UNITED
STATES
 SECURITIES
AND EXCHANGE COMMISSION
 WASHINGTON,
D. C. 20549
 
 FORM
10-Q
 
 (Mark
One)
 [X]
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
 SECURITIES
EXCHANGE ACT OF 1934
 For
the quarterly period ended June 30, 2009
  OR
  [   ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
 SECURITIES
EXCHANGE ACT OF 1934
 
 Commission
file number001-13255
 
 SOLUTIA
INC.
 (Exact
name of registrant as specified in its charter)
 
 DELAWARE
                43-1781797(State
      or other jurisdiction of incorporation or organization)
                (I.R.S.
      Employer Identification No.)
 
 575
      MARYVILLE CENTRE DRIVE, P.O. BOX 66760,
                  ST.
      LOUIS, MISSOURI
                63166-6760(Address
      of principal executive offices)
                (Zip
      Code)
 
 (314)
674-1000
 (Registrant’s
telephone number, including area code)
  Indicate
by check mark whether the registrant (1) has filed all reports to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding
twelve 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.  YesX
No
 
 Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding
12 months (or for such shorter period that the registrant was required to submit
and post such files).   Yes ___   
No  X
  Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer or a smaller reporting
company.  See definitions of “large accelerated filer”, “accelerated
filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (Check
one):
 
 Large Accelerated
Filer  X                                               Accelerated
Filer
 Non-Accelerated Filer                                                  Small
Reporting Company
 (Do not check if smaller reporting
company)
  Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).  Yes
NoX
  Indicate
by check mark whether the registrant has filed all documents and reports
required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act
of 1934 subsequent to the distribution of securities under a plan confirmed by
Court. X  Yes
    ___No
  Indicate
the number of shares outstanding of each of the issuer’s classes of common
stock, as of the latest practicable date.
 Class
              Outstanding
      at
                June 30, 2009Common Stock, $0.01 par
    value
              119,029,005
  shares
  
  PART
I. FINANCIAL INFORMATION
 
 Item
1.  FINANCIAL STATEMENTS
 SOLUTIA
INC.
 CONSOLIDATED
STATEMENT OF OPERATIONS
 (Dollars
and shares in millions, except per share amounts)
 (Unaudited)
 
 SuccessorThree
      MonthsEnded
                      June
      30,2009
                    
                    
                    Three
      MonthsEnded
                      June
      30,2008Net
      Sales
                    
                    $
                    410
                    
                    
                    $
                    577Cost
      of goods sold
                    
                    
                    288
                    
                    
                    
                    476Gross
      Profit
                    
                    
                    122
                    
                    
                    
                    101Selling,
      general and administrative expenses
                    
                    
                    54
                    
                    
                    
                    67Research,
      development and other operating expenses, net
                    
                    
                    2
                    
                    
                    
                    (1
                    )Operating
      Income
                    
                    
                    66
                    
                    
                    
                    35Interest
      expense
                    
                    
                    (30
                    )
                    
                    
                    (48
                    )Other
      income (loss), net
                    
                    
                    (1
                    )
                    
                    
                    10Income
      (Loss) from Continuing Operations Before Income Tax
Expense
                    
                    
                    35
                    
                    
                    
                    (3
                    )Income
      tax expense
                    
                    
                    10
                    
                    
                    
                    --Income
      (Loss) from Continuing Operations
                    
                    
                    25
                    
                    
                    
                    (3
                    )Loss
      from Discontinued Operations, net of tax
                    
                    
                    (14
                    )
                    
                    
                    (10
                    )Net
      Income (Loss)
                    
                    
                    11
                    
                    
                    
                    (13
                    )Net
      Income attributable to noncontrolling interest
                    
                    
                    1
                    
                    
                    
                    3Net
      Income (Loss) attributable to Solutia
                    
                    $
                    10
                    
                    
                    $
                    (16
                    )Basic
      and Diluted Income (Loss) per Share:Income
      (Loss) from Continuing Operations attributable to Solutia
                    
                    $
                    0.25
                    
                    
                    $
                    (0.10
                    )Loss
      from Discontinued Operations
                    
                    
                    (0.15
                    )
                    
                    
                    (0.17
                    )Net
      Income (Loss) attributable to Solutia
                    
                    $
                    0.10
                    
                    
                    $
                    (0.27
                    )
 
 
 SOLUTIA
INC.
 CONSOLIDATED
STATEMENT OF COMPREHENSIVE INCOME (LOSS)
 (Dollars
in millions)
 (Unaudited)
 SuccessorThree
      MonthsEnded
                                              June
      30,2009
                                            
                                            
                                            Three
      MonthsEnded
                                              June
      30,2008Net
      Income (Loss)
                                            
                                            $
                                            11
                                            
                                            
                                            $
                                            (13
                                            )Other
      Comprehensive Income (Loss):Currency
      translation adjustments
                                            
                                            
                                            56
                                            
                                            
                                            
                                            (1
                                            )Pension
      settlement
                                            
                                            
                                            20
                                            
                                            
                                            
                                            --Unrealized
      gain on derivative instruments
                                            
                                            
                                            --
                                            
                                            
                                            
                                            5Comprehensive
      Income (Loss)
                                            
                                            
                                            87
                                            
                                            
                                            
                                            (9
                                            )Comprehensive Income attributable to noncontrollinginterest
                                            
                                            
                                            1
                                            
                                            
                                            
                                            3Comprehensive
      Income (Loss) attributable to Solutia
                                            
                                            $
                                            86
                                            
                                            
                                            $
                                            (12
                                            )See
      accompanying Notes to Consolidated Financial Statements
 
 .
  - 1
-
 SOLUTIA
INC.
 CONSOLIDATED
STATEMENT OF OPERATIONS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
  Successor
                          
                          
                          Successor
                          
                          
                          PredecessorSix
      MonthsEnded
                            June
      30,2009
                          
                          
                          Four
      MonthsEnded
                            June
      30,2008
                          
                          
                          Two
      MonthsEnded
                            February
      29,2008Net
      Sales
                          
                          $
                          749
                          
                          
                          $
                          759
                          
                          
                          $
                          335Cost
      of goods sold
                          
                          
                          546
                          
                          
                          
                          632
                          
                          
                          
                          241Gross
      Profit
                          
                          
                          203
                          
                          
                          
                          127
                          
                          
                          
                          94Selling,
      general and administrative expenses
                          
                          
                          104
                          
                          
                          
                          89
                          
                          
                          
                          42Research,
      development and other operating expenses, net
                          
                          
                          6
                          
                          
                          
                          1
                          
                          
                          
                          3Operating
      Income
                          
                          
                          93
                          
                          
                          
                          37
                          
                          
                          
                          49Interest
      expense (a)
                          
                          
                          (67
                          )
                          
                          
                          (65
                          )
                          
                          
                          (21
                          )Other
      income (loss), net
                          
                          
                          (2
                          )
                          
                          
                          9
                          
                          
                          
                          3Reorganization
      items, net
                          
                          
                          --
                          
                          
                          
                          --
                          
                          
                          
                          1,433Income
      (Loss) from Continuing Operations Before Income Tax
Expense
                          
                          
                          24
                          
                          
                          
                          (19
                          )
                          
                          
                          1,464Income
      tax expense
                          
                          
                          3
                          
                          
                          
                          --
                          
                          
                          
                          214Income
      (Loss) from Continuing Operations
                          
                          
                          21
                          
                          
                          
                          (19
                          )
                          
                          
                          1,250Income
      (Loss) from Discontinued Operations, net of tax
                          
                          
                          (169
                          )
                          
                          
                          (24
                          )
                          
                          
                          204Net Income
      (Loss)
                          
                          
                          (148
                          )
                          
                          
                          (43
                          )
                          
                          
                          1,454Net
      Income attributable to noncontrolling interest
                          
                          
                          1
                          
                          
                          
                          3
                          
                          
                          
                          --Net
      Income (Loss) attributable to Solutia
                          
                          $
                          (149
                          )
                          
                          $
                          (46
                          )
                          
                          $
                          1,454Basic
      and Diluted Income (Loss) per Share:Income
      (Loss) from Continuing Operations attributable to Solutia
                          
                          $
                          0.21
                          
                          
                          $
                          (0.37
                          )
                          
                          $
                          11.96Income
      (Loss) from Discontinued Operations
                          
                          
                          (1.79
                          )
                          
                          
                          (0.40
                          )
                          
                          
                          1.95Net
      Income (Loss) attributable to Solutia
                          
                          $
                          (1.58
                          )
                          
                          $
                          (0.77
                          )
                          
                          $
                          13.91
 
 (a)
                Predecessor
      excludes unrecorded contractual interest expense of $5 in the two months
      ended February 29, 2008.
 
  SOLUTIA
INC.
 CONSOLIDATED
STATEMENT OF COMPREHENSIVE INCOME (LOSS)
 (Dollars
in millions)
 (Unaudited)
 
 Successor
                                                        
                                                        
                                                        Successor
                                                        
                                                        
                                                        PredecessorSix
      MonthsEnded
                                                          June
      30,2009
                                                        
                                                        
                                                        Four
      MonthsEnded
                                                          June
      30,2008
                                                        
                                                        
                                                        Two
      MonthsEnded
                                                          February
      29,2008Net
      Income (Loss)
                                                        
                                                        $
                                                        (148
                                                        )
                                                        
                                                        $
                                                        (43
                                                        )
                                                        
                                                        $
                                                        1,454Other
      Comprehensive Income (Loss):Currency
      translation adjustments
                                                        
                                                        
                                                        19
                                                        
                                                        
                                                        
                                                        22
                                                        
                                                        
                                                        
                                                        32Unrealized
      gain on derivative instruments
                                                        
                                                        
                                                        4
                                                        
                                                        
                                                        
                                                        4
                                                        
                                                        
                                                        
                                                        --Pension
      settlement
                                                        
                                                        
                                                        20
                                                        
                                                        
                                                        
                                                        --
                                                        
                                                        
                                                        
                                                        --Amortization
      of prior service gain
                                                        
                                                        
                                                        --
                                                        
                                                        
                                                        
                                                        --
                                                        
                                                        
                                                        
                                                        (3
                                                        )Amortization
      of net actuarial loss
                                                        
                                                        
                                                        2
                                                        
                                                        
                                                        
                                                        --
                                                        
                                                        
                                                        
                                                        2Actuarial
      loss arising during the two months ended February 29, 2008, net of tax of
      $2
                                                        
                                                        
                                                        --
                                                        
                                                        
                                                        
                                                        --
                                                        
                                                        
                                                        
                                                        (64
                                                        )Prior
      service gain arising during the two months ended
                                                          February
      29, 2008
                                                        
                                                        
                                                        --
                                                        
                                                        
                                                        
                                                        --
                                                        
                                                        
                                                        
                                                        109Fresh-start
      accounting adjustment
                                                        
                                                        
                                                        --
                                                        
                                                        
                                                        
                                                        --
                                                        
                                                        
                                                        
                                                        (30
                                                        )Comprehensive
      Income (Loss)
                                                        
                                                        
                                                        (103
                                                        )
                                                        
                                                        
                                                        (17
                                                        )
                                                        
                                                        
                                                        1,500Comprehensive
      Income attributable to non-controlling interest
                                                        
                                                        
                                                        1
                                                        
                                                        
                                                        
                                                        3
                                                        
                                                        
                                                        
                                                        --Comprehensive
      Income (Loss) attributable to Solutia
                                                        
                                                        $
                                                        (104
                                                        )
                                                        
                                                        $
                                                        (20
                                                        )
                                                        
                                                        $
                                                        1,500See
      accompanying Notes to Consolidated Financial Statements.
  - 2
-
 SOLUTIA
INC.
 CONSOLIDATED
STATEMENT OF FINANCIAL POSITION
 (Dollars
in millions, except per share amounts)
 (Unaudited)
  SuccessorJune
      30,
                                            2009
                                          
                                          
                                          December
      31,
                                            2008ASSETSCurrent
      Assets:Cash
      and cash equivalents
                                          
                                          $
                                          83
                                          
                                          
                                          $
                                          32Trade
      receivables, net of allowances of $0 in 2009 and 2008
                                          
                                          
                                          232
                                          
                                          
                                          
                                          227Miscellaneous
      receivables
                                          
                                          
                                          81
                                          
                                          
                                          
                                          110Inventories
                                          
                                          
                                          284
                                          
                                          
                                          
                                          341Prepaid
      expenses and other assets
                                          
                                          
                                          72
                                          
                                          
                                          
                                          85Assets
      of discontinued operations
                                          
                                          
                                          5
                                          
                                          
                                          
                                          490Total
      Current Assets
                                          
                                          
                                          757
                                          
                                          
                                          
                                          1,285Property, Plant and Equipment,net of accumulated depreciation of $92 in 2009 and $56 in
      2008
                                          
                                          
                                          932
                                          
                                          
                                          
                                          952Goodwill
                                          
                                          
                                          511
                                          
                                          
                                          
                                          511Identified
      Intangible Assets, net
                                          
                                          
                                          816
                                          
                                          
                                          
                                          823Other
      Assets
                                          
                                          
                                          158
                                          
                                          
                                          
                                          163Total
      Assets
                                          
                                          $
                                          3,174
                                          
                                          
                                          $
                                          3,734LIABILITIES
      AND SHAREHOLDERS’ EQUITYCurrent
      Liabilities:Accounts
      payable
                                          
                                          $
                                          136
                                          
                                          
                                          $
                                          170Accrued
      liabilities
                                          
                                          
                                          218
                                          
                                          
                                          
                                          259Short-term
      debt, including current portion of long-term debt
                                          
                                          
                                          21
                                          
                                          
                                          
                                          37Liabilities
      of discontinued operations
                                          
                                          
                                          65
                                          
                                          
                                          
                                          302Total
      Current Liabilities
                                          
                                          
                                          440
                                          
                                          
                                          
                                          768Long-Term
      Debt
                                          
                                          
                                          1,170
                                          
                                          
                                          
                                          1,359Postretirement
      Liabilities
                                          
                                          
                                          452
                                          
                                          
                                          
                                          465Environmental
      Remediation Liabilities
                                          
                                          
                                          267
                                          
                                          
                                          
                                          279Deferred
      Tax Liabilities
                                          
                                          
                                          182
                                          
                                          
                                          
                                          202Other
      Liabilities
                                          
                                          
                                          111
                                          
                                          
                                          
                                          132Commitments
      and Contingencies (Note 9)Shareholders’ Equity:Common
      stock at $0.01 par value; (500,000,000 shares authorized, 119,383,453 and
      94,392,772 shares issued in 2009 and 2008, respectively)
                                          
                                          
                                          1
                                          
                                          
                                          
                                          1Additional
      contributed capital
                                          
                                          
                                          1,604
                                          
                                          
                                          
                                          1,474Treasury
      shares, at cost (354,448 in 2009 and 77,132 in 2008)
                                          
                                          
                                          (2
                                          )
                                          
                                          
                                          --Accumulated
      other comprehensive loss
                                          
                                          
                                          (241
                                          )
                                          
                                          
                                          (286
                                          )Accumulated
      deficit
                                          
                                          
                                          (817
                                          )
                                          
                                          
                                          (668
                                          )Total
      Shareholders’ Equity attributable to Solutia
                                          
                                          
                                          545
                                          
                                          
                                          
                                          521Equity
      attributable to noncontrolling interest
                                          
                                          
                                          7
                                          
                                          
                                          
                                          8Total
      Shareholders’ Equity
                                          
                                          
                                          552
                                          
                                          
                                          
                                          529Total
      Liabilities and Shareholders’ Equity
                                          
                                          $
                                          3,174
                                          
                                          
                                          $
                                          3,734See accompanying Notes to Consolidated
      Financial Statements.
  - 3
-
 SOLUTIA
INC.
 CONSOLIDATED
STATEMENT OF CASH FLOWS
 (Dollars
in millions)
 (Unaudited)
 Successor
                      
                      
                      Successor
                      
                      
                      PredecessorSix
      Months Ended
                        June 30, 2009
                      
                      
                      Four
      Months Ended
                        June 30, 2008
                      
                      
                      Two
      Months Ended
                        February 29, 2008INCREASE
      (DECREASE) IN CASH AND CASH EQUIVALENTS
                        OPERATING
      ACTIVITIES:Net
      income (loss)
                      
                      $
                      (148
                      )
                      
                      $
                      (43
                      )
                      
                      $
                      1,454Adjustments
      to reconcile net income (loss) to net cash provided by (used in)
      operations:Net
      Income attributable to noncontrolling interest
                      
                      
                      (1
                      )
                      
                      
                      (3
                      )
                      
                      
                      --(Income)
      Loss from discontinued operations, net of tax
                      
                      
                      169
                      
                      
                      
                      24
                      
                      
                      
                      (204
                      )Depreciation
      and amortization
                      
                      
                      51
                      
                      
                      
                      36
                      
                      
                      
                      11Revaluation
      of assets and liabilities, net of tax
                      
                      
                      --
                      
                      
                      
                      --
                      
                      
                      
                      (1,383
                      )Discharge
      of claims and liabilities, net of tax
                      
                      
                      --
                      
                      
                      
                      --
                      
                      
                      
                      100Other
      reorganization items, net
                      
                      
                      --
                      
                      
                      
                      --
                      
                      
                      
                      52Pension
      obligation related expense less than contributions
                      
                      
                      (11
                      )
                      
                      
                      (10
                      )
                      
                      
                      (18
                      )Other
      postretirement benefit obligation related expense less thancontributions
                      
                      
                      (5
                      )
                      
                      
                      --
                      
                      
                      
                      (6
                      )Deferred
      income taxes
                      
                      
                      (9
                      )
                      
                      
                      (8
                      )
                      
                      
                      5Amortization
      of deferred debt issuance costs
                      
                      
                      10
                      
                      
                      
                      6
                      
                      
                      
                      1Gain
      on sale of assets
                      
                      
                      --
                      
                      
                      
                      (5
                      )
                      
                      
                      --Other
      charges (gains) including restructuring expenses
                      
                      
                      9
                      
                      
                      
                      64
                      
                      
                      
                      (2
                      )Changes
      in assets and liabilities:Income
      taxes payable
                      
                      
                      3
                      
                      
                      
                      8
                      
                      
                      
                      5Trade
      receivables
                      
                      
                      (5
                      )
                      
                      
                      (17
                      )
                      
                      
                      (24
                      )Inventories
                      
                      
                      56
                      
                      
                      
                      (25
                      )
                      
                      
                      (34
                      )Accounts
      payable
                      
                      
                      (21
                      )
                      
                      
                      21
                      
                      
                      
                      31Environmental
      remediation liabilities
                      
                      
                      (8
                      )
                      
                      
                      (1
                      )
                      
                      
                      (1
                      )Restricted
      cash for environmental remediation and other legacy
    payments
                      
                      
                      10
                      
                      
                      
                      --
                      
                      
                      
                      --Other
      assets and liabilities
                      
                      
                      (11
                      )
                      
                      
                      3
                      
                      
                      
                      (3
                      )Cash
      Provided by (Used in) Continuing Operations before Reorganization
      Activities
                      
                      
                      89
                      
                      
                      
                      50
                      
                      
                      
                      (16
                      )Reorganization
      Activities:Establishment
      of VEBA retiree trust
                      
                      
                      --
                      
                      
                      
                      --
                      
                      
                      
                      (175
                      )Establishment
      of restricted cash for environmental remediation and other legacy
      payments
                      
                      
                      --
                      
                      
                      
                      --
                      
                      
                      
                      (46
                      )Payment
      for allowed secured and administrative claims
                      
                      
                      --
                      
                      
                      
                      --
                      
                      
                      
                      (79
                      )Professional
      service fees
                      
                      
                      --
                      
                      
                      
                      (27
                      )
                      
                      
                      (31
                      )Other
      reorganization and emergence related payments
                      
                      
                      --
                      
                      
                      
                      --
                      
                      
                      
                      (17
                      )Cash
      Used in Reorganization Activities
                      
                      
                      --
                      
                      
                      
                      (27
                      )
                      
                      
                      (348
                      )Cash
      Provided by (Used in) Operations – Continuing Operations
                      
                      
                      89
                      
                      
                      
                      23
                      
                      
                      
                      (364
                      )Cash
      Provided by (Used in) Operations – Discontinued Operations
                      
                      
                      59
                      
                      
                      
                      (48
                      )
                      
                      
                      (48
                      )Cash
      Provided by (Used in) Operations
                      
                      
                      148
                      
                      
                      
                      (25
                      )
                      
                      
                      (412
                      )INVESTING
      ACTIVITIES:Property,
      plant and equipment purchases
                      
                      
                      (23
                      )
                      
                      
                      (25
                      )
                      
                      
                      (15
                      )Acquisition
      and investment payments
                      
                      
                      (1
                      )
                      
                      
                      (1
                      )
                      
                      
                      --Investment
      proceeds and property disposals
                      
                      
                      1
                      
                      
                      
                      47
                      
                      
                      
                      --Cash
      Provided by (Used in) Investing Activities – Continuing
      Operations
                      
                      
                      (23
                      )
                      
                      
                      21
                      
                      
                      
                      (15
                      )Cash
      Provided by (Used in) Investing Activities – Discontinued
      Operations
                      
                      
                      21
                      
                      
                      
                      (20
                      )
                      
                      
                      (14
                      )Cash
      Provided by (Used in) Investing Activities
                      
                      
                      (2
                      )
                      
                      
                      1
                      
                      
                      
                      (29
                      )FINANCING
      ACTIVITIES:Net
      change in lines of credit
                      
                      
                      (14
                      )
                      
                      
                      23
                      
                      
                      
                      --Proceeds
      from long-term debt obligations
                      
                      
                      70
                      
                      
                      
                      --
                      
                      
                      
                      1,600Net
      change in long-term revolving credit facilities
                      
                      
                      (181
                      )
                      
                      
                      (8
                      )
                      
                      
                      190Proceeds
      from stock issuances
                      
                      
                      119
                      
                      
                      
                      --
                      
                      
                      
                      250Proceeds
      from short-term debt obligations
                      
                      
                      11
                      
                      
                      
                      --
                      
                      
                      
                      --Payment
      of short-term debt obligations
                      
                      
                      (13
                      )
                      
                      
                      --
                      
                      
                      
                      (966
                      )Payment
      of long-term debt obligations
                      
                      
                      (80
                      )
                      
                      
                      (26
                      )
                      
                      
                      (366
                      )Payment
      of debt obligations subject to compromise
                      
                      
                      --
                      
                      
                      
                      --
                      
                      
                      
                      (221
                      )Debt
      issuance costs
                      
                      
                      (4
                      )
                      
                      
                      (1
                      )
                      
                      
                      (136
                      )Purchase
      of treasury shares
                      
                      
                      (1
                      )
                      
                      
                      --
                      
                      
                      
                      --Other,
      net
                      
                      
                      (2
                      )
                      
                      
                      --
                      
                      
                      
                      --Cash
      Provided by (Used in) Financing Activities
                      
                      
                      (95
                      )
                      
                      
                      (12
                      )
                      
                      
                      351INCREASE
      (DECREASE) IN CASH AND CASH EQUIVALENTS
                      
                      
                      51
                      
                      
                      
                      (36
                      )
                      
                      
                      (90
                      )CASH
      AND CASH EQUIVALENTS:Beginning
      of period
                      
                      
                      32
                      
                      
                      
                      83
                      
                      
                      
                      173End
      of period
                      
                      $
                      83
                      
                      
                      $
                      47
                      
                      
                      $
                      83SUPPLEMENTAL
      DISCLOSURE OF CASH FLOW INFORMATION:Cash
      payments for interest
                      
                      $
                      61
                      
                      
                      $
                      48
                      
                      
                      $
                      43Cash
      payments for income taxes, net of refunds
                      
                      
                      3
                      
                      
                      
                      6
                      
                      
                      
                      4
 
 See
accompanying Notes to Consolidated Financial Statements.
 - 4
-
 SOLUTIA
INC.
 CONSOLIDATED
STATEMENT OF SHAREHOLDERS' EQUITY
 (Dollars
in millions)
 
 Equity
      attributable to SolutiaCommon
                      Stock
                    
                    
                    Additional
      Contributed Capital
                    
                    
                    Treasury
      Stock
                    
                    
                    Accumulated
      Other Comprehensive Loss
                    
                    
                    Accumulated
      Deficit
                    
                    
                    Equity
      Attributable to Noncontrolling Interest
                    
                    
                    Total
      Shareholders’ EquityBeginning
      Balance – January 1, 2009
                    
                    $
                    1
                    
                    
                    $
                    1,474
                    
                    
                    $
                    --
                    
                    
                    $
                    (286
                    )
                    
                    $
                    (668
                    )
                    
                    $
                    8
                    
                    
                    $
                    529Comprehensive
      income:Net
      loss
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (159
                    )
                    
                    
                    --
                    
                    
                    
                    (159
                    )Currency
      translation adjustments
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (37
                    )
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (37
                    )Unrealized
      gain on derivative instruments
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    4
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    4Amortization
      of net actuarial loss
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    2
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    2Dividends
      attributable to noncontrolling interest
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (2
                    )
                    
                    
                    (2
                    )Treasury
      stock purchases
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (1
                    )
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (1
                    )Share-based
      compensation expense
                    
                    
                    --
                    
                    
                    
                    6
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    6Ending
      Balance – March 31, 2009
                    
                    
                    1
                    
                    
                    
                    1,480
                    
                    
                    
                    (1
                    )
                    
                    
                    (317
                    )
                    
                    
                    (827
                    )
                    
                    
                    6
                    
                    
                    
                    342Comprehensive
      income:Net
      income
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    10
                    
                    
                    
                    1
                    
                    
                    
                    11Currency
      translation adjustments
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    56
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    56Pension
      settlement
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    20
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    20Issuance
      of common stock
                    
                    
                    --
                    
                    
                    
                    119
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    119Treasury
      stock purchases
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (1
                    )
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (1
                    )Share-based
      compensation expense
                    
                    
                    --
                    
                    
                    
                    5
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    5Ending
      Balance – June 30, 2009
                    
                    $
                    1
                    
                    
                    $
                    1,604
                    
                    
                    $
                    (2
                    )
                    
                    $
                    (241
                    )
                    
                    $
                    (817
                    )
                    
                    $
                    7
                    
                    
                    $
                    552
 
 See
accompanying Notes to Consolidated Financial Statements.
  - 5
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 
 1.  Background
and Basis for Presentation
  Unless
the context requires otherwise, the terms “Solutia”, “Company”, “we”, “us”, and
“our” in this report refer to Solutia Inc. and its subsidiaries.  The
accompanying consolidated financial statements have not been audited but have
been prepared in conformity with accounting principles generally accepted in the
United States for interim financial information and with 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 generally accepted
accounting principles for complete financial statements.  Therefore,
this Report on Form 10-Q should be read in conjunction with Solutia’s Report on
Form 10-K for the fiscal year ended December 31, 2008, as re-casted July 27,
2009 on Form 8-K to reflect (i) our retrospective application of the
presentation of noncontrolling interests as provided by Statement of Financial
Accounting Standards (“SFAS”) No. 160,Noncontrolling Interests
in Consolidated Financial Statements, an Amendment ofARBNo. 51(“SFAS No.
160”), which was adopted by us on January 1, 2009, and (ii) presentation of our
Integrated Nylon business as discontinued operations in accordance with the
terms of the definitive sale agreement between us and an affiliate of S.K.
Capital Partners II, L.P. (“Buyer”), a New York-based private equity
firm.  In the opinion of management, these unaudited consolidated
financial statements contain all adjustments necessary to present fairly the
financial position, results of operations and cash flows for the interim periods
reported.  Financial information for the first six months of fiscal
year 2009 should not be annualized because of the seasonality of our
business.
 
 On
December 17, 2003, we and our 14 U.S. subsidiaries filed voluntary petitions for
Chapter 11 protection (the “Chapter 11 Case”).  Our subsidiaries
outside the U.S. were not included in the Chapter 11 filing.  The filing
was made to restructure our balance sheet, to streamline operations and to
reduce costs, in order to allow us to continue operations as a viable going
concern.  On February 28, 2008 (the “Effective Date”), we
consummated our reorganization under Chapter 11 of the U.S. Bankruptcy Code and
emerged from bankruptcy pursuant to our Fifth Amended Joint Plan of
Reorganization which was confirmed by the U.S. Bankruptcy Court for the Southern
District of New York on November 29, 2007 (the
“Plan”).
 
 The
consolidated financial statements for the period in which we were in bankruptcy
were prepared in accordance with the American Institute of Certified Public
Accountants’ Statement of Position 90-7, Financial Reporting by Entities in
Reorganization Under the Bankruptcy Code (“SOP 90-7”) as amended by
Financial Accounting Standards Board (“FASB”) Staff Position No. SOP 90-7-1,
An Amendment of AICPA
Statement of Position 90-7.  The consolidated financial
statements were also prepared on a going concern basis, which assumes the
continuity of operations and reflects the realization of assets and satisfaction
of liabilities in the ordinary course of business.  In accordance with
SOP 90-7, we adopted fresh-start accounting as of the Effective
Date.  However, due to the proximity of the Effective Date to the
February month end, for accounting convenience purposes, we have reported the
effects of fresh-start accounting as if they occurred on February 29,
2008.  The financial information set forth in this report, unless
otherwise expressly set forth or as the context otherwise indicates, reflects
the consolidated results of operations and financial condition of Solutia Inc.
and its subsidiaries for the periods following March 1, 2008 (“Successor”), and
of Solutia Inc. and its subsidiaries for the periods through February 29, 2008
(“Predecessor”).
  2.  Recently
Issued and Adopted Accounting Standards
 
 In June
2009, the FASB issued SFAS No. 168, The FASB Accounting Standards
Codification and the Hierarchy of Generally Accepted Accounting Principles – a
replacement of FASB No. 162 (“SFAS No. 168”).  This standard
will serve as the sole source of authoritative United States accounting and
reporting standards applicable for all non-governmental entities, with the
exception of the SEC and its staff. The Codification changes the referencing of
financial standards but is not intended to change generally accepted accounting
principles in the U.S. (“U.S. GAAP”).  This standard is effective for
interim or annual financial periods ending after September 15, 2009. Since SFAS
No. 168 does not alter existing U.S. GAAP, we do not expect it to have any
impact on our consolidated financial statements.
 
 In
May 2009, the FASB issued SFAS No. 165,Subsequent Events (“SFAS No.
165”). SFAS No. 165 establishes general standards of accounting for and
disclosure of events that occur after the balance sheet date but before
financial statements are issued.  This statement is effective for interim
and annual periods ending after June 15, 2009 and accordingly, we
adopted this guidance effective April 1, 2009. See Note 17 – Subsequent
Events for the significant events that occurred between the balance sheet date
and the date the financial statements were available to be filed, July 24,
2009.
 - 6
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 
 In April
2009, the FASB issued FASB Staff Position (“FSP”) FAS 107-1 and APB 28-1,Interim Disclosures about Fair
Value of Financial Instruments (“FSP FAS 107-1”).  FSP FAS
107-1 amends SFAS No. 107,Disclosures about Fair Value of Financial Instruments (“SFAS No. 107”)
and Accounting Principles Board Opinion No. 28,Interim Financial Reporting,
to require entities to disclose the fair value of all financial instruments
within the scope of SFAS No. 107 in all interim financial
statements.  FSP FAS 107-1 also requires disclosure of the method(s)
and significant assumptions used to estimate the fair value of those financial
instruments.  Previously, these disclosures were required only in
annual financial statements.  FSP FAS 107-1 is effective for interim
reporting periods ending after June 15, 2009.  The adoption of FSP FAS
107-1 did not have any financial impact on our consolidated financial statements
and the interim disclosures can be found at Note 11 – Fair Value of Financial
Instruments.
 
 In March
2008, the FASB issued SFAS No. 161, Disclosures about Derivative
Instruments and Hedging Activities, an amendment of FASB Statement
No. 133 (“SFAS No. 161”), which requires enhanced disclosures about
a company’s derivative instruments and hedging activities. The adoption of SFAS
No. 161 on January 1, 2009 did not have any financial impact on our consolidated
financial statements and the additional disclosures can be found at Note 10 –
Derivatives and Risk Management.
 
 In
February 2008, the FASB issued FSP FAS 157-2,Effective Date of SFAS
No. 157 (“FSP FAS No. 157-2”), which delayed the effective date of
SFAS No. 157,Fair Value
Measurements  (“SFAS No. 157”) for nonfinancial assets and
liabilities to fiscal years beginning after November 15,
2008.  Accordingly, on January 1, 2009, we adopted the additional
requirements of SFAS 157 that were deferred by FSP FAS No. 157-2. These
additional disclosures can be found at Note 3 – Discontinued
Operations.
 
 In
December 2007, the FASB issued SFAS No. 160, which establishes new accounting
and reporting standards for the noncontrolling interest in a subsidiary and for
the deconsolidation of a subsidiary through the use of disclosures that clearly
identify and distinguish between the interests of the parent and the interests
of the noncontrolling owners. The provisions of SFAS No. 160 are effective for
fiscal years beginning on or after December 15, 2008 with early adoption
prohibited.  We have retrospectively
adopted this guidance effective January 1, 2009 and as a result, have
reclassified our noncontrolling interest in a joint venture for prior periods on
the Consolidated Statement of Financial Position from Other Liabilities to a
separate line item in the equity section.  The income
attributable to the noncontrolling interest was also reclassified from Other
Income, net on the Consolidated Statement of Operations and Consolidated
Statement of Comprehensive Income (Loss) to a separate line
item.
 
 3.  Discontinued
Operations
 
 On June 1, 2009, we sold
substantially all the assets and certain liabilities, including environmental
remediation liabilities and pension liabilities of active employees, of our
Integrated Nylon business to the Buyer.  We realized a loss of $76 on
this transaction, of which, $70 was reserved in the first quarter 2009 as
described in the following paragraph.
 
 During the first quarter of 2009, in
accordance with SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, long-lived assets held for sale with a
carrying amount of $48 were written down to their fair value of zero, resulting
in a $31 loss, net of tax, which was included in income (loss) from discontinued
operations, net of tax.  The fair value of these long-lived assets was
developed using the sales agreement, which is a Level 2 fair value measurement
as defined by SFAS No. 157 under the fair value hierarchy.  Further,
and in addition to the impairment noted above, we accrued $70 during the first
quarter 2009 to reflect a valuation allowance on the collective carrying value
of the Integrated Nylon disposal group.
  - 7
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 
 A summary
of the net sales and income (loss) from discontinued operations related to our
Integrated Nylon business is as follows:
 
 SuccessorThree
      MonthsEnded
                        June
      30,2009
                      
                      
                      Three
      MonthsEnded
                        June
      30,2008Operating
      results:Net
      sales
                      
                      $
                      162
                      
                      
                      $
                      518Loss
      before income tax expense
                      
                      $
                      (13
                      )
                      
                      $
                      (10
                      )Income
      tax expense
                      
                      
                      --
                      
                      
                      
                      --Loss
      from discontinued operations, net of tax
                      
                      $
                      (13
                      )
                      
                      $
                      (10
                      )
 
  
 Successor
                        
                        
                        PredecessorSix
      MonthsEnded
                          June
      30,2009
                        
                        
                        Four
      MonthsEnded
                          June
      30,2008
                        
                        
                        Two
      MonthsEnded
                          February
      29,2008Operating
      results:Net
      sales
                        
                        $
                        370
                        
                        
                        $
                        668
                        
                        
                        $
                        318Income
      (Loss) before income tax expense
                        
                        $
                        (187
                        )
                        
                        $
                        (24
                        )
                        
                        $
                        204Income
      tax benefit
                        
                        
                        (17
                        )
                        
                        
                        --
                        
                        
                        
                        --Income
      (Loss) from discontinued operations, net of tax
                        
                        $
                        (170
                        )
                        
                        $
                        (24
                        )
                        
                        $
                        204
  The
operating results of our Integrated Nylon business reflect adjustments to our
LIFO Inventory reserve associated with this business and interest expense
associated with debt which would be repaid using sales proceeds which were not
previously allocated to the results of this business.  Conversely,
certain corporate expenses and reorganization items, net are excluded from the
operating results which had previously been allocated to Integrated
Nylon.
 
 The carrying amounts of all assets and
liabilities associated with our Integrated Nylon business have been classified
as current in the Consolidated Statement of Financial Position and consist of
the following:
 SuccessorJune
      30,
                        2009
                      
                      
                      December
      31,
                        2008Assets:Trade
      receivables, net
                      
                      $
                      --
                      
                      
                      $
                      75Miscellaneous
      receivables
                      
                      
                      5
                      
                      
                      
                      15Inventories
                      
                      
                      --
                      
                      
                      
                      336Prepaid
      expenses and other assets
                      
                      
                      --
                      
                      
                      
                      15Property,
      plant and equipment, net
                      
                      
                      --
                      
                      
                      
                      41Other
      assets
                      
                      
                      --
                      
                      
                      
                      8Assets
      of discontinued operations
                      
                      $
                      5
                      
                      
                      $
                      490Liabilities:Accounts
      payable
                      
                      $
                      31
                      
                      
                      $
                      101Accrued
      liabilities
                      
                      
                      34
                      
                      
                      
                      54Environmental
      remediation liabilities
                      
                      
                      --
                      
                      
                      
                      9Deferred
      revenue
                      
                      
                      --
                      
                      
                      
                      54Other
      liabilities
                      
                      
                      --
                      
                      
                      
                      3Postretirement
      liabilities
                      
                      
                      --
                      
                      
                      
                      81Liabilities
      of discontinued operations
                      
                      $
                      65
                      
                      
                      $
                      302
  Prior to
the sale of our Integrated Nylon business, Lyondell Chemical Company
(“Lyondell”), a guest at the Integrated Nylon Alvin, Texas plant under various
operating agreements which expire in December 2010, declared bankruptcy and
provided to us notice of their intention to exit the facility and terminate
their operating agreements early without consideration for the contractually
agreed to early exit penalties.  In response, we have withheld payment
on certain trade payables to subsidiaries of Lyondell asserting these
liabilities partially offset damages associated with the rejection of these
contracts.  Included in liabilities of discontinued operations are $29
of accounts payable associated with the receipt of raw materials prior to
Lyondell’s filing for Chapter 11 bankruptcy.  Furthermore, in
conjunction with the sale of the Integrated Nylon business, we have agreed to
reimburse the Buyer for indirect residual costs incurred by them resulting from
Lyondell’s early exit which we have estimated at $10, which is included in
accrued liabilities.
 - 8
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 
 We sold
the resins, additives and adhesives business to UCB S.A. on January 31,
2003.  During the six months ended June 30, 2009, changes related to
tax audits from 2000 through 2004 for our 100% owned subsidiary, Solutia
Deutschland GmbH, resulted in a reduction in previously unrecognized tax
benefits of $1.  Accordingly, an income tax benefit equal to this
amount was recognized in income (loss) from discontinued operations, net of tax
during the six months ended June 30, 2009.
 
 4.  Share-Based
Compensation
 
 Stock
Options
 
 We did
not grant any options to purchase shares of common stock to eligible employees
under the Solutia Inc. 2007 Management Long-Term Incentive Plan (“2007
Management Plan”) or to our non-employee directors under the Solutia Inc. 2007
Non-Employee Director Stock Compensation Plan (“2007 Director Plan”) during the
six months ended June 30, 2009.
 
 A summary
of stock option information as of June 30, 2009 is as follows:
 Options
                    
                    
                    Weighted-Average
                      Exercise Price
                    
                    
                    Weighted-Average
                      Remaining
                      Contractual Life
                    
                    
                    Aggregate
                      Intrinsic
                      Value (a)Vested
      or Expected to Vest at June 30, 2009
                    
                    
                    2,327,528
                    
                    
                    $
                    17.29
                    
                    
                    
                    8.7
                    
                    
                    $
                    --Exercisable
      at June 30, 2009
                    
                    
                    1,013,623
                    
                    
                    $
                    17.30
                    
                    
                    
                    8.7
                    
                    
                    $
                    --
 
 (a)
                  Intrinsic
      value for stock options is calculated based on the difference between the
      exercise price of the underlying awards and the quoted market price of our
      common stock as of the reporting date. If the exercise price of the
      underlying awards is higher than the quoted market price of our common
      stock as of the reporting date, the intrinsic value of the award is
      $0.
 
 During
the three and six months ended June 30, 2009, we recognized $2 and $4 of
compensation expense related to our stock options, respectively, of which $1 was
allocated to discontinued operations during the three and six months ended June
30, 2009.  For the three and four months ended June 30, 2008, we
recognized $1 of compensation expense related to our stock options, of which
less than $1 was allocated to discontinued operations.  Pre-tax
unrecognized compensation expense for stock options, net of estimated
forfeitures, was $7 as of June 30, 2009 which will be recognized as expense over
a remaining weighted-average period of one year.
 
 Restricted Stock
Awards
 
 We did
not grant any restricted stock awards under the 2007 Management Plan or the 2007
Director Plan during the six months ended June 30, 2009.
  During
the three and six months ended June 30, 2009 we recognized $3 and $7 of
compensation expense, respectively, related to our restricted stock awards, of
which $1 was allocated to discontinued operations for the three and six months
ended June 30, 2009.  For the three and four months ended June 30,
2008, we recognized $3 of compensation expense, of which less than $1 was
related to discontinued operations. Pre-tax unrecognized compensation expense
for restricted stock awards, net of estimated forfeitures, was $8 as of June 30,
2009 which will be recognized as expense over a remaining weighted-average
period of one year.
 - 9
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 
 5.  Goodwill
and Other Intangible Assets
 
 In
connection with the adoption of fresh-start accounting, goodwill and certain
intangible assets including (i) amortizable customer relationships, unpatented
technology, contract-based intangible assets, trade names and patents and (ii)
indefinite-lived trademarks not subject to amortization were recorded at their
estimated fair value on February 29, 2008.
 
 Goodwill
by reportable segment as of June 30, 2009 and December 31, 2008 is as
follows:
 
 BalanceSaflex
                      
                      $
                      205CPFilms
                      
                      
                      159Technical
      Specialties
                      
                      
                      147Total
                      
                      $
                      511
 
 Intangible
assets are summarized in aggregate as follows:
 
 Successor
                              June 30, 2009
                            
                            
                            Successor
                              December 31, 2008Estimated
                              Useful
                              Life
      in
                              Years
                            
                            
                            Gross
                              Carrying
                              Value
                            
                            
                            Accumulated
                              Amortization
                            
                            
                            Net
                              Carrying
                              Value
                            
                            
                            Estimated
                              Useful
                              Life
      in
                              Years
                            
                            
                            Gross
                              Carrying
                              Value
                            
                            
                            Accumulated
                              Amortization
                            
                            
                            Net
                              Carrying
                              ValueAmortizable
      intangible assets:Customer
      relationships
                            
                            23
      to 27
                            
                            
                            $
                            491
                            
                            
                            $
                            (24
                            )
                            
                            $
                            467
                            
                            
                            23
      to 27
                            
                            
                            $
                            486
                            
                            
                            $
                            (15
                            )
                            
                            $
                            471Technology
                            
                            5
      to 26
                            
                            
                            
                            200
                            
                            
                            
                            (13
                            )
                            
                            
                            187
                            
                            
                            5
      to 26
                            
                            
                            
                            199
                            
                            
                            
                            (9
                            )
                            
                            
                            190Trade
      names
                            
                            25
                            
                            
                            
                            13
                            
                            
                            
                            (1
                            )
                            
                            
                            12
                            
                            
                            25
                            
                            
                            
                            13
                            
                            
                            
                            (--
                            )
                            
                            
                            13Patents
                            
                            13
                            
                            
                            
                            4
                            
                            
                            
                            (--
                            )
                            
                            
                            4
                            
                            
                            13
                            
                            
                            
                            4
                            
                            
                            
                            (--
                            )
                            
                            
                            4Non
      amortizable intangible assets:Trademarks
                            
                            
                            
                            
                            
                            
                            146
                            
                            
                            
                            --
                            
                            
                            
                            146
                            
                            
                            
                            
                            
                            
                            
                            145
                            
                            
                            
                            --
                            
                            
                            
                            145Total
      Identified Intangible Assets
                            
                            
                            
                            
                            
                            $
                            854
                            
                            
                            $
                            (38
                            )
                            
                            $
                            816
                            
                            
                            
                            
                            
                            
                            $
                            847
                            
                            
                            $
                            (24
                            )
                            
                            $
                            823
 
 During
the three and six months ended June 30, 2009 we recognized $8 and
$15 of amortization expense for intangible
assets.  Amortization expense is allocated to cost of goods sold and
selling, general and administrative expenses in the Consolidated Statement of
Operations as follows:
 
 SuccessorThree
      MonthsEnded
                    June 30, 2009
                  
                  
                  Six
      MonthsEnded
                    June 30,2009Cost
      of goods sold
                  
                  $
                  3
                  
                  
                  $
                  5Selling,
      general and administrative expenses
                  
                  $
                  5
                  
                  
                  $
                  10
 
 We expect
amortization expense for intangible assets to total approximately $29 for the
year ending December 31, 2009 and $31 for each of the years ending December 31,
2010 through 2013.
  - 10
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 
  6.  Detail
of Certain Balance Sheet Accounts
 
 Components
of inventories were as follows:
 
 SuccessorInventories
                  
                  June
      30,
                    2009
                  
                  
                  December
      31,
                    2008Finished
      goods
                  
                  $
                  157
                  
                  
                  $
                  195Goods
      in process
                  
                  
                  56
                  
                  
                  
                  59Raw
      materials and supplies
                  
                  
                  71
                  
                  
                  
                  87Inventories,
      at FIFO cost
                  
                  
                  284
                  
                  
                  
                  341Excess
      of FIFO over LIFO cost
                  
                  
                  --
                  
                  
                  
                  --Total
      Inventories
                  
                  $
                  284
                  
                  
                  $
                  341
 
 Components
of property, plant, and equipment were as follows:
 
 SuccessorProperty,
      Plant and Equipment
                  
                  June
      30,
                    2009
                  
                  
                  December
      31,
                    2008Land
                  
                  $
                  34
                  
                  
                  $
                  34Leasehold
      improvements
                  
                  
                  9
                  
                  
                  
                  9Buildings
                  
                  
                  207
                  
                  
                  
                  203Machinery
      and equipment
                  
                  
                  745
                  
                  
                  
                  727Construction
      in progress
                  
                  
                  29
                  
                  
                  
                  35Total
      property, plant and equipment
                  
                  
                  1,024
                  
                  
                  
                  1,008Less
      accumulated depreciation
                  
                  
                  (92
                  )
                  
                  
                  (56
                  )Total
      Property, Plant, and Equipment, Net
                  
                  $
                  932
                  
                  
                  $
                  952
 
 Components
of accrued liabilities were as follows:
 
 SuccessorAccrued
      Liabilities
                  
                  June
      30,
                    2009
                  
                  
                  December
      31,
                    2008Wages
      and benefits
                  
                  $
                  30
                  
                  
                  $
                  57Foreign
      currency and interest rate hedge agreements
                  
                  
                  16
                  
                  
                  
                  36Restructuring
      reserves
                  
                  
                  24
                  
                  
                  
                  19Environmental
      remediation liabilities
                  
                  
                  34
                  
                  
                  
                  30Accrued
      income and other taxes payable
                  
                  
                  15
                  
                  
                  
                  16Accrued
      selling expenses
                  
                  
                  15
                  
                  
                  
                  16Accrued
      interest
                  
                  
                  1
                  
                  
                  
                  9Other
                  
                  
                  83
                  
                  
                  
                  76Total
      Accrued Liabilities
                  
                  $
                  218
                  
                  
                  $
                  259
 
 7.  Income
Taxes
 
 Income
Tax Expense
 
 We
recorded income tax expense of $10 and $3 for the three and six months ended
June 30, 2009, respectively, and income tax expense of $214 in the two months
ended February 29, 2008.  There was no income tax expense or benefit
recorded in the three or four months ended June 30,
2008.
 
 Our
income tax expense or benefit is affected by changes in unrecognized tax
benefits and the mix of income and losses in the tax jurisdictions in which we
operate.  This results in significant differences in our effective tax
rate versus the U.S. statutory rate.  For both the three and six
months ended June 30, 2009, we recognized a previously unrecognized tax benefit
of $10 due to developments in case law changing the technical merits of a tax
position.  Furthermore, for each of the periods presented, we recorded
a valuation allowance against the tax benefit in some jurisdictions in which we
experienced losses, predominantly the U.S.
 - 11
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 
 Unrecognized
Tax Benefits
 
 The total
amount of unrecognized tax benefits at June 30, 2009 and December 31, 2008 was
$152 and $157, respectively.  Included in the balances at June 30,
2009 and December 31, 2008 were $54 and $63, respectively, of unrecognized tax
benefits that, if recognized, would affect the effective tax rate.  The decrease
in the amounts is mainly the result of developments in case law changing the
technical merits of a tax position and closure of tax audits, partially offset
by tax positions related to events in the current year and currency
fluctuations.
 
 We file income tax returns in the U.S.
and various states and foreign jurisdictions.  With few exceptions, we
are no longer subject to U.S. federal, state and local, or non-U.S. income tax
examinations by tax authorities for years before 2002.  It is
reasonably possible that within the next 12 months as a result of the resolution
of federal, state and foreign examinations and appeals, and the expiration of
various statutes of limitation that the unrecognized tax benefits that would
affect the effective tax rate will decrease by a range of $0 to $11 and the
unrecognized tax benefits that would not affect the effective tax rate will
decrease by a range of $0 to $7.
 
 8.  Restructuring
Costs
 
 In an
effort to maintain competitiveness across our businesses and the geographic
areas in which we operate and to enhance the efficiency and cost effectiveness
of our support operations, we periodically initiate certain restructuring
activities which result in charges for costs associated with exit or disposal
activities, severance and/or impairment of long-lived assets.  A
summary of these activities for the periods presented are as
follows:
 
 2008 Restructuring Events
  Due to overcapacity within
the industry, a disadvantaged cost position and increasing pressure from Far
Eastern producers, we ceased the manufacturing of certain rubber chemicals at
our facility in Ruabon, Wales, United Kingdom (“Ruabon Facility”) in the third
and fourth quarters of 2008 with an expected final closure of the plant in
2014.  As a result, we expect to incur charges of $24, of which $17
has been incurred to date as detailed below, throughout the closure process as
an increase to cost of goods sold within our Technical Specialties reportable
segment, categorized as follows:  (i) $9 for employment reductions,
(ii) $5 for future contractual payments on indirect residual costs necessary to
continue providing third party operations at the site under the current lease
and operating agreement until September 1, 2009, and (iii) $10 for other costs
including clean-out and demolition.  During the three and six months
ended June 30, 2009, $1 and $2 of restructuring costs were charged to cost of
goods sold relating to employment reductions, respectively.  During
the six months ended June 30, 2009, we reduced the future contractual payment
reserve by $5 due to a renegotiation of the lease and operating agreement with
our third party operator.  The new lease and operating agreement,
which is effective from September 1, 2009 through December 31, 2013, reduced the
services to be provided and increased certain fees allowing the contract to
provide an economic benefit.  Therefore, we have a $1 reserve at June
30, 2009, after the change in estimate, to cover contractual payments on
indirect residual costs through September 1, 2009 related to the current lease
and operating agreement.  The cumulative restructuring costs charged
to cost of goods sold relating to these activities, inclusive of changes in
estimates, are $17 which is categorized as follows: (i) $9 for employment
reductions, (ii) $5 for contract termination costs, and (iii) $3 of other
restructuring costs.
  In an
effort to balance our North America production with customer demand, in the
fourth quarter of 2008, we announced plans to idle our SAFLEX® plastic
interlayer manufacturing line at our facility in Trenton, Michigan (“Trenton
Facility”) in 2009.  Consequently, we incurred charges of $15 as an
increase to cost of goods sold within our Saflex reportable segment, categorized
as follows:  (i) $6 for employment reductions, (ii) $8 for the
write-down of the related manufacturing assets, and (iii) $1 for other
restructuring costs.  During the six months ended June 30, 2009, $1 of
other restructuring costs were charged to cost of goods sold.  During
the six months ended June 30, 2009, $4 of restructuring costs were charged to
cost of goods sold relating to employment reductions.
 - 12
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 In the fourth quarter of 2008,
we initiated a general corporate restructuring targeted to increase the
efficiency and cost effectiveness of our support operations.  In the
first quarter of 2009, this project was expanded in scope to include a reduction
in operational personnel to more appropriately match our organization with
current production levels.  We expect to incur charges of $27 during
the life of this project to cover the cost of impacted headcount reductions to
be shared by all our segments.  A summary of the employee reduction
charges associated with this project during the three and six months ended June
30, 2009 and cumulative charges through June 30, 2009 are as
follows:
  Saflex
                    
                    
                    CPFilms
                    
                    
                    Technical
      Specialties
                    
                    
                    Unallocated
      and Other
                    
                    
                    TotalThree Months Ended June 30,
      2009:Cost
      of goods sold
                    
                    $
                    1
                    
                    
                    $
                    --
                    
                    
                    $
                    --
                    
                    
                    $
                    --
                    
                    
                    $
                    1Selling,
      general and administrative expenses
                    
                    
                    2
                    
                    
                    
                    2
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    4Total
                    
                    $
                    3
                    
                    
                    $
                    2
                    
                    
                    $
                    --
                    
                    
                    $
                    --
                    
                    
                    $
                    5Six Months Ended June 30,
    2009:Cost
      of goods sold
                    
                    $
                    2
                    
                    
                    $
                    1
                    
                    
                    $
                    --
                    
                    
                    $
                    1
                    
                    
                    $
                    4Selling,
      general and administrative expenses
                    
                    
                    8
                    
                    
                    
                    2
                    
                    
                    
                    1
                    
                    
                    
                    6
                    
                    
                    
                    17Research,
      development and other operating
                      expenses,
      net
                    
                    
                    1
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    1Total
                    
                    $
                    11
                    
                    
                    $
                    3
                    
                    
                    $
                    1
                    
                    
                    $
                    7
                    
                    
                    $
                    22Cumulative through June 30,
      2009:Cost
      of goods sold
                    
                    $
                    2
                    
                    
                    $
                    1
                    
                    
                    $
                    --
                    
                    
                    $
                    1
                    
                    
                    $
                    4Selling,
      general and administrative expenses
                    
                    
                    8
                    
                    
                    
                    2
                    
                    
                    
                    1
                    
                    
                    
                    9
                    
                    
                    
                    20Research,
      development and other operating
                      expenses,
      net
                    
                    
                    1
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    1Total
                    
                    $
                    11
                    
                    
                    $
                    3
                    
                    
                    $
                    1
                    
                    
                    $
                    10
                    
                    
                    $
                    25
 
 A summary
of restructuring activity during the three and six months ended June 30, 2009 is
as follows:
 
 Future
                      Contractual
                      Payments
                    
                    
                    Employment
                      Reductions
                    
                    
                    Other
      Restructuring Costs
                    
                    
                    TotalSuccessorBalance
      at December 31, 2008
                    
                    $
                    10
                    
                    
                    $
                    10
                    
                    
                    $
                    --
                    
                    
                    $
                    20Charges taken
                    
                    
                    --
                    
                    
                    
                    22
                    
                    
                    
                    --
                    
                    
                    
                    22Amounts utilized
                    
                    
                    (2
                    )
                    
                    
                    (8
                    )
                    
                    
                    --
                    
                    
                    
                    (10
                    )Balance
      at March 31, 2009
                    
                    
                    8
                    
                    
                    
                    24
                    
                    
                    
                    --
                    
                    
                    
                    32Charges taken
                    
                    
                    --
                    
                    
                    
                    6
                    
                    
                    
                    1
                    
                    
                    
                    7Amounts utilized
                    
                    
                    (1
                    )
                    
                    
                    (9
                    )
                    
                    
                    (1
                    )
                    
                    
                    (11
                    )Changes in
    estimates
                    
                    
                    (5
                    )
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (5
                    )Currency
      fluctuations
                    
                    
                    1
                    
                    
                    
                    1
                    
                    
                    
                    --
                    
                    
                    
                    2Balance
      at June 30, 2009
                    
                    $
                    3
                    
                    
                    $
                    22
                    
                    
                    $
                    --
                    
                    
                    $
                    25
 
 9.  Commitments
and Contingencies
 
 Litigation
 
 We are a
party to legal proceedings, which have arisen in the ordinary course of business
and involve claims for money damages.
 
 Except
for the potential effect of an unfavorable outcome with respect to our Legacy
Tort Claims Litigation, it is our opinion that the aggregate of all claims and
lawsuits will not have a material adverse impact on our consolidated financial
statements.
 
 Legacy
Tort Claims Litigation
 
 Pursuant
to the Amended and Restated Settlement Agreement effective February 28, 2008,
entered into by Solutia and Monsanto Company (“Monsanto”) in connection with our
emergence from Chapter 11 (the “Monsanto Settlement Agreement”), Monsanto is
responsible to defend and indemnify us for any Legacy Tort Claims as that term
is defined in the agreement, while we retain responsibility for tort claims
arising out of exposure occurring after our spinoff from Pharmacia Corporation
(“Pharmacia”) (the former Monsanto Company which is now a 100% owned subsidiary
of Pfizer, Inc.), which occurred on September 1, 1997 (the “Solutia
Spinoff”).  Solutia or its 100% owned subsidiary, Flexsys, have been
named as defendants in the following actions, and have submitted the matters to
Monsanto as Legacy Tort Claims.  However, to the extent these matters
relate to post Solutia Spinoff exposure or are not within the meaning of “Legacy
Tort Claims” within the Monsanto Settlement Agreement, we would potentially be
liable.  In addition to the below actions, Monsanto has sought
indemnity from us for certain tort and workers’ compensation claims in which
Monsanto has been named a defendant.  We have rejected such demand
pursuant to the Monsanto Settlement Agreement.  There are no pending
legal actions regarding these alleged indemnification
rights.
 - 13
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 
 Putnam County, West Virginia
Litigation.In December 2004, a purported class action lawsuit was filed
in the Circuit Court of Putnam County, West Virginia against Flexsys, Pharmacia,
Monsanto and Akzo Nobel (Solutia is not a named defendant) alleging exposure to
dioxin from Flexsys’ Nitro, West Virginia facility, which is now
closed.  The relevant production activities at the facility occurred
during Pharmacia’s ownership and operation of the facility and well prior to the
creation of the Flexsys joint venture between Pharmacia (whose interest was
subsequently transferred to us in the Solutia Spinoff) and Akzo
Nobel.  The plaintiffs are seeking damages for loss of property value,
medical monitoring and other equitable relief.
 Beginning
in February 2008, Flexsys, Monsanto, Pharmacia, Akzo Nobel and another third
party were named as defendants in approximately seventy-five individual
lawsuits, and Solutia was named in two individual lawsuits, filed in Putnam
County, West Virginia, by residents of that county.  The largely
identical complaints allege that the residents were exposed to potentially
harmful levels of dioxin particles from the Nitro
facility.  Plaintiffs did not specify the amount of their alleged
damages in their complaints.
  Escambia County, Florida Litigation.In June 2008, a group of approximately fifty property owners and business
owners in the Pensacola, Florida area filed a lawsuit in the Circuit Court for
Escambia County, Florida against Monsanto, Pharmacia, Solutia, and the plant
manager at Solutia's Pensacola plant, which was included in the sale of our
Integrated Nylon business.  The lawsuit, entitled John Allen, et al. v. Monsanto
Company, et al., alleges that the defendants are responsible for elevated
levels of PCBs in the Escambia River and Escambia Bay due to past and allegedly
continuing releases of PCBs from the Pensacola plant.  The plaintiffs
seek: (1) damages associated with alleged decreased property values caused
by the alleged contamination, and (2) remediation of the alleged
contamination in the waterways.  Plaintiffs did not specify the amount
of their alleged damages in their complaint.
 
 St. Clair County, Illinois
Litigation.In February 2009, a purported class action lawsuit
was filed in the Circuit Court of St. Clair County, Illinois against Solutia,
Pharmacia, Monsanto and two other unrelated defendants alleging the
contamination of their property from PCBs, dioxins, furans, and other alleged
hazardous substances emanating from the defendants’ facilities in Sauget,
Illinois (including our W.G. Krummrich site in Sauget).  The proposed
class is comprised of residents who live within a two-mile radius of the Sauget
facilities.  The plaintiffs are seeking damages for medical monitoring
and the costs associated with remediation and removal of alleged contaminants
from their property.
  In
addition to the purported class action lawsuit, in June 2009, four
additional individual lawsuits were filed against the same defendants (including
Solutia) comprised of claims from over seventy individual residents of Illinois
who claim they suffered illnesses and/or injuries as well as property damages as
a result of the same PCB’s, dioxins, furans, and other alleged hazardous
substances allegedly emanating from the defendants’ facilities in Sauget,
Illinois.  The plaintiffs have not identified a specific amount of alleged
damages in their complaint.
 
 Upon
assessment of the terms of the Monsanto Settlement Agreement and other defenses
available to us, we believe the probability of an unfavorable outcome to us on
the Putnam County, West Virginia, Escambia County, Florida, and St. Clair
County, Illinois litigation against us is remote and, accordingly, we have not
recorded a loss contingency.  Nonetheless, if it were subsequently
determined these matters are not within the meaning of “Legacy Tort Claims,” as
defined in the Monsanto Settlement Agreement, or other defenses to us were
unsuccessful, it is reasonably possible we would be liable for an amount which
cannot be estimated but which could have a material adverse effect on our
consolidated financial statements.
 - 14
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 Solutia
Inc. Employees’ Pension Plan Litigation
 
 Starting in October 2005,
separate purported class action lawsuits were filed by current or former
participants in our U.S. Pension Plan (the “U.S. Plan”), which were ultimately
consolidated in September 2006 into a single case.  The Consolidated
Class Action Complaint alleged three separate causes of action against the U.S.
Plan: (1) the U.S. Plan violates ERISA by terminating interest credits on prior
plan accounts at the age of 55; (2) the U.S. Plan is improperly backloaded in
violation of ERISA; and (3) the U.S. Plan is discriminatory on the basis of
age.  In September 2007, the court dismissed the plaintiffs’ second
and third claims, and by consent of the parties, certified a class action
against the U.S. Plan only with respect to plaintiffs’ claim that the U.S. Plan
violates ERISA by allegedly terminating interest credits on prior plan accounts
at the age of 55.  On June 11, 2009, the United States District Court for
the Southern District of Illinois entered a summary judgment in favor of the U.
S. Plan on the sole remaining claim against the U.S. Plan.
 
 Environmental
Liabilities
 
 In the
ordinary course of business, we are subject to numerous environmental laws and
regulations covering compliance matters or imposing liability for the costs of,
and damages resulting from, cleaning up sites, past spills, disposals and other
releases of hazardous substances.  We have incurred, and we may in the
future incur, liabilities to investigate and clean up waste or contamination at
our current facilities, properties adjacent to our current facilities or
facilities operated by third parties at where we may have disposed of waste or
other materials.  Under some circumstances, the scope of our liability
may extend to damages to natural resources for which we have accrued $2,
exclusive of the balances noted below. In almost all cases, our potential
liability arising from historical contamination is based on operations and other
events occurring at our facilities or as a result of their operation prior to
the Solutia Spinoff.
 
 Further,
under terms of the Monsanto Settlement Agreement and our Plan, we have agreed to
share responsibility with Monsanto for the environmental remediation at certain
locations outside our plant boundaries in Anniston, Alabama, and Sauget,
Illinois which were also incurred prior to the Solutia Spinoff (the “Shared
Sites”).  Under this cost-sharing arrangement, we are responsible for
the funding of environmental liabilities at the Shared Sites from the Effective
Date up to a total of $325.  Thereafter, if needed, we and Monsanto
will share responsibility equally.
 
 Reserves
for environmental remediation that we believe to be probable and estimable are
recorded appropriately as current and long-term liabilities in the Consolidated
Statement of Financial Position.  These reserves include liabilities
expected to be paid out within fifteen years.  The amounts charged to
pre-tax earnings for environmental remediation and related charges are included
in cost of goods sold and are summarized below:
  - 15
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
  TotalSuccessorBalance
      at December 31, 2008
                      
                      $
                      309Net charges
taken
                      
                      
                      1Amounts utilized
    (a)
                      
                      
                      (5
                      )Currency
      fluctuations
                      
                      
                      (1
                      )Balance
      at March 31, 2009
                      
                      
                      304Net charges
taken
                      
                      
                      3Amounts utilized
    (a)
                      
                      
                      (7
                      )Currency
      fluctuations
                      
                      
                      1Balance
      at June 30, 2009
                      
                      $
                      301Environmental
      Remediation Liabilities, current
                      
                      $
                      34Environmental
      Remediation Liabilities, long-term
                      
                      
                      267Balance
      at June 30, 2009
                      
                      $
                      301
 
 (a)
              For
      the six months ended June 30, 2009, allowable expenditures of $10 were
      reimbursed to us by a special purpose entity established with proceeds of
      stock issued by us on the Effective
Date.
 
 In
addition to accrued environmental liabilities, there are costs which have not
met the definition of probable, and accordingly, are not recorded in the
Consolidated Statement of Financial Position.  These loss
contingencies are monitored regularly for a change in fact or circumstance that
would require an accrual adjustment.  These matters involve
significant unresolved issues, including the interpretation of applicable laws
and regulations, the outcome of negotiations with regulatory authorities and
alternative methods of remediation. Because of these uncertainties, the
potential liability for existing environmental remediation may range up to two
times the amount recorded.
 
 Except as
noted below, we believe that these matters, when ultimately resolved, which may
be over an extended period of time, will not have a material adverse effect on
our Consolidated Statement of Financial Position, but could have a material
adverse effect on our Consolidated Statement of Operations in any given
period.  Our significant sites are described in more detail
below:
 
 Anniston,
Alabama:   On Aug. 4, 2003, the U.S. District Court for
the Northern District of Alabama approved a Revised Partial Consent Decree,
pursuant to which Pharmacia and Solutia are obligated to perform, among other
things, residential cleanup work and a remedial investigation/feasibility study
(“RI/FS”) as a result of PCB contamination from our Anniston plant, which
occurred prior to the Solutia Spinoff.  The residential cleanup is
proceeding and should be completed within the next two years.  Some
level of remediation of non-residential properties and creek floodplains and/or
sediment will be required in the future and we have accrued for this liability
based upon our understanding of the level and extent of contamination in these
areas, the remedial effort likely to be required by various governmental
organizations and estimated costs associated with similar remediation
projects.  We may recover some of our investigation and remediation
costs from parties, against whom we filed a cost recovery action in July 2003
but because the eventual outcome of these proceedings is uncertain, our
environmental liability at June 30, 2009 does not incorporate this potential
reimbursement.  State and Federal Natural Resource Damage Trustees
have asserted a claim for potential natural resource damage but have yet to
undertake an assessment as to the nature and extent of such
damages.  As of June 30, 2009, we have accrued $120 for all
environmental remediation projects in the Anniston, Alabama area which
represents our best estimate of the final cost liability.  Timing of
the remediation will not be established until we complete the RI/FS, a Record of
Decision is issued by the United States Environmental Protection Agency
(“USEPA”), and a consent decree is negotiated and entered by the court to cover
the selected remediation, which will take several years.
 
 Sauget,
Illinois:  A number of industries, including our W.G. Krummrich
Plant, have operated and disposed of wastes in Sauget,
Illinois.  Areas of contamination from these industrial operations,
which for our W.G. Krummrich Plant occurred prior to the Solutia Spinoff, have
been classified as part of either the Sauget Area 1 Sites or the Sauget Area 2
Sites.  We are conducting a RI/FS for the Sauget Area 1 Sites under an
Administrative Order on Consent issued on January 21, 1999.  Although
an extensive removal action for one of the Sauget Area 1 Sites was conducted
under a Unilateral Administrative Order issued on May 31, 2000, the cost and
timing of any additional required remedial actions will be established only
after we complete the RI/FS, a Record of Decision is issued by the USEPA, and a
consent decree is negotiated and entered by the court to cover the selected
remediation, which is expected within the next two years.  We have an
agreement with two other potentially responsible parties (“PRPs”) to enter into
an allocation proceeding upon issuance of the Record of Decision to resolve our
respective shares of the liability for the Sauget Area 1 Sites.  We,
in coordination with 19 other PRPs, are also required to conduct a RI/FS for the
Sauget Area 2 Sites under an Administrative Order on Consent issued effective
November 24, 2000.  We submitted the revised RI report and are
preparing the FS report with other PRPs based on interim allocations and have
agreed, upon issuance of the Record of Decision, to participate in an allocation
proceeding to fully resolve each PRP’s share of the liability for the
investigation and remediation costs.  An interim groundwater remedy
has been installed pursuant to a Unilateral Administrative Order issued on
October 3, 2002.  We anticipate that the USEPA will issue a Record of
Decision sometime in mid-2010.  Our ultimate exposure at these sites
will depend on the final remedial actions to be taken and on the level of
contribution from other PRPs.  In addition, several PRPs, including
Solutia and Pharmacia, received in June 2009 from the U.S. Department of the
Interior, on behalf of various federal and state natural resource trustees, a
notice of intent to perform and an invitation to cooperate in a natural resource
damage assessment for the Sauget Industrial Corridor.  Our best
estimate of the ultimate cost of all remedial measures that will be required at
the Sauget, Illinois area sites is $78 which we have accrued as of June 30,
2009.
  - 16
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
  W. G.
Krummrich Site:  We entered into a Consent Order under the U.S.
Resource Conservation and Recovery Act of 1976, as amended, effective May 3,
2000, to investigate and remediate soil and groundwater contamination from our
manufacturing operations at the W.G. Krummrich Plant, which occurred prior to
the Solutia Spinoff.  We conducted an extensive corrective measures
study and a Final Decision was issued by the USEPA in February 2008 setting out
the required corrective measures to be completed.  Due to the
complexity of the contamination issues at this site, certain of the corrective
measures will be performed in phases with the final remediation approach and
timing for some of the corrective measures being determined only after
investigation and pilot testing phases are completed.  Our best
estimate of the ultimate cost of all corrective measures that will be required
at the W.G. Krummrich Site is $26 which we have accrued as of June 30,
2009.
 
 We also
have accruals for remedial obligations at several of our current or former
manufacturing sites which we have owned or operated since the Solutia
Spinoff.  Our best estimate of the ultimate cost of all corrective
measures that will be required at these sites is $77 which we have accrued
as of June 30, 2009.
 
 Environmental
Agency Enforcement Actions
 
 On March 3, 2009, the USEPA issued a
Notice of Violation (“NOV”), Administrative Order (“AO”) and Reporting
Requirement (“RR”) to us concerning alleged violations of the Clean Air Act
arising out of an inspection conducted of the Indian Orchard
Plant.  The NOV describes the USEPA’s findings alleging violations of
the plant’s Title V and state operating permits related to emissions of volatile
organic compounds.  The AO orders us to comply with its Title V permit
and the National Emission Standards for Hazardous Air Pollutants, Subpart OOO
(Amino/Phenolic Resins), Subpart UU (Equipment Leaks), and General
Provisions.  The RR requires us to submit additional information
regarding certain storage vessels and associated equipment.  On March
23, 2009, we met with the USEPA to confer on this NOV, AO, and
RR.  The USEPA informed us at the meeting that it has not yet made any
decisions as to whether it will take enforcement action or what type of action
it will take with respect to this matter.  The amount of a potential
loss, if any, is not currently estimable.
 
 10.  Derivatives
and Risk Management
 
 Our
business operations give rise to market risk exposures that result from changes
in foreign currency exchange rates, interest rates and certain commodity
prices.  To manage the volatility relating to these exposures, we
periodically enter into various derivative transactions that enable us to
alleviate the adverse effects of financial market risk.  Designation
is performed on a specific exposure basis to support hedge
accounting.   The changes in fair value of these hedging
instruments are offset in part or in whole by corresponding changes in the fair
value or cash flows of the underlying exposures being hedged.  Our
approved policies and procedures do not permit the purchase or holding of any
derivative financial instruments for trading purposes, and management of
counterparty credit risk is through diversification and credit rating reviews of
the firms with whom we transact.
  - 17
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 
 Foreign Currency Exchange
Rate Risk
 
 We
manufacture and sell our products in a number of countries throughout the world
and, as a result, are exposed to movements in foreign currency exchange
rates.  We are exposed to this risk both on an intercompany and a
third-party basis.  We use foreign currency derivative instruments to
manage the volatility associated with foreign currency purchases of materials
and other assets and liabilities created in the normal course of
business.  We also enter into certain foreign currency derivative
instruments primarily to protect against exposure related to intercompany
financing transactions.  These risks are managed primarily through the
use of forward exchange contracts and purchased options with maturities of less
than 18 months.
 
 We have
chosen not to designate these instruments as hedges to allow the changes in the
fair value of these instruments to largely offset the re-measurement of the
underlying assets and liabilities in the Consolidated Statement of
Operations.  We had currency forward and option contracts to purchase
and sell $501 of currencies as of June 30, 2009 comprised principally of the
Euro, British Pound-Sterling, U.S. Dollar, Japanese Yen, Swiss Franc, and
Malaysian Ringgit.
 
 Interest Rate
Risk
 
 Interest
rate risk is primarily related to changes in interest expense from floating rate
debt.  To limit our exposure to this risk, in 2008 we entered into
interest rate swap agreements related to our $1.2 billion senior secured term
loan facility (“Term Loan”).  The interest rate swap agreements
have declining total notional amounts of $800 to $150 which are effective from
April 2010 through February 2014.  The terms of the interest rate swap
agreements require us to pay interest utilizing fixed interest rates ranging
from 4.65 percent to 4.85 percent and receive interest utilizing 1-Month LIBOR
with a floor of 3.50 percent.  Through February 2009, we designated
the interest rate swap agreements as cash flow hedges.  Because of
significant declines in interest rates and the significant difference between
the prime and LIBOR rates, we could no longer assert that we would always choose
the 1-Month LIBOR on our Term Loan.  Subsequent effectiveness testing
on a historical and prospective basis comparing our interest rate swap
agreements to the available interest rate options on our Term Loan concluded the
relationships were not highly effective.  Therefore, we discontinued
hedge accounting in February 2009 and all prospective mark-to-market gains or
losses are recognized in interest expense on the Consolidated Statement of
Operations.
 
 Commodity Price
Risk
 
 Certain
raw materials and energy resources we use are subject to price volatility caused
by weather, crude oil prices, supply conditions, political and economic
variables and other unpredictable factors.  Therefore, from time to
time, we use forward and option contracts to manage a portion of the volatility
related to anticipated energy purchases with maturities up to 12
months.  Since over 90 percent of our natural gas usage in the U.S.
was attributable to the operations of our Integrated Nylon business, we settled
all outstanding contracts to purchase natural gas in conjunction with the sale
of our Integrated Nylon business in the second quarter 2009.
 
 At June
30, 2009, we did not have any derivatives designated as hedging
instruments.  Our derivatives not designated as hedging instruments,
recorded at their respective fair values at June 30, 2009, are summarized as
follows:
 
 - 18
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
   Asset Derivatives
                    
                    Liability DerivativesConsolidated
      Statement of Financial Position Presentation
                    
                    Fair Value
                    
                    Consolidated
      Statement of Financial Position Presentation
                    
                    Fair ValueDerivatives
      not designated as hedging instruments:Interest
      rate contracts
                    Miscellaneous
      Receivables
                    
                    $
                    --
                    
                    Accrued
      Liabilities
                    
                    $
                    2Other
      Assets
                    
                    
                    --
                    
                    Other
      Liabilities
                    
                    
                    15Total interest rate
      contracts
                    
                    
                    
                    --
                    
                    
                    
                    
                    17Foreign
      exchange contracts
                    Miscellaneous
      Receivables
                    
                    
                    3
                    
                    Accrued
      Liabilities
                    
                    
                    14Total
                    
                    
                    $
                    3
                    
                    
                    
                    $
                    31
 
 For the six months ended June
30, 2009, we recognized a gain of $4 in other comprehensive income (loss) for
the period in which our interest rate contracts were designated as cash flow
hedging instruments.  During the twelve months following June 30,
2009, we expect a reclassification of $2 into earnings of the $22 of accumulated
losses on the interest rate swaps as of June 30, 2009.
 
 A summary
of the effect of our derivative instruments on the Consolidated Statement of
Operations is as follows:
 Amount
      of Gain (Loss) Recognized in
                        Consolidated Statement of
      OperationsPresentation
      of Gain (Loss) Recognized in Consolidated Statement of Operations
                      
                      Three
      Months Ended
                        June 30, 2009
                      
                      
                      Six
      Months Ended
                        June 30, 2009Derivatives
      not designated as hedging instruments:Interest
      rate contracts
                      Interest
      expense
                      
                      $
                      9
                      
                      
                      $
                      4Foreign
      exchange contracts
                      Other
      income, net
                      
                      
                      14
                      
                      
                      
                      16Commodity
      contracts
                      Income
      (Loss) from Discontinued Operations, net of tax
                      
                      
                      --
                      
                      
                      
                      (1
                      )Total
                      
                      
                      $
                      23
                      
                      
                      $
                      19
 
 11.  Fair
Value of Financial Instruments
 
 The
following table presents our assets and liabilities that are measured at fair
value on a recurring basis and are categorized using the fair value hierarchy.
The fair value hierarchy has three levels based on the reliability of the inputs
used to determine fair value.
 
 Fair Value Measurements at June 30,
      2009Total
                    
                    
                    Quoted
      Prices in Active Markets for Identical Assets
                      (Level 1)
                    
                    
                    Significant
      Other Observable Inputs
                      (Level 2)
                    
                    
                    Significant
      Unobservable Inputs
                      (Level 3)Assets:Restricted
      cash (a)
                    
                    $
                    16
                    
                    
                    $
                    16
                    
                    
                    $
                    --
                    
                    
                    $
                    --Derivatives
      – Foreign Exchange (b)
                    
                    
                    3
                    
                    
                    
                    --
                    
                    
                    
                    3
                    
                    
                    
                    --Total
                    
                    $
                    19
                    
                    
                    $
                    16
                    
                    
                    $
                    3
                    
                    
                    $
                    --Liabilities:Derivatives
      – Foreign Exchange (b)
                    
                    $
                    14
                    
                    
                    $
                    --
                    
                    
                    $
                    14
                    
                    
                    $
                    --Derivatives
      – Interest Rates (c)
                    
                    
                    17
                    
                    
                    
                    --
                    
                    
                    
                    17
                    
                    
                    
                    --Total
                    
                    $
                    31
                    
                    
                    $
                    --
                    
                    
                    $
                    31
                    
                    
                    $
                    --
 
 (a)
              Includes
      cash invested in money market funds restricted for funding of
      environmental remediation and other legacy liabilities.(b)
              Includes
      foreign currency forward and option contracts which are valued using an
      income approach based on the present value of the forward rate less the
      contract rate multiplied by the notional amount.(c)
              Includes
      interest rate swaps which are valued using counterparty quotes, which use
      discounted cash flows and the then-applicable forward interest
      rates.
  - 19
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 The
recorded amounts of cash, trade receivables, accounts payable and short-term
debt approximate their fair values at June 30, 2009 due to the short maturity of
these instruments.  The estimated fair value of our long-term debt at
June 30, 2009 is $1,099.  The fair value of our assets and liabilities
previously stated are estimated by the use of estimates obtained from
brokers.
 
 12.  Pension
Plans and Other Postretirement Benefits
 
 In
preparation for the sale of our Integrated Nylon business, we divided our U.S.
Plan into the following three plans, effective February 28, 2009: (i) Nylon
Pension Plan; (ii) Solutia Pension Plan; and (iii) Solutia Union Pension
Plan.  The Nylon Pension Plan covers all active employees of the
Integrated Nylon business.  In accordance with the terms of the sale
agreement as further described in Note 3 – Discontinued Operations, the Nylon
Pension Plan was assumed by the Buyer at the completion of the
sale.
 
 As a
result of the division of the U.S. Plan into three plans, we were required to
perform a funding analysis in accordance with the Pension Protection Act of 2006
(“PPA”).  The result of this analysis is the Solutia Pension Plan will
be prohibited by the PPA from paying out lump sum benefits, until such time as
the plan assets rise above the 60 percent funding level for up to half a lump
sum or above the 80 percent funding level for a full lump sum.  For
participants in the Solutia Union Pension Plan, the lump sum restrictions in the
PPA do not apply until January 1, 2010.
 
 Components of Net Periodic Benefit
Cost
 
 For the three months ended June 30,
2009 and 2008, along with the six months ended June 30, 2009, the four months
ended June 30, 2008 and the two months ended February 29, 2008 our pension and
healthcare and other benefit costs for continuing operations were as
follows:
 
 Pension BenefitsSuccessorThree
      MonthsEnded
                      June 30, 2009
                    
                    
                    Three MonthsEnded
                      June 30, 2008Service
      costs for benefits earned
                    
                    $
                    --
                    
                    
                    $
                    1Interest
      costs on benefit obligation
                    
                    
                    15
                    
                    
                    
                    16Assumed
      return on plan assets
                    
                    
                    (15
                    )
                    
                    
                    (19
                    )Amortization
      of actuarial loss
                    
                    
                    1
                    
                    
                    
                    --Total
                    
                    $
                    1
                    
                    
                    $
                    (2
                    )
 
 Pension BenefitsSuccessor
                            
                            
                            PredecessorSix
      MonthsEnded
                              June 30, 2009
                            
                            
                            Four
      MonthsEnded
                              June 30, 2008
                            
                            
                            Two
      MonthsEnded
                              February 29, 2008Service
      costs for benefits earned
                            
                            $
                            1
                            
                            
                            $
                            1
                            
                            
                            $
                            1Interest
      costs on benefit obligation
                            
                            
                            30
                            
                            
                            
                            22
                            
                            
                            
                            11Assumed
      return on plan assets
                            
                            
                            (29
                            )
                            
                            
                            (25
                            )
                            
                            
                            (13
                            )Amortization
      of actuarial loss
                            
                            
                            1
                            
                            
                            
                            --
                            
                            
                            
                            2Settlement
      charges
                            
                            
                            --
                            
                            
                            
                            --
                            
                            
                            
                            1Total
                            
                            $
                            3
                            
                            
                            $
                            (2
                            )
                            
                            $
                            2
 
  - 20
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
 
 Healthcare and Other
    BenefitsSuccessorThree
      MonthsEnded
                      June 30, 2009
                    
                    
                    Three
      MonthEnded
                      June 30, 2008Service
      costs for benefits earned
                    
                    $
                    1
                    
                    
                    $
                    1Interest
      costs on benefit obligation
                    
                    
                    3
                    
                    
                    
                    4Assumed
      return on plan assets
                    
                    
                    (1
                    )
                    
                    
                    (1
                    )Amortization
      of actuarial gain
                    
                    
                    (1
                    )
                    
                    
                    --Total
                    
                    $
                    2
                    
                    
                    $
                    4
 
 Healthcare and Other
    BenefitsSuccessor
                    
                    
                    PredecessorSix
      MonthsEnded
                      June 30, 2009
                    
                    
                    Four
      MonthsEnded
                      June 30, 2008
                    
                    
                    Two
      MonthsEnded
                      February 29, 2008Service
      costs for benefits earned
                    
                    $
                    2
                    
                    
                    $
                    2
                    
                    
                    $
                    1Interest
      costs on benefit obligation
                    
                    
                    7
                    
                    
                    
                    5
                    
                    
                    
                    4Assumed
      return on plan assets
                    
                    
                    (2
                    )
                    
                    
                    (2
                    )
                    
                    
                    --Prior
      service gains
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (3
                    )Amortization
      of actuarial gain
                    
                    
                    (3
                    )
                    
                    
                    --
                    
                    
                    
                    --Total
                    
                    $
                    4
                    
                    
                    $
                    5
                    
                    
                    $
                    2
  Settlements
 
 As a
result of the assumption of the Nylon Pension Plan by the Buyer, we recognized a
settlement charge of $20 which was recorded in income (loss) from discontinued
operations, net of tax during the three months ended June 30,
2009.  We recorded a pension settlement charge of $1 in the two months
ended February 29, 2008 resulting from the significant amount of lump sum
distributions from our Belgium retirement plan.
 
 Employer Contributions
 
 According
to IRS funding rules, we expect to make approximately $26 in pension
contributions to our Solutia and Solutia Union Pension Plans in
2009.  We made $10 of these required 2009 contributions during the six
months ended June 30, 2009.  We also expect to be required to fund
approximately $10 in pension contributions to our foreign pension plans in 2009,
of which $3 was made during the six months ended June 30, 2009.
 
 13.  Capital
Stock
 
 On
June 24, 2009 we completed a public offering (“Stock Offering”) of 24,738,641
shares of common stock, including the over-allotment option as exercised by the
underwriters of the offering, for $5.00 per share.  Net proceeds were
$119, after deducting underwriting discounts and commissions.
  14. 
Debt Obligations
 
 On the
Effective Date, we entered into certain financing agreements to borrow up to
$2.05 billion from a syndicate of lenders (the “Financing
Agreements”).  The Financing Agreements consisted of (i) a $450 senior
secured asset-based revolving credit facility (“Revolver”), (ii) our Term Loan
and (iii) a $400 senior unsecured bridge facility which was subsequently retired
in 2008.  On May 5, 2009 $74 of senior unsecured term debt, due 2011,
at a price of 95 percent of its original principal amount was issued by our 100%
owned German subsidiary, Flexsys Verkauf GmbH (the “Senior Term
Loan”).  Net proceeds, after incorporating the original issue discount
and debt issuance fees, of $66, were used to pay down our
Revolver.  On June 25, 2009, we subsequently repaid the Senior Term
Loan utilizing a portion of the proceeds from our Stock
Offering.
 We had
short-term borrowings of $9 and $25 at June 30, 2009 and December 31, 2008,
respectively, comprised of short-term debt and other lines of
credit.
 - 21
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
   Our
long-term debt consisted of the following as of June 30, 2009 and December 31,
2008:
 SuccessorJune
      30,
                      2009
                    
                    
                    December
      31,
                      2008Term
      Loan, due 2014
                    
                    $
                    1,182
                    
                    
                    $
                    1,188Revolver,
      due 2013
                    
                    
                    --
                    
                    
                    
                    183Total principal
      amount
                    
                    
                    1,182
                    
                    
                    
                    1,371Less
      current portion of long-term debt
                    
                    
                    (12
                    )
                    
                    
                    (12
                    )Total
                    
                    $
                    1,170
                    
                    
                    $
                    1,359
 
 Maximum
availability under the Revolver is limited to the lesser of $450 or the amount
of our borrowing base, as defined, but generally calculated as a percentage of
allowable inventory and trade receivables.  In addition to outstanding
borrowings, availability is further reduced by outstanding letters of
credit. Availability under the Revolver was $128 and $193 as of
June 30, 2009 and December 31, 2008, respectively.  The weighted
average interest rate on our total debt outstanding was 7.3 percent
and 7.7 percent at June 30, 2009 and December 31, 2008,
respectively. Our weighted average interest rate on short-term debt
outstanding was 7.5 percent and 4.2 percent at June 30, 2009 and
December 31, 2008, respectively.
  The
Revolver bears interest, at our option, at LIBOR or the prime rate plus an
applicable margin. As of June 30, 2009, the applicable margin for the LIBOR
and prime rate loans in the Revolver were 1.75 percent and 0.75 percent,
respectively. The Term Loan bears interest at our option, at LIBOR with a
floor of 3.50 percent through the fourth anniversary of the Effective Date plus
5.00 percent, or at the prime rate plus 4.00 percent.  Of the amount
outstanding on the Term Loan at June 30, 2009, $900 is protected by a LIBOR cap
of 4.25 percent until April 2010.  Interest for the Revolver and Term
Loan is payable (i) with respect to LIBOR loans, on the last day of each
relevant interest period (defined as one, two, three or six months or other
periods available to all lenders under each facility) and, in the case of any
interest period longer than three months, on each successive date
three months after the first day of such interest period, and (ii) with
respect to prime rate loans, quarterly in arrears.
  Our
current subsidiaries CPFilms Inc., Flexsys America L.P., Flexsys America Co.,
Monchem International, Inc., Solutia Business Enterprises Inc., Solutia
Inter-America, Inc., Solutia Overseas, Inc., Solutia Systems, Inc., S E
Investment LLC and future subsidiaries as defined by the Financing Agreements,
subject to certain exceptions (the “Guarantors”) are guarantors of our
obligations under the Financing Agreements.  The Financing Agreements
and the related guarantees are secured by liens on substantially all of our and
the Guarantors’ present and future assets.
  We are
required to make mandatory repayments of the Financing Agreements in connection
with asset sales and certain other events subject to certain
exceptions.  We are required to pay 1 percent of the principal of the
Term Loan annually via quarterly payments.  In addition, on an annual
basis and subject to our leverage position at December 31st of each
year, we are required to repay the Term Loan with a portion of excess cash flow
generated during the year, as defined in the Financing Agreements.  If
net leverage is less than 3.0x or greater than or equal to 3.0x, then we are
required to repay 25 percent or 50 percent, respectively, of excess cash flow
generated during the year.  Excess cash flow is generally defined as
EBITDA less interest, capital expenditures, taxes, and amortization of debt,
plus or minus working capital changes and other adjustments.  Any
portion of the Term Loan that is repaid through mandatory prepayments or
voluntarily repaid may not be reborrowed.  Furthermore, voluntary
prepayments or amendments to the Term Loan are subject to a prepayment premium
or fee of 2 percent after the first anniversary and prior to the second
anniversary of the Effective Date and 1 percent after the second anniversary and
prior to the third anniversary of the Effective Date.  We are not
subject to any prepayment premiums or fees for amendments after the third
anniversary of the Effective Date.
  The
Financing Agreements include a number of customary covenants and events of
default, including the maintenance of certain financial covenants that restrict
our ability to, among other things, incur additional debt; make certain
investments; pay dividends, repurchase stock, sell certain assets or merge with
or into other companies; enter into new lines of business; make capital
expenditures; and prepay, redeem or exchange our debt.  The financial
covenants are (i) total leverage ratio, (ii) fixed charge coverage ratio and
(iii) a capital expenditure cap as defined by the Financing Agreements. We
were in compliance with all applicable covenants as of June 30,
2009.
 - 22
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
  15. Segment
Data
 
 We are a
global manufacturer and marketer of a variety of high-performance chemical-based
materials, which are used in a broad range of consumer and industrial
applications.  Our operations are managed and reported in three
reportable operating segments, consisting of Saflex, CPFilms and Technical
Specialties.
  The
Saflex reportable segment is a global manufacturer of performance films for
laminated safety glass.  The CPFilms reportable segment is a
manufacturer of performance films for after-market applications which add
functionality to glass.  The Technical Specialties reportable segment
is a global manufacturer of specialty products such as chemicals for the rubber
industry, heat transfer fluids and aviation hydraulic fluids.  The
major products by reportable segment are as follows:
 
 Reportable
      Segment
                          
                          ProductsSaflex
                          
                          ·SAFLEX®
      plastic interlayer
                            ·Specialty
      intermediate Polyvinyl Butyral resin and plasticizerCPFilms
                          
                          ·LLUMAR®,
      VISTA®, GILA® and FORMULA ONE PERFORMANCE AUTOMOTIVE FILMS® professional
      and retail window films
                            ·Other
      enhanced polymer films for industrial customersTechnical
      Specialties
                          
                          ·CRYSTEX®
      insoluble sulphur
                            ·SANTOFLEX®
      antidegradants
                            ·SANTOCURE®
      and PERKACIT® primary and ultra accelerators
                            ·THERMINOL®
      heat transfer fluids
                            ·SKYDROL®
      aviation hydraulic fluids
                            ·SKYKLEEN®
      brand of aviation
solvents
 
 The
performance of our operating segments is evaluated based on segment profit,
defined as earnings before interest expense, income taxes, depreciation and
amortization less net income attributable to noncontrolling interests and
reorganization items, net (“EBITDA”). Segment profit includes selling,
general and administrative, research, development and other operating expenses,
gains and losses from asset dispositions and restructuring charges, net income
attributable to noncontrolling interests and other income and expense items that
can be directly attributable to the segment.  Certain operations,
expenses and other items that are managed outside the reportable segments are
reported as Unallocated and Other.  Unallocated and Other is comprised
of corporate expenses, adjustments to our LIFO valuation reserve, adjustments to
our environmental remediation liabilities, equity earnings from affiliates,
other income and expense items including currency gains/losses, gains and losses
from asset dispositions and restructuring charges that are not directly
attributable to the reportable segments in addition to operating segments that
do not meet the quantitative threshold for determining reportable
segments.  There were no inter-segment sales in the periods presented
below.
 
 Segment
data for the three months ended June 30, 2009 and 2008, along with segment data
for the six months ended June 30, 2009, four months ended June 30, 2008 and the
two months ended February 29, 2008, respectively are as
follows:
 - 23
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
  
 SuccessorThree
      MonthsEnded
                                June 30, 2009
                              
                              
                              Three
      MonthsEnded
                                June 30, 2008Net
                                Sales
                              
                              
                              Profit
                                (Loss)
                              
                              
                              Net
                                Sales
                              
                              
                              Profit
                                (Loss)Reportable
      Segments:Saflex
                              
                              $
                              160
                              
                              
                              $
                              35
                              
                              
                              $
                              220
                              
                              
                              $
                              17CPFilms
                              
                              
                              54
                              
                              
                              
                              12
                              
                              
                              
                              71
                              
                              
                              
                              16Technical
      Specialties
                              
                              
                              190
                              
                              
                              
                              62
                              
                              
                              
                              275
                              
                              
                              
                              39Reportable
      Segment Totals
                              
                              
                              404
                              
                              
                              
                              109
                              
                              
                              
                              566
                              
                              
                              
                              72Unallocated
      and Other
                              
                              
                              6
                              
                              
                              
                              (19
                              )
                              
                              
                              11
                              
                              
                              
                              (3
                              )Total
                              
                              
                              410
                              
                              
                              
                              90
                              
                              
                              
                              577
                              
                              
                              
                              69Reconciliation
      to Consolidated Totals:Depreciation and
      amortization
                              
                              
                              
                              
                              
                              
                              (26
                              )
                              
                              
                              
                              
                              
                              
                              (27
                              )Interest
expense
                              
                              
                              
                              
                              
                              
                              (30
                              )
                              
                              
                              
                              
                              
                              
                              (48
                              )Net income attributable to noncontrolling interest
                              
                              
                              
                              
                              
                              
                              1
                              
                              
                              
                              
                              
                              
                              
                              3Consolidated
      Totals:Net
      Sales
                              
                              $
                              410
                              
                              
                              
                              
                              
                              $
                              577Income
      (Loss) from Continuing
                                Operations
      Before Income Tax Expense
                              
                              
                              
                              
                              
                              $
                              35
                              
                              
                              
                              
                              
                              
                              $
                              (3
                              )
  
 Successor
                                      
                                      
                                      PredecessorSix
      MonthsEnded
                                        June 30, 2009
                                      
                                      
                                      Four
      MonthsEnded
                                        June 30, 2008
                                      
                                      
                                      Two
      MonthsEnded
                                        February 29, 2008Net
                                        Sales
                                      
                                      
                                      Profit
                                        (Loss)
                                      
                                      
                                      Net
                                        Sales
                                      
                                      
                                      Profit
                                        (Loss)
                                      
                                      
                                      Net
                                        Sales
                                      
                                      
                                      Profit
                                        (Loss)Reportable
      Segments:Saflex
                                      
                                      $
                                      293
                                      
                                      
                                      $
                                      54
                                      
                                      
                                      $
                                      288
                                      
                                      
                                      $
                                      19
                                      
                                      
                                      $
                                      125
                                      
                                      
                                      $
                                      16CPFilms
                                      
                                      
                                      88
                                      
                                      
                                      
                                      13
                                      
                                      
                                      
                                      94
                                      
                                      
                                      
                                      19
                                      
                                      
                                      
                                      39
                                      
                                      
                                      
                                      9Technical
      Specialties
                                      
                                      
                                      357
                                      
                                      
                                      
                                      118
                                      
                                      
                                      
                                      363
                                      
                                      
                                      
                                      51
                                      
                                      
                                      
                                      164
                                      
                                      
                                      
                                      40Reportable
      Segment Totals
                                      
                                      
                                      738
                                      
                                      
                                      
                                      185
                                      
                                      
                                      
                                      745
                                      
                                      
                                      
                                      89
                                      
                                      
                                      
                                      328
                                      
                                      
                                      
                                      65Unallocated
      and Other
                                      
                                      
                                      11
                                      
                                      
                                      
                                      (44
                                      )
                                      
                                      
                                      14
                                      
                                      
                                      
                                      (10
                                      )
                                      
                                      
                                      7
                                      
                                      
                                      
                                      (2
                                      )Total
                                      
                                      
                                      749
                                      
                                      
                                      
                                      141
                                      
                                      
                                      
                                      759
                                      
                                      
                                      
                                      79
                                      
                                      
                                      
                                      335
                                      
                                      
                                      
                                      63Reconciliation
      to Consolidated Totals:Depreciation and
      amortization
                                      
                                      
                                      
                                      
                                      
                                      
                                      (51
                                      )
                                      
                                      
                                      
                                      
                                      
                                      
                                      (36
                                      )
                                      
                                      
                                      
                                      
                                      
                                      
                                      (11
                                      )Interest
expense
                                      
                                      
                                      
                                      
                                      
                                      
                                      (67
                                      )
                                      
                                      
                                      
                                      
                                      
                                      
                                      (65
                                      )
                                      
                                      
                                      
                                      
                                      
                                      
                                      (21
                                      )Reorganization items,
      net
                                      
                                      
                                      
                                      
                                      
                                      
                                      --
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      --
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      1,433Net income attributable to noncontrolling interest
                                      
                                      
                                      
                                      
                                      
                                      
                                      1
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      3
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      --Consolidated
      Totals:Net
      Sales
                                      
                                      $
                                      749
                                      
                                      
                                      
                                      
                                      
                                      $
                                      759
                                      
                                      
                                      
                                      
                                      
                                      $
                                      335Income
      (Loss) from Continuing
                                        Operations
      Before Income Tax Expense
                                      
                                      
                                      
                                      
                                      
                                      $
                                      24
                                      
                                      
                                      
                                      
                                      
                                      
                                      $
                                      (19
                                      )
                                      
                                      
                                      
                                      
                                      
                                      $
                                      1,464
  - 24
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
  16.  Earnings
(Loss) Per Share
  The following table presents the net
income (loss) used in the basic and diluted earnings (loss) per share and
reconciles weighted-average number of shares used in the basic earnings (loss)
per share calculation to the weighted-average number of shares used to compute
diluted earnings (loss) per share.
 
 SuccessorThree
      Months Ended
                            June 30, 2009
                          
                          
                          Three
      Month Ended
                            June 30, 2008Consolidated
      Statement of Operations Results:Income
      (Loss) from Continuing Operations
                          
                          $
                          25
                          
                          
                          $
                          (3
                          )Net
      Income attributable to noncontrolling interest
                          
                          
                          1
                          
                          
                          
                          3Income
      (Loss) from Continuing Operations attributable to Solutia
                          
                          $
                          24
                          
                          
                          $
                          (6
                          )Consolidated
      Statement of Operations Results:Income
      (Loss) from Continuing Operations attributable
                            to
      Solutia
                          
                          $
                          24
                          
                          
                          $
                          (6
                          )Loss
      from Discontinued Operations
                          
                          
                          (14
                          )
                          
                          
                          (10
                          )Net
      Income (Loss) attributable to Solutia
                          
                          $
                          10
                          
                          
                          $
                          (16
                          )Weighted-average
      number of shares outstanding used for basic earnings (loss) per
      share
                          
                          
                          95.5
                          
                          
                          
                          59.8Non-vested
      restricted shares
                          
                          
                          0.1
                          
                          
                          
                          --Stock
      options
                          
                          
                          --
                          
                          
                          
                          --Warrants
                          
                          
                          --
                          
                          
                          
                          --Weighted-average
      number of shares outstanding and common equivalent shares used for diluted
      earnings (loss) per share
                          
                          
                          95.6
                          
                          
                          
                          59.8
   Successor
                      
                      
                      PredecessorSix
      Months Ended
                        June 30, 2009
                      
                      
                      Four
      Months Ended
                        June 30, 2008
                      
                      
                      Two
      Months Ended
                        February 29, 2008Consolidated
      Statement of Operations Results:Income
      (Loss) from Continuing Operations
                      
                      $
                      21
                      
                      
                      $
                      (19
                      )
                      
                      $
                      1,250Net
      Income attributable to noncontrolling interest
                      
                      
                      1
                      
                      
                      
                      3
                      
                      
                      
                      --Income
      (Loss) from Continuing Operations attributable to Solutia
                      
                      $
                      20
                      
                      
                      $
                      (22
                      )
                      
                      $
                      1,250Consolidated
      Statement of Operations Results:Income
      (Loss) from Continuing Operations attributable
                        to
      Solutia
                      
                      $
                      20
                      
                      
                      $
                      (22
                      )
                      
                      $
                      1,250Income
      (Loss) from Discontinued Operations
                      
                      
                      (169
                      )
                      
                      
                      (24
                      )
                      
                      
                      204Net
      Income (Loss) attributable to Solutia
                      
                      $
                      (149
                      )
                      
                      $
                      (46
                      )
                      
                      $
                      1,454Weighted-average
      number of shares outstanding used for basic earnings (loss) per
      share
                      
                      
                      94.3
                      
                      
                      
                      59.8
                      
                      
                      
                      104.5Non-vested
      restricted shares
                      
                      
                      0.1
                      
                      
                      
                      --
                      
                      
                      
                      --Stock
      options
                      
                      
                      --
                      
                      
                      
                      --
                      
                      
                      
                      --Warrants
                      
                      
                      --
                      
                      
                      
                      --
                      
                      
                      
                      --Weighted-average
      number of shares outstanding and common equivalent shares used for diluted
      earnings (loss) per share
                      
                      
                      94.4
                      
                      
                      
                      59.8
                      
                      
                      
                      104.5
 
 During
the three and six months ended June 30, 2009, 0.6 million shares of restricted
stock and 2.5 million stock options, respectively, were outstanding and could
potentially dilute basic earnings per share in the future, but were not included
in the computation of diluted earnings per share for the period because they
were antidilutive.
 - 25
-
 SOLUTIA
INC.
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (Dollars
in millions, except per share amounts or otherwise noted)
 (Unaudited)
  17.  Subsequent
Events
 During July 2009, the
Executive Compensation and Development Committee of the Board of Directors
(“ECDC”) approved the grant of 2,343,257 shares of restricted stock awards to
eligible employees under the 2007 Management Plan.  Approximately two
thirds of these grants to eligible employees vest upon completion of a service
condition and the remaining one third of these grants vest based on the
attainment of certain performance and market conditions.  The service
condition grants vest 40 percent on both July 1, 2010 and 2011 and 20 percent on
July 1, 2012.  Additionally, the ECDC approved the 2009 grant
of 56,938 shares of common stock in aggregate to our non-employee directors
under the 2007 Director Plan.
 
 During July 2009, our Board of
Directors approved a net operating loss shareholder rights plan (“Rights Plan”)
which is intended to avoid an ownership change within the meaning of Section 382
of the Internal Revenue Code and thereby preserve our ability to utilize certain
net operating loss carryforwards and other tax benefits.  Our adoption
of the Rights Plan effectively attaches one right (“Right”) to each outstanding
share of our common stock, to stockholders of record at the close of business on
July 28, 2009.  If the Rights are triggered, each Right may entitle
the holder of the Right to purchase our common stock at a discount to its market
price, subject to certain exceptions as set forth in the Rights Plan.  The
Rights Agreement has been attached as an exhibit to this Quarterly Report on
Form 10-Q.  The summary description of the Rights Agreement does not
purport to be complete and is qualified in its entirety by reference to the
Rights Agreement, which is incorporated herein by reference.
  - 26
-
 Item
2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
 
 This
section includes forward-looking statements within the meaning of Section 27A of
the Securities Act of 1933 and Section 21E of the Securities Exchange Act of
1934.  These forward-looking statements include all statements
regarding expected future financial position, results of operations,
profitability, cash flows and liquidity.  Important factors that could
cause actual results to differ materially from the expectations reflected in the
forward-looking statements herein include, among others, our ability to comply
with the terms of our Financing Agreements, our ability to reduce our overall
leveraged position, general economic, business and market conditions; customer
acceptance of new products; raw material and energy costs or shortages; limited
access to capital resources; currency and interest rate fluctuations; increased
competitive and/or customer pressure; gain or loss of significant customers;
compression of credit terms with suppliers; exposure to product liability and
other litigation; changes in cost of environmental remediation obligations and
other environmental liabilities; changes in accounting principles generally
accepted in the U.S.; ability to implement cost reduction initiatives in a
timely manner; geopolitical instability; and changes in pension and other
postretirement assumptions.
 
 Overview
 
 We are a
leading global manufacturer and marketer of a variety of high-performance
chemical-based materials that are used in a broad range of consumer and
industrial applications.
 
 We report
our operations in three segments: Saflex, CPFilms and Technical
Specialties.  The major products by reportable segment are as
follows:
 
 Reportable
      Segment
                              
                              ProductsSaflex
                              
                              ·SAFLEX®
      plastic interlayer
                                ·Specialty
      intermediate Polyvinyl Butyral resin and plasticizerCPFilms
                              
                              ·LLUMAR®,
      VISTA®, GILA® and FORMULA ONE PERFORMANCE AUTOMOTIVE FILMS® professional
      and retail window films
                                ·Other
      enhanced polymer films for industrial customersTechnical
      Specialties
                              
                              ·CRYSTEX®
      insoluble sulphur
                                ·SANTOFLEX®
      antidegradants
                                ·SANTOCURE®
      and PERKACIT® primary and ultra accelerators
                                ·THERMINOL®
      heat transfer fluids
                                ·SKYDROL®
      aviation hydraulic fluids
                                ·SKYKLEEN®
      brand of aviation
solvents
 
 See Note
15 – Segment Data of the accompanying consolidated financial statements for
further information regarding our reportable segments.
 Significant
Developments and Strategic Actions
 
 On June 1, 2009, we completed the sale
of our Integrated Nylon business to an affiliate of S.K. Capital Partners II,
L.P. (“Buyer”), a New York-based private equity firm for $50 million in cash,
subject to adjustment for changes in working capital, and a two percent equity
stake in a new company formed to hold all of the assets and certain liabilities
of the Integrated Nylon business, including environmental, employee and pension
liabilities of active employees.  We will also receive an additional
$4 million of cash in four annual installments beginning on September 1,
2011.  We used the proceeds from the sale to pay down debt under our
$450 million senior secured asset-based revolving credit facility
(“Revolver”).  Completion of the sale of the Integrated Nylon business
completes the transformation of Solutia into a pure-play performance materials
and specialty chemicals company.
 
 On June
24, 2009 we completed a public offering of 24.7 million shares of common stock,
including the over-allotment option as exercised by the underwriters of the
offering, for $5.00 per share.  Net proceeds, after deducting
underwriting discounts and commissions, of $119 million were used to fully repay
our $74 million German term loan and for general corporate
purposes.
 - 27
-
 Combined
Quarterly Financial Results of the Predecessor and Successor
 
 Our emergence from
bankruptcy resulted in our adoption of fresh-start accounting on February 29,
2008.  In accordance with Generally Accepted Accounting Principles,
the accompanying Consolidated Statements of Operations and Cash Flows presents
the results of operations and the sources and uses of cash for (i) the two
months ended February 29, 2008 of the Predecessor and (ii) the four months ended
June 30, 2008 of the Successor.  However, for purposes of management’s
discussion and analysis of the results of operations and the sources and uses of
cash in this Form 10-Q, we have combined the prior year results of operations
for the Predecessor and the Successor.  The results of operations of
the Predecessor and Successor are not comparable due to the change in basis
resulting from the emergence from bankruptcy.  This combined
presentation is being made solely to explain the changes in results of
operations for the periods presented in the financial statements.  We
then compare the combined results of operations and the sources and uses of cash
for the six months ended June 30, 2008 with the corresponding period in the
current year.
 
 We
believe the combined results of operations for the six months ended June 30,
2008 provide management and investors with a more meaningful perspective on our
financial and operational performance and trends than if we did not combine the
results of operations of the Predecessor and the Successor in this
manner.
 
 Summary
Results of Operations
 
 In the
second quarter 2009, we reported sales of $410 million, a 29 percent
decrease as compared to $577 million reported in the second quarter
2008.  The decrease was driven by lower sales volumes and unfavorable
currency exchange rate fluctuations, partially offset by higher selling
prices.  Our second quarter 2009 gross profit margin of 30 percent, an
increase from 18 percent versus the same period in 2008, benefited from
execution of significant cost reduction actions identified or initiated in the
fourth quarter 2008, better plant performance, lower costs on raw material and
energy and the lack of bankruptcy emergence fresh-start accounting impacts
realized in the second quarter 2008.  Selling, general and
administrative expenses were $54 million, or 13 percent of sales as compared to
$67 million or 12 percent of net sales in the same period in
2008.  The decrease in selling, general and administrative expenses is
due to reduced spending resulting from cost containment actions and lower net
sales.
 
 In the
six months ended June 30, 2009, we reported sales of $749 million, a 31
percent decrease as compared to $1,094 million reported in the same period in
2008, which was driven by lower sales volumes and unfavorable currency exchange
rate fluctuations, partially offset by higher selling prices.  We
reported a gross profit margin of 27 percent, an increase from 20 percent
versus the same period in 2008.  The increase in our gross profit
margin is primarily related to the execution of the aforementioned cost
reduction programs, better plant performance, lower raw material and energy
costs and the lack of bankruptcy emergence fresh-start accounting
impacts.  Selling, general and administrative expenses were $104
million, or 14 percent of sales as compared to $131 million or 12 percent of net
sales in the same period in 2008. The decrease in selling, general and
administrative expenses is due to reduced spending resulting from cost
containment actions and lower net sales.
 
 We
generated $148 million of cash from operations in the six months ended June 30,
2009 as compared to usage of $437 million in the same period in
2008.  The increase is primarily attributable to a lack of
reorganization activities in 2009 which required a cash usage of $375 million,
primarily to facilitate our emergence from bankruptcy.  The remaining
increase of $210 million is due to lower payments on interest expense and our
postretirement obligations, lower working capital requirements, reduced payout
of our employee annual incentive plan and management’s focus on monetizing the
working capital balances of Integrated Nylon historically required by this
business.
 
 Outlook
 
 Approximately
70 percent of our sales are into the global automotive and construction
industries.  In the first quarter of this year, many of our markets
had low demand profiles as significant destocking activities
occurred.  During the second quarter, the majority of these actions
were completed or considerably diminished, and our demand and resulting sales
volume profile improved.  In particular, we experienced strong volume
growth in comparison to the first quarter 2009 in the automotive sector in
China, which benefits our Saflex and Technical Specialties reporting
segments.  We are premising a flat volume profile in the remaining
quarters of 2009 versus second quarter results.  This profile results
in lower volumes for the third quarter in 2009 versus the third quarter of 2008
and an increase in volumes in the fourth quarter 2009 versus 2008, principally
due to the low volumes we experienced in the fourth quarter
2008.
 - 28
-
 We have
taken immediate actions to mitigate some of the impact of a weakened demand
profile including the freezing of all salary and wages to the extent allowable,
significantly reducing the payment of our 2008 annual incentive plan, suspension
of our 2009 annual incentive plan and suspension of the employer 401(k) match,
reduction of capital expenditures to maintenance levels, closure or idling of
certain lines and strict management of working capital.  All of these
actions have enhanced both earnings and cash flow in the first six months of
2009.  We expect these trends to continue and expect margin expansion
in 2009 over 2008 actual results and expect to generate cash from continuing
operations in 2009 in the range of $140 million to $150 million.
 
 Critical
Accounting Policies and Estimates
 
 There
were no changes in the six months ended June 30, 2009 with respect to our
critical accounting policies, as presented in our 2008 Form 10-K, as re-casted
and filed with the Securities and Exchange Commission (“SEC”) in a Form 8-K on
July 27, 2009, to reflect (i) our retrospective application of the
presentation of noncontrolling interests as provided by Statement of Financial
Accounting Standards (“SFAS”) No. 160,Noncontrolling Interests
in Consolidated Financial Statements, an Amendment ofARBNo. 51, which was
adopted by us on January 1, 2009, and (ii) presentation of our Integrated Nylon
business as discontinued operations in accordance with the terms of the
definitive sale agreement between us and the Buyer.
 
 Results
of Operations—Second Quarter 2009 Compared with Second Quarter 2008
 
 Consolidated
Results
 Successor(dollars
      in millions)
                    
                    Three
      MonthsEnded
                      June
      30,2009
                    
                    
                    Three
      MonthsEnded
                      June
      30,2008
                    
                    
                    Increase
                      (Decrease)
                    
                    
                    %
                      Increase
                      (Decrease)Net
      Sales
                    
                    $
                    410
                    
                    
                    $
                    577
                    
                    
                    $
                    (167
                    )
                    
                    
                    (29)
                    %Operating
      Income:Reportable
      Segment Profit
                    
                    $
                    109
                    
                    
                    $
                    72
                    
                    
                    $
                    37
                    
                    
                    
                    51
                    %Unallocated
      and Other
                    
                    
                    (19
                    )
                    
                    
                    (3
                    )
                    
                    
                    (16
                    )
                    
                    N.M.Less:   Depreciation
      and Amortization
                    
                    
                    (26
                    )
                    
                    
                    (27
                    )Less:   Other
      (Income) Loss and Net Income Attributable to Noncontrolling Interest
      included in Segment Profit and Unallocated and Other
                    
                    
                    2
                    
                    
                    
                    (7
                    )Operating
      Income
                    
                    $
                    66
                    
                    
                    $
                    35
                    
                    
                    $
                    31
                    
                    
                    
                    89
                    %Net
      Charges included in Operating Income
                    
                    $
                    (2
                    )
                    
                    $
                    (47
                    )
 
 The
decrease in net sales as compared to the second quarter 2008 resulted from
decreased sales volumes of $167 million or 29 percent and the effect of
unfavorable exchange rate fluctuations of $21 million or 4 percent, partially
offset by higher selling prices of $21 million or 4 percent.  Lower
sales volumes were realized by all of our reporting segments due to continued
weakness in demand across the global construction, automotive and industrial
markets related to the deterioration in the macro-economic environment which
began in the fourth quarter of 2008. The unfavorable currency impact was
driven most notably by the increased strength of the U.S. dollar versus the
Euro, in comparison to the prior year, due to our strong market positions in
Europe by the Saflex and Technical Specialties reporting
segments.  Higher selling prices were experienced primarily in our
Technical Specialties reporting segment due to price increases initiated in the
second quarter 2008 that have generally been retained in 2009 due to the
generally favorable supply/demand structure in certain specialty chemical
markets.
 
 The
increase in operating income as compared to the second quarter 2008 was a result
of lower net charges, as further described below in the Summary of Events Affecting
Comparabilitysection, lower raw material and energy costs of
approximately $23 million, effective implementation of cost containment
initiatives, including those described in the Outlook section above, which
resulted in better plant performance and lower selling, general and
administrative expenses, partially offset by lower net sales, as described
above, and lower fixed cost absorption.
 - 29
-
  Saflex
 Successor(dollars
      in millions)
                    
                    Three
      MonthsEnded
                      June
      30,2009
                    
                    
                    Three
      MonthsEnded
                      June
      30,2008
                    
                    
                    Increase
                      (Decrease)
                    
                    
                    %
                      Increase
                      (Decrease)Net
      Sales
                    
                    $
                    160
                    
                    
                    $
                    220
                    
                    
                    $
                    (60
                    )
                    
                    
                    (27)
                    %Segment
      Profit
                    
                    $
                    35
                    
                    
                    $
                    17
                    
                    
                    $
                    18
                    
                    
                    
                    106
                    %Net
      Charges included in Segment Profit
                    
                    $
                    (4
                    )
                    
                    $
                    (24
                    )
 
 The
decrease in net sales as compared to the second quarter 2008 was a result
of lower sales volumes of $46 million or 21 percent, unfavorable
currency exchange rate fluctuations of $12 million or 5 percent and lower
average selling prices of $2 million or 1 percent.  Lower sales
volumes were due to the continued weakness in demand across the global
construction and automotive markets, predominantly in Europe, partially offset
by higher volumes in the solar energy market related to our introduction of
SAFLEX® plastic interlayers for the thin-film photovoltaic market in
2008.  The unfavorable exchange rate fluctuations occurred primarily
as a result of the increased strength of the U.S. dollar in relation to the Euro
in comparison to the second quarter 2008.
 
 The
increase in segment profit in comparison to the second quarter 2008 was a result
of lower net charges, lower raw material costs of $10 million, effective
implementation of cost containment initiatives, which resulted in better plant
performance and lower selling, general and administrative expenses,
substantially offset by lower net sales, as described above, and lower fixed
cost absorption.  Segment profit in the second quarter 2009 included a
$3 million charge related to the general corporate restructuring and a $1
million charge related to the announced cessation of production of SAFLEX®
plastic interlayer at our facility in Trenton, Michigan (“Trenton
Facility”).  Segment profit in the second quarter 2008 included
charges of $24 million resulting from the expensing of the step-up in basis of
our inventory in accordance with fresh-start accounting.
 
 CPFilms
 Successor(dollars
      in millions)
                    
                    Three
      MonthsEnded
                      June
      30,2009
                    
                    
                    Three
      MonthsEnded
                      June
      30,2008
                    
                    
                    Increase
                      (Decrease)
                    
                    
                    %
                      Increase
                      (Decrease)Net
      Sales
                    
                    $
                    54
                    
                    
                    $
                    71
                    
                    
                    $
                    (17
                    )
                    
                    
                    (24)
                    %Segment
      Profit
                    
                    $
                    12
                    
                    
                    $
                    16
                    
                    
                    $
                    (4
                    )
                    
                    
                    (25)
                    %Charges
      included in Segment Profit
                    
                    $
                    (2
                    )
                    
                    $
                    (6
                    )
 
 The
decrease in net sales as compared to the second quarter 2008 resulted primarily
from lower sales volumes of $17 million or 24 percent and unfavorable currency
exchange rate fluctuations of $1 million or 2 percent, partially offset by
higher average selling prices of $1 million or 2 percent. The decrease in
sales volumes were experienced across all global markets due to the continued
impact of the severe global economic downturn and its effect on the automotive,
residential housing, and commercial construction markets, but was more
pronounced in Russia due to credit issues with our major distributor in the
region.
 
 The
decrease in segment results in comparison to the second quarter 2008 resulted
primarily from decreased net sales as described above, and lower fixed cost
absorption, partially offset by lower charges, effective implementation of cost
containment initiatives, which resulted in lower selling, general and
administrative expenses, and lower raw material costs of $1
million.  Segment profit in the second quarter 2009 included a charge
of $2 million related to the general corporate restructuring while segment
profit in the second quarter 2008 included a charge of $6 million resulting from
the expensing of the step-up in basis of our inventory in accordance with
fresh-start accounting.
  - 30
-
 
 Technical
Specialties
 Successor(dollars
      in millions)
                      
                      Three
      MonthsEnded
                        June
      30,2009
                      
                      
                      Three
      MonthsEnded
                        June
      30,2008
                      
                      
                      Increase
                        (Decrease)
                      
                      
                      %
                        Increase
                        (Decrease)Net
      Sales
                      
                      $
                      190
                      
                      
                      $
                      275
                      
                      
                      $
                      (85
                      )
                      
                      
                      (31)
                      %Segment
      Profit
                      
                      $
                      62
                      
                      
                      $
                      39
                      
                      
                      $
                      23
                      
                      
                      
                      59
                      %Net
      Gains (Charges) included in Segment Profit
                      
                      $
                      4
                      
                      
                      $
                      (19
                      )
 
 The
decrease in net sales as compared to the second quarter 2008 resulted from lower
sales volumes of $99 million or 36 percent and unfavorable currency exchange
rate fluctuations of $8 million or 3 percent, partially offset by higher average
selling prices of $22 million or 8 percent. Lower sales volumes were
experienced by all products within Technical Specialties due to the severe
global economic downturn but this decrease, on a rate of decline basis, was more
pronounced with our SANTOFLEX® antidegradants, SANTOCURE® and PERKACIT® primary
accelerators and other rubber chemicals products.  The unfavorable
exchange rate fluctuations occurred primarily as a result of the strengthening
U.S. dollar in relation to the Euro in comparison to the second quarter
2008.  Higher average selling prices were experienced primarily by our
CRYSTEX® insoluble sulphur, SANTOFLEX® antidegradants and THERMINOL® heat
transfer fluids products.  The increase in selling prices is related
to our global price increases initiated in the second quarter 2008 that have
generally been retained in 2009 due to the generally favorable supply/demand
profile in certain specialty chemical markets.
 
 The
increase in segment profit in comparison to the second quarter 2008 resulted
primarily from higher selling prices, higher net gains, favorable exchange rate
fluctuations, effective implementation of cost containment initiatives,
including those described in the Outlook section above, which
resulted in better plant performance and lower selling, general and
administrative expenses, and lower raw material costs of $11 million, partially
offset by lower sales volumes and lower fixed cost absorption. The
favorable exchange rate fluctuation on segment profit is due to a higher
percentage of our operating costs transacted in Euros than net sales in the same
currency.  Segment profit in the second quarter 2009 included a $4
million net gain related to the closure of the Ruabon Facility. Segment
profit in the second quarter 2008 included a charge of $13 million resulting
from the expensing of the step-up in basis of our inventory in accordance with
fresh-start accounting and $6 million of charges related to the closure of the
Ruabon Facility.
 
 Unallocated
and Other
 Successor(dollars
      in millions)
                        
                        Three
      MonthsEnded
                          June
      30,2009
                        
                        
                        Three
      MonthsEnded
                          June
      30,2008
                        
                        
                        Increase
                          (Decrease)
                        
                        %
                          Increase
                          (Decrease)Components
      of Unallocated and OtherOther Operations Segment
      Profit
                        
                        $
                        --
                        
                        
                        $
                        5Corporate Expenses
                        
                        
                        (10
                        )
                        
                        
                        (12
                        )Share-Based Compensation
      Expense
                        
                        
                        (4
                        )
                        
                        
                        (2
                        )Other Unallocated Income
      (Expense), net
                        
                        
                        (5
                        )
                        
                        
                        6Unallocated
      and Other results
                        
                        $
                        (19
                        )
                        
                        $
                        (3
                        )
                        
                        $
                        (16
                        )
                        N.M.Net
      Gains included in Unallocated and Other
                        
                        $
                        --
                        
                        
                        $
                        6
 
 Unallocated
and Other results decreased due to lower net gains, higher losses on foreign
currency, lower segment profit from other operations and higher charges for
environmental remediation projects, partially offset by lower corporate
expenses. Included in the results of Unallocated and Other in the second
quarter 2008 are (i) a $3 million gain resulting from a surplus land sale
recorded in other operations segment profit; (ii) a $4 million gain resulting
from the settlement of emergence related incentive accruals recorded in other
unallocated income; and (iii) a $1 million charge resulting from the expensing
of the step-up in basis of our inventory in accordance with fresh-start
accounting recorded in other operations segment profit.
 
 Corporate expenses decreased $2 million
due to lower discretionary expenses, particularly on items described further in
the Outlooksection
above.  After consideration of the aforementioned item in 2008, other
unallocated income (expense), net decreased by $7 million primarily due to
losses on foreign currency exposure and higher charges for environmental
remediation projects.  The higher charges for environmental
remediation projects is primarily related to increased legal spending on
remediation projects in Anniston, Alabama as we seek recovery from other
parties.  After consideration of the aforementioned items in 2008,
profit from other operations decreased $3 million due to the severe global
economic downturn.
 - 31
-
 Interest
Expense
 Successor(dollars
      in millions)
                    
                    Three
      MonthsEnded
                      June
      30,2009
                    
                    
                    Three
      MonthsEnded
                      June
      30,2008
                    
                    
                    Increase
                      (Decrease)
                    
                    
                    %
                      Increase
                      (Decrease)Interest
      Expense
                    
                    $
                    30
                    
                    
                    $
                    48
                    
                    
                    $
                    (18
                    )
                    
                    
                    (38)
                    %Charges
      included in Interest Expense
                    
                    $
                    8
                    
                    
                    $
                    --
 
 The
decrease in interest expense as compared to the second quarter 2008 resulted
principally from lower debt outstanding with lower interest rates in the second
quarter 2009 than in 2008 and mark-to-market gains related to interest rate swap
agreements in the second quarter 2009 after the discontinuance of hedge
accounting in the first quarter 2009, partially offset by higher
charges.  Included in our debt to fund our emergence from Chapter 11
was a $400 million senior unsecured bridge facility (“Bridge”), which was
subsequently repaid late in the third quarter 2008.  The repayment of
the Bridge resulted in lower debt outstanding in the second quarter
2009.  In addition, the interest rate on the Bridge was 15.50 percent
and the repayment allowed our weighted average interest rate to decrease from
9.6 percent at June 30, 2008 to 7.3 percent at June 30, 2009.  In
February 2009, we discontinued hedge accounting on our interest rate swap
agreements related to our $1.2 billion senior secured term loan facility (“Term
Loan”).  The mark-to-market gain on interest rate swap agreements in
the second quarter 2009 was $9 million.  As interest rates fluctuate,
mark-to-market gains or losses, which do not affect cash flow, will be
recognized in interest expense.  These gains or losses may create
volatility in our Consolidated Statement of Operations.
 
 Interest
expense in the second quarter 2009 includes charges of $8 million to write-off
unamortized debt issuance costs and debt discount related to the repayment of
the German term loan.
 
 Income
Tax Expense
 Successor(dollars
      in millions)
                    
                    Three
      MonthsEnded
                      June
      30,2009
                    
                    
                    Three
      MonthsEnded
                      June
      30,2008
                    
                    
                    Increase
                      (Decrease)
                    
                    %
                      Increase
                      (Decrease)Income
      Tax Expense
                    
                    $
                    10
                    
                    
                    $
                    --
                    
                    
                    $
                    10
                    
                    N.M.
 
 Our tax
expense or benefit is affected by the mix of income and losses in the tax
jurisdiction in which we operate. We recorded income tax expense for the three
months ended June 30, 2009 of $10 million on earnings in ex-U.S. tax
jurisdictions combined with an increase in unrecognized tax
benefits.  No income tax expense was recorded for the three months
ended June 30, 2008 as income tax expense of $15 million, primarily attributable
to income on continuing operations outside the U.S., was offset by deferred
income tax benefit of an equal amount related to the amortization of an ex-U.S.
fresh start inventory revaluation.
  As a
result of the issuance of new common stock upon emergence from bankruptcy, we
realized a change of ownership for purposes of Section 382 of the Internal
Revenue Code.  We do not currently expect this change to significantly
limit our ability to utilize our U.S. net operating loss (“NOL”)
carryforward.  If, in the future, we were to experience a change of
ownership as defined by Section 382, the utilization of our NOL carryforward
could be significantly limited.
 
 As
described in Note 17 - Subsequent Events to the accompanying consolidated
financial statements, we adopted a NOL shareholder rights plan (“Rights Plan”)
which is intended to avoid an "ownership change" within the meaning of Section
382 of the U.S. Internal Revenue Code and thereby preserve our ability to
utilize our NOL carryforward and other tax benefits.  The Rights Plan does
not ensure that our NOL carryforward will be protected from an ownership change
as defined in the tax laws, and there can be no assurance that such an ownership
change will not occur.
 - 32
-
 
 Discontinued
Operations
 Successor(dollars
      in millions)
                    
                    Three
      MonthsEnded
                      June
      30,2009
                    
                    
                    Three
      MonthsEnded
                      June
      30,2008
                    
                    Increase
                      (Decrease)
                    %
                      Increase
                      (Decrease)Integrated
      Nylon business
                    
                    $
                    (13
                    )
                    
                    $
                    (10
                    )Other
                    
                    
                    (1
                    )
                    
                    
                    --Loss
      from Discontinued Operations, net of tax
                    
                    $
                    (14
                    )
                    
                    $
                    (10
                    )
                    $(4)
                    (40)%
 
 Loss from
discontinued operations consists of the results of our Integrated Nylon and
other previously divested businesses.  As described in Note 3 –
Discontinued Operations to the accompanying consolidated financial statements,
we sold our Integrated Nylon business on June 1, 2009 and recorded a loss on the
sale in the second quarter 2009 of $6 million.
 
 Combined
Results of Operations—Six Months Ended June 30, 2009 Compared with Six Months
Ended June 30, 2008
 
 Consolidated
Results
 Successor
                  
                  
                  Combined(dollars
      in millions)
                  
                  Six
      Months Ended
                    June
      30,2009
                  
                  
                  Six
      MonthsEnded
                    June
      30,2008
                  
                  
                  Increase
                    (Decrease)
                  
                  
                  %
                    Increase
                    (Decrease)Net
      Sales
                  
                  $
                  749
                  
                  
                  $
                  1,094
                  
                  
                  $
                  (345
                  )
                  
                  
                  (31)
                  %Operating
      Income:Reportable
      Segment Profit
                  
                  $
                  185
                  
                  
                  $
                  154
                  
                  
                  $
                  31
                  
                  
                  
                  20
                  %Unallocated
      and Other
                  
                  
                  (44
                  )
                  
                  
                  (12
                  )
                  
                  
                  (32
                  )
                  
                  
                  (267)
                  %Less:   Depreciation
      and Amortization
                  
                  
                  (51
                  )
                  
                  
                  (47
                  )Less:   Other
      (Income) Loss and Net Income Attributable to Noncontrolling Interest
      included in Segment Profit and Unallocated and Other
                  
                  
                  3
                  
                  
                  
                  (9
                  )Operating
      Income
                  
                  $
                  93
                  
                  
                  $
                  86
                  
                  
                  $
                  7
                  
                  
                  
                  8
                  %Net
      Charges included in Operating Income
                  
                  $
                  (1
                  )
                  
                  $
                  (68
                  )
 
 The
decrease in net sales as compared to the six months ended June 30, 2008 resulted
from decreased sales volumes of $362 million or 33 percent and the effect of
unfavorable exchange rate fluctuations of $35 million or 3 percent, partially
offset by higher selling prices of $52 million or 5 percent. Lower sales
volumes were realized by all of our reporting segments due to continued weakness
in demand across the global construction, automotive and industrial markets
related to the deterioration in the macro-economic environment which began in
the fourth quarter of 2008.  The unfavorable currency impact was
driven most notably by the increased strength of the U.S. dollar versus the
Euro, in comparison to the prior year, due to our strong market positions in
Europe by the Saflex and Technical Specialties reporting
segments.  Higher selling prices were experienced across all reporting
segments, primarily in our Technical Specialties reporting segment, due to price
increases initiated in the second quarter 2008 that have generally been retained
in 2009 due to generally favorable supply/demand structure in certain specialty
chemical markets.
 
 The
increase in operating income as compared to the six months ended June 30, 2008
resulted from lower net charges as further described below in the Summary of Events Affecting
Comparabilitysection, lower raw material and energy costs of
approximately $29 million, effective implementation of cost containment
initiatives, including those described in the Outlook section above, which
resulted in better plant performance and lower selling, general and
administrative expenses, partially offset by lower net sales, as described
above, lower fixed cost absorption, and higher depreciation and amortization due
to fresh-start accounting.
 - 33
-
 
 Saflex
 Successor
                  
                  
                  Combined(dollars
      in millions)
                  
                  Six
      Months Ended
                    June
      30,2009
                  
                  
                  Six
      MonthsEnded
                    June
      30,2008
                  
                  
                  Increase
                    (Decrease)
                  
                  
                  %
                    Increase
                    (Decrease)Net
      Sales
                  
                  $
                  293
                  
                  
                  $
                  413
                  
                  
                  $
                  (120
                  )
                  
                  
                  (29)
                  %Segment
      Profit
                  
                  $
                  54
                  
                  
                  $
                  35
                  
                  
                  $
                  19
                  
                  
                  
                  54
                  %Net
      Charges included in Segment Profit
                  
                  $
                  (9
                  )
                  
                  $
                  (37
                  )
 
 The
decrease in net sales as compared to the six months ended June 30, 2008 was a
result of lower sales volumes of $101 million or 24 percent and unfavorable
currency exchange rate fluctuations of $20 million or 5 percent, partially
offset by higher average selling prices of $1 million.  Lower sales
volumes were due to the continued weakness in demand across the global
construction and automotive markets as described above, predominantly in Europe,
partially offset by higher volumes in the solar energy market related to our
introduction of SAFLEX® plastic interlayers for the thin-film photovoltaic
market in 2008.  The unfavorable exchange rate fluctuations occurred
primarily as a result of the strengthening of the U.S. dollar in relation to the
Euro in comparison to the comparable period in 2008.
  The
increase in segment profit in comparison to the six months ended June 30, 2008
resulted from lower net charges, lower raw material costs of $14 million,
effective implementation of cost containment initiatives, which resulted in
better plant performance and lower selling, general and administrative expenses,
substantially offset by lower net sales as described above and lower fixed cost
absorption.  Segment profit in the six months ended June 30, 2009
included (i) $11 million of charges related to the general corporate
restructuring, (ii) a $7 million gain related to the reduction in the 2008
annual incentive plan and (iii) $5 million of charges related to the announced
cessation of production of SAFLEX® plastic interlayer at our Trenton
Facility.  Segment profit in the comparable period in 2008 included
charges of $36 million resulting primarily from the expensing of the step-up in
basis of our inventory in accordance with fresh-start accounting and $1 million
of severance and retraining costs.
 
 CPFilms
 Successor
                  
                  
                  Combined(dollars
      in millions)
                  
                  Six
      Months Ended
                    June
      30,2009
                  
                  
                  Six
      MonthsEnded
                    June
      30,2008
                  
                  
                  Increase
                    (Decrease)
                  
                  
                  %
                    Increase
                    (Decrease)Net
      Sales
                  
                  $
                  88
                  
                  
                  $
                  133
                  
                  
                  $
                  (45
                  )
                  
                  
                  (34)
                  %Segment
      Profit
                  
                  $
                  13
                  
                  
                  $
                  28
                  
                  
                  $
                  (15
                  )
                  
                  
                  (54)
                  %Net
      Charges included in Segment Profit
                  
                  $
                  (3
                  )
                  
                  $
                  (10
                  )
 
 The
decrease in net sales as compared to the six months ended June 30, 2008 resulted
primarily from lower sales volumes of $45 million or 34 percent, and, to a
lesser extent, unfavorable currency exchange rate fluctuations of $3 million or
2 percent, partially offset by higher average selling prices of $3 million or 2
percent.  The decrease in sales volumes were experienced across all
global markets due to the severe global economic downturn and its effect on the
automotive, residential housing, and commercial construction markets, but was
more pronounced in Russia due to credit issues with our major distributor in the
region.
 
 The
decrease in segment results in comparison to the six months ended June 30, 2008
resulted primarily from decreased net sales as described above, and lower fixed
cost absorption, partially offset by effective implementation of cost
containment initiatives, which resulted in lower selling, general and
administrative expenses, and lower raw material costs of $2 million, partially
offset by lower net charges.  Segment profit in the six months ended
June 30, 2009 included charges of $3 million related to the general corporate
restructuring while segment profit in the comparable period in 2008 included a
charge of $10 million resulting from the expensing of the step-up in basis of
our inventory in accordance with fresh-start accounting.
 - 34
-
 
 Technical
Specialties
 Successor
                  
                  
                  Combined(dollars
      in millions)
                  
                  Six
      Months Ended
                    June
      30,2009
                  
                  
                  Six
      MonthsEnded
                    June
      30,2008
                  
                  
                  Increase
                    (Decrease)
                  
                  
                  %
                    Increase
                    (Decrease)Net
      Sales
                  
                  $
                  357
                  
                  
                  $
                  527
                  
                  
                  $
                  (170
                  )
                  
                  
                  (32)
                  %Segment
      Profit
                  
                  $
                  118
                  
                  
                  $
                  91
                  
                  
                  $
                  27
                  
                  
                  
                  30
                  %Net
      Gains (Charges) included in Segment Profit
                  
                  $
                  14
                  
                  
                  $
                  (26
                  )
 
 The
decrease in net sales as compared to the six months ended June 30, 2008 resulted
from lower sales volumes of $206 million or 39 percent and unfavorable currency
exchange rate fluctuations of $12 million or 2 percent, partially offset by
higher average selling prices of $48 million or 9 percent.  The lower
sales volumes have been experienced by all products within Technical Specialties
due to the severe global economic downturn but this decrease, on a rate
of decline basis, was more pronounced with our SANTOFLEX® antidegradants,
SANTOCURE® and PERKACIT® primary accelerators and other rubber chemicals
products.  The unfavorable exchange rate fluctuations occurred
primarily as a result of the strengthening U.S. dollar in relation to the Euro
in comparison to the comparable period in 2008.  Higher average
selling prices were experienced primarily within CRYSTEX® insoluble sulphur,
SANTOFLEX® antidegradants and THERMINOL® heat transfer fluids.  The
increase in selling prices is related to our global price increases initiated in
the second quarter 2008 that have generally been retained in 2009 due to the
generally favorable supply/demand profile in certain specialty chemical
markets.
 
 The
increase in segment profit in comparison to the six months ended June 30, 2008
resulted primarily from higher selling prices, higher net gains, favorable
exchange rate fluctuations, effective implementation of cost containment
initiatives, including those described in the Outlook section above, which
resulted in better plant performance and lower selling, general and
administrative expenses and lower raw material costs of $12 million, partially
offset by lower sales volumes and lower fixed cost absorption.  The
favorable exchange rate fluctuation on segment profit is due to a higher
percentage of our operating costs transacted in Euros than net sales in the same
currency. Segment profit in the six months ended June 30, 2009 included (i)
a $12 million gain related to the reduction in the 2008 annual incentive plan,
(ii) a $3 million net gain related to the closure of the Ruabon Facility and
(iii) a $1 million charge related to the general corporate
restructuring.  Segment profit in the comparable period in 2008
included a charge of $20 million resulting from the expensing of the step-up in
basis of our inventory in accordance with fresh-start accounting and $6 million
of charges related to the closure of the Ruabon Facility.
 
 Unallocated
and Other
 Successor
                  
                  
                  Combined(dollars
      in millions)
                  
                  Six
      Months Ended
                    June
      30,2009
                  
                  
                  Six
      MonthsEnded
                    June
      30,2008
                  
                  
                  Increase
                    (Decrease)
                  
                  
                  %
                    Increase
                    (Decrease)Components
      of Unallocated and OtherOther Operations Segment Profit
      (Loss)
                  
                  $
                  (4
                  )
                  
                  $
                  4Corporate Expenses
                  
                  
                  (23
                  )
                  
                  
                  (20
                  )Share-Based Compensation
      Expense
                  
                  
                  (9
                  )
                  
                  
                  (3
                  )Other Unallocated Income
      (Expense), net
                  
                  
                  (8
                  )
                  
                  
                  7Unallocated
      and Other results
                  
                  $
                  (44
                  )
                  
                  $
                  (12
                  )
                  
                  $
                  (32
                  )
                  
                  
                  (267
                  )%Net
      Gains (Charges) included in Unallocated and Other
                  
                  $
                  (3
                  )
                  
                  $
                  9
 
 Unallocated
and Other results decreased as compared to the six months ended June 30, 2008
due to lower net gains, losses on foreign currency exposure, higher charges for
environmental remediation projects, higher share-based compensation expense,
lower interest income and lower segment profit from other
operations.  Included in the results of Unallocated and Other in the
six months ended June 30, 2009 is (i) a charge of $7 million related to the
general corporate restructuring with $5 million recorded in corporate expenses
and $2 million recorded in other operations segment loss and (ii) a $4 million
gain related to the reduction in the 2008 annual incentive plan.  In
the comparable period in 2008, we recorded (i) a $3 million gain in
corporate expenses related to joint settlements with Monsanto of legacy
insurance policies with insolvent insurance carriers, (ii) a $3 million gain
resulting from a surplus land sale recorded in other operations segment profit;
(iii) a $4 million gain resulting from the settlement of emergence related
incentive accruals recorded in other unallocated income; and (iv) a $1 million
charge resulting from the expensing of the step-up in basis of our inventory in
accordance with fresh-start accounting recorded in other operations segment
profit.
 - 35
-
 After
consideration of the aforementioned items in 2009 and 2008, corporate expenses
decreased $1 million primarily due to lower discretionary expenses, particularly
on items described further in the Outlooksection
above. Share-based compensation expense increased $6 million due to higher
share-based compensation expense on management incentive and director stock
compensation plans adopted upon our emergence from bankruptcy.  Other
unallocated income (expense), net decreased by $11 million primarily due to
losses on foreign currency exposure, higher charges for environmental
remediation projects and lower interest income.  The higher charges
for environmental remediation projects is primarily related to increased legal
spending on remediation projects in Anniston, Alabama as we seek recovery from
other parties.  After consideration of the aforementioned items
recorded in 2009 and 2008, other operations segment loss decreased by $4 million
as compared to the comparable period in 2008 due to the severe global economic
downturn.
 
 Interest
Expense
 Successor
                  
                  
                  Combined(dollars
      in millions)
                  
                  Six
      Months Ended
                    June
      30,2009
                  
                  
                  Six
      MonthsEnded
                    June
      30,2008
                  
                  
                  Increase
                    (Decrease)
                  
                  
                  %
                    Increase
                    (Decrease)Interest
      Expense
                  
                  $
                  67
                  
                  
                  $
                  86
                  
                  
                  $
                  (19
                  )
                  
                  
                  (22)
                  %Charges
      included in Interest Expense
                  
                  $
                  8
                  
                  
                  $
                  --
 
 The decrease in interest expense as
compared to the six months ended June 30, 2008 resulted principally from lower
debt outstanding with lower interest rates in the six months ended June 30, 2009
than in 2008 and mark-to-market gains related to interest rate swap agreements
in 2009 after the discontinuance of hedge accounting in the first quarter 2009,
partially offset by higher charges.  As described above in the Results of Operations—Second Quarter
2009 Compared with Second Quarter 2008section, we repaid the Bridge late
in the third quarter 2008 which had an interest rate of 15.50
percent.  This resulted in lower debt outstanding during the six
months ended June 30, 2009 and allowed our weighted average interest rate to
decrease from 9.6 percent at June 30, 2008 to 7.3 percent at June 30,
2009.  In February 2009, we discontinued hedge accounting on our
interest rate swap agreements related to our Term Loan.  The
mark-to-market gain on interest rate swap agreements in the six months ended
June 30, 2009 was $4 million.  As interest rates fluctuate, mark-to-market
gains or losses, which do not affect cash flow, will be recognized in interest
expense.  These gains or losses may create volatility in our
Consolidated Statement of Operations.
 
 Interest
expense in the six months ended June 30, 2009 includes charges of $8 million to
write-off unamortized debt issuance costs and debt discount related to the
repayment of the German term loan.
 
 Reorganization
Items, net
 Successor
                  
                  
                  Combined(dollars
      in millions)
                  
                  Six
      Months Ended
                    June
      30,2009
                  
                  
                  Six
      MonthsEnded
                    June
      30,2008
                  
                  
                  Increase
                    (Decrease)
                  
                  %
                    Increase
                    (Decrease)Reorganization
      Items, net
                  
                  $
                  --
                  
                  
                  $
                  1,433
                  
                  
                  $
                  (1,433
                  )
                  N.M.
 
 Reorganization
items, net are presented separately in the Consolidated Statement of Operations
and represent items of income, expense, gain, or loss that are realized or
incurred by us because we were in reorganization under Chapter 11 of the U.S.
Bankruptcy Code.  We did not record any charges in reorganization
items in the six months ended June 30, 2009 due to our emergence from Chapter 11
on February 28, 2008.
 - 36
-
  Income
Tax Expense
 Successor
                  
                  
                  Combined(dollars
      in millions)
                  
                  Six
      Months Ended
                    June
      30,2009
                  
                  
                  Six
      MonthsEnded
                    June
      30,2008
                  
                  
                  Increase
                    (Decrease)
                  
                  %
                    Increase
                    (Decrease)Income
      Tax Expense
                  
                  $
                  3
                  
                  
                  $
                  214
                  
                  
                  $
                  (211
                  )
                  N.M.
 
 Our tax expense or benefit is affected
by the mix of income and losses in the tax jurisdictions in which we
operate.  We recorded income tax expense for the six months ended June
30, 2009 of $3 million related to earnings in ex-U.S. tax jurisdictions of $11
million combined with an increase in unrecognized tax benefits of $2 million,
partially offset by the recognition of a previously unrecognized tax benefit of
$10 million.  The income tax expense recorded for the six months ended
June 30, 2008 was primarily attributable to emergence and the effect of adopting
fresh-start accounting, which accounted for $202 million of the
total.  The remaining $12 million of income tax expense for the six
months ended June 30, 2008 was related to income on continuing operations
outside the U.S.
 
 As a
result of the issuance of new common stock upon emergence from bankruptcy, we
realized a change of ownership for purposes of Section 382 of the Internal
Revenue Code.  We do not currently expect this change to significantly
limit our ability to utilize our NOL carryforward.  If, in the future,
we were to experience a change of ownership as defined by Section 382, the
utilization of our NOL carryforward could be significantly limited.
 
 As
described in Note 17 - Subsequent Events to the accompanying consolidated
financial statements, we adopted a Rights Plan which is intended to avoid an
"ownership change" within the meaning of Section 382 of the U.S. Internal
Revenue Code and thereby preserve our ability to utilize our NOL
carryforward and other tax benefits.  The Rights Plan does not ensure that
our NOL carryforward will be protected from an ownership change as defined in
the tax laws, and there can be no assurance that such an ownership change will
not occur.
 
 Discontinued
Operations
 Successor
                  
                  
                  Combined(dollars
      in millions)
                  
                  Six
      Months Ended
                    June
      30,2009
                  
                  
                  Six
      MonthsEnded
                    June
      30,2008
                  
                  
                  Increase
                    (Decrease)
                  
                  
                  %
                    Increase
                    (Decrease)Integrated
      Nylon business
                  
                  $
                  (170
                  )
                  
                  $
                  180Other
                  
                  
                  1
                  
                  
                  
                  --Income
      (Loss) from Discontinued Operations, net of tax
                  
                  $
                  (169
                  )
                  
                  $
                  180
                  
                  
                  $
                  (349
                  )
                  
                  
                  (194)
                  %Reorganization
      items included in income (loss) from discontinued
    operations
                  
                  $
                  --
                  
                  
                  $
                  212
 
 Income
(Loss) from discontinued operations consists of the results of our Integrated
Nylon and other previously divested businesses.
 
 As
described in Note 3 – Discontinued Operations to the accompanying consolidated
financial statements, we sold our Integrated Nylon business on June 1, 2009 and
recorded a loss on the sale in the six months ended June 30, 2009 of $76
million.
 
 In
addition to the loss on the sale of Integrated Nylon, the results of Integrated
Nylon decreased as compared to the six months ended June 30, 2008 due to a $31
million charge, net of tax, to write down the carrying value of long-lived
assets to zero, the implementation of fresh-start accounting as a result of our
emergence from bankruptcy, lower sales volumes, lower selling prices and lower
asset utilization, partially offset by lower raw material costs.  The
reorganization items included in the results of Integrated Nylon included
primarily the elimination of the LIFO reserve of $204 million and
the step-up in basis of the inventory of $7 million.
 - 37
-
 Summary
of Events Affecting Comparability
 
 Charges
and gains recorded in the six months ended June 30, 2009 and 2008 and other
events affecting comparability have been summarized and described in the table
and accompanying footnotes below (dollars in millions):
 
 2009
Events
 Increase/(Decrease)
                    
                    Saflex
                    
                    
                    CPFilms
                    
                    
                    Technical
      Specialties
                    
                    
                    Unallocated
                      /Other
                    
                    
                    ConsolidatedImpact
      on:Cost
      of goods sold
                    
                    $
                    (2
                    )
                    
                    $
                    --
                    
                    
                    $
                    (3
                    )
                    
                    $
                    (1
                    )
                    
                    $
                    (6
                    )
                    (a)2
                    
                    
                    
                    1
                    
                    
                    
                    --
                    
                    
                    
                    1
                    
                    
                    
                    4
                    
                    (b)5
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    5
                    
                    (c)--
                    
                    
                    
                    --
                    
                    
                    
                    (3
                    )
                    
                    
                    --
                    
                    
                    
                    (3
                    )
                    (d)Selling,
      general and administrative expenses
                    
                    
                    (4
                    )
                    
                    
                    --
                    
                    
                    
                    (9
                    )
                    
                    
                    (3
                    )
                    
                    
                    (16
                    )
                    (a)8
                    
                    
                    
                    2
                    
                    
                    
                    1
                    
                    
                    
                    6
                    
                    
                    
                    17
                    
                    (b)Research,
      development and other operating expenses
                    
                    
                    (1
                    )
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (1
                    )
                    (a)1
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    1
                    
                    (b)Operating
      Income Impact
                    
                    
                    (9
                    )
                    
                    
                    (3
                    )
                    
                    
                    14
                    
                    
                    
                    (3
                    )
                    
                    
                    (1
                    )Interest
      expense
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (8
                    )
                    
                    
                    (8
                    )
                    (e)Pre-tax
      Income Statement Impact
                    
                    $
                    (9
                    )
                    
                    $
                    (3
                    )
                    
                    $
                    14
                    
                    
                    $
                    (11
                    )
                    
                    
                    (9
                    )Income
      tax impact
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    (2
                    )
                    (f)After-tax
      Income Statement Impact
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    $
                    (7
                    )
 
 (a)
                Gain
      related to the reduction in the 2008 annual incentive plan ($23 million
      pre-tax and $20 million after-tax).(b)
                Severance
      and retraining costs related to the general corporate restructuring ($21
      million pre-tax and $17 million after-tax).(c)
                Charges
      related to the announced closure of the SAFLEX® plastic interlayer
      production line at the Trenton Facility ($5 million pre-tax and
      after-tax).(d)
                Net
      gains related to the announced closure of the Ruabon Facility ($3 million
      pre-tax and $2 million after-tax).(e)
                Charges
      related to the repayment of the German term loan to write-off unamortized
      debt issuance costs and debt discount ($8 million pre-tax and $6 million
      after-tax).(f)
                Income
      tax expense has been provided on gains and charges at the tax rate in the
      jurisdiction in which they have been or will be
  realized.
  - 38
-
  2008
Events
 Increase/(Decrease)
                    
                    Saflex
                    
                    
                    CPFilms
                    
                    
                    Technical
                      Specialties
                    
                    
                    Unallocated
                      /Other
                    
                    
                    ConsolidatedImpact
      on:Cost
      of goods sold
                    
                    $
                    36
                    
                    
                    $
                    10
                    
                    
                    $
                    20
                    
                    
                    $
                    1
                    
                    
                    $
                    67
                    
                    (a)--
                    
                    
                    
                    --
                    
                    
                    
                    6
                    
                    
                    
                    --
                    
                    
                    
                    6
                    
                    (b)--
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (3
                    )
                    
                    
                    (3
                    )
                    (c)1
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    1
                    
                    (d)Research,
      development and other operating expenses
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    (3
                    )
                    
                    
                    (3
                    )
                    (e)Operating
      Income Impact
                    
                    
                    (37
                    )
                    
                    
                    (10
                    )
                    
                    
                    (26
                    )
                    
                    
                    5
                    
                    
                    
                    (68
                    )Other
      income (loss), net
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    4
                    
                    
                    
                    4
                    
                    (f)Reorganization
      Items, net
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    --
                    
                    
                    
                    1,433
                    
                    
                    
                    1,433
                    
                    (g)Pre-tax
      Income Statement Impact
                    
                    $
                    (37
                    )
                    
                    $
                    (10
                    )
                    
                    $
                    (26
                    )
                    
                    $
                    1,442
                    
                    
                    
                    1,369Income
      tax impact
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    187
                    
                    (h)After-tax
      Income Statement Impact
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    $
                    1,182
 
 (a)
                Charges
      resulting from the expensing of the step-up in basis of our inventory in
      accordance with fresh-start accounting ($67 million pre-tax and $52
      million after-tax).(b)
                Charges
      related to the announced closure of the Ruabon Facility ($6 million
      pre-tax and after-tax).(c)
                Gain
      resulting from settlements of legacy insurance policies with insolvent
      insurance carriers ($3 million pre-tax and after-tax).(d)
                Restructuring
      costs related principally to severance and retraining costs ($1 million
      pre-tax and after-tax).(e)
                Gain
      resulting from a surplus land sale ($3 million pre-tax and
      after-tax).(f)
                Gain
      resulting from the settlement of emergence related incentive accruals ($4
      million pre-tax and after-tax).(g)
                Reorganization
      items, net consist of the following:  $104 million charge on the
      settlement of liabilities subject to compromise, $1,589 million gain from
      fresh-start accounting adjustments, and $52 million of professional fees
      for services provided by debtor and creditor professionals directly
      related to our reorganization proceedings ($1,433 million pre-tax and
      $1,231 million after-tax).(h)
                Income
      tax expense has been provided on gains and charges at the tax rate in the
      jurisdiction in which they have been or will be
  realized.
 
 Financial
Condition and Liquidity
  As of
June 30, 2009, our total liquidity was $211 million, which was comprised of $83
million in cash and $128 million in availability under our
Revolver.  Our Revolver is limited to the lesser of the amount of the
borrowing base, as defined, but generally calculated as a percentage of
allowable inventory and trade receivables or $450 million.  As of June
30, 2009, our borrowing base was $172 million with availability reduced by
required letters of credit of $44 million.   There were no
borrowings outstanding at June 30, 2009.
 
 As
discussed in Note 3 – Discontinued Operations to the accompanying
consolidated financial statements, we completed our divestiture of the
Integrated Nylon business, which included the sale of related inventory and
trade receivables, in the second quarter of 2009.  Although one effect
of this transaction was a reduction of our Revolver borrowing base, this
negative impact on liquidity was partially offset by the proceeds of the
divestiture and the release of $25 million in required letters of
credit.  The remaining liquidity shortfall was more than offset upon
the completion of our sale of 24.7 million shares of common stock whereby $119
million of proceeds were received with $74 million used to repay our German term
loan and the remainder used to repay our Revolver.
 
 We
continue to have a significant focus on maximizing our cash flow and
liquidity.  To this end, certain actions identified previously in the
Outlook section of
Management’s Discussion and Analysis are expected to maintain or enhance our
liquidity.  For the remainder of 2009, our anticipated use of cash
includes fulfillment of our financial, pension, environmental, restructuring and
tax obligations, in addition to certain capital expenditures necessary to
satisfy our maintenance and safety requirements.   Capital
expenditure use of cash is estimated to range between $40 million and $50
million for the twelve months ended 2009.  To the extent required to
fund certain seasonal demands of our operations, an additional use of cash may
be to fund working capital although management has instituted significant
monitoring procedures and, as a result, expects this use of cash to be
minimal.  Other sources of liquidity may include additional lines of
credit, financing other assets, customer receivables and/or asset sales, all of
which are allowable, with certain limitations, under our existing credit
agreements.
 - 39
-
 In
summary, we expect that our cash on hand, coupled with future cash flows from
operations and other sources of liquidity, including our Revolver, will provide
sufficient liquidity to allow us to meet our projected cash
requirements.  However, common with other companies with similar
exposure to global economic and financial events, one or more financial
institutions may cease to be able to fulfill their funding obligations and we
may not be able to access substitute capital.  Also, we may experience
a decline in the demand for our products, which could impact our ability to
generate cash from operations.
 
 Debt
Covenants
 
 Our Term
Loan and Revolver (“Financing Agreements”) include a number of customary
covenants and events of default, including the maintenance of certain financial
covenants that restrict our ability to, among other things, incur additional
debt; make certain investments; pay dividends, repurchase stock, sell certain
assets or merge with or into other companies; enter into new lines of business;
make capital expenditures; and prepay, redeem or exchange our
debt.  The financial covenants for all measurement periods for the
year ended December 31, 2009 are (i) Leverage
Ratio:  limitation of maximum leverage ratio comprised of gross
debt to trailing twelve-month continuing operations Adjusted EBITDA or earnings
from continuing operations before interest, income taxes, depreciation and
amortization, reorganization items, non-cash share-based compensation expense
and unusual gains and charges (as that term is defined in the Financing
Agreements); (ii) Fixed
Charge Ratio:  maintenance of a minimum fixed charge coverage
ratio comprised of trailing twelve-month (“TTM”) continuing operations Adjusted
EBITDA, as reduced by TTM continuing operations capital expenditures, to Fixed
Charges (as defined in the Financing Agreements, as the sum of cash interest
expense, net, TTM cash income taxes and annualized debt amortization under our
Term Loan) ratio; and iii) Maximum Capital Expenditures.  Below is a
summary of our actual performance under these financial covenants as of June 30,
2009 along with a summary of the contractually agreed to financial covenants for
each of the two remaining measurement periods in 2009.
 
 June
      30, 2009
                      
                      
                      September
      30, 2009
                      
                      
                      December
      31, 2009Actual
                      
                      
                      Covenant
                      
                      
                      Covenant
                      
                      
                      CovenantMax
      Leverage Ratio
                      
                      
                      3.49
                      
                      
                      
                      4.50
                      
                      
                      
                      4.25
                      
                      
                      
                      4.25Min
      Fixed Charge Ratio
                      
                      
                      1.78
                      
                      
                      
                      1.15
                      
                      
                      
                      1.15
                      
                      
                      
                      1.15Max
      Capital Expenditures
                      
                      n.a
                      
                      
                      n.a.
                      
                      
                      n.a
                      
                      
                      $
                      252
 
 As the
above table indicates, the Leverage Ratio covenant
reduces to 4.25 by the end of the third quarter 2009 and the Fixed Charge Ratio covenant
remains consistent throughout 2009 at 1.15.  We are projecting a
reduction in our TTM Adjusted EBITDA (as that term is defined in the Financing
Agreements) in the third quarter of 2009 due primarily to lower year over year
sales volumes.  This expectation in actual results, combined with the
scheduled reduction in the Leverage Ratio covenant noted
above, will result in reduced cushion in actual performance versus the required
covenants for the remaining quarters of 2009.
 
 Cash
Flows - Continuing Operations
 
 Our cash
flows from continuing operations attributable to operating, investing and
financing activities, as reflected in the Consolidated Statement of Cash Flows,
are summarized in the following table:
 Successor
                                
                                
                                CombinedCash
      Flow Summary – Continuing Operations
                                  (dollars
      in millions)
                                
                                Six
      MonthsEnded
                                  June
      30,2009
                                
                                
                                Six
      MonthsEnded
                                  June
      30,2008
                                
                                
                                Increase
      (Decrease)Cash
      provided by operating activities before reorganization
    items
                                
                                $
                                89
                                
                                
                                $
                                34
                                
                                
                                $
                                55Cash
      used in reorganization activities
                                
                                
                                --
                                
                                
                                
                                (375
                                )
                                
                                
                                375Cash
      provided by (used in) operating activities
                                
                                
                                89
                                
                                
                                
                                (341
                                )
                                
                                
                                430Cash
      provided by (used in) investing activities
                                
                                
                                (23
                                )
                                
                                
                                6
                                
                                
                                
                                (29
                                )Cash
      provided by (used in) financing activities
                                
                                
                                (95
                                )
                                
                                
                                339
                                
                                
                                
                                (434
                                )Net
      change in cash for period attributable to continuing
      operations
                                
                                $
                                (29
                                )
                                
                                $
                                4
                                
                                
                                $
                                (33
                                )
 
 Operating
activities:  Cash provided by operating activities was $89
million for the first six months of 2009, a $430 million increase as compared to
the $341 million used in operations for the comparable period in
2008.  The increase is primarily attributable to a lack of
reorganization activities in 2009 which required a cash usage of $375 million in
2008, primarily to facilitate our emergence from bankruptcy.  Cash
provided by operating activities before reorganization items increased $55
million as compared to the $34 million provided by operations for the comparable
period in 2008.  This increase was due to higher operating income in
spite of lower sales, lower payments on interest expense, taxes, environmental
remediation liabilities and our postretirement obligations, lower working
capital requirements as partially offset by higher cash payments on
restructuring activities.  Furthermore, the first six
months of 2008 includes cash payments on our annual incentive plan which
was significantly reduced for the comparable period in
2009.   Required contributions to our U.S. pension plans, which
can fluctuate based upon minimum funding requirements, decreased $11 million in
2009 and payments on our U.S. other postretirement obligations were $9 million
lower in 2009.  The lower payments on other postretirement obligations
was due to reimbursement to us by a fund established at our emergence from
bankruptcy restricted to pay certain liabilities assumed by us upon our spinoff
from Pharmacia (“Legacy Liabilities”) in addition to lower cash requirements on
other postretirement obligations which are not included within the definition of
Legacy Liabilities.  The reduction in other postretirement obligation
payments is expected to continue indefinitely as the balance remaining in this
restricted fund at June 30, 2009, attributable to pre-spin other post retirement
obligations, is $169 million, which effectively defeases the corresponding
Legacy Liability.  We will, however, continue to remain liable for
payments on other postretirement obligations which are not included within the
definition of Legacy Liabilities.
 - 40
-
 Investing
activities:  Cash used in investing activities was $23 million
for the first six months of 2009, a $29 million increase as compared to $6
million provided by investing activities for the comparable period in
2008.  In the second quarter of 2008, we sold our corporate
headquarters building which provided $43 million of cash.   For
the first six months in 2009, the majority of growth related capital projects
were ceased in reaction to the global economic slowdown first experienced by us
in the fourth quarter of 2008, which resulted in a reduction of $17 million in
property, plant and equipment purchases for the first six months of 2009 as
compared to the comparable period in 2008.
 
 Financing
activities:  Cash used in financing activities was $95 million
for the first six months in 2009, compared with $339 million of cash provided by
financing activities in 2008.   During the first six months of
2009 we used $119 million in cash provided by the sale of common stock, along
with proceeds received on the sale of our Integrated Nylon business and cash
provided by operations, to fully repay our Revolver along with $6 million on our
Term Loan.  On February 28, 2008, as more fully described in Note 1 –
Background and Basis of Presentation to the accompanying consolidated
financial statements, we emerged from bankruptcy.  This event required
a complete recapitalization of our debt and equity structure and, after
repayment of all debt obligations outstanding at that time, resulted in net
proceeds of $351 million.  Of this amount, $250 million was used to
establish certain funds restricted for future payments related to Legacy
Liabilities and the remainder was used to pay certain secured and administrative
claims and to provide additional liquidity for operations.
 
 Working
Capital – Continuing Operations
 
 Working
capital used for continuing operations is summarized as
follows:
 
 Successor
                      
                      
                      SuccessorWorking
      Capital – Continuing Operations
                        (dollars
      in millions)
                      
                      June
      30,2009
                      
                      
                      December
      31,2008
                      
                      Increase
                        (Decrease)Cash
      and cash equivalents
                      
                      $
                      83
                      
                      
                      $
                      32Trade
      receivables, net
                      
                      
                      232
                      
                      
                      
                      227Inventories
                      
                      
                      284
                      
                      
                      
                      341Other
      current assets
                      
                      
                      153
                      
                      
                      
                      195Total
      current assets
                      
                      $
                      752
                      
                      
                      $
                      795Accounts
      payable
                      
                      $
                      136
                      
                      
                      $
                      170Accrued
      liabilities
                      
                      
                      218
                      
                      
                      
                      259Short-term
      debt, including current maturities of long-term debt
                      
                      
                      21
                      
                      
                      
                      37Total
      current liabilities
                      
                      $
                      375
                      
                      
                      $
                      466Working
      Capital
                      
                      $
                      377
                      
                      
                      $
                      329
                      
                      $ 
48
 
 Our
working capital used for continuing operations increased $48 million primarily
as a result of higher cash and lower short-term debt reflecting our 2009 focus
on preserving and enhancing our liquidity position.  Our other working
capital requirements decreased modestly predominantly due to continued strict
management of required balances and a $23 million reduction in the 2008 annual
incentive plan liability.
 - 41
-
 From time
to time, beginning with the month subsequent to our emergence from bankruptcy,
we sell trade receivables without recourse to third parties.  In
accordance with SFAS No. 140,Accounting for Transfers and
Servicing of Financial Assets and Extinguishment of Liabilities as
amended by SFAS No. 156, Accounting for Servicing of
Financial Assets an Amendment of FASB Statement No. 140, trade
receivables were removed from our Consolidated Statement of Financial Position
and reflected as cash provided by operating activities in the Consolidated
Statement of Cash Flows at the time of sale to the third
party.  Uncollected trade receivables sold under these arrangements
and removed from the Consolidated Statement of Financial Position were $6
million and $20 million at June 30, 2009 and December 31, 2008,
respectively.  The average monthly amounts of trade receivables sold
were $11 million for the six months ended June 30, 2009.  Discounts
(losses) on sales of trade receivables were less than $1
million.  These losses primarily represented the costs of funds and
were included as a reduction in operating income.
 
 Cash
Flows - Discontinued Operations
  Successor
                      
                      
                      CombinedCash
      Flow Summary – Discontinued Operations
                        (dollars
      in millions)
                      
                      SixMonthsEnded
                        June
      30,2009
                      
                      
                      SixMonthsEnded
                        June
      30,2008
                      
                      
                      Increase
      (Decrease)Cash
      provided by (used in) operating activities
                      
                      $
                      59
                      
                      
                      $
                      (96
                      )
                      
                      $
                      155Cash
      provided by (used in) investing activities
                      
                      
                      21
                      
                      
                      
                      (34
                      )
                      
                      
                      55Net
      change in cash for period attributable to discontinued
      operations
                      
                      $
                      80
                      
                      
                      $
                      (130
                      )
                      
                      $
                      210
 
 On March
31, 2009, we entered into a definitive agreement to sell our Integrated Nylon
business for $50 million in cash, subject to adjustment for changes in working
capital, a two percent equity stake in the new company and $4 million in
deferred cash, which subsequently closed on June 1, 2009.  Throughout
2009, including the period from the point we entered into the sale agreement and
up to the date the sale closed, we aggressively worked to monetize the working
capital balances historically required by this business, which resulted in cash
provided by operating activities for discontinued operations of $59 million as
compared to cash used in operating activities of $96 million for the six months
ended June 30, 2008; an increase of $155 million.  Because the working
capital balances of the business at close were less than anticipated, a working
capital adjustment of $20 million was offset against the sales price resulting
in our receipt of $30 million of gross proceeds.  Cash provided by
investing activities increased $55 million in the six months ended June 30, 2009
as compared to the comparable period in 2008, in part, due to the receipt of
these funds as offset by $4 million in costs to sell this business.  A
reduction in cash used for capital expenditures accounts for the remaining
increase in cash provided by investing activities.
 
 Over the
course of the third and fourth quarters of 2009, the payment of retained
liabilities associated with certain pre-divestiture restructuring activities,
compensation agreements, transition services and settlement of the final working
capital adjustment with the Buyer, could total up to a net of $25
million.  It is unlikely a resolution of the Lyondell proceedings
discussed in Note 3 – Discontinued Operations to the accompanying consolidated
financial statements will be completed in 2009 due to the inherent complexities
of bankruptcy proceedings.
 
 Pension
Funding
 
 According
to current IRS funding rules, we will make contributions to our Solutia and
Solutia Union Pension Plans of approximately $26 million in
2009.  Approximately $10 million of these required contributions were
made in the six months ended June 30, 2009.  We also expect to fund
approximately $10 million in pension contributions to our foreign pension plans
in 2009, of which $3 million was contributed in the six months ended June 30,
2009.  Actual contributions to the plans may differ as a result of a
variety of factors, including future changes in actuarial assumptions,
legislative changes to pension funding laws, market conditions and whether we
choose to contribute our common stock rather than cash to the
plans.
 - 42
-
 
 Contingencies
 
 See Note
9 – Commitments and Contingencies to the accompanying consolidated financial
statements for a summary of our contingencies as of June 30,
2009.
 Item
3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
FACTORS
 
 There
have been no material changes in market risk exposures during the six months
ended June 30, 2009 that affect the disclosures presented in the information
appearing under “Derivative Financial Instruments” as presented in our 2008 Form
10-K, as re-casted and filed with the SEC in a Form 8-K on July 27, 2009, to
reflect (i) our retrospective application of the presentation of noncontrolling
interests as provided by Statement of Financial Accounting Standards
No. 160,Noncontrolling
Interests in Consolidated Financial Statements, an Amendment of ARB
No. 51, which was adopted by us on January 1, 2009, and (ii)
presentation of our Integrated Nylon business as discontinued operations in
accordance with the terms of the definitive sale agreement between us and the
Buyer.
  Item
4.  CONTROLS AND PROCEDURES
 
 During
the period covered by this Form 10-Q, we carried out an evaluation, under the
supervision and with the participation of our management, including our Chief
Executive Officer and Chief Financial Officer, of the effectiveness of the
design and operation of our disclosure controls and procedures (as defined in
Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934
(“Exchange Act”)).  Based upon that evaluation, the Chief Executive
Officer and Chief Financial Officer concluded that, as of the end of the period
covered by this Form 10-Q, our disclosure controls and procedures are effective
in timely accumulating and communicating them to material information relating
to us and our consolidated subsidiaries that is required to be included in our
periodic SEC filings.  The Chief Executive Officer and Chief Financial
Officer also concluded that, as of the end of the period covered by this Form
10-Q, our disclosure controls and procedures are effective to provide reasonable
assurance that we record, process, summarize, and report the required disclosure
information within the specified time periods.  Further, there were no
changes in our internal control over financial reporting (as defined in Rules
13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the
quarterly period ended June 30, 2009 that have materially affected, or are
reasonably likely to materially affect our internal controls over financial
reporting.
 - 43
-
   PART
II.  OTHER INFORMATION
 
 ITEM
1.  LEGAL PROCEEDINGS
 
 Information
required by this item is incorporated herein by reference to Note 9 included in
Part I, Item 1. Financial Statements (unaudited) – Notes to Consolidated
Financial Statements.  Also please refer to Note 16 to the
Consolidated Financial Statements included in the Company’s Annual Report on
Form 10-K for the year ended December 31, 2008.
 
 ITEM
1A.  RISK FACTORS
 
 You
should consider carefully all of the information set forth in this report and,
in particular, the risk factors described below and those described in our
Annual Report on Form 10-K for the year ended December 31, 2008 and
certain of our other filings with the SEC. Those risks being described below,
elsewhere in this report on Form 10-Q and our other SEC filings are not the only
ones we face, but are considered to be the most material. There may be other
unknown or unpredictable economic, business, competitive, regulatory or other
factors that could have material adverse effects on our future results. Past
financial performance may not be a reliable indicator of future performance and
historical trends should not be used to anticipate results or trends in future
periods.
 
 RISKS
RELATED TO OUR BUSINESS AND INDUSTRY
 
 Continued
Extreme Disruption in Global Financial Markets and Sustained Weakening in our
Markets Could Significantly Impact our Results of Operations, Liquidity and Long
Term Anticipated Growth Rate
  The
global economy is currently in a pronounced economic downturn.  As
widely reported, markets in the United States, Europe and Asia have been
experiencing extreme disruption, including, among other things, severely
diminished liquidity and credit availability, declines in consumer confidence,
extreme fluctuations in commodity prices, declines in economic growth, increases
in unemployment rates, and uncertainty about economic
stability.  Although governments around the world are enacting various
economic stimulus programs, there can be no assurance as to the timing or
effectiveness of such programs.  The current tightening of credit in
financial markets adversely affects the ability of customers and suppliers to
obtain financing for significant purchases and operations and could result in a
decrease in or cancellation of orders for our products, our ability to procure
necessary raw materials from suppliers, our ability to secure credit from our
suppliers at terms granted to us historically and our ability to collect from
our customers amounts due on trade receivables at terms previously experienced
by us.  While we are not a direct Tier 1 supplier to domestic
automotive manufacturers, many of our customers are.  Bankruptcy
filings by domestic automotive manufacturers could impact our ability to collect
accounts receivable from customers who are Tier 1 suppliers.  Our
global business is also adversely affected by decreases in the general level of
economic activity, such as decreases in business and consumer spending that
impact the construction, home furnishings, automotive, rubber chemicals and
aviation and transportation markets.  The weakening of these markets,
if not temporary, could significantly impact our results of operations, our
liquidity and our long-term anticipated growth rate.  Further,
stemming from our  emergence from bankruptcy in early 2008, the
carrying amount of our goodwill and intangible assets was established at fair
value as of February 28, 2008 and therefore is more susceptible to impairment if
business operation results and/or macroeconomic conditions
deteriorate.  Impairment charges, if any, could be material to our
results of operations.  We are unable to predict the likely duration
and severity of the current disruption in financial markets and adverse economic
conditions in the U.S. and other countries.  However, if macroeconomic
conditions continue to worsen, it is possible these factors could result in a
decline in our future profitability and cash from operating
activities.
 - 44
-
  ITEM
2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS
 
 (c )
Purchases of Equity Securities by the Issuer
 Period
                  
                  Total
      Number of Shares Purchased (1)
                  
                  
                  Average
      Price Paid Per Share (2)
                  
                  
                  Total
      Number of Shares Purchased as Part of Publicly Announced Plans or
      Programs
                  
                  
                  Approximate
      Dollar Value (in millions) that May Yet Be Purchased Under the Plans or
      ProgramsApril
      1-30, 2009
                  
                  
                  286
                  
                  
                  $
                  2.30
                  
                  
                  
                  0
                  
                  
                  $
                  0May
      1-31, 2009
                  
                  
                  119,959
                  
                  
                  $
                  5.23
                  
                  
                  
                  0
                  
                  
                  $
                  0June
      1 -30, 2009
                  
                  
                  0
                  
                  
                  $
                  0.00
                  
                  
                  
                  0
                  
                  
                  $
                  0Total
                  
                  
                  120,245
                  
                  
                  $
                  5.23
                  
                  
                  
                  0
                  
                  
                  $
                  0
 
 (1)
              Shares
      surrendered to the Company by an employee to satisfy individual tax
      withholding obligations upon vesting of previously issued shares of
      restricted common stock.
 (2)
              Average
      price paid per share reflects the closing price of Solutia common stock on
      the business date the shares were surrendered by the employee stockholder
      to satisfy individual tax withholding obligations upon vesting of
      restricted common stock.
 
 ITEM
4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
 
 
 The
Annual Meeting of Stockholders was held on April 22, 2009.  The Board
of Directors of the Company nominated Robert K. deVeer, Jr. and Gregory C. Smith
for re-election as directors.  They were re-elected for a three year
term that will expire in 2012.  Votes were cast as
follows:
 
 Director
                              For
                              Against
                              AbstainR.
      K. deVeer, Jr.
                              68,015,396
                              15,835,736
                              10,360G.
      C. Smith
                              67,983,029
                              15,867,784
                              10,679
 The terms
of office of Eugene I. Davis, James P. Heffernan and W. Thomas Jagodinski, Class
II Directors, will expire at the 2010 Annual Meeting.  The terms of
office of Jeffry N. Quinn. William T. Monahan,  Robert A. Peiser,
Class III Directors, will expire at the 2011 Annual Meeting.
 
 The
appointment by the Board of Directors of Deloitte & Touche LLP as
independent auditors for the calendar year 2009 was ratified by a vote of the
stockholders.  The Board recommended a vote for the
proposal.  Votes were cast as follows:
 
 Affirmative
      votes
                            83,538,038Negative
      votes
                            313,449Abstentions
                            10,005
 ITEM
6.  EXHIBITS
 
 See
      the Exhibit Index at page 47 of this
  report.
 
 - 45
-
   
 SIGNATURE
 
 Pursuant to the requirements of the
Securities Exchange Act of 1934, the Registrant has duly caused this report to
be signed on its behalf by the undersigned thereunto duly
authorized.
 
 
 SOLUTIA INC.(Registrant)By:
                    /s/ TIMOTHY
      J. SPIHLMANTimothy
      J. Spihlman(Vice
      President and Controller)(On
      behalf of the Registrant and asPrincipal
      Accounting Officer
 
 
 
 Dated:
July 28, 2009
 
 - 46
-
   
 
 EXHIBIT
INDEX
 
 These
Exhibits are numbered in accordance with the Exhibit Table of Item 601 of
Regulation S-K.
 
 EXHIBIT
                        NUMBER
                      
                      DESCRIPTION3.1
                      
                      Second
      Amended and Restated Certificate of Incorporation of Solutia Inc.
      (incorporated by reference to Exhibit 3.1 to Solutia's Form 8-K filed on
      March 4, 2008)3.2
                      
                      Amended
      and Restated Bylaws of Solutia Inc. (incorporated by reference to Exhibit
      3.2 to Solutia's Form 8-K filed on March 4, 2008)3.3
                      
                      Certificate
      of Designation, Preferences and Rights of Series A Participating Preferred
      Stock, par value $0.01 per share, of Solutia Inc., included as Exhibit A
      to the Rights Agreement, dated July 27, 2009 filed as Exhibit 3.1
      to Solutia's Current Report on Form 8-K filed on July 27,
      20094.1
                      
                      382
      Rights Agreement, dated as of July 27, 2009, between Solutia Inc. and
      American Stock Transfer & Trust Company, LLC, which includes the Form
      of Certificate of Designation, Preferences and Rights of Series A
      Participating Preferred Stock as Exhibit A and the Summary of Rights as
      Exhibit C.  (incorporated by reference to Exhibit 3.1 to Solutia's
      Current Report on Form 8-K filed on July 27, 2009)31.1
                      
                      Certification
      of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley
      Act of 200231.2
                      
                      Certification
      of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley
      Act of 200232.1
                      
                      Certification
      of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350 as Adopted
      Pursuant to Section 906 of the Sarbanes-Oxley Act of
  200232.2
                      
                      Certification
      of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350 as Adopted
      Pursuant to Section 906 of the Sarbanes-Oxley Act of
  2002
 
  - 47 -