORS GUARANTORS ----------- ----------- ----------- ---------- Net sales $ 152,396 $ 51,391 $ 79,766 $ 21,239 Cost of sales 129,922 36,905 76,290 16,727 ----------- ----------- ----------- ---------- Gross profit 22,474 14,486 3,476 4,512 Operating expenses: Selling, General and administrative 49,122 6,816 40,101 2,205 Integration expense 1,339 390 949 -- ----------- ----------- ----------- ---------- Operating profit (loss) (27,987) 7,280 (37,574) 2,307 Interest expense (income) net 25,493 25,446 (50) 97 Unrealized gain on derivative contracts (250) (250) -- -- Other expense (income) 138 (266) (415) 819 ----------- ----------- ----------- ---------- Income (loss) before income taxes (53,368) (17,650) (37,109) 1,391 Provision (benefit) for income taxes 1,160 7 542 611 ----------- ----------- ----------- ---------- Net income(loss) $ (54,528) $ (17,657) $ (37,651) $ 780 =========== =========== =========== ==========

Consolidated Statement of Operations (in thousands) For the six months ended December 30, 2005

NON- TOTAL ISSUER GUARANTORS GUARANTORS ----------- ----------- ---------- ---------- Net sales $ 315,147 $ 97,217 $ 176,982 $ 40,948 Cost of goods sold 274,165 70,780 169,693 33,692 ----------- ----------- ---------- ---------- Gross profit 40,982 26,437 7,289 7,256 Operating expenses: Selling, General and administrative 64,136 13,301 46,549 4,286 Integration expense 3,396 930 2,466 -- ----------- ----------- ---------- ---------- Operating profit (loss) (26,550) 12,206 (41,726) 2,970 Interest expense (income), net 52,445 52,335 -- 110 Unrealized loss on derivative contracts (2,525) (2,525) -- -- Other expense (income) 118 (536) (908) 1,562 ----------- ----------- ---------- ---------- Income (loss) before income taxes (76,588) (37,068) (40,818) 1,298 Provision (benefit) for income taxes 2,239 7 542 1,690 ----------- ----------- ---------- ---------- Net income (loss) $ (78,827) $ (37,075) $ (41,360) $ (392) =========== =========== =========== ==========

10 Consolidated Statement of Operations (in thousands) (Unaudited) For the three months ended December 31,2004

NON- TOTAL ISSUER GUARANTORS GUARANTORS ------------- ------------- ------------ ------------ Net sales $ 138,247 $ 44,726 $ 73,002 $ 20,519 Cost of goods sold 112,225 33,659 61,490 17,076 ------------- ------------- ------------ ------------ Gross profit 26,022 11,067 11,512 3,443 Operating expenses: Selling, General and administrative 14,200 6,118 5,830 2,252 Integration expense 2,219 611 1,608 -- ------------- ------------- ------------ ------------ Operating profit 9,603 4,338 4,074 1,191 Interest expense (income), net 20,354 20,340 (17) 31 Unrealized gain on derivative contracts (1,008) (1,008) -- -- Other expense (income) 420 (224) (666) 1,310 ------------- ------------- ------------ ------------ Income (loss) before income taxes (10,163) (14,770) 4,757 (150) Provision (benefit) for income taxes 660 (1,700) 1,700 660 ------------- ------------- ------------ ------------ Net income (loss) $ (10,823) $ (13,070) $ 3,057 $ (810) ============= ============= ============ ============

Consolidated Statement of Operations (in thousands) For the six months ended December 31, 2004

NON- TOTAL ISSUER GUARANTORS GUARANTORS ------------- ------------- ------------ ------------ Net sales $ 281,708 $ 86,961 $ 152,877 $ 41,870 Cost of sales 226,311 64,567 128,655 33,089 ------------- ------------- ------------ ------------ Gross profit 55,397 22,394 24,222 8,781 Operating expenses: Selling, General and administrative 30,043 13,681 12,058 4,304 Integration expense 4,822 1,166 3,656 -- ------------- ------------- ------------ ------------ Operating profit 20,532 7,547 8,508 4,477 Interest expense (income) net 42,157 42,123 (33) 67 Unrealized gain on derivative contracts (4,184) (4,184) -- -- Other expense (income) 782 (459) (869) 2,110 ------------- ------------- ------------ ------------ Income (loss) before income taxes (18,223) (29,933) 9,410 2,300 Provision (benefit) for income taxes 1,524 (3,300) 3,300 1,524 ------------- ------------- ------------ ------------ Net income(loss) $ (19,747) $ (26,633) $ 6,110 $ 776 ============= ============= ============ ============

Condensed Consolidated Balance Sheet - at December 30, 2005

NON- TOTAL ELIMINATIONS ISSUER GUARANTORS GUARANTORS ------------ ------------- ----------- ----------- ---------- Current assets $ 265,099 $ -- $ 42,819 $ 166,867 $ 55,413 Property, plant and equipment, net 170,764 -- 42,650 105,767 22,347 Intangible assets, net 168,557 -- 15,261 143,684 9,612 Investment in subsidiaries -- (520,622) 520,622 -- -- Deferred income taxes -- -- 8,502 (8,502) -- Deferred charges, net 15,672 -- 15,556 116 -- Other assets 1,729 (644,550) 358,653 287,477 149 ------------ ------------- ----------- ----------- ---------- Total assets $ 621,821 $ (1,165,172) $ 1,004,063 $ 695,409 $ 87,521 ============ ============= =========== =========== ========== Current liabilities $ 90,974 $ -- $ 35,641 $ 34,771 $ 20,562 Long-term debt 745,091 -- 741,503 -- 3,588 Preferred Stock 67,508 -- 67,508 -- -- Other long-term liabilities 10,507 (644,550) 443,495 193,200 18,362 ------------ ------------- ----------- ----------- ---------- Total liabilities 914,080 (644,550) 1,288,147 227,971 42,512 ------------ ------------- ----------- ----------- ---------- Additional paid-in capital 188,018 (313,529) 188,011 296,771 16,765 Retained earnings (deficit) (249,355) (207,093) (249,356) 181,377 25,717 Other comprehensive income (loss) (10,399) -- (2,216) (10,710) 2,527 Less: Treasury stock (220,523) -- (220,523) -- -- ------------ ------------- ----------- ----------- ---------- Total stockholders' equity(deficit) (292,259) (520,622) (284,084) 467,438 45,009 ------------ ------------- ----------- ----------- ---------- $ 621,821 $ (1,165,172) $ 1,004,063 $ 695,409 $ 87,521 ============ ============= =========== =========== ==========

11 Condensed Consolidating Balance Sheet - at July 1, 2005

NON- TOTAL ELIMINATIONS ISSUER GUARANTORS GUARANTORS -------------- --------------- --------------- ------------- ----------- Current assets $ 292,429 $ -- $ 38,998 $ 192,614 $ 60,817 Property, plant and equipment, net 176,182 -- 42,397 109,750 24,035 Intangible assets 204,642 -- 15,268 179,210 10,164 Investment in subsidiaries -- (562,374) 562,374 -- -- Deferred financing costs, net 16,677 -- 16,561 116 -- Other long-term assets 1,765 (592,288) 379,589 214,261 203 -------------- --------------- --------------- ------------- ----------- Total assets $ 691,695 $ (1,154,662) $ 1,055,187 $ 695,951 $ 95,219 ============== =============== =============== ============= =========== Current liabilities 91,611 -- 27,709 39,040 24,862 Long-term debt 744,613 -- 740,739 -- 3,874 Series A Redeemable Preferred stock 54,822 -- 54,822 -- -- Other long-term liabilities 13,976 (592,288) 437,185 148,101 20,978 -------------- --------------- --------------- ------------- ----------- Total liabilities 905,022 (592,288) 1,260,455 187,141 49,714 -------------- --------------- --------------- ------------- ----------- Additional paid-in capital 188,018 (313,529) 187,999 296,783 16,765 Retained earnings (accumulated deficit) (170,528) (248,845) (170,528) 222,736 26,109 Accumulated other comprehensive (income) loss (10,294) -- (2,216) (10,709) 2,631 Treasury stock (220,523) -- (220,523) -- -- -------------- --------------- --------------- ------------- ----------- Total stockholders' deficit (213,327) (562,374) (205,268) 508,810 45,505 -------------- --------------- --------------- ------------- ----------- Total liabilities and stockholders' deficit $ 691,695 $ (1,154,662) $ 1,055,187 $ 695,951 $ 95,219 ============== =============== =============== ============= ===========

CONDENSED CONSOLIDATING FINANCIAL STATEMENTS Condensed Consolidated Cash Flows (Unaudited) For the six months ended December 30, 2005

NON- TOTAL ISSUER GUARANTORS GUARANTORS ------------- ------------- ------------ ----------- Net cash provided by (used in) operating activities $ (1,741) $ (25,644) $ 23,116 $ 787 ------------- ------------- ------------ ----------- Cash flows from Investing activities: Capital expenditures (7,466) (2,595) (4,781) (90) Additions to intangibles 62 (107) -- 169 Deposits and other assets 36 (3) 93 (54) ------------- ------------- ------------ ----------- Net cash provided by (used in) investing activities $ (7,368) $ (2,705) $ (4,688) $ 25 ------------- ------------- ------------ ----------- Cash flows from financing activities: Repayment/Borrowings of line of credit (140) (7) -- (133) Proceeds from Issuance of Series A Redeemable Preferred Stock 5,423 5,423 -- -- Debt financing (240) (240) -- -- Change in intercompany accounts -- 20,859 (23,286) 2,427 ------------- ------------- ------------ ----------- Net cash flows provided by (used in) financing activities 5,043 26,036 (23,286) 2,294 ------------- ------------- ------------ ----------- Effect of exchange rate changes on cash 19 -- -- 19 ------------- ------------- ------------ ----------- Net increase (decrease) in cash (4,047) (2,314) (4,858) 3,125 Cash, beginning of period 18,584 7,150 7,732 3,702 ------------- ------------- ------------ ----------- Cash, end of period $ 14,537 $ 4,836 $ 2,874 $ 6,827 ============= ============= ============ ===========

For the six months ended December 31, 2004

NON- TOTAL ISSUER GUARANTORS GUARANTORS ------------- ------------- ------------ ------------ Net cash provided by (used in) operating activities $ (19,283) $ (41,338) $ 10,662 $ 11,393 ------------- ------------- ------------ ------------ Cash flows from Investing activities: Capital expenditures (13,357) (2,209) (8,032) (3,116) Acquisition costs (39) (39) -- -- Additions to intangibles (1,078) (173) (44) (861) Deposits and other assets (36) (36) -- -- ------------- ------------- ------------ ------------ Net cash used in investing activities $ (14,510) $ (2,457) $ (8,076) $ (3,977) ------------- ------------- ------------ ------------

12 Cash flows from financing activities (Repayments) borrowings of long term debt 17,336 17,629 -- (293) Debt financing costs (500) (500) -- -- Change in intercompany accounts -- 18,917 (8,715) (10,202) ------------- ------------- ------------ ------------ Net cash flows provided by (used in) financing activities 16,836 36,046 (8,715) (10,495) ------------- ------------- ------------ ------------ Effect of exchange rate changes on cash (315) -- -- (315) ------------- ------------- ------------ ------------ Net decrease in cash (17,272) (7,749) (6,129) (3,394) Cash, beginning of period 29,735 11,890 8,923 8,922 ------------- ------------- ------------ ------------ Cash, end of period $ 12,463 $ 4,141 $ 2,794 $ 5,528 ============= ============= ============ ============ NOTE 7 - ACQUISITIONS In July 2002, the Company purchased certain assets and assumed certain liabilities of ELM Packaging "ELM" for approximately $16,806. The acquisition was recorded under the purchase method, whereby Elm's net assets were recorded at estimated fair value and its operations have been reflected in the statement of operations since that date. In connection with the acquisition, a reserve of $4,500 has been established for the costs to integrate ELM's operations with the company. The reserve is included in accrued expenses. The components of the integration reserve and activity through December 30, 2005 are as follows:

BALANCE COSTS CHARGED TO BALANCE JULY 2005 RESERVE DECEMBER 30, 2005 ---------- ---------------- ----------------- Legal, environmental and other $ 1,144 $ 16 $ 1,128 ---------- ---------------- ----------------- $ 1,144 $ 16 $ 1,128 ========== ================ =================

The remaining legal, environmental and other costs are expected to be paid over the next four years. In October 2001, the Company purchased certain assets and assumed certain liabilities of Swan Hose for approximately $63,600. The acquisition was recorded under the purchase method, whereby Swan's net assets were recorded at estimated fair value and its operations have been reflected in the statement of operations since that date. The components of the Integration reserve and activity through December 30, 2005 are as follows:

BALANCE COSTS CHARGED BALANCE JULY 2005 TO RESERVE DECEMBER 30, 2005 ---------- ------------- ----------------- Legal and environmental $ 965 $ 112 $ 853 ---------- ------------- ----------------- $ 965 $ 112 $ 853 ========== ============= ================

The remaining legal and environmental costs are expected to extend over the next four years. NOTE 8 - GOODWILL IMPAIRMENT In recent years our garden hose operations have not been profitable. While we believe the price increases we have secured for the 2006 selling season will return these operations to profitability, we have lost some market share for the upcoming selling season. In the near term we expect to reduce the production capacity at our Swan operations to reflect our reduced market share. In accordance with SFAS 142, we have tested for impairment of goodwill for the operating segment taken as a whole. As a result of our lost market share in our garden hose operations, we analyzed the carrying value of our Tubing Segment goodwill by each reporting unit within the segment, using a discounted cash flow analysis as of the end of our 2nd quarter. Our analysis has resulted in a $35.1 million reduction in goodwill at one reporting unit which is included in the selling general and administrative expenses of our Tubing Segment. 13 TEKNI-PLEX, INC. AND SUBSIDIARIES ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS QUARTER ENDED DECEMBER 30, 2005 COMPARED TO THE QUARTER ENDED DECEMBER 31, 2004 Net sales increased to $152.4 million in the second quarter fiscal 2006 from $138.2 million the same period last year, representing a 10.2% gain. Net sales in our Packaging Segment grew 11.5% to $92.9 million in the most recent period from $83.3 million in the comparable period of fiscal 2005 due to both higher selling prices and volumes. Net sales in our Tubing Products Segment decreased 7.2% to $23.5 million in fiscal 2006 from $25.3 million in fiscal 2005 Primarily due to softer garden hose sales in the second quarter of fiscal 2006 following unusually strong first quarter garden hose sales. Other net sales grew 21.5% to $36.0 million in fiscal 2006 compared to $29.6 million in the previous year primarily due to higher selling prices. Our accruals for rebates, discounts and sales allowances increased to $12.3 million or 8.0% of net sales in fiscal 2006 compared to $6.6 million or 4.7% of net sales in fiscal 2005. The increase was due to changes in our sales programs as well as changes in the volumes purchased by each of our customers during the relevant quarters. The accrual for rebates, discounts and sales allowances was 8.0% of net sales in both the first and second quarters of fiscal 2006. Cost of goods sold increased to $129.9 million in fiscal 2006 from $113.1 million in fiscal 2005. Expressed as a percentage of net sales, cost of goods sold increased to 85.3% in the current period compared to 81.8% in the prior period, primarily due to higher raw material costs. Tekni-Plex's primary raw materials are Polyvinyl Chloride (PVC), Polystyrene, Vinyl Chloride Monomer (VCM) and various plasticizers, all of which are petrochemical based. Generally higher oil and natural gas prices, coupled with strong global demand for commodity chemicals and tight supplies, have resulted in generally higher costs for all of our key raw materials. We expect this trend to continue for the foreseeable future. In most of our businesses we have been able to pass on higher material costs to our customers in a relatively short time period. However, like most seasonal retail products, we traditionally have sold garden hose under annual agreements, where prices are generally set in the fall and generally remain in effect for the calendar year. Consequently, in recent fiscal years, the increase in raw material costs at our garden hose operations during a 12-month time period has reduced our profitability. Between December, 2004 and December, 2005, the two primary raw materials for our garden hose business, PVC and plasticizers, rose an average of 21.9% and 34.8% respectively. To mitigate the impact of expected increases in the cost of our raw materials and in contrast to previous years, we have not guaranteed garden hose pricing for the 2006 selling season. As previously discussed, our cost of goods sold includes a $0.9 million inventory write-down (0.1% of net sales) in fiscal 2005 to reflect inventory restatements at our American Gasket and Rubber Division. Gross profit, as a result of the above, decreased to $22.5 million in the current period compared to $25.1 million in the prior period. Expressed as a percentage of net sales, gross profit declined to 14.7% in the second quarter of fiscal 2006 from 18.2% in comparable period of last year. Our Packaging Segment gross profit increased 15.7% to $22.4 million in fiscal 2006 from $19.4 million for fiscal 2005 due to both higher selling prices and higher sales volumes. Expressed as a percentage of net sales, Packaging Segment gross profit increased to 24.2% in the current period from 23.3% in the previous period. Our Tubing Products Segment gross profit decreased to a loss of ($1.6) million in fiscal 2006 from a profit of $5.0 million in fiscal 2005 as significantly higher raw material costs, particularly for plasticizers, more than offset the 3% to 6% price increases that went into effect in January at our garden hose unit. Expressed as a percentage of net sales, our Tubing Products Segment gross profit decreased to (6.9%) in the current period from 19.8% in the previous period. Other gross profit increased to $1.7 million in fiscal 2006 from $0.7 million in fiscal 2005 primarily due to higher pricing. Expressed as a percentage of net sales, Other gross profit improved to 4.6% in fiscal 2006 from 2.4% a year earlier. Selling, general and administrative expenses increased to $49.1 million in the most recent fiscal year from $14.2 million last year, due to the inclusion of a $35.1 million non-cash charge to write off the goodwill associated with our 2001 acquisition of Swan Hose. In recent years our garden hose operations have not been profitable. And, while we believe that the price increases we secured for the 2006 selling season will return these operations to profitability, we have lost some market share for the upcoming selling season. In the near term, we expect to reduce the production capacity at our Swan operations to reflect our reduced market share and accordingly 14 we have deemed it appropriate to write-off the goodwill associated with these operations. Measured as a percentage of net sales, selling, general and administrative expenses increased to 32.2% in the current period from 10.3% in the previous period. Integration expenses decreased to $1.3 million or 0.9% of net sales in fiscal 2006 from $2.2 million or 1.6% of net sales in fiscal 2005. The decrease was largely related to lower capital spending at our Elm facilities as well as the absence of charges associated with the closing of our Rockaway, New Jersey facility and consolidating its operations at our Clinton, Illinois and Clayton, North Carolina facilities in fiscal 2005. Our integration expenses are typically cash expenses and relate to reconfiguring and realignment of acquired facilities to conform to the Company's current production and product standards as well as the costs associated with consolidating facilities. These costs are comprised of the following measured in millions:

2006 2005 ------ ------ Elm Packaging Material $ 0.7 $ 1.0 Labor 0.2 0.4 Overhead 0.3 0.5 Rockaway closing Material 0.0 0.1 Labor 0.0 0.0 Overhead 0.0 0.2 SG&A 0.0 0.0 ------ ------ Total $ 1.3 $ 2.2 ====== ======

We expect the closing of our Rockaway facility to result in approximately $1.0 million of annual cost savings. We also expect the reconfiguring and realignment of our Elm facilities to result in significant cost reductions as well as enable us to produce higher value added products; however, we cannot currently quantify these benefits. Operating profit, as a result of the above, decreased to a loss of ($28.0) million in fiscal 2006 from a profit of $8.7 million in fiscal 2005. Expressed as a percentage of net sales, operating profit decreased to (18.4%) in the most recent period from 6.3% in the comparable period of last year. Our Packaging Segment operating profit increased 30.1% to $14.9 million (16.0% of net sales) in the current period compared to $11.4 million (13.7% of net sales) in the previous period. Our Tubing Products Segment reported an operating loss of ($39.3) million in fiscal 2006 compared to a profit of $2.2 million in fiscal 2005. The 2006 quarter included a $35.1 million non-cash charge to write-off the goodwill associated with our Swan garden hose operations. Measured as a percent of net sales, our Tubing Segment operating profit declined to (167.1%) of net sales in the current period compared to 8.5% of net sales in the previous year. Our Other segment reported a $14,000 profit in the second quarter of fiscal 2006 compared to a loss of ($873,000) in the comparable period of 2005. Interest expense increased to $25.5 million (16.7% of net sales) in fiscal 2006 from $20.4 million (14.7% of net sales) in fiscal 2005 due to the inclusion of a $3.8 million, non-cash charge reflecting the accretion of our Series A Redeemable preferred stock to its mandatory redemption amount, as well as higher average debt levels and interest rates. Unrealized gain on derivative transactions was $0.3 million or 0.2% of net sales in fiscal 2006 compared to $1.0 or 0.7% of net sales in the previous year due to the various movements of the interest rates embedded in our derivative contracts. See the Liquidity and Capital Resources discussion below for a detailed description of our derivative transactions. Loss before income taxes, as a result, was a loss of ($53.4) million or (35.0%) of net sales for fiscal 2006 compared to a loss of ($11.1) million or (8.0%) of net sales for fiscal 2005. Income tax expense was $1.2 million for fiscal 2006 compared to $0.7 million for fiscal 2005 primarily reflecting foreign taxes as we continued to fully reserve against our deferred tax asset. Net loss, as a result, was a loss of ($54.5) million for fiscal 2006 or (35.8%) of net sales compared with a loss of ($11.7) million for fiscal 2005 or (8.5%) of net sales. 15 FIRST HALF OF FISCAL 2006 COMPARED TO THE FIRST HALF OF FISCAL 2005 Net sales increased to $315.1 million in the first half of fiscal 2006 from $281.7 million the same period last year, representing a 11.9% gain. Net sales in our Packaging Segment grew 7.8% to $178.0 million in the most recent period from $165.1 million in the comparable period of fiscal 2005 primarily due to both higher selling prices and volumes. Net sales in our Tubing Products Segment increased 18.4% to $66.7 million in fiscal 2006 from $56.4 million in fiscal 2005 primarily due to strong, weather-related demand for garden hose in the first quarter of fiscal 2006, offset by softer garden hose sales in the second quarter of fiscal 2006. Other net sales grew 16.9% to $70.5 million in fiscal 2006 compared to $60.3 million in the previous year primarily due to higher selling prices. Our accruals for rebates, discounts and sales allowances increased to $25.2 million or 8.0% of net sales in fiscal 2006 compared to $14.6 million or 5.2% of net sales in fiscal 2005. The increase was due to changes in our sales programs as well as changes in the volumes purchased by each of our customers during the relevant periods. Cost of goods sold increased to $274.2 million in fiscal 2006 from $228.2 million in fiscal 2005. Expressed as a percentage of net sales, cost of goods sold increased to 87.0% in the current period compared to 81.0% in the prior period, primarily due to higher raw material costs. Tekni-Plex's primary raw materials are Polyvinyl Chloride (PVC), Polystyrene, Vinyl Chloride Monomer (VCM) and various plasticizers, all of which are petrochemical based. Generally higher oil and natural gas prices, coupled with strong global demand for commodity chemicals and tight supplies, have resulted in generally higher costs for all of our key raw materials. We expect this trend to continue for the foreseeable future. In most of our businesses we have been able to pass on higher material costs to our customers in a relatively short time period. However, like most seasonal retail products, we traditionally have sold garden hose under annual agreements, where prices are generally set in the fall and generally remain in effect for the calendar year. Consequently, in recent fiscal years, the increase in raw material costs at our garden hose operations during a 12-month time period has reduced our profitability. Between December, 2004 and December 2005, the two primary raw materials for our garden hose business, PVC and plasticizers, rose an average of 21.9% and 34.8% respectively. To mitigate the impact of expected increases in the cost of our raw materials and in contrast to previous years, we have not guaranteed garden hose pricing for the 2006 season. As previously discussed, in the first half of fiscal 2005 our cost of goods sold includes a $1.9 million inventory write-down (0.1% of net sales) to reflect inventory restatements at our American Gasket and Rubber Division. Gross profit, as a result of the above, decreased to $41.0 million in the current period compared to $53.5 million in the prior period. Expressed as a percentage of net sales, gross profit declined to 13.0% in the first half of fiscal 2006 from 19.0% in comparable period of last year. Our Packaging Segment gross profit increased 7.4% to $43.2 million in fiscal 2006 from $40.2 million in fiscal 2005 due to both higher selling prices and higher sales volumes. Expressed as a percentage of net sales, Packaging Segment gross profit was flat at 24.3%. Our Tubing Products Segment gross profit decreased to a loss of ($6.2) million in fiscal 2006 from a profit of $10.7 million in fiscal 2005 as significantly higher raw material costs, particularly for plasticizers, more than offset the 3% to 6% price increases that went into effect in January at our garden hose unit. Expressed as a percentage of net sales, our Tubing Products Segment gross profit decreased to (9.3%) in the current period from 19.0% in the previous period. Other gross profit increased to $4.0 million in fiscal 2006 from $2.6 million in fiscal 2005 primarily due to higher pricing. Expressed as a percentage of net sales, Other gross profit improved to 5.7% in fiscal 2006 from 4.4% in fiscal 2005 due to both higher sales volumes and higher selling prices.. Selling, general and administrative expenses increased to $64.1 million in the most recent fiscal year from $30.0 million last year, due to the inclusion of a $35.1 million non-cash charge to write off the goodwill associated with our 2001 acquisition of Swan Hose. In recent years our garden hose operations have not been profitable. While we believe that the price increases we secured for the 2006 selling season will return these operations to profitability, we have lost some market share for the upcoming selling season. In the near term, we expect to reduce the production capacity at our Swan operations to reflect our reduced market share and accordingly we have deemed it appropriate to write-off the goodwill associated with these operations. Measured as a percentage of net sales, selling, general and administrative expenses increased to 20.4% in the current period from 10.7% in the previous period. Integration expenses decreased to $3.4 million or 1.1% of net sales in fiscal 2006 from $4.8 million or 1.7% of net sales in fiscal 2005. The decrease was largely related to the inclusion of charges associated with the closing of our Rockaway, New Jersey facility and 16 consolidating its operations at our Clinton, Illinois and Clayton, North Carolina facilities in fiscal 2005. Our integration expenses are typically cash expenses and relate to reconfiguring and realignment of acquired facilities to conform to the Company's current production and product standards as well as the costs associated with consolidating facilities. These costs are comprised of the following measured in millions:

2006 2005 ------ ------ Elm Packaging Material $ 1.9 $ 1.9 Labor 0.7 0.7 Overhead 0.8 1.1 Rockaway closing Material 0.0 0.2 Labor 0.0 0.1 Overhead 0.0 0.7 SG&A 0.0 0.1 ------ ------ Total $ 3.4 $ 4.8 ====== ======

We expect the closing of our Rockaway facility to result in approximately $1.0 million of annual cost savings. We also expect the reconfiguring and realignment of our Elm facilities to result in significant cost reductions as well as enable us to produce higher value added products; however, we cannot currently quantify these benefits. Operating profit, as a result of the above, decreased to a loss of ($26.6) million in fiscal 2006 from $18.7 million in fiscal 2005. Expressed as a percentage of net sales, operating profit decreased to (8.4%) in the most recent period from 6.6% in the comparable period of last year. Our Packaging Segment operating profit increased to $27.7 million (15.5% of net sales) in the current period compared to $24.1 million (14.6% of net sales) in the previous period. Our Tubing Products Segment reported an operating loss of ($46.8) million or (70.2%) of net sales in the current period compared to profit of $4.6 million or 8.1% of net sales in the previous year. Other operating profit improved to $0.8 million (1.2% of net sales) in the current period compared to a loss of ($0.5) million or (1.8%) of net sales in the previous period. Interest expense increased to $52.4 million (16.6% of net sales) in fiscal 2006 from $42.2 million (15.0% of net sales) in fiscal 2005 primarily due to the inclusion of a $7.3 million, non-cash charge reflecting the accretion of our Series A Redeemable preferred stock to its mandatory redemption amount, as well as higher average debt levels and interest rates. Unrealized gain on derivative transactions was $2.5 million or 0.8% of net sales in fiscal 2006 compared to $4.2 or 1.5% of net sales in the previous year due to the various movements of the interest rates embedded in our derivative contracts. See the Liquidity and Capital Resources discussion below for a detailed description of our derivative transactions. Loss before income taxes, as a result, was a loss of ($76.6) million or (24.3%) of net sales for fiscal 2006 compared to a loss of ($20.1) million or (7.1%) of net sales for fiscal 2005. Income tax expense was $2.2 million for fiscal 2006 compared to $1.5 million for fiscal 2005 primarily reflecting foreign taxes as we continued to fully reserve against our deferred tax asset Net loss, as a result, was a loss of ($78.8) million for fiscal 2006 or (25.0%) of net sales compared with a loss of ($21.6) million for fiscal 2005 or (7.7%) of net sales. LIQUIDITY AND CAPITAL RESOURCES For the six months ended December 30, 2005, net cash used in operating activities was $1.7 million compared to $19.3 million of cash used in operating activities in the first half of the prior year. The $17.6 million improvement was due primarily to a $16.5 million reduction in inventory build in the current fiscal year compared to the comparable period of the previous year. A $57.2 million increase in net loss in fiscal year to date 2006 compared to the comparable period in fiscal 2005 was largely the result of a $35.1 million non-cash charge related to the write-off of goodwill associated with our 2001 acquisition of Swan Hose, as well as $7.3 million non-cash charge for accretion associated with our Series A Redeemable Preferred Stock both of which occurred only in the first half of fiscal 2006. Other various year-over-year changes in operating assets, accrued expenses (including interest expense) and liabilities, are generally due to offsetting timing differences. 17 In June, 2005 we arranged a new $65 million asset backed credit facility. As of February 13, 2006 we have $14 million of borrowings under this facility. Working capital at December 30, 2005 was $174.1 million compared to $200.8 million at July 1, 2005. The $26.7 million decrease was primarily due to operating losses. Our principal uses of cash will be debt service, capital expenditures and working capital requirements. Our capital expenditures for the six months ended December 30, 2005 and December 31, 2004 were $7.5 million and $13.4 million, respectively. We believe that we will be able to pass along expected higher raw material costs to our garden hose customers during fiscal 2006 and consequently, cash generated from operations plus funds available under our new asset backed facility will be sufficient to meet our needs and to provide us with the flexibility to make capital expenditures and other investments which we believe are prudent. However, we cannot assure you that sufficient funds will be available from operations or borrowings under our credit facility to meet all of our future cash needs. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS In June 2000, we entered into a series of interest rate derivative transactions designed to protect us from rising interest rates on our senior term debt facilities while enabling us to partially benefit from falling interest rates. At that time, Tekni-Plex had $344.0 million of term loans outstanding with variable rates of interest tied to US$ LIBOR. These loans, which originally had maturity dates ranging from June 2006 through June 2008, have been repaid. Concurrent with incurring this debt, Tekni-Plex entered into a series of interest swap contracts to pay variable rates of interest based on a basket of LIBOR benchmarks and receive variable rates of interest based on 3 month dollar LIBOR on an aggregate of $344.0 million amount of indebtedness. The swaps amortize on the same schedule as the original term loans. As of December 30, 2005, the notional amount of the swaps is approximately $269.2 million. Portfolio theory and empirical evidence suggested the change in value of a basket of LIBOR benchmarks would be less volatile than the change in value of a single benchmark. Since 2000, this has generally been our experience. In conjunction with our swap contracts we also purchased an interest rate cap. We believe the reduced volatility created by the interest rate swaps made the interest rate cap less expensive. We recorded an unrealized gain from derivative transactions of $1.0 million and $1.7 million in the second quarters of fiscal 2006 and 2005, respectively. We recorded a total of unrealized gains from derivative transactions of $4.2 million in each of the six months ending December 30, 2005 and December 31, 2004. Our Senior debt and our Senior Subordinated Notes include various covenants, the most restrictive of which limit our incremental debt and capital expenditures. The availability of borrowings under our new asset based facility is subject to a borrowing base limitation equal to the lesser of the borrowing base as defined in the asset backed agreement and the then effective commitments under the new asset based facility minus such availability reserves as the administrative agent, in its sole discretion, deems appropriate. ITEM 4. CONTROLS AND PROCEDURES EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. The Company maintains disclosure controls and procedures designed to ensure that information required to be disclosed in its Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to the Company's management, including its Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. As previously disclosed on Form 8-K, in fiscal 2005, management identified certain overstated inventory valuations at its American Gasket & Rubber Division ("AGR"), totaling approximately $6.8 million, resulting in a $2.8 million reduction in fiscal 2005 operating profit, a $2.7 million reduction in fiscal 2004 operating profit and a restatement of Tekni-Plex's financial statements for those periods. Management promptly reported the inventory overstatement at AGR to the Board, the Audit Committee and BDO Seidman, LLP, our independent registered public accounting firm. The Audit Committee subsequently engaged counsel to supervise an internal investigation of the circumstances leading to the inventory overstatement. Counsel to the Audit Committee, in turn, engaged a forensic accounting firm to assist it in the investigation. The investigation determined that prior accounting management at AGR, from at least 18 2001 through fourth-quarter 2005, made unsupported adjustments to cost of goods sold that had the effect both of improving the appearance within Tekni-Plex of the financial performance of AGR and increasing the value of AGR's ending inventory. Tekni-Plex has terminated the employment of the accounting manager who made these adjustments and re-assigned his direct supervisor to functions that do not include accounting supervision. As part of the internal investigation, the investigative team made certain remedial recommendations to the Audit Committee, including that (1) a divisional controller or a manager delegated by a divisional controller be assigned responsibility, on a regular basis, to conduct a substantive review of AGR's financial statements, and that a similar structure of review be instituted with respect to other decentralized businesses of Tekni-Plex; (2) reporting by AGR accounting management be direct to Tekni-Plex corporate accounting; (3) notification be distributed to all Tekni-Plex accounting employees on a periodic basis instructing them that any difficulties in accounting or the use of the company's accounting systems be reported timely to Tekni-Plex corporate accounting; (4) in annual performance reviews of accounting and bookkeeping personnel, all reviewing personnel be required to inquire whether the reviewed employee has had or observed any problems in the use of approved accounting systems or in the accounting function generally, (5) Tekni-Plex apply additional resources to ensure that all of its site controllers and staff are trained properly in the use of company accounting systems, (6) in addition to establishing a hotline through which employees may report problems, Tekni-Plex publish to its employees a statement of ethics and periodically circulate written reminders to all employees that the company expects its employees (a) to perform all functions consistent with established accounting and legal standards and high ethics, and (b) to report any accounting difficulties to Tekni-Plex's corporate office. Lastly, the investigative team recommended that full consideration be given to establishing, or out-sourcing, an adequately staffed internal audit function. In fiscal 2006, the Audit Committee adopted these recommendations. In response to the findings above, Tekni-Plex has: (1) terminated the employment of an individual directly responsible for the inventory restatements, (2) improved training for the accounting staff of AGR, (3) improved its internal financial reporting systems and related controls across all of its divisions to, among other things, increase both the frequency by which inventory is monitored as well as increasing the number of managers responsible for monitoring inventory; and (4) increased the frequency and depth by which the inventory and other financial transactions of each of divisions are reviewed by our independent registered public accountants during the course of our annual audit. In connection with the completion of its audit of and the issuance of an unqualified report on the Company's consolidated financial statements for the fiscal year ended July 1, 2005, the Company's independent registered public accounting firm, BDO Seidman, LLP ("BDO"), communicated to the Company's Audit Committee that the following matters involving the Company's internal controls and operations were considered to be "significant deficiencies", as defined under standards established by the Public Company Accounting Oversight Board: - Lack of quantity of staff which led to issues related to timeliness of financial reporting. - Lack of quantity of staff which led to issues related to the timely review of the financial statements of AGR and the calculation of inventory. As a result, accounting errors existed in the financial statements of this subsidiary resulted in a restatement of inventory and cost of sales for certain accounting periods as described within this filing. Significant deficiencies are matters coming to the attention of the independent auditors that in their judgment, relate to material weaknesses in the design or operation of internal controls that could adversely affect the Company's ability to record, process, summarize and report financial data consistent with the assertions of management in the financial statements. In addition, BDO has advised the Company that they consider these matters, which are listed above, to be "material weaknesses" that, by themselves or in a combination, may increase the possibility that a material misstatement in our financial statements might not be prevented or detected by our employees in the normal course of performing their assigned functions. Prior to the identification of the accounting overstatement at AGR, and in response to material weaknesses identified by BDO last year, Tekni-Plex has committed to increase and reorganize its finance staff with a strong emphasis on internal audit. This process is ongoing. As required by SEC Rule 13a-15(b), the Company carried out an evaluation under the supervision and with the participation of its management, including its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operations of the Company's disclosure controls and procedures and internal controls over financial reporting as of December 30, 2005. Based on the foregoing, the Company's Chief Executive Officer and Chief Financial Officer determined that deficiencies in our internal control 19 over financial reporting have caused the Company's disclosure controls and procedures to not be effective today. However, the Chief Executive Officer and Chief Financial Officer noted that the Company is actively seeking to remedy the deficiencies identified herein including hiring additional staff to assure the accuracy and timeliness of financial reporting. The Company's Chief Executive Officer and Chief Financial Officer did not note any other material weakness or significant deficiencies in the Company's disclosure controls and procedures during their evaluation. The Company continues to improve and refine its internal controls. This process is ongoing. In the second quarter of fiscal 2006, there were no significant changes in the Company's internal control over financial reporting or in other factors that materially affected, or are reasonably likely to materially affect, the Company's internal controls over financial reporting. PART II. OTHER INFORMATION Item 1. Legal Proceedings The Company is party to certain litigation in the ordinary course of business, none of which the Company believes is likely to have a material adverse effect on its consolidated financial position or results of operations. Item 2. Changes in Securities None Item 3. Defaults Upon Senior Securities None Item 4. Submission of Matters to a Vote of Securities holders Not applicable Item 5. Subsequent Events None Item 6. Exhibits and Reports on Form 8-K (a) Exhibits 31.1 Certification of Chairman and Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 31.2 Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 32.1 Certification of Chairman and Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 20 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. TEKNI-PLEX, INC. February 13, 2006 By: /s/ F. Patrick Smith ----------------------------------------------- F. Patrick Smith Chairman of the Board and Chief Executive Officer By: /s/ James E. Condon ----------------------------------------------- James E. Condon Vice President and Chief Financial Officer 21