e10vq
Table of Contents

 
 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
     
þ   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2005
OR
     
o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                      to                     
Polymer Holdings LLC
(Exact name of registrant as specified in its charter)
Commission file number 333-123749
     
Delaware   20-0411521
(State or other jurisdiction of   (I.R.S. Employer Identification No.)
incorporation)    
     
700 Milam Street, 13th Floor, North Tower    
Houston, TX 77002   832-204-5400
(Address of principal executive offices,   (Registrant’s telephone number, including area code)
including zip code)    
KRATON Polymers LLC
(Exact name of registrant as specified in its charter)
Commission file number 333-123747
     
Delaware   94-2805249
(State or other jurisdiction of   (I.R.S. Employer Identification No.)
incorporation or organization)    
     
700 Milam Street, 13th Floor, North Tower    
Houston, TX 77002   832-204-5400
(Address of principal executive offices,   (Registrant’s telephone number, including area code)
including zip code)    
     Indicated by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
YES o NO þ
     Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). YES o NO þ
     Indicate by check mark whether the registrant is a shell company as defined in Rule 12b-2 of the Exchange Act. YES o NO þ
 
 

 


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 Option Grant Agreement - TJ Chemical and Steven Demetriou
 Option Grant Agreement - TJ Chemical and James Ball
 Employment Agreement - KRATON and Kevin M. Fogarty
 Option Grant Agreement - TJ Chemical and Raymond K. Guba
 Profit Unit Award Agreement - KRATON Management LLC and Raymond K. Guba
 Notional Unit Award Grant Agreement - KRATON and Raymond K. Guba
 Certification of CEO pursuant to Section 302
 Certification of Interim CFO pursuant to Section 302
 Certification of CFO pursuant to Section 302
 Certification of CEO and CFO pursuant to Section 906

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FORWARD LOOKING STATEMENTS
     This Quarterly Report on Form 10-Q includes “forward-looking statements,” as that term is defined in Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. All statements, other than statements of historical fact, included or incorporated in this Form 10-Q are forward-looking statements, particularly statements about our plans, strategies and prospects under the headings “Consolidated Financial Statements” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” We may also make written or oral forward-looking statements in our Annual Report on Form 10-K, periodic reports on Form 10-Q and current reports on Form 8-K, in press releases and other written materials and in oral statements made by our officers, directors or employees to third parties. Such forward-looking statements involve known and unknown risks, uncertainties and other important factors that could cause the actual results, performance or our achievements, or industry results, to differ materially from historical results, any future results, performance or achievements expressed or implied by such forward-looking statements. Such risks and uncertainties include, but are not limited to, competitive pressures in the specialty chemicals industry, changes in prices of raw materials used in our business, changes in levels of consumer spending or preferences, overall economic conditions, the level of our indebtedness and exposure to interest rate fluctuations, governmental regulations and trade restrictions, acts of war or terrorism in the United States or worldwide, political or financial instability in the countries where our goods are manufactured and other risks and uncertainties described in this report and our other reports and documents. These statements are based on current plans, estimates and projections, and therefore you should not place undue reliance on them. Forward-looking statements speak only as of the date they are made, and we undertake no obligation to update publicly any of them in light of new information or future events.
PRESENTATION OF FINANCIAL STATEMENTS
     This Form 10-Q includes financial statements and related notes that present (1) the consolidated financial position, results of operations and cash flows of Polymer Holdings LLC, which we refer to as Polymer Holdings, and its subsidiaries and (2) the consolidated financial position, results of operations and cash flows of KRATON Polymers LLC, which we refer to as KRATON, and its subsidiaries. Polymer Holdings is a holding company whose only material asset is its investment in KRATON, which is its wholly-owned subsidiary. KRATON and its subsidiaries own all of the consolidated operating assets.

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PART I — Financial Information
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
Polymer Holdings LLC
Consolidated Balance Sheets
September 30, 2005 and December 31, 2004
(in thousands of U.S. dollars)
                 
    September 30,     December 31,  
    2005     2004  
    (Unaudited)     (Restated —  
            See note 1(c))  
Assets
               
Current assets:
               
Cash and cash equivalents
  $ 71,550     $ 46,357  
Receivables, net of allowances of $884 and $750
    150,612       120,596  
Inventories of products
    191,303       211,076  
Inventories of materials and supplies
    9,412       8,778  
Other current assets
    17,495       10,381  
 
           
Total current assets
    440,372       397,188  
Property, plant, and equipment, less accumulated depreciation of $57,654 and $38,086
    395,453       424,333  
Identifiable intangible assets, less accumulated amortization of $13,887 and $8,002
    103,809       109,694  
Investment in joint venture
    10,539       10,753  
Deferred financing costs
    14,999       16,799  
Other long-term assets
    9,014       8,646  
 
           
Total assets
  $ 974,186     $ 967,413  
 
           
Liabilities and Member’s Equity
               
Current liabilities:
               
Current portion of long-term debt
  $ 2,680     $ 2,680  
Accounts payable—trade
    64,853       79,968  
Other payables and accruals
    50,269       40,059  
Due to related parties
    11,937       14,471  
Deferred income taxes
    1,240       1,240  
Insurance bond payable
    1,380        
 
           
Total current liabilities
    132,359       138,418  
Long-term debt, net of current portion
    562,970       556,335  
Deferred income taxes
    27,020       24,513  
Long-term liabilities
    29,317       25,629  
 
           
Total liabilities
    751,666       744,895  
 
           
Commitments and contingencies (note 5)
               
Member’s equity:
               
Common equity
    219,779       200,528  
Accumulated other comprehensive income
    2,741       21,990  
 
           
Total member’s equity
    222,520       222,518  
 
           
Total liabilities and member’s equity
  $ 974,186     $ 967,413  
 
           
See accompanying notes to consolidated financial statements.

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Polymer Holdings LLC
Consolidated Statements of Operations
Three Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
                 
    September 30,     September 30,  
    2005     2004  
            (Restated —  
            See note 1(c))  
Revenues
               
Sales
  $ 269,017     $ 209,407  
Other
    7,457       1,840  
 
           
Total revenues
    276,474       211,247  
Costs and expense
               
Costs of goods sold
    225,945       179,186  
 
           
Gross profit
    50,529       32,061  
 
               
Research and development expenses
    6,700       5,530  
Selling, general, and administrative expenses
    19,130       16,467  
Depreciation and amortization of identifiable intangibles
    11,548       11,185  
Earnings in joint venture
    (182 )     11  
Interest, net
    11,746       11,722  
 
           
Income (loss) before income taxes
    1,587       (12,854 )
Income tax (provision) benefit
    (633 )     6,848  
 
           
Net income (loss)
  $ 954     $ (6,006 )
 
           
See accompanying notes to consolidated financial statements.
Polymer Holdings LLC
Consolidated Statements of Operations
Nine Months Ended September 30, 2005 and 2004
(in thousand of U.S. dollars)
(Unaudited)
                 
    September 30,     September 30,  
    2005     2004  
            (Restated —  
            See note 1(c))  
Revenues
               
Sales
  $ 732,338     $ 589,886  
Other
    20,287       8,738  
 
           
Total revenues
    752,625       598,624  
Costs and expense
               
Costs of goods sold
    586,145       514,692  
 
           
Gross profit
    166,480       83,932  
 
               
Research and development expenses
    19,500       17,246  
Selling, general, and administrative expenses
    54,692       46,503  
Depreciation and amortization of identifiable intangibles
    33,760       31,849  
Earnings in joint venture
    (1,050 )     (134 )
Interest, net
    34,578       27,719  
 
           
Income (loss) before income taxes
    25,000       (39,251 )
Income tax (provision) benefit
    (6,159 )     15,332  
 
           
Net income (loss)
  $ 18,841     $ (23,919 )
 
           
See accompanying notes to consolidated financial statements.

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Polymer Holdings LLC
Consolidated Statements of Cash Flows
Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
                 
    September 30,     September 30,  
    2005     2004  
            (Restated —  
            See note 1(c))  
Cash flows provided by (used in) operating activities:
               
Net income (loss)
  $ 18,841     $ (23,919 )
Adjustments to reconcile net income to net cash provided by operating activities:
               
Depreciation and amortization of identifiable intangibles
    33,760       31,849  
Amortization of deferred financing costs
    1,800       2,522  
Accretion of discount on senior subordinated notes
    8,645        
Change in the fair value of interest rate swaps
    (128 )     1,669  
Loss on disposal of fixed assets
    55       637  
(Undistributed) distributed earnings in joint venture
    (589 )     427  
Deferred tax provision (benefit)
    483       (17,053 )
Non-cash compensation
    410        
Increase (decrease) in working capital:
               
Accounts receivable
    (43,567 )     (27,426 )
Due from related party
    351        
Inventories
    5,373       49,530  
Other assets
    (6,274 )     (6,330 )
Accounts payable, other payables and accruals, and long-term Liabilities
    10,004       45,877  
 
           
Net cash provided by operating activities
    29,164       57,783  
 
           
 
               
Cash flows (used in) provided by investing activities:
               
Purchase of property, plant and equipment
    (8,604 )     (28,816 )
Proceeds from sale of property, plant and equipment
    122       88  
 
           
Net cash used in investing activities
    (8,482 )     (28,728 )
 
           
 
               
Cash flows (used in) provided by financing activities:
               
Repayment of debt
    (2,010 )     (17,787 )
Net proceeds from insurance bond
    1,380        
 
           
Net cash used in by financing activities
    (630 )     (17,787 )
Effect of exchange rate differences on cash
    5,141       138  
 
           
Net increase in cash and cash equivalents
    25,193       11,406  
Cash and cash equivalents, beginning of period
    46,357       17,500  
 
           
Cash and cash equivalents, end of period
  $ 71,550     $ 28,906  
 
           
Supplemental disclosure cash flow information:
               
Cash paid during the period for income taxes, net of refunds received
  $ 1,058     $ 4,547  
Cash paid during the period for interest
    28,821       20,910  
See accompanying notes to consolidated financial statements.

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KRATON Polymers LLC
Consolidated Balance Sheets
September 30, 2005 and December 31, 2004
(in thousands of U.S. dollars)
                 
    September 30,     December 31,  
    2005     2004  
    (Unaudited)     (Restated —  
            See note 1(c))  
Assets
               
Current assets:
               
Cash and cash equivalents
  $ 71,550     $ 46,357  
Receivables, net of allowances of $884 and $750
    150,612       120,596  
Inventories of products
    191,303       211,076  
Inventories of materials and supplies
    9,412       8,778  
Other current assets
    17,495       10,381  
 
           
Total current assets
    440,372       397,188  
Property, plant, and equipment, less accumulated depreciation of $57,654 and $38,086
    395,453       424,333  
Identifiable intangible assets, less accumulated amortization of $13,887 and $8,002
    103,809       109,694  
Investment in joint venture
    10,539       10,753  
Deferred financing costs
    13,275       14,973  
Other long-term assets
    9,014       8,646  
 
           
Total assets
  $ 972,462     $ 965,587  
 
           
Liabilities and Member’s Equity
               
Current liabilities:
               
Current portion of long-term debt
  $ 2,680     $ 2,680  
Accounts payable—trade
    64,853       79,968  
Other payables and accruals
    50,269       40,059  
Due to related parties
    11,937       14,471  
Deferred income taxes
    1,240       1,240  
Insurance bond payable
    1,380        
 
           
Total current liabilities
    132,359       138,418  
Long-term debt, net of current portion
    460,653       462,663  
Deferred income taxes
    30,723       25,184  
Long-term liabilities
    29,317       25,629  
 
           
Total liabilities
    653,052       651,894  
 
           
Commitments and contingencies (note 5)
               
Member’s equity:
               
Common equity
    316,669       291,703  
Accumulated other comprehensive income
    2,741       21,990  
 
           
Total member’s equity
    319,410       313,693  
 
           
Total liabilities and member’s equity
  $ 972,462     $ 965,587  
 
           
See accompanying notes to consolidated financial statements.

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KRATON Polymers LLC
Consolidated Statements of Operations
Three Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
                 
    September 30,     September 30,  
    2005     2004  
            (Restated —  
            See note 1(c))  
Revenues
               
Sales
  $ 269,017     $ 209,407  
Other
    7,457       1,840  
 
           
Total revenues
    276,474       211,247  
Costs and expense
               
Costs of goods sold
    225,945       179,186  
 
           
Gross profit
    50,529       32,061  
 
               
Research and development expenses
    6,700       5,530  
Selling, general, and administrative expenses
    19,130       16,467  
Depreciation and amortization of identifiable intangibles
    11,548       11,185  
Earnings in joint venture
    (182 )     11  
Interest, net
    8,683       11,722  
 
           
Income (loss) before income taxes
    4,650       (12,854 )
Income tax (provision) benefit
    (1,268 )     6,848  
 
           
Net income (loss)
  $ 3,382     $ (6,006 )
 
           
See accompanying notes to consolidated financial statements.
KRATON Polymers LLC
Consolidated Statements of Operations
Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
                 
    September 30,     September 30,  
    2005     2004  
            (Restated —  
            See note 1(c))  
Revenues
               
Sales
  $ 732,338     $ 589,886  
Other
    20,287       8,738  
 
           
Total revenues
    752,625       598,624  
Costs and expense
               
Costs of goods sold
    586,145       514,692  
 
           
Gross profit
    166,480       83,932  
 
               
Research and development expenses
    19,500       17,246  
Selling, general, and administrative expenses
    54,692       46,503  
Depreciation and amortization of identifiable intangibles
    33,760       31,849  
Earnings in joint venture
    (1,050 )     (134 )
Interest, net
    25,833       27,719  
 
           
Income (loss) before income taxes
    33,745       (39,251 )
Income tax (provision) benefit
    (9,189 )     15,332  
 
           
Net income (loss)
  $ 24,556     $ (23,919 )
 
           
See accompanying notes to consolidated financial statements.

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KRATON Polymers LLC
Consolidated Statements of Cash Flows
Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
                 
    September 30,     September 30,  
    2005     2004  
            (Restated —  
            See note 1(c))  
Cash flows provided by (used in) operating activities:
               
Net income (loss)
  $ 24,556     $ (23,919 )
Adjustments to reconcile net income to net cash provided by operating activities:
               
Depreciation and amortization of identifiable intangibles
    33,760       31,849  
Amortization of deferred financing costs
    1,698       2,522  
Changes in the fair value of interest rate swaps
    (128 )     1,669  
Loss on disposal of fixed assets
    55       637  
(Undistributed) distributed earnings in joint venture
    (589 )     427  
Deferred tax provision (benefit)
    3,515       (17,053 )
Non-cash compensation
    410        
Increase (decrease) in working capital:
               
Accounts receivable
    (43,567 )     (27,426 )
Due from related party
    351        
Inventories
    5,373       49,530  
Other assets
    (6,274 )     (6,330 )
Accounts payable, other payables and accruals, and long-term liabilities
    10,004       45,877  
 
           
Net cash provided by operating activities
    29,164       57,783  
 
           
 
               
Cash flows (used in) provided by investing activities:
               
Purchase of property, plant and equipment
    (8,604 )     (28,816 )
Proceeds from sale of property, plant and equipment
    122       88  
 
           
Net cash used in investing activities
    (8,482 )     (28,728 )
 
           
 
               
Cash flows (used in) provided by financing activities:
               
Repayment of debt
    (2,010 )     (17,787 )
Net proceeds from insurance bond
    1,380        
 
           
Net cash used in financing activities
    (630 )     (17,787 )
Effect of exchange rate differences on cash
    5,141       138  
 
           
Net increase in cash and cash equivalents
    25,193       11,406  
Cash and cash equivalents, beginning of period
    46,357       17,500  
 
           
Cash and cash equivalents, end of period
  $ 71,550     $ 28,906  
 
           
Supplemental disclosure cash flow information:
               
Cash paid during the period for income taxes, net of refunds received
  $ 1,058     $ 4,547  
Cash paid during the period for interest
    28,821       20,910  
See accompanying notes to consolidated financial statements.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(Unaudited)
(1) Summary of Significant Accounting Policies
(a) Organization, Acquisition and Description of Business
     Polymer Holdings LLC together with its subsidiaries, unless otherwise indicated, are collectively referred to as “Polymer Holdings,” “we,” “our,” “ours,” and “us.” Polymer Holdings is a holding company whose only material asset is its investment in KRATON Polymers LLC, or KRATON. KRATON and its subsidiaries own substantially all of the consolidated operating assets. KRATON is the parent of Elastomers Holdings LLC (parent company of our United States operations), KRATON Polymers Holdings B.V. (parent company of non-U.S. operations) and KRATON Polymers Capital Corporation (a company with no operations). TJ Chemical Holdings LLC, or TJ Chemical, owns 100% of the equity interests of Polymer Holdings. TJ Chemical is indirectly owned by TPG Partners III, L.P., TPG Partners IV, L.P. and certain of their parallel investment entities, entities affiliated with or managed by J.P. Morgan Partners, LLC and its affiliates and KRATON Polymers Management LLC, or Management LLC.
     On December 23, 2003, Polymer Acquisition LLC, or Polymer Acquisition, a wholly owned subsidiary of Polymer Holdings, merged into KRATON, in a transaction we refer to as the Acquisition. Under the Merger Agreement dated as of November 5, 2003, as amended and restated on December 23, 2003, or the Merger Agreement, among Ripplewood Chemical, Polymer Holdings and Polymer Acquisition, Polymer Holdings acquired all of KRATON’s outstanding equity interests from Ripplewood Chemical Holding LLC, or Ripplewood Chemical, for consideration of $770.0 million for the business and $48.0 million for the excess cash on KRATON’s balance sheet immediately prior to closing.
     We manufacture styrenic block copolymers, or SBCs, at our manufacturing facilities in six countries: Belpre, Ohio; Wesseling, Germany; Berre, France; Pernis, The Netherlands; Paulinia, Brazil; and our joint venture in Kashima, Japan. SBCs are highly engineered synthetic elastomers, which are used in a wide variety of products to impart flexibility, resilience, strength, durability, and processability. We generally sell our products to customers for use in industrial and consumer applications. Based on our management approach, we believe that all material operations revolve around the manufacturing and sales of SBCs, and we currently report our operations, both internally and externally, as a single business segment.
(b) Basis of Presentation
     The consolidated financial statements presented herein are as follows:
  a.   Polymer Holdings and its wholly-owned subsidiaries, which include both Polymer Holdings and KRATON and its wholly-owned subsidiaries.
 
  b.   KRATON and its wholly-owned subsidiaries, which include only KRATON and its wholly-owned subsidiaries.
     The consolidated balance sheets, the consolidated statements of operations and the consolidated statements of cash flows for the periods presented are unaudited and reflect all adjustments, consisting of normal recurring items, which management considers necessary for a fair presentation. Operating results for the first nine months of 2005 are not necessarily indicative of results to be expected for the year ending December 31, 2005. All significant intercompany balances and transactions have been eliminated in consolidation. All dollar amounts in the tabulations in the notes to the consolidated financial statements are stated in thousands of dollars unless otherwise indicated. Certain amounts have been reclassified in the prior period to conform to the current period presentation.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(Unaudited)
     The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires estimates and assumptions that affect the reported amounts as well as certain disclosures. Our financial statements include amounts that are based on management’s best estimates and judgments. Actual results could differ from those estimates.
     These consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the prospectuses filed with the Securities and Exchange Commission , or the SEC, on September 2, 2005, pursuant to Rule 424(b)(3) under the Securities Act of 1933 for each of Polymer Holdings and KRATON.
     Unless specifically noted, these notes to consolidated financial statements apply to both Polymer Holdings and KRATON.
(c) Restatement of prior financial statements
     During the preparation of the interim financial statements for the period ended March 31, 2005, we discovered a computational error in the calculation of the additional cost of sales related to the inventory step up associated with the Acquisition. That step up was approximately $38.4 million and was being recorded to cost of sales as the related inventory items were sold. The error caused the reported amount of our cost of sales to be understated by approximately $2.3 million and $3.7 million for the three and nine months ended September 30, 2004, respectively, and $5.0 million for the year ended December 31, 2004, and decreased inventory by those same amounts.
     In addition, we have restated the December 31, 2004, balance sheet to record the unrealized gain on interest rate swaps included as a component of accumulated other comprehensive income on an after-tax basis, which has the effect of reducing member’s equity by approximately $0.6 million and increasing deferred income taxes by that same amount. This item was discovered in connection with a review of our financial statements undertaken in connection with the above item.
     As a result of these adjustments, on May 11, 2005, our audit committee decided to restate our financial statements for the year ended December 31, 2004, and the accompanying financial information reflects that restatement. Our audit committee has discussed these adjustments with our independent registered public accounting firm.
     These non-cash adjustments do not impact the calculation of any of the financial ratios in the senior secured credit facility for any period.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(Unaudited)
     The following tables reflect the effects of the adjustments Polymer Holdings and KRATON made to their consolidated statement of operations for the three and nine months ended September 30, 2004, and their consolidated balance sheets as of December 31, 2004 (in thousands).
                 
    Three months ended  
    September 30, 2004 (1)  
    As previously        
    reported     As restated  
Cost of goods sold
  $ 176,848     $ 179,186  
Gross profit
    34,399       32,061  
Loss before income taxes
    (10,516 )     (12,854 )
Income tax benefit
    5,940       6,848  
Net loss
    (4,576 )     (6,006 )
                 
    Nine months ended  
    September 30, 2004 (1)  
    As previously        
    reported     As restated  
Cost of goods sold
  $ 510,984     $ 514,692  
Gross profit
    87,640       83,932  
Loss before income taxes
    (35,543 )     (39,251 )
Income tax benefit
    13,943       15,332  
Net loss
    (21,600 )     (23,919 )
                                 
    KRATON     Polymer Holdings  
    December 31, 2004     December 31, 2004  
    As previously             As previously        
    reported     As restated     reported     As restated  
Inventories of product
  $ 216,090     $ 211,076     $ 216,090     $ 211,076  
Total current assets
    402,202       397,188       402,202       397,188  
Total assets
    970,601       965,587       972,427       967,413  
Deferred income taxes — noncurrent
    26,509       25,184       25,837       24,513  
Total liabilities
    653,219       651,894       746,219       744,895  
Common equity
    294,837       291,703       203,663       200,528  
Accumulated other comprehensive income
    22,545       21,990       22,545       21,990  
Total member’s equity
    317,382       313,693       226,208       222,518  
Total liabilities and member’s equity
    970,601       965,587       972,427       967,413  
 
(1)   The financial information for Polymer Holdings and KRATON are identical for the items set forth in the table.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(Unaudited)
(d) Recently Issued Accounting Standards
     In December 2004, the FASB issued SFAS No. 123(R), “Share-Based Payment,” which supersedes SFAS No. 148, “Accounting for Stock-Based Compensation — Transition and Disclosure an amendment of FASB Statement No. 123.” SFAS No. 123(R) requires a public entity to measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award. This eliminates the exception to account for such awards using the intrinsic method previously allowable under APB Opinion No. 25 “Accounting for Stock Issued to Employees.” In March 2005, the SEC issued Staff Accounting Bulletin (SAB) 107. Among other things, SAB 107 provides interpretive guidance related to the interaction between SFAS No. 123(R) and certain SEC rules and regulations, as well as provides the SEC staff’s views regarding the valuation of share-based payment arrangements for public companies. On April 14, 2005, the SEC issued Release No. 33-8568 which amends the compliance date of SFAS No. 123(R). As a result, SFAS No. 123(R) will be effective for the company as of the beginning of the first annual reporting period that begins after December 15, 2005. The company is currently evaluating the adoption method to be used upon the adoption of SFAS No. 123(R).
     FASB Interpretation No. 47, “Accounting for Conditional Asset Retirement Obligations, an interpretation of FASB Statement No. 143”, (FIN 47) clarifies that the term conditional asset retirement obligation as used in FASB Statement No. 143, “Asset Retirement Obligations”, (Statement No. 143) refers to a legal obligation to perform an asset retirement activity in which the timing and (or) method of settlement are conditional on a future event that may or may not be within the control of the entity. The obligation to perform the asset retirement activity is unconditional even though uncertainty exists about the timing and (or) method of settlement. Thus, the timing and (or) method of settlement may be conditional on a future event. Accordingly, an entity is required to recognize a liability for the fair value of a conditional asset retirement obligation if the fair value of the liability can be reasonably estimated. The fair value of a liability for the conditional asset retirement obligation should be recognized when incurred—generally upon acquisition, construction, or development and (or) through the normal operation of the asset. Uncertainty about the timing and (or) method of settlement of a conditional asset retirement obligation should be factored into the measurement of the liability when sufficient information exists. Statement No. 143 acknowledges that in some cases, sufficient information may not be available to reasonably estimate the fair value of an asset retirement obligation. FIN 47 also clarifies when an entity would have sufficient information to reasonably estimate the fair value of an asset retirement obligation. FIN 47 is effective no later than the end of fiscal years ending after December 15, 2005. The adoption of FIN 47 is not expected to have a material impact to the Company.
(2) Detail of Certain Balance Sheet Accounts
                 
    September 30,     December 31,  
    2005     2004  
    (in thousands)  
Inventories:
               
Finished products
  $ 171,915     $ 185,609  
Work in progress
    3,413       3,844  
Raw materials
    15,975       21,623  
 
           
 
  $ 191,303     $ 211,076  
 
           

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(Unaudited)
                 
    September 30,     December 31,  
    2005     2004  
    (in thousands)  
Other payables and accruals:
               
Employee related
  $ 17,357     $ 6,250  
Interest
    3,845       8,143  
Property and other taxes
    6,347       5,814  
Customer rebates
    6,238       6,417  
Income taxes payable
    2,131       174  
Other
    14,351       13,261  
 
           
 
  $ 50,269     $ 40,059  
 
           
(3) Comprehensive Income (Loss)
     The components of comprehensive income (loss) include the following (in thousands):
                                 
    Three months ended     Nine months ended  
    September 30,     September 30,  
    2005     2004     2005     2004  
Polymer Holdings
                               
 
                               
Net income (loss)
  $ 954     $ (6,006 )   $ 18,841     $ (23,919 )
Foreign currency Adjustments
    1,157       4,998       (20,925 )     (2,861 )
Unrealized gain on interest rate swaps
    818             1,676        
 
                       
Total comprehensive income (loss)
  $ 2,929     $ (1,008 )   $ (408 )   $ (26,780 )
 
                       
 
                               
KRATON
                               
 
                               
Net income (loss)
  $ 3,382     $ (6,006 )   $ 24,556     $ (23,919 )
Foreign currency Adjustments
    1,157       4,998       (20,925 )     (2,861 )
Unrealized gain on interest rate swaps
    818             1,676        
 
                       
Total comprehensive income (loss)
  $ 5,357     $ (1,008 )   $ 5,307     $ (26,780 )
 
                       
     Accumulated the comprehensive income consisted of the following for both Polymer Holdings and KRATON (in thousands):
                 
    September 30, 2005     December 31, 2004  
Foreign currency Adjustments
  $ 35     $ 20,960  
Unrealized gain on interest rate swaps
    2,706       1,030  
 
           
Total accumulated other comprehensive income
  $ 2,741     $ 21,990  
 
           
(4) Long-Term Debt
     Long-term debt consists of the following:
                 
    September 30,     December 31,  
    2005     2004  
    (in thousands)  
KRATON:
               
Senior Secured Credit Facility:
               
Term loans
  $ 263,333     $ 265,343  
Revolver
           
8.125% Senior Subordinated Notes
    200,000       200,000  
 
           
Total long-term debt
    463,333       465,343  
Less current portion of long-term debt
    2,680       2,680  
 
           
Total KRATON
    460,653       462,663  
 
           
 
               
Polymer Holdings:
               
12% Senior Discount Notes
    102,317       93,672  
 
           
Total Polymer Holdings
  $ 562,970     $ 556,335  
 
           
(a) Senior Secured Credit Facility
     In connection with the Acquisition, KRATON entered into a senior secured credit facility in the aggregate principal amount of $420 million. The senior secured credit facility consists of a $60 million revolving credit facility, or the Revolving Facility, and a $360 million term loan facility, or the Term Facility, and is subject to the terms and conditions of the credit agreement, dated as of December 23, 2003, or the Credit Agreement, among us, various lenders, Goldman Sachs Credit Partners L.P., UBS Securities LLC, UBS AG, Stamford Branch, Credit Suisse First Boston, Morgan Stanley Senior Funding Inc., and General Electric Capital Corporation. We refer to the loans made under the Revolving Facility as the Revolving Loans, and the loans made under the Term Facility as the Term Loans. Three of KRATON’s subsidiaries, KRATON Polymers U.S. LLC, Elastomers Holdings LLC, and KRATON Polymers Capital Corporation, and Polymer Holdings, have guaranteed the senior secured credit facility and we refer to these guarantors, together with KRATON as the Loan Parties. The senior secured credit facility is secured by a perfected first priority security interest in all of each Loan Party’s tangible and intangible assets, including intellectual property, real property, all of our capital stock and the capital stock of our domestic subsidiaries and 65% of the capital stock of the direct foreign subsidiaries of each Loan Party. As of September 30, 2005, and December 31, 2004, we had no outstanding borrowings under the Revolving Facility.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(Unaudited)
     Maturity
          The Revolving Loans outstanding are payable in a single maturity on December 23, 2008. The Term Loans are payable in 24 consecutive equal quarterly installments, in an aggregate annual amount equal to 1.0% of the original principal amount of the Term Loans. The remaining balance is payable in four equal quarterly installments commencing on March 31, 2010, and ending on December 23, 2010.
     Interest
          KRATON’s Senior Leverage Ratio was less than 2.50:1.00 for the quarters ended March 31 and June 30, 2005. In accordance with Amendment No. 2, dated October 21, 2004, the Term Loan bear interest at the adjusted Eurodollar rate plus 2.50%, a decrease from 2.75%.
          Effective July 1, 2005, the Term Loans bear interest at a rate equal to the adjusted Eurodollar rate plus 2.50% per annum or, at our option, the base rate plus 1.50% per annum. Effective July 1, 2005, the Revolving Loans bear interest at a rate equal to the adjusted Eurodollar rate plus 2.50% per annum or at our option, the base rate plus 1.50% per annum. A commitment fee equal to 0.5% per annum times the daily average undrawn portion of the Revolving Facility accrues and is payable quarterly in arrears.
     Mandatory Prepayments
          The Term Facility will be subject to mandatory prepayment with, in general: (1) 100% of the net cash proceeds of certain asset sales, subject to certain reinvestment rights; (2) 100% of the net cash proceeds of certain insurance and condemnation payments, subject to certain reinvestment rights; (3) 50% of the net cash proceeds of equity offerings (declining to 25%, if a leverage ratio in met); (4) 100% of the net cash proceeds of debt incurrences (other than debt incurrences permitted under the Credit Agreement); and (5) 50% of our excess cash flow, as defined in the Credit Agreement (declining to 25%, if a leverage ratio is met). Any such prepayment is applied first to the Term Facility and thereafter to the Revolving Facility.
          We were not required to make a prepayment related to excess cash flow generated during the year ended December 31, 2004.
     Covenants
          The Credit Agreement contains certain affirmative covenants including, among others, covenants to furnish the Lenders with financial statements and other financial information and to provide the Lenders notice of material events and information regarding collateral.
          The Credit Agreement contains certain negative covenants including limitation on indebtedness, limitation on liens, limitation on fundamental changes, limitation on investments, limitation on asset sales, limitation on sales and leasebacks, limitation on restricted payments, limitation on transactions with affiliates, and certain financial covenants.
          As of September 30, 2005, we were in compliance with all covenants under the Credit Agreement.
     (b) Senior Subordinated Notes Due January 15, 2014
          In connection with the Acquisition, KRATON and KRATON Polymers Capital Corporation issued the 8.125% Notes in an aggregate principal amount of $200.0 million. The 8.125% Notes are subject to the provisions for mandatory and optional prepayment and acceleration and are payable in full on January 15, 2014. Polymer

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(Unaudited)
Holdings and each of KRATON Polymers U.S. LLC and Elastomers Holdings LLC, which we refer to collectively as the Subsidiary Guarantors, have guaranteed the 8.125% Notes. The amount of 8.125% Notes outstanding at September 30, 2005, and December 31, 2004, is $200.0 million.
     Interest
          The 8.125% Notes bear interest at a fixed rate of 8.125% per annum. Interest is payable (1) on January 15 and July 15 each year, with the first such payment to be made July 15, 2004, (2) upon any redemption or prepayment as described below, and (3) at maturity.
     Optional Redemption
          Generally, we cannot elect to redeem the 8.125% Notes until January 15, 2009. After such date, we may elect to redeem the 8.125% Notes at certain predetermined redemption prices, plus accrued, and unpaid interest.
Prior to January 15, 2009, we may redeem up to a maximum of 35% of the 8.125% Notes with the proceeds of certain permitted equity offerings at a redemption price equal to 108.125% of the principal amount of the 8.125% Notes being redeemed, plus accrued and unpaid interest.
     Covenants
          The 8.125% Notes contain certain affirmative covenants including, among others, covenants to furnish the holders of the 8.125% Notes with financial statements and other financial information and to provide the holders of the 8.125% Notes notice of material events.
          The 8.125% Notes contain certain negative covenants including limitation on indebtedness, limitation on restricted payments, limitation on restrictions on distributions from certain subsidiaries, limitation on lines of business, and mergers and consolidations.
          As of September 30, 2005, we are in compliance with all covenants under the 8.125% Notes.
     Exchange Offer
          On October 24, 2005, KRATON completed an offer to exchange all of its outstanding 8.125% Notes issued under an exemption from the registration requirement of the Securities Act for identical notes registered under the Securities Act. In this offer, 100% of the outstanding notes issued under the exemptions from registration were tendered and exchanged for registered notes. The registered notes are identical to the unregistered notes, except that the registered notes do not carry transfer restrictions.
(c) Senior Discount Notes Due July 15, 2014
          In connection with an amendment to KRATON’s senior secured credit facility, Polymer Holdings and Polymer Holdings Capital Corporation issued $150 million principal amount at maturity (from which $91.9 million of net cash proceeds were realized) of 12% Senior Discount Notes due 2014, or the 12% Discount Notes, on November 2, 2004. Neither KRATON nor any of its subsidiaries guarantee the 12% Discount Notes. The 12% Discount Notes had an initial accreted value of $612.76 per $1,000 in principal amount at maturity. The accreted value of each Note will increase on a daily basis from the date of issuance until January 15, 2009, at a rate of 12.000% per annum, reflecting the accrual of non-cash interest, such that the accreted value on January 15, 2009 will equal the principal amount at maturity. The amount of the 12% Discount Notes outstanding at September 30, 2005, was $150.0 million, with an accreted value of $102.3 million.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(Unaudited)
     Interest
          No cash interest will accrue on the 12% Discount Notes prior to January 15, 2009. Thereafter, cash interest on the 12% Discount Notes will accrue and be payable semi-annually in arrears on January 15 and July 15 of each year, commencing on July 15, 2009, at a rate of 12.000% per annum. Interest is payable (1) on January 15 and July 15 each year, with the first such payment to be made July 15, 2009, (2) upon any redemption or prepayment as described below, and (3) at maturity.
     Optional Redemption
          At any time prior to January 15, 2007, we may elect to redeem up to 35% of the 12% Discount Notes at a redemption price of 112.000% of the accreted value thereof at the redemption date, with the net cash proceeds of one or more equity offerings by us or KRATON, to the extent the net proceeds are distributed by KRATON to us, or a contribution to the common equity of capital of us from the net proceeds of one or more equity offerings by a direct or indirect payment of us. On or after January 15, 2009, we may elect to redeem the 12% Discount Notes at certain predetermined redemption prices, plus accrued and unpaid interest.
     Covenants
          The 12% Discount Notes contain certain affirmative covenants including, among others, covenants to furnish the holders of Notes with financial statements and other financial information and to provide the holders of Notes notice of material events.
          The 12% Discount Notes contain certain negative covenants including limitation on indebtedness, limitation on restricted payments, limitation on restrictions on distributions from certain subsidiaries, limitation on lines of business, and mergers and consolidations.
          As of September 30, 2005, we were in compliance with all covenants under the 12% Discount Notes.
     Exchange Offer
          On October 20, 2005, Polymer Holdings completed an offer to exchange all of its outstanding 12% Discount Notes issued under an exemption from the registration requirement of the Securities Act, for identical notes registered under the Securities Act. In this offer, 100% of the outstanding notes issued under the exemptions from registration were tendered and exchanged for registered notes. The registered notes are identical to the unregistered notes, except that the registered notes do not carry transfer restrictions.
     (5) Income Taxes
          Income taxes are recorded utilizing an asset and liability approach. This method gives consideration to the future tax consequences associated with the differences between the financial accounting basis and tax basis of the assets and liabilities, and the ultimate realization of any deferred tax asset resulting from such differences. We consider all foreign earnings as being permanently invested in that country.
     (6) Commitments and Contingencies
     Legal Proceedings
          We, and certain of our subsidiaries, are parties to several legal proceedings that have arisen in the ordinary course of business. While the outcome of these proceedings cannot be predicted with certainty, management does not expect these matters to have a material adverse effect on our financial position, results of operations or cash flows.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(Unaudited)
     Pernis, The Netherlands Manufacturing Facility Fire
          On June 6, 2004, a fire occurred at our Pernis, The Netherlands manufacturing facility, which is operated for us by Shell Nederland Chemie, a subsidiary of Shell Chemicals, under an operating agreement. There were no known injuries or environmental damages and no claims have been made against us arising out of this incident. We currently do not believe we have any liability related to this incident. We currently estimate the damage to property to be approximately $4 million, which we expect will be covered by our property and casualty insurance, subject to a $1 million insurance deductible. The amount of the deductible was included as additional cost of goods sold during the three months ended June 30, 2004. To date, we have received $1.5 million of insurance proceeds and recorded a $0.5 million gain on disposal of assets related to the insurance proceeds in the three months ended March 31, 2005. We continue to negotiate with our insurance carrier to settle the remaining claim.
          We have business interruption insurance, which requires a minimum of 45 days of business interruption and satisfaction of a $2.5 million deductible before any benefit may be realized. We have received $0.9 million of insurance proceeds, representing full and final settlement of the business interruption insurance and recorded that amount as a gain in the three months ended June 30, 2005.
     (7) Employee Benefits
(a) Investment in KRATON Management LLC
          We provided certain key employees who held interests in us prior to the Acquisition the opportunity to roll over their interests into membership units of Management LLC, which owns a corresponding number of membership units in TJ Chemical. Additional employees have also been given the opportunity to purchase membership units in TJ Chemical through Management LLC at the original buy-in price and have been granted restricted and notional restricted membership units. The membership units are subject to customary tag-along and drag-along rights, as well as a call right in the event of termination of employment. On June 15, 2005, TJ Chemical granted Kevin M. Fogarty a notional restricted unit award with a fair value of $300,000. This award will vest 20% on each of the first five anniversaries of his employment commencement date (June 13, 2005), so long as Mr. Fogarty remains employed by us through the applicable vesting date. The actual membership units will not be distributed until the earlier of (1) a change in control or (2) the termination of Mr. Fogarty’s employment. In addition, David M. Davis forfeited 350,000 restricted shares in accordance with his separation agreement. As of September 30, 2005, there were 5,655,000 membership units of Management LLC issued and outstanding.
(b) TJ Chemical Holdings LLC 2004 Option Plan
          On September 9, 2004, TJ Chemical adopted an option plan, or the Option Plan, which allows for the grant to key employees, consultants, members and service providers of TJ Chemical and its affiliates, including KRATON, of non-qualified options to purchase TJ Chemical membership units in order to provide them with an appropriate incentive to encourage them to continue in the employ of or to perform services for, and to improve the growth and profitability of, TJ Chemical and its affiliates. The aggregate number of membership units with respect to which options may be granted under the Option Plan shall not exceed an amount representing 8% of the outstanding membership units and profits units of TJ Chemical on March 31, 2004, on a fully diluted basis. On June 15, 2005, TJ Chemical granted Mr. Fogarty 1,250,000 options. In addition, Mr. Davis forfeited 1,300,000 options in accordance with his separation agreement. As of September 30, 2005, there were 14,114,375 options granted and outstanding. All options granted in the period ended September 30, 2005, had an exercise price of $1 per membership unit, which is the same as the fair value of the membership unit on the date of grant.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(Unaudited)
          In general, the options vest and become exercisable in 20% increments annually on each of the first five anniversaries of the grant date, so long as the holder of the option is still an employee on the vesting date. The exercise price per membership unit shall equal the fair market value of a membership unit on the date of grant. Upon a change in control, the options will become 100% vested if the participant’s employment is terminated without cause or by the participant for good reason (as each term is defined in the Option Plan) within the 2-year period immediately following such change in control.
          A committee, or the Committee, of TJ Chemical’s board has been appointed to administer the Option Plan, including, without limitation, the determination of the individuals to whom grants will be made, the number of membership units subject to each grant and the various terms of such grants. The Committee will have the right to terminate all of the outstanding options at any time and pay the participants an amount equal to the excess, if any, of the fair market value of a membership unit as of such date over the exercise price with respect to such option, or the spread. Generally, in the event of a merger (except a merger where membership unit holders receive securities of another corporation), the options will pertain to and apply to the securities that the option holder would have received in the merger; and in the event of a dissolution, liquidation, sale of assets or any other merger, the Committee has the discretion to (1) provide for an “exchange” of the options for new options on all or some of the property for which the membership units are exchanged (as may be adjusted by the Committee), (2) cancel and cash out the options (whether or not then vested) at the spread or (3) provide for a combination of both. Generally, the Committee may make appropriate adjustments with respect to the number of membership units covered by outstanding options and the exercise price in the event of any increase or decrease in the number of membership units or any other corporate transaction not described in the preceding sentence.
          On a termination of a participant’s employment (other than without cause or by the participant for good reason within the 2-year period immediately following a change in control), unvested options automatically expire and vested options expire on the earlier of (1) the commencement of business on the date the employment is terminated for cause; (2) 90 days after the date employment is terminated for any reason other than cause, death or disability; (3) 1-year after the date employment is terminated by reason of death or disability; or (4) the 10th anniversary of the grant date for such option.
          Generally, pursuant to TJ Chemical’s operating agreement, membership units acquired pursuant to the Option Plan are subject to customary tag-along and drag-along rights for the 180-day period following the later of a termination of employment and 6 months and 1-day following the date that units were acquired pursuant to the exercise of the option, TJ Chemical has the right to repurchase each membership unit then owned by the participant at fair value, as determined in good faith by the Board of Directors of TJ Chemical.
     (c) Other Equity Awards
          We provided certain key employees with a grant of profits units (subject to the 8% pool limitation described above). Profits units are economically equivalent to an option, except that they provide the recipient/employee with an opportunity to recognize capital gains in the appreciation of TJ Chemicals and its affiliates and TJ Chemicals and its affiliates do not receive any deduction at the time of grant or disposition of the profits unit by the employee. Generally, 50% of the profits units granted will vest when the fair value of TJ Chemical’s assets equal or exceed two times the Threshold Amount, which is defined as the initial value of TJ Chemical, and 50% of the profits units granted will vest when the fair value of TJ Chemical’s assets equal or exceed three times the Threshold Amount, provided, that the participant is employed by KRATON or its subsidiaries on such vesting date, and provided further, that 100% of the profits units shall become vested upon a change in control. Upon the occurrence of any of the foregoing vesting events, TJ Chemicals will pay to the holders of the profits units the amount of the difference between initial value of the profits units and the then current fair value of the profits units as determined by the profits units agreement. Compensation expense will be recorded in our financial statements for this difference at the time it becomes probable the profits units will become vested. On June 15, 2005, TJ Chemical granted Mr. Fogarty 300,000 profit units. In addition, Mr. Davis forfeited 281,250 profits units

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(Unaudited)
in accordance with his separation agreement. As of September 30, 2005, there were 2,031,250 profits units granted and outstanding.
     (d) KRATON Polymers LLC Executive Deferred Compensation Plan
          On September 9, 2004, the Board of Directors KRATON adopted the KRATON Deferred Compensation Plan. Under the plan, certain employees will be permitted to elect to defer a portion (generally up to 50%) of their annual incentive bonus with respect to each bonus period. Participating employees will be credited with a notional number of membership units based on the fair value of TJ Chemical membership units as of the date of deferral, although the distribution of membership units in such accounts may be made indirectly through Management LLC. Such membership units will be distributed upon termination of the participant’s employment subject to a call right or upon a change in control. We reserved 2 million membership units for issuance pursuant to the KRATON Deferred Compensation Plan and as of September 30, 2005, there were no granted or outstanding membership units.
     (e) 2005 Incentive Compensation Plan
          On June 9, 2005, the Compensation Committee of the Board of Directors, or the Board, of KRATON approved and adopted the 2005 Incentive Compensation Plan, including the performance-based criteria by which potential payouts to participants will be determined. The 2005 Incentive Compensation Plan is designed to attract, retain, motivate and reward officers, and certain employees that have been deemed eligible to participate. The common bonus pool is determined based on EBITDA and may be increased or decreased up to $1 million based on a series of additional performance criteria as established by the Compensation Committee. For the bonus year which ends December 31, 2005, KRATON believes that the bonus pool will range from approximately $10 million to $14 million. Based on the current forecast for the twelve months ended December 31, 2005, KRATON has adequately accrued for the 2005 Incentive Compensation Plan as of September 30, 2005.
     (f) Retirement Plans
          The components of net period benefit cost related to pension benefits for the three and nine months ended September 30, 2005 and September 30, 2004 are as follows (in thousands):
                                 
    Three Months Ended     Nine months Ended  
    September 30     September 30
  2005   2004   2005   2004
 
Components of net periodic benefit cost:
                               
Service cost
  $ 886     $ 831     $ 2,658     $ 2,493  
Interest cost
    779       694       2,337       2,082  
Expected return on plan assets
    (736 )     (683 )     (2,208 )     (2,048 )
 
Net periodic benefit cost
  $ 929     $ 842     $ 2,787     $ 2,527  
 
     The components of net periodic benefit cost related to other postretirement benefits for the three and nine months ended September 30, 2005 and September 30, 2004 are as follows (in thousands):
                                 
    Three Months Ended   Nine Months Ended
    September 30   September 30
  2005   2004   2005   2004
 
Components of net periodic benefit cost:
                               
Service cost
  $ 91     $ 106     $ 275     $ 319  
Interest cost
    119       134       357       402  
Recognized actuarial gain
                (3 )      
 
Net periodic benefit cost
  $ 210     $ 240     $ 629     $ 721  
 

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to the Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
     (8) Supplemental Guarantor Information — Polymer Holdings LLC
          Polymer Holdings was not a party to the issuance of the 8.125% Notes. Polymer Holdings’ separate financial statements are included in the following Supplemental Guarantor Information as of, and for the Nine Months Ended September 30, 2005, for the sole purpose that the following consolidated balances will agree to Polymer Holdings’ consolidated financial statements.
Balance Sheet
                                                 
    As of September 30, 2005  
    Polymer             Guarantor     Non-Guarantor              
    Holdings (1)     KRATON (2)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Assets
                                               
Current assets:
                                               
Cash and cash equivalents
  $     $     $ 32,847     $ 38,703     $     $ 71,550  
Receivables, net
                60,423       97,563       (7,374 )     150,612  
Inventories of products
                118,606       79,935       (7,238 )     191,303  
Inventories of materials and supplies
                5,853       3,559             9,412  
Other current assets
          5,795       970       10,730             17,495  
 
                                   
Total current assets
          5,795       218,699       230,490       (14,612 )     440,372  
Property, plant, and equipment, less accumulated depreciation
          130,106       173,176       92,171             395,453  
Identifiable intangible assets, less accumulated amortization
          54,998             48,811             103,809  
Investment in consolidated subsidiaries
    329,582                         (329,582 )      
Investment in joint venture
          813             9,726             10,539  
Deferred financing costs
    1,724       13,275                         14,999  
Other long-term assets
          104,981       272,814       3,964       (372,745 )     9,014  
 
                                   
Total assets
  $ 331,306     $ 309,968     $ 664,689     $ 385,162     $ (716,939 )   $ 974,186  
 
                                   
 
                                               
Liabilities and Member’s Equity
                                               
Current liabilities:
                                               
Current portion of long-term debt
  $     $ 2,680     $     $     $     $ 2,680  
Accounts payable — trade
          2,900       22,931       39,022             64,853  
Other payables and accruals
          3,844       19,947       26,478             50,269  
Due to (from) related parties
                2,127       17,184       (7,374 )     11,937  
Deferred income taxes
                (417 )     1,657             1,240  
Insurance bond payable
          1,380                         1,380  
 
                                   
Total current liabilities
          10,804       44,588       84,341       (7,374 )     132,359  
 
                                               
Long-term debt, net of current portion
    102,317       460,653                         562,970  
Deferred income taxes
    (3,703 )     299       30,815       (391 )           27,020  
Long-term liabilities
          279,765       16,583       105,714       (372,745 )     29,317  
 
                                   
Total liabilities
    98,614       751,521       91,986       189,664       (380,119 )     751,666  
 
                                   
Commitments and contingencies (note 5)
                                   
Member’s equity:
                                               
Common equity
    232,692       (444,259 )     572,703       195,463       (336,820 )     219,779  
Accumulated other comprehensive income
          2,706             35             2,741  
 
                                   
Total member’s equity
    232,692       (441,553 )     572,703       195,498       (336,820 )     222,520  
 
                                   
Total liabilities and member’s equity
  $ 331,306     $ 309,968     $ 664,689     $ 385,162     $ (716,939 )   $ 974,186  
 
                                   
 
(1)   Polymer Holdings LLC and Polymer Holdings Capital Corporation are the issuers of the 12% Discount Notes. Polymer Holdings Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the issuers would provide information that would be useful. Neither Polymer Holdings nor Polymer Holdings Capital Corporation is a guarantor of the 8.125% Notes.
 
(2)   KRATON Polymers LLC and KRATON Polymers Capital Corporation are the issuers of the 8.125% Notes. KRATON Polymers Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the Issuers would provide additional information that would be useful.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to the Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
Balance Sheet
                                                 
    As of December 31, 2004  
    Polymer             Guarantor     Non-Guarantor              
    Holdings (1)     KRATON (2)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Assets
                                               
Current assets:
                                               
Cash and cash equivalents
  $     $     $ 15,981     $ 30,376     $     $ 46,357  
Receivables, net
          454       43,143       84,467       (7,468 )     120,596  
Inventories of products
          1,684       120,264       91,666       (2,538 )     211,076  
Inventories of materials and supplies
                5,673       3,105             8,778  
Other current assets
          2,288       577       7,516             10,381  
 
                                   
Total current assets
          4,426       185,638       217,130       (10,006 )     397,188  
Property, plant, and equipment, less accumulated depreciation
          138,133       181,292       104,908             424,333  
Identifiable intangible assets, less accumulated amortization
          60,883             48,811             109,694  
Investment in consolidated subsidiaries
    329,582                         (329,582 )      
Investment in joint venture
          813             9,940             10,753  
Deferred financing costs
    1,826       14,973                         16,799  
Other long-term assets
          118,127       252,066       3,529       (365,076 )     8,646  
 
                                   
Total assets
  $ 331,408     $ 337,355     $ 618,996     $ 384,318     $ (704,664 )   $ 967,413  
 
                                   
 
                                               
Liabilities and Member’s Equity
                                               
Current liabilities:
                                               
Current portion of long-term debt
  $     $ 2,680     $     $     $     $ 2,680  
Accounts payable — trade
          2,900       29,977       47,091             79,968  
Other payables and accruals
          8,143       16,199       15,717             40,059  
Due to (from) related parties
                456       21,483       (7,468 )     14,471  
Deferred income taxes
                (417 )     1,657             1,240  
 
                                   
Total current liabilities
          13,723       46,215       85,948       (7,468 )     138,418  
 
Long-term debt, net of current portion
    93,672       462,663                         556,335  
Deferred income taxes
    (671 )     12,344       19,053       (6,213 )           24,513  
Long-term liabilities
          261,950       12,865       115,890       (365,076 )     25,629  
 
                                   
Total liabilities
    93,001       750,680       78,133       195,625       (372,544 )     744,895  
 
                                   
Commitments and contingencies (note 5)
                                   
Member’s equity:
                                               
Common equity
    238,407       (414,355 )     540,863       167,733       (332,120 )     200,528  
Accumulated other comprehensive income
          1,030             20,960             21,990  
 
                                   
Total member’s equity
    238,407       (413,325 )     540,863       188,693       (332,120 )     222,518  
 
                                   
Total liabilities and member’s equity
  $ 331,408     $ 337,355     $ 618,996     $ 384,318     $ (704,664 )   $ 967,413  
 
                                   
 
(1)   Polymer Holdings LLC and Polymer Holdings Capital Corporation are the issuers of the 12% Discount Notes. Polymer Holdings Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the issuers would provide information that would be useful. Neither Polymer Holdings nor Polymer Holdings Capital Corporation is a guarantor of the 8.125% Notes.
 
(2)   KRATON Polymers LLC and KRATON Polymers Capital Corporation are the issuers of the 8.125% Notes. KRATON Polymers Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the Issuers would provide additional information that would be useful.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to the Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
Statement of Operations
                                                 
    Three Months Ended September 30, 2005  
    Polymer             Guarantor     Non-Guarantor              
    Holdings (1)     KRATON (2)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Revenues:
                                               
Sales
  $     $     $ 143,409     $ 154,784     $ (29,176 )   $ 269,017  
Other
                      7,457             7,457  
 
                                   
Total revenues
                143,409       162,241       (29,176 )     276,474  
Costs and expenses:
                                               
Cost of goods sold
          438       115,689       138,994       (29,176 )     225,945  
 
                                   
Gross profit
          (438 )     27,720       23,247             50,529  
 
                                               
Research and development expenses
                3,437       3,263             6,700  
Selling, general, and administrative expenses
                10,252       8,878             19,130  
Depreciation and amortization
          4,953       4,572       2,023             11,548  
Earnings in joint venture
                      (182 )           (182 )
Interest expense (income)
    3,063       9,284       (1,885 )     1,284             11,746  
 
                                   
Income (loss) before income taxes
    (3,063 )     (14,675 )     11,344       7,981             1,587  
Income tax (provision) benefit
    635       3,998       (3,091 )     (2,175 )           (633 )
 
                                   
Net income (loss)
  $ (2,428 )   $ (10,677 )   $ 8,253     $ 5,806     $     $ 954  
 
                                   
                                                 
    Three Months Ended September 30, 2004  
    Polymer             Guarantor     Non-Guarantor              
    Holdings (1)     KRATON (2)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Revenues:
                                               
Sales
  $     $     $ 115,682     $ 124,379     $ (30,654 )   $ 209,407  
Other
                      1,840             1,840  
 
                                   
Total revenues
                  115,682       126,219       (30,654 )     211,247  
Costs and expenses:
                                             
Cost of goods sold
          6,011       92,003       111,826       (30,654 )     179,186  
 
                                   
Gross profit
            (6,011 )     23,679       14,393             32,061  
 
                                               
Research and development expenses
                2,681       2,849             5,530  
Selling, general, and administrative expenses
                11,296       5,171             16,467  
Depreciation and amortization
          4,692       4,482       2,011             11,185  
Earnings in joint venture
                      11             11  
Interest expense (income)
          12,107       (1,583 )     1,198             11,722  
 
                                   
Income (loss) before income taxes
          (22,810 )     6,803       3,153             (12,854 )
Income tax (provision) benefit
          9,532       (3,038 )     354             6,848  
 
                                   
Net income (loss)
  $     $ (13,278 )   $ 3,765     $ 3,507     $     $ (6,006 )
 
                                   
 
(1)   Polymer Holdings LLC and Polymer Holdings Capital Corporation are the issuers of the 12% Discount Notes. Polymer Holdings Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the issuers would provide information that would be useful. Neither Polymer Holdings nor Polymer Holdings Capital Corporation is a guarantor of the 8.125% Notes.
 
(2)   KRATON Polymers LLC and KRATON Polymers Capital Corporation are the issuers of the 8.125% Notes. KRATON Polymers Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the Issuers would provide additional information that would be useful.

23


Table of Contents

Polymer Holdings LLC and KRATON Polymers LLC
Notes to the Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
Statement of Operations
                                                 
    Nine Months Ended September 30, 2005  
    Polymer             Guarantor     Non-Guarantor              
    Holdings (1)     KRATON (2)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Revenues:
                                               
Sales
  $     $     $ 399,119     $ 441,788     $ (108,569 )   $ 732,338  
Other
                      20,287             20,287  
 
                                   
Total revenues
                399,119       462,075       (108,569 )     752,625  
Costs and expenses:
                                               
Cost of goods sold
          6,384       304,790       383,540       (108,569 )     586,145  
 
                                   
Gross profit
          (6,384 )     94,329       78,535             166,480  
 
                                               
Research and development expenses
                9,783       9,717             19,500  
Selling, general, and administrative expenses
                32,825       21,867             54,692  
Depreciation and amortization
          13,911       13,814       6,035             33,760  
Earnings in joint venture
                      (1,050 )           (1,050 )
Interest expense (income)
    8,745       27,258       (5,286 )     3,861             34,578  
 
                                   
Income (loss) before income taxes
    (8,745 )     (47,553 )     43,193       38,105             25,000  
Income tax (provision) benefit
    3,030       12,949       (11,762 )     (10,376 )           (6,159 )
 
                                   
Net income (loss)
  $ (5,715 )   $ (34,604 )   $ 31,431     $ 27,729     $     $ 18,841  
 
                                   
                                                 
    Nine Months Ended September 30, 2004  
    Polymer             Guarantor     Non-Guarantor              
    Holdings (1)     KRATON (2)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Revenues:
                                               
Sales
  $     $     $ 319,311     $ 347,593     $ (77,018 )   $ 589,886  
Other
                      8,738             8,738  
 
                                   
Total revenues
                319,311       356,331       (77,018 )     598,624  
Costs and expenses:
                                               
Cost of goods sold
          30,940       245,390       315,380       (77,018 )     514,692  
 
                                   
Gross profit
          (30,940 )     73,921       40,951             83,932  
 
                                               
Research and development expenses
                8,174       9,072             17,246  
Selling, general, and administrative expenses
                28,135       18,368             46,503  
Depreciation and amortization
          13,297       13,210       5,342             31,849  
Earnings in joint venture
                      (134 )           (134 )
Interest expense (income)
          28,549       (4,498 )     3,668             27,719  
 
                                   
Income (loss) before income taxes
          (72,786 )     28,900       4,635             (39,251 )
Income tax (provision) benefit
          25,567       (10,115 )     (120 )           15,332  
 
                                   
Net income (loss)
  $     $ (47,219 )   $ 18,785     $ 4,515     $     $ (23,919 )
 
                                   
 
(1)   Polymer Holdings LLC and Polymer Holdings Capital Corporation are the issuers of the 12% Discount Notes. Polymer Holdings Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the issuers would provide information that would be useful. Neither Polymer Holdings nor Polymer Holdings Capital Corporation is a guarantor of the 8.125% Notes.
 
(2)   KRATON Polymers LLC and KRATON Polymers Capital Corporation are the issuers of the 8.125% Notes. KRATON Polymers Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the Issuers would provide additional information that would be useful.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to the Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
Statements of Cash Flows
                                                 
    Nine Months Ended September 30, 2005  
    Polymer             Guarantor     Non-Guarantor              
    Holdings(1)     KRATON (2)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Cash Flows provided by (used in) operating activities
  $     $ (30,332 )   $ 43,542     $ 15,954     $     $ 29,164  
Cash flows used in investing activities:
                                               
Purchase of plant and equipment, net of proceeds from sales of equipment
                (5,860 )     (2,622 )           (8,482 )
 
                                   
Net cash used in investing activities
                (5,860 )     (2,622 )           (8,482 )
 
                                   
Cash flows provided by (used in) financing activities:
                                               
Repayment of debt
          (2,010 )                       (2,010 )
Proceeds from (payments on) intercompany loans
          30,962       (20,816 )     (10,146 )            
Net proceeds from insurance bond
          1,380                         1,380  
 
                                   
Net cash provided by (used in) financing activities
          30,332       (20,816 )     (10,146 )           (630 )
 
                                   
Effect of exchange rate difference on cash
                      5,141             5,141  
 
                                   
Net decrease in cash and cash equivalents
                16,866       8,327             25,193  
Cash and cash equivalents at beginning of period
                15,981       30,376             46,357  
 
                                   
Cash and cash equivalents at end of period
  $     $     $ 32,847     $ 38,703     $     $ 71,550  
 
                                   
                                                 
    Nine Months Ended September 30, 2004  
    Polymer             Guarantor     Non-Guarantor              
    Holdings(1)     KRATON (2)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Cash Flows provided by (used in) operating activities
  $     $ (22,936 )   $ 57,332     $ 23,387     $     $ 57,783  
Cash flows used in investing activities:
                                               
Purchase of plant and equipment, net of proceeds from sales of equipment
                (21,908 )     (6,820 )           (28,728 )
 
                                   
Net cash used in investing activities
                (21,908 )     (6,820 )           (28,728 )
 
                                   
Cash flows provided by (used in) financing activities:
                                               
 
                                               
Repayment of debt
          (17,787 )                       (17,787 )
 
                                               
Net proceeds from insurance bond
                                   
Proceeds from (payments on) intercompany loans
          40,704       (32,380 )     (8,324 )            
 
                                   
Net cash provided by (used in) financing activities
          22,917       (32,380 )     (8,324 )           (17,787 )
 
                                   
Effect of exchange rate difference on cash
                      138             138  
 
                                   
Net increase (decrease) in cash and cash equivalents
          (19 )     3,044       8,381             11,406  
Cash and cash equivalents at beginning of period
          19       (182 )     17,663             17,500  
 
                                   
Cash and cash equivalents at end of period
  $     $     $ 2,862     $ 26,044     $     $ 28,906  
 
                                   
 
(1)   Polymer Holdings LLC and Polymer Holdings Capital Corporation are the issuers of the 12% Discount Notes. Polymer Holdings Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the issuers would provide information that would be useful. Neither Polymer Holdings nor Polymer Holdings Capital Corporation is a guarantor of the 8.125% Notes.
 
(2)   KRATON Polymers LLC and KRATON Polymers Capital Corporation are the issuers of the 8.125% Notes. KRATON Polymers Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the Issuers would provide additional information that would be useful.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
(9) Supplemental Guarantor Information — KRATON Polymers LLC
     KRATON and KRATON Polymers Capital Corporation, a financing subsidiary, collectively, the Issuers, are co-issuers of the 8.125% Notes. The Guarantor Subsidiaries fully and unconditionally guarantee, on a joint and several basis, the Issuers’ obligations under the 8.125% Notes. KRATON’s remaining subsidiaries are not guarantors of the 8.125% Notes. We do not believe that separate financial statements and other disclosures concerning the Guarantor Subsidiaries would provide any additional information that would be material to investors in making an investment decision.
Balance Sheet
                                         
    As of September 30, 2005  
            Guarantor     Non-Guarantor              
    KRATON (1)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Assets
                                       
Current assets:
                                       
Cash and cash equivalents
  $     $ 32,847     $ 38,703     $     $ 71,550  
Receivables, net
          60,423       97,563       (7,374 )     150,612  
Inventories of products
          118,606       79,935       (7,238 )     191,303  
Inventories of materials and supplies
          5,853       3,559             9,412  
Other current assets
    5,795       970       10,730             17,495  
 
                             
Total current assets
    5,795       218,699       230,490       (14,612 )     440,372  
Property, plant, and equipment, less accumulated depreciation
    130,106       173,176       92,171             395,453  
Identifiable intangible assets, less accumulated amortization
    54,998             48,811             103,809  
Investment in joint venture
    813             9,726             10,539  
Deferred financing costs
    13,275                         13,275  
Other long-term assets
    104,981       272,814       3,964       (372,745 )     9,014  
 
                             
Total assets
  $ 309,968     $ 664,689     $ 385,162     $ (387,357 )   $ 972,462  
 
                             
 
                                       
Liabilities and Member’s Equity
                                       
Current liabilities:
                                       
Current portion of long-term debt
  $ 2,680     $     $     $     $ 2,680  
Accounts payable — trade
    2,900       22,931       39,022             64,853  
Other payables and accruals
    3,844       19,947       26,478             50,269  
Due to related parties
          2,127       17,184       (7,374 )     11,937  
Deferred income taxes
          (417 )     1,657             1,240  
Insurance bond payable
    1,380                         1,380  
 
                             
Total current liabilities
    10,804       44,588       84,341       (7,374 )     132,359  
 
                                       
Long-term debt, net of current portion
    460,653                         460,653  
Deferred income taxes
    299       30,815       (391 )           30,723  
Long-term liabilities
    279,765       16,583       105,714       (372,745 )     29,317  
 
                             
Total liabilities
    751,521       91,986       189,664       (380,119 )     653,052  
 
                             
Commitments and contingencies (note 5)
                             
Member’s equity:
                                       
Common equity
    (444,259 )     572,703       195,463       (7,238 )     316,669  
Accumulated other comprehensive income
    2,706             35             2,741  
 
                             
Total member’s equity
    (441,553 )     572,703       195,498       (7,238 )     319,410  
 
                             
Total liabilities and member’s equity
  $ 309,968     $ 664,689     $ 385,162     $ (387,357 )   $ 972,462  
 
                             
 
(1)   KRATON Polymers Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the Issuers would provide additional information that would be useful.

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Table of Contents

Polymer Holdings LLC and KRATON Polymers LLC
Notes to the Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
Balance Sheet
                                         
    As of December 31, 2004  
            Guarantor     Non-Guarantor              
    KRATON (1)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Assets
                                       
Current assets:
                                       
Cash and cash equivalents
  $     $ 15,981     $ 30,376     $     $ 46,357  
Receivables, net
    454       43,143       84,467       (7,468 )     120,596  
Inventories of products
    1,684       120,264       91,666       (2,538 )     211,076  
Inventories of materials and supplies
          5,673       3,105             8,778  
Other current assets
    2,288       577       7,516             10,381  
 
                             
Total current assets
    4,426       185,638       217,130       (10,006 )     397,188  
Property, plant, and equipment, less accumulated depreciation
    138,133       181,292       104,908             424,333  
Identifiable intangible assets, less accumulated amortization
    60,883             48,811             109,694  
Investment in joint venture
    813             9,940             10,753  
Deferred financing costs
    14,973                         14,973  
Other long-term assets
    118,127       252,066       3,529       (365,076 )     8,646  
 
                             
Total assets
  $ 337,355     $ 618,996     $ 384,318     $ (375,082 )   $ 965,587  
 
                             
 
                                       
Liabilities and Member’s Equity
                                       
Current liabilities:
                                       
Current portion of long-term debt
  $ 2,680     $     $     $     $ 2,680  
Accounts payable — trade
    2,900       29,977       47,091             79,968  
Other payables and accruals
    8,143       16,199       15,717             40,059  
Due to (from) related parties
          456       21,483       (7,468 )     14,471  
Deferred income taxes
          (417 )     1,657             1,240  
 
                             
Total current liabilities
    13,723       46,215       85,948       (7,468 )     138,418  
 
                                       
Long-term debt, net of current portion
    462,663                         462,663  
Deferred income taxes
    12,344       19,053       (6,213 )           25,184  
Long-term liabilities
    261,950       12,865       115,890       (365,076 )     25,629  
 
                             
Total liabilities
    750,680       78,133       195,625       (372,544 )     651,894  
 
                             
Commitments and contingencies (note 5)
                             
Member’s equity:
                                       
Common equity
    (414,355 )     540,863       167,733       (2,538 )     291,703  
Accumulated other comprehensive income
    1,030             20,960             21,990  
 
                             
Total member’s equity
    (413,325 )     540,863       188,693       (2,538 )     313,693  
 
                             
Total liabilities and member’s equity
  $ 337,355     $ 618,996     $ 384,318     $ (375,082 )   $ 965,587  
 
                             
 
(1)   KRATON Polymers Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the Issuers would provide additional information that would be useful.

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Table of Contents

Polymer Holdings LLC and KRATON Polymers LLC
Notes to the Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
Statement of Operations
                                         
    Three Months Ended September 30, 2005  
            Guarantor     Non-Guarantor              
    KRATON (1)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Revenues:
                                       
Sales
  $     $ 143,409     $ 154,784     $ (29,176 )   $ 269,017  
Other
                7,457             7,457  
 
                             
Total revenues
          143,409       162,241       (29,176 )     276,474  
Costs and expenses:
                                       
Cost of goods sold
    438       115,689       138,994       (29,176 )     225,945  
 
                             
Gross profit
    (438 )     27,720       23,247             50,529  
 
                                       
Research and development expenses
          3,437       3,263             6,700  
Selling, general, and administrative expenses
          10,252       8,878             19,130  
Depreciation and amortization
    4,953       4,572       2,023             11,548  
Earnings in joint venture
                (182 )           (182 )
Interest expense (income)
    9,284       (1,885 )     1,284             8,683  
 
                             
Income (loss) before income taxes
    (14,675 )     11,344       7,981             4,650  
Income tax (provision) benefit
    3,998       (3,091 )     (2,175 )           (1,268 )
 
                             
Net income (loss)
  $ (10,677 )   $ 8,253     $ 5,806     $     $ 3,382  
 
                             
                                         
    Three Months Ended September 30, 2004  
            Guarantor     Non-Guarantor              
    KRATON (1)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Revenues:
                                       
Sales
  $     $ 115,682     $ 124,379     $ (30,654 )   $ 209,407  
Other
                1,840             1,840  
 
                             
Total revenues
          115,682       126,219       (30,654 )     211,247  
Costs and expenses:
                                       
Cost of goods sold
    6,011       92,003       111,826       (30,654 )     179,186  
 
                             
Gross profit
    (6,011 )     23,679       14,393             32,061  
 
                                       
Research and development expenses
          2,681       2,849             5,530  
Selling, general, and administrative expenses
          11,296       5,171             16,467  
Depreciation and amortization
    4,692       4,482       2,011             11,185  
Earnings in joint venture
                11             11  
Interest expense (income)
    12,107       (1,583 )     1,198             11,722  
 
                             
Income (loss) before income taxes
    (22,810 )     6,803       3,153             (12,854 )
Income tax (provision) benefit
    9,532       (3,038 )     354             6,848  
 
                             
Net income (loss)
  $ (13,278 )   $ 3,765     $ 3,507     $     $ (6,006 )
 
                             
 
(1)   KRATON Polymers Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the Issuers would provide additional information that would be useful.

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Table of Contents

Polymer Holdings LLC and KRATON Polymers LLC
Notes to the Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
Statement of Operations
                                         
    Nine Months Ended September 30, 2005  
            Guarantor     Non-Guarantor              
    KRATON (1)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Revenues:
                                       
Sales
  $     $ 399,119     $ 441,788     $ (108,569 )   $ 732,338  
Other
                20,287             20,287  
 
                             
Total revenues
          399,119       462,075       (108,569 )     752,625  
Costs and expenses:
                                       
Cost of goods sold
    6,384       304,790       383,540       (108,569 )     586,145  
 
                             
Gross profit
    (6,384 )     94,329       78,535             166,480  
 
                                       
Research and development expenses
          9,783       9,717             19,500  
Selling, general, and administrative expenses
          32,825       21,867             54,692  
Depreciation and amortization
    13,911       13,814       6,035             33,760  
Earnings in joint venture
                (1,050 )           (1,050 )
Interest expense (income)
    27,258       (5,286 )     3,861             25,833  
 
                             
Income (loss) before income taxes
    (47,553 )     43,193       38,105             33,745  
Income tax (provision) benefit
    12,949       (11,762 )     (10,376 )           (9,189 )
 
                             
Net income (loss)
  $ (34,604 )   $ 31,431     $ 27,729     $     $ 24,556  
 
                             
                                         
    Nine Months Ended September 30, 2004  
            Guarantor     Non-Guarantor              
    KRATON (1)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Revenues:
                                       
Sales
  $     $ 319,311     $ 347,593     $ (77,018 )   $ 589,886  
Other
                8,738             8,738  
 
                             
Total revenues
          319,311       356,331       (77,018 )     598,624  
Costs and expenses:
                                       
Cost of goods sold
    30,940       245,390       315,380       (77,018 )     514,692  
 
                             
Gross profit
    (30,940 )     73,921       40,951             83,932  
 
                                       
Research and development expenses
          8,174       9,072             17,246  
Selling, general, and administrative expenses
          28,135       18,368             46,503  
Depreciation and amortization
    13,297       13,210       5,342             31,849  
Earnings in joint venture
                (134 )           (134 )
Interest expense (income)
    28,549       (4,498 )     3,668             27,719  
 
                             
Income (loss) before income taxes
    (72,786 )     28,900       4,635             (39,251 )
Income tax (provision) benefit
    25,567       (10,115 )     (120 )           15,332  
 
                             
Net income (loss)
  $ (47,219 )   $ 18,785     $ 4,515     $     $ (23,919 )
 
                             
 
(1)   KRATON Polymers Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the Issuers would provide additional information that would be useful.

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Polymer Holdings LLC and KRATON Polymers LLC
Notes to the Consolidated Financial Statements
For the Nine Months Ended September 30, 2005 and 2004
(in thousands of U.S. dollars)
(Unaudited)
Statement of Cash Flows
                                         
    Nine Months Ended September 30, 2005  
            Guarantor     Non-Guarantor              
    KRATON (1)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Cash Flows provided by (used in) operating activities
  $ (30,332 )   $ 43,542     $ 15,954     $     $ 29,164  
Cash flows used in investing activities:
                                       
Purchase of plant and equipment, net of proceeds from sales of equipment
          (5,860 )     (2,622 )           (8,482 )
 
                             
Net cash used in investing activities
          (5,860 )     (2,622 )           (8,482 )
 
                             
Cash flows provided by (used in) financing activities:
                                       
Repayment of debt
    (2,010 )                       (2,010 )
Proceeds from (payments on) intercompany loans
    30,962       (20,816 )     (10,146 )            
Net proceeds from insurance bond
    1,380                         1,380  
 
                             
Net cash provided by (used in) financing activities
    30,332       (20,816 )     (10,146 )           (630 )
 
                             
Effect of exchange rate difference on cash
                5,141             5,141  
 
                             
Net decrease in cash and cash equivalents
          16,866       8,327             25,193  
Cash and cash equivalents at beginning of period
          15,981       30,376             46,357  
 
                             
Cash and cash equivalents at end of period
  $     $ 32,847     $ 38,703     $     $ 71,550  
 
                             
                                         
    Nine Months Ended September 30, 2004  
            Guarantor     Non-Guarantor              
    KRATON (1)     Subsidiaries     Subsidiaries     Eliminations     Consolidated  
Cash Flows provided by (used in) operating activities
  $ (22,936 )   $ 57,332     $ 23,387     $     $ 57,783  
Cash flows used in investing activities:
                                       
Purchase of plant and equipment, net of proceeds from sales of equipment
          (21,908 )     (6,820 )           (28,728 )
 
                             
Net cash used in investing activities
          (21,908 )     (6,820 )           (28,728 )
 
                             
Cash flows provided by (used in) financing activities:
                                       
Repayment of debt
    (17,787 )                       (17,787 )
Net proceeds from insurance bond
                             
Proceeds from (payments on) intercompany loans
    40,704       (32,380 )     (8,324 )            
 
                             
Net cash provided by (used in) financing activities
    22,917       (32,380 )     (8,324 )           (17,787 )
 
                             
Effect of exchange rate difference on cash
                138             138  
 
                             
Net increase (decrease) in cash and cash equivalents
    (19 )     3,044       8,381             11,406  
Cash and cash equivalents at beginning of period
    19       (182 )     17,663             17,500  
 
                             
Cash and cash equivalents at end of period
  $     $ 2,862     $ 26,044     $     $ 28,906  
 
                             
 
(1)   KRATON Polymers Capital Corporation has minimal assets and income. We do not believe that separate financial information concerning the Issuers would provide additional information that would be useful.

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
     You should read the following discussion of our financial condition and results of operations with our consolidated financial statements and related notes thereto as of and for the year ended December 31, 2004, included in the prospectuses filed with the SEC by Polymer Holdings and KRATON on September 2, 2005. This discussion contains forward-looking statements and involves numerous risks and uncertainties, including, but not limited to the risk factors disclosed in the prospectuses and those discussed in “Factors Affecting Our Results of Operations,” and elsewhere in this Form 10-Q. Actual results may differ materially from those contained in any forward-looking statements.
     Except where otherwise noted, the financial information and management’s discussion and analysis presented in this section are solely for KRATON and its subsidiaries. Prior to the Acquisition, Polymer Holdings did not have any material assets or liabilities, and, since the Acquisition, its only material asset is its investment in KRATON. Polymers Holdings also has additional outstanding indebtedness, consisting of its 12% Discount Notes. Financial information for Polymer Holdings is therefore identical to that of KRATON, except with respect to interest expense, tax provision, net income and total debt.
Overview
     We believe we are the world’s leading producer of styrenic block copolymers, or SBCs. SBCs are highly-engineered synthetic elastomers, which are used in a wide variety of products to impart flexibility, resilience, strength, durability and processability. SBCs are a fast growing subset of the broader elastomers industry. We pioneered these products over 40 years ago. We offer a broad line of SBCs to over 700 customers in over 60 countries worldwide. Our products are used in a wide variety of applications including road and roofing materials, automotive applications, numerous consumer products (diapers, tool handles, toothbrushes), tapes, labels, medical devices, packaging and footwear products.
     Our KRATON products are high performance elastomers, which are engineered for a wide range of end-use applications. Our products possess a combination of high strength and low viscosity, which facilitates ease of processing at elevated temperatures and high speeds. Our products can be processed in a variety of manufacturing applications, including injection molding, blow molding, compression molding, extrusion, hot melt, and solution applied coatings. We offer our customers a broad portfolio of products that includes more than 100 core commercial grades of SBCs.
     We generate substantially all of our product sales and gross margin from our two primary product lines: (1) unhydrogenated SBCs, or USBCs, and (2) hydrogenated SBCs, or HSBCs. USBCs are sold broadly under the KRATON D brand name and HSBCs are sold broadly under the KRATON G name and accounted for 63% and 37% of our full-year 2004 product sales revenues, respectively. USBCs are primarily used in asphalt modification, packaging and adhesives, sealants and footwear end-use markets. HSBCs, the production of which is more complex and capital-intensive than that of USBCs, are primarily used in value-added compounding and personal hygiene and adhesive and sealant applications.
Recent Developments
     Gulf Coast Hurricanes Impact Update
     The following is an update on the impact on operations resulting from the two hurricanes recently hitting the Gulf Coast:
    Our operations were not directly affected since our USA manufacturing plant is located in Ohio;
 
    We currently anticipate that we will be able to serve customers as planned, with limitations only applying to our isoprene-based products;
 
    Our current inventory levels are sufficient due to our proactive efforts in securing additional raw materials where available, with limitations only applying to our isoprene-based products;
 
    We see further tightening of both primary and secondary raw material supply, translating into increased cost proportional to the prevailing markets; and

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    Delivery capabilities were briefly affected by the current nationwide freight availability issue but are now normalized.
     Supply Disruption Issues
     On July 1, 2005, Shell Chemicals declared that it was excused from supplying our contractual minimum butadiene requirements at our Belpre, Ohio production facility due to tropical storm Cindy that impacted its Norco, Louisiana plant. As a result, our supply of butadiene was placed on allocation. On August 9, 2005, Shell Chemicals notified us that it intended to further lower the allocation of butadiene supply to us due to new operational issues. Hurricanes Katrina and Rita, which followed these events, further constrained on Shell Chemicals’ ability to supply butadiene. Presently, with the combination of the allocation of butadiene supplied to us from Shell Chemicals, our existing butadiene stocks, and alternative sources of supply, we believe that these events will not have a material adverse impact on our financial results.
     On September 22, 2005, Shell Chemicals’ Deer Park Chemical Plant shut down operations due to Hurricane Rita. Subsequently, Shell Chemicals declared that it was excused from supplying our contractual minimum isoprene requirements to our Belpre, Ohio production facility. On October 8, 2005, Shell Chemicals resumed normal operations. See “SIS Sales Allocations” below for a further description of the impact of this event.
     On October 10, 2005, Shell Chemicals declared that it was excused from supplying our minimum styrene requirements at our European facilities due to operational problems. During this period, we were able to meet our supply needs through Shell’s allocation of styrene, existing styrene inventories, and alternative sources of supply. On October 24, 2005, Shell Chemicals resumed normal operations. We believe that this event will not have a material adverse impact on our financial results.
     On November 1, 2005, Shell Chemicals declared that it was excused from supplying our minimum styrene requirements at our European facilities due to a workers’ strike at its production facility in Pernis, the Netherlands. On November 8, 2005, Shell Chemicals resumed normal operations. With the combination of our existing styrene stocks and alternative sources of supply, this event did not have a material adverse impact on our financial results.
     We currently estimate the immediate impact of these supply disruption issues, coupled with the gulf coast hurricanes’ impact, described above, will negatively impact our pre-tax results by approximately $3 million. Management, however cannot predict the long-term impact to us, our suppliers or the industry in general.
     SIS Sales Allocations
     Supplies of isoprene remain constrained due to continued worldwide shortages of isoprene. Therefore, we continue to be on allocation to ensure we match SIS sales to our isoprene supply. Moreover, in addition to seeking alternative sources of isoprene supply, we are taking a number of actions to mitigate the impact including: changes in production scheduling, inventory reductions, evaluating the need for further product allocations and new technology versions of SIS that require less isoprene in the production process. We expect the isoprene market to remain tight for the foreseeable future, which means that the historical volume growth will continue to be constrained. The impact of this required allocation on year-to-date 2005 business has reduced our total sales by less than 2%, as compared to the same period in 2004. The specific impact on our financial results, attributable to additional isoprene supply disruptions described in “Supply Disruption Issues” is included in the aforementioned $3 million.
     Belpre, Ohio Production Facility Capacity Expansion
     On September 16, 2005, we announced that we will be increasing the production capacity of KRATON D at our Belpre, Ohio production facility by approximately 10 kT through a low cost debottleneck as a result of the success of utilizing Lean Six Sigma techniques. This increase in capacity is in response to rising demand in the asphalt modification end-use in the North American market.

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     Paulinia, Brazil New Polyisoprene Latex Plant
     On October 31, 2005, we announced that we will be constructing a new 1.5 kT polyisoprene latex plant at our Paulinia, Brazil facility in response to strong demand from our medical and consumer products customers. The addition of this new plant would give us the global capability to supply nearly 3kT of polyisoprene latex per year. The new plant is expected to be operational in the fourth quarter of 2006 and would also enable us to quickly and cost effectively expand further based upon market needs. KRATON polyisoprene latex is a unique synthetic alternative to natural rubber latex for dipped goods and various specialty products.
     Changes in Executive Officers
     On September 14, 2005, we announced the appointment of Raymond K. Guba, as Chief Financial Officer & Vice President effective October 24, 2005. In his role, Mr. Guba will be responsible for managing our financial and IT groups. He will report to Mr. George Gregory, Chief Executive Office and President. Mr. Guba brings to KRATON extensive senior management experience in finance from his 19-year career with General Electric Co., which included responsibility for strategy formulation and execution; financial reporting; financial planning and analysis; acquisition due diligence and integration; cash flow management; and contract negotiations around the globe. During his tenure with General Electric he held a variety of positions with increasing responsibility, and most recently Mr. Guba was employed by GE Energy, a General Electric Co. subsidiary, as Chief Financial Officer for their Installations and Field Services business.
     On July 28, 2005, we announced that Nicholas G. Dekker would serve as our interim Chief Financial Officer, effective August 15, 2005. Mr. Dekker has been responsible for all the finance functions and investor relations since that date and will continue in his role through the filing of this quarterly report. In November 2005, Mr. Dekker will receive 25,000 Euros as compensation related to his additional responsibilities. After the filing of this quarterly report, Mr. Dekker will assume the role of Vice President of Europe and Director of Finance for Europe and Asia. Mr. Dekker provided consulting services for KRATON from April 2000 until January 2002 at which time Mr. Dekker became a permanent employee of KRATON. Mr. Dekker began his KRATON career as European Finance Manager and was promoted to Finance Manager for Europe and Asia Pacific in 2004.
     On June 6, 2005, we announced that David M. Davis, Vice President, Finance and Chief Financial Officer, has resigned effective August 15, 2005 in order for him to pursue other opportunities.
     On August 29, 2005, we announced that Roger P. Morgan, Vice President of Europe, Africa and Asia Pacific and Robert A. Newman, Vice President of Technology were retiring from their positions with KRATON. We have finalized the separation arrangements with both Mr. Morgan and Mr. Newman. Mr. Newman’s last date of employment was September 30, 2005, and Mr. Morgan’s last date of employment was October 7, 2005.
     Changes in Board of Directors
     On July 26, 2005, William Price and Richard Aube resigned from our Board of Directors and all committees of the Board on which they served. Mr. Price has been replaced by Nathan Wright, a principal of TPG. The vacancy on the Board created by the resignation of Mr. Aube has not been filled. At its meeting on July 26, 2005, the Board appointed Mr. Wright to the Compensation Committee of our Board of Directors and John Breckenridge to replace Mr. Aube on the Compensation Committee and the Executive Committee of our Board of Directors.
     End-Use Realignment
     We have historically sold into five end-use markets: (1) adhesives, sealants and coatings; (2) compounding and personal hygiene, or CAPH; (3) packaging and polymer-modification, or P&P; (4) asphalt modification; and (5) footwear. We do not consider footwear a core end-use market due to its small percentage of total revenues.
     In August 2005, we decided to split the CAPH end-use going forward into two separate end-uses, compounding channels and personal hygiene in order to focus our resources and better pursue growth opportunities.
     Exchange Offers
     On October 24, 2005, KRATON completed an offer to exchange all of its outstanding 8.125% Notes issued under an exemption from the registration requirement of the Securities Act of 1933, as amended (the “Securities

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Act”), for notes registered under the Securities Act. In addition, on October 20, 2005, Polymer Holdings completed an offer to exchange all of its outstanding 12% Discount Notes issued under an exemption from the registration requirement of the Securities Act, for notes registered under the Securities Act. In each offer, 100% of the previously outstanding notes were tendered and exchanged for registered notes. The registered notes are identical to the unregistered notes, except that the registered notes do not carry transfer restrictions.
     Please see “Management Discussion and Analysis of Financial Condition and Results of Operations–Description of Our Indebtedness” for a description of the terms of the notes.
     The registration rights agreement relating to the 12% Discount Notes and the registration rights agreement relating to the 8.125% Notes, each required the registration statements to be filed on April 1, 2005, be declared effective by the SEC, on or prior to July 1, 2005, and an exchange offer be completed by August 1, 2005. As a result of the untimely declaration of effectiveness of the registration statements and completion of the offerings, both the 12% Discount Notes and 8.125% Notes accrued the special interest subsequent to July 1, 2005, through the date Polymer Holdings and KRATON completed the offers to exchange at the rates provided in the applicable registration rights agreement.
     Restatement of Prior Financial Statements
     During the preparation of the interim financial statements to be included in the Form 10-Q for the period ended March 31, 2005, we discovered a computational error in the calculation of the additional cost of sales related to the inventory step up associated with the Acquisition. That step up was approximately $38.4 million and was being recorded to cost of sales as the related inventory items were sold. The error caused the reported amount of our cost of sales to be understated by approximately $2.3 million and $3.7 million for the three and nine months ended September 30, 2004, respectively, and $5.0 million for the year ended December 31, 2004, and decreasing inventory by those same amounts.
     In addition, we have restated the December 31, 2004 balance sheet to record the unrealized gain on interest rate swaps included as a component of accumulated other comprehensive income on an after-tax basis, which has the effect of reducing member’s equity by approximately $0.6 million and increasing deferred income taxes by that same amount. This item was discovered in connection with a review of our financial statements undertaken in connection with the above item.
     As a result of these adjustments, on May 11, 2005, our audit committee decided to restate our financial statements for the year ended December 31, 2004 and the accompanying financial information reflects that restatement. Our audit committee has discussed these adjustments with our independent registered public accounting firm.
     These non-cash adjustments do not impact the calculation of any of the financial ratios in the senior secured credit facility for any period.
     The following tables reflect the effects of the adjustments Polymer Holdings and KRATON made to their consolidated statement of operations for the three and nine months ended September 30, 2004, and their consolidated balance sheets as of December 31, 2004 (in thousands).
                 
    Three months ended  
    September 30, 2004 (1)  
    As previously        
    reported     As restated  
Cost of goods sold
  $ 176,848     $ 179,186  
Gross profit
    34,399       32,061  
Loss before income taxes
    (10,516 )     (12,854 )
Income tax benefit
    5,940       6,848  
Net loss
    (4,576 )     (6,006 )

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    Nine months ended  
    September 30, 2004 (1)  
    As previously        
    reported     As restated  
Cost of goods sold
  $ 510,984     $ 514,692  
Gross profit
    87,640       83,932  
Loss before income taxes
    (35,543 )     (39,251 )
Income tax benefit
    13,943       15,332  
Net loss
    (21,600 )     (23,919 )
                                 
    KRATON     Polymer Holdings  
    December 31, 2004     December 31, 2004  
    As previously             As previously        
    reported     As restated     reported     As restated  
Inventories of product
  $ 216,090     $ 211,076     $ 216,090     $ 211,076  
Total current assets
    402,202       397,188       402,202       397,188  
Total assets
    970,601       965,587       972,427       967,413  
Deferred income taxes — noncurrent
    26,509       25,184       25,837       24,513  
Total liabilities
    653,219       651,894       746,219       744,895  
Common equity
    294,837       291,703       203,663       200,528  
Accumulated other comprehensive income
    22,545       21,990       22,545       21,990  
Total member’s equity
    317,382       313,693       226,208       222,518  
Total liabilities and member’s equity
    970,601       965,587       972,427       967,413  
 
(1)   The financial information for Polymer Holdings and KRATON are identical for the items set forth in the table.
Critical Accounting Policies
     Our significant accounting policies are more fully described in the notes to the consolidated financial statements included in the prospectuses filed with the SEC in connection with the exchange offers. The process of preparing financial statements, in accordance with generally accepted accounting principles in the United States requires management to make estimates and judgments regarding certain items and transactions. These judgments are based on historical experience, current economic and industry trends, information provided by outside sources, and management estimates. It is possible that materially different amounts could be recorded if these estimates and judgments change or if the actual results differ from these estimates and judgments. We consider the following to be our most significant critical accounting policies, which involve the judgment of management.
     Revenue Recognition
     We recognize revenue from sales when title transfers to the customer as products are shipped. In specific cases, we supply customers on a consignment basis and recognize revenue as the product is utilized. We classify amounts billed to customers for shipping and handling as revenues, with the related shipping and handling costs included in cost of goods sold. By-product sales (included in other revenue) are also recorded upon shipment.
     Agreements have been entered into with some customers, whereby they earn rebates when the volume of their purchases of our product reaches certain agreed levels. These rebates typically represent approximately 1% of our product sales and are estimated by management and recognized as a reduction in revenues.
     Inventories
     Our inventory is principally comprised of finished goods inventory. Inventories are stated at the lower of cost or market as determined on a first-in first-out, or FIFO basis. Inventory cost is comprised of raw materials, utilities and other manufacturing costs, including labor. On a quarterly basis, we evaluate the carrying cost of inventory to ensure that it is stated at the lower of cost or market. Our products are typically not subject to spoiling or obsolescence and consequently our reserves for slow moving and obsolete inventory have historically been immaterial. From time to time, the value of our inventory is re-evaluated to reflect customer demand for specific products.

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     Property, Plant and Equipment
     The most critical accounting policy affecting our chemical assets is the determination of the estimated useful lives of our property, plant and equipment. The estimated useful lives of our chemical assets, which range from three years to twenty years, are used to compute depreciation expense and are also used for impairment tests. The estimated useful lives for the chemical facilities are based on the assumption that we would provide an appropriate level of annual capital expenditures while the plants are still in operation. Without these continued capital expenditures, the useful lives of these plants could significantly decrease. Changes to estimated useful lives would impact the amount of depreciation and amortization expense recorded in the statement of operations.
     We are required to perform impairment tests on our assets whenever events or changes in circumstances lead to a reduction in the estimated useful lives or estimated future cash flows that would indicate that the carrying amount may not be recoverable. Under the provisions of Statement of Financial Accounting Standards, or SFAS, No. 144, we must compare the undiscounted future cash flows of an asset to its carrying value. Key factors that could significantly affect future cash flows include international competition, environmental regulations, higher or lower product prices, feedstock costs, energy costs and remaining estimated useful life.
     Income Taxes
     Since the Acquisition, we conduct all operations, including the U.S. operations, in separate legal entities and as a result income tax amounts are reflected on a separate return basis.
Factors Affecting Our Results of Operations
     Raw Materials
     Our results of operations are directly affected by the cost of raw materials. The three primary raw materials used in the production of our products are styrene, butadiene and isoprene. These monomers together represented approximately 80% of total raw material purchases volume and approximately 40% of cost of goods sold in 2004. Our financial performance for the year ended December 31, 2004 and most of 2005 have been impacted by significant increases in raw material feedstock prices. Beginning in 2003, we have experienced continually increasing raw material feedstock prices, which has continued through most of 2005. Prices for our key raw materials increased between 30% and 70% during 2004. Our raw material feedstock costs are volatile as they are influenced by crude oil prices. The spot price of West Texas Intermediate crude oil has increased from a yearly average of $31.11 per barrel in 2003 to $41.43 per barrel in 2004, and a nine month average of $55.61 per barrel in the first nine months of 2005.
     Styrene, butadiene and isoprene used by our U.S. and European facilities are primarily supplied by Shell Chemicals or its affiliates under long-term supply contracts with various expiration dates. Prices under these contracts are typically determined by contractual formulas that reference both Shell Chemicals’ cost of production as well as market prices. In Japan, butadiene and isoprene supplies for our joint venture plant are supplied under our joint venture agreement, where our partner supplies most of our necessary requirements with the remaining requirements supplied by other third-party suppliers. Styrene in Japan is sourced from local third-party suppliers. Our facility in Paulinia, Brazil purchases all of its raw materials from local third-party suppliers.
     Styrene is used in the production of substantially all KRATON products. Styrene pricing reflects the costs of ethylene and benzene. Prices for styrene are volatile. Styrene prices are primarily driven by worldwide supply and demand as well as the cost of ethylene and benzene, which are influenced by prevailing crude oil prices, natural gas prices and alternative uses of benzene in the fuel market. Market prices for styrene rose in late 2002, and reached near historical highs at the beginning of 2003. Market prices for styrene further increased throughout most of 2004 and have been volatile through most of 2005. The significant price increase has been associated with increasing crude oil and benzene prices.
     Butadiene is used in the production of certain grades of KRATON products. Prices for butadiene are also volatile, with prices reflecting worldwide supply and demand and prevailing crude oil and ethylene prices. Market prices for butadiene increased in the latter part of 2002 and early 2003, due to increased energy prices and tight

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supply conditions. We saw a slight decline in mid 2003 and flat pricing through the first quarter of 2004. However, beginning in the second quarter of 2004 and continuing throughout the remainder of 2004 and most of 2005, we have experienced increasing market prices for butadiene. The increased market prices for butadiene is primarily due to increased crude oil prices and tight supply conditions resulting from strong demand, operational problems of some key producers and limited new production in the U.S. and Europe.
     Isoprene is used in the production of certain grades of KRATON products. Isoprene is primarily produced and consumed captively by producers for the manufacture of rubber tires. As a result, there is limited non-captive isoprene produced for the market in which we operate. Prices can be volatile. Our prices are generally affected by prices for crude oil and natural gas as well as prevailing supply and demand conditions. Market prices for isoprene began to rise during the fourth quarter of 2003 and continued to rise throughout 2004 and most of 2005. A significant factor contributing to higher prices is the extreme tightness in the market caused by operational problems of some key producers and growing demand.
     Changes in prices for raw materials will have an impact on our results of operations. Historically, pricing for KRATON products have generally fluctuated with the cost of raw materials and changing market circumstances. Our practice has been and continues to be to evaluate and adjust prices to reflect these conditions.
     Seasonality
     Our product sales are affected by seasonal changes in end-use markets. Sales of KRATON products that are sold into the asphalt modification end-use market, which accounted for 24% of fiscal 2004 product sales revenue, are approximately 50% higher during the second and third quarters of each fiscal year because winter weather conditions reduce road and roofing construction in the first and fourth quarters. As a result of these seasonal changes, inventory levels tend to be higher in the first half of each fiscal year. Other than this seasonal trend, overall results of operations tend to show relatively little effect of seasonality.
     Economic and Market Conditions
     Our results of operations are influenced by changes in general economic conditions. A dramatic economic slowdown could adversely affect demand for our products. However, due to the value-added nature of our products, the fact that most of our products constitute only a small portion of the total cost of the products in which they are used and the diversity of our end-use markets, we believe we are less affected by general economic conditions than many other industries. In addition, changes in interest rates may increase financing costs as our senior secured credit facility bears interest at a floating rate. Changes in inflation may increase the costs of raw materials and other costs, and we may not be able to pass such cost increases on to the consumers of our products.
     International Operations and Currency Fluctuations
     We operate a geographically diverse business, with 48% of 2004 net product sales generated from customers located in the Americas, 36% in Europe and 16% in the Asia Pacific region. In 2004, we estimate that our products were sold to customers in more than 60 countries. We serve our customer base from six manufacturing plants in six countries. As described above, changes in general economic conditions in these countries will influence our results of operations. In particular, certain of the countries in which we operate, such as Brazil, have experienced prolonged periods of negative economic growth coupled with high inflation. The existence of such conditions in the countries in which we operate could negatively affect our operations in those countries.

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     Although we sell and manufacture our products in many countries, our sales and production costs are mainly denominated in U.S. dollars, Euros, Japanese Yen and Brazilian Real. The following table shows the U.S. dollar exchange rate for these currencies in the third quarter of 2005 and 2004. These rates may differ from the actual rates used in the preparation of the consolidated financial statements.
                                                         
                            U.S. $ per 10,000    
            U.S. $ per Euro   Japanese Yen   U.S. $ per Brazilian Real
            Average   Period End   Average   Period End   Average   Period End
Quarter Ended
  September 30, 2004     1.222       1.232       90.99       90.05       0.336       0.350  
 
Quarter Ended
  September 30, 2005     1.220       1.204       89.93       88.35       0.426       0.450  
 
Nine Months Ended
  September 30, 2004     1.225       1.232       91.77       90.05       0.336       0.350  
 
Nine Months Ended
  September 30, 2005     1.262       1.204       92.83       88.35       0.400       0.450  
     Our financial results are subject to the impact of gains and losses on currency transactions denominated in currencies other than the functional currency of the relevant operations. Any gains and losses are included in operating income, but have historically not been material. We historically have not engaged in foreign currency hedging activities.
     In addition, our financial results are subject to the impact of gains and losses on currency translations, which occur when the financial statements of foreign operations are translated into U.S. dollars. The financial statements of operations outside the U.S. where the local currency is considered to be the functional currency are translated into U.S. dollars using the exchange rate at each balance sheet date for assets and liabilities and the average exchange rate for each period for revenues, expenses, gains and losses and cash flows. The effect of translating the balance sheet into U.S. dollars is included as a component of other comprehensive income (loss) in member’s equity. Any appreciation of the functional currencies against the U.S. dollar will increase the U.S. dollar equivalent of amounts of revenues, expenses, gains and losses and cash flows, and any depreciation of the functional currencies will decrease the U.S. dollar amounts reported.
Results of Operations
Three Months Ended September 30, 2005, Compared to Three Months Ended September 30, 2004
     The following table summarizes certain information relating to KRATON’s operating results that have been derived from its financial statements.
                 
    Three Months Ended     Three Months Ended  
    September 30, 2005 (1)     September 30, 2004  
    (in thousands)     (in thousands)  
            (Restated)  
Revenues:
               
Sales
  $ 269,017     $ 209,407  
Other
    7,457       1,840  
 
           
Total revenues
    276,474       211,247  
 
           
Costs and expenses:
               
Cost of goods sold
    225,945       179,186  
 
           
Gross profit
    50,529       32,061  
Research and development expenses
    6,700       5,530  
Selling, general and administrative expenses
    19,130       16,467  
Depreciation and amortization of identifiable intangibles
    11,548       11,185  
Earnings (loss) in joint venture
    (182 )     11  
Interest, net
    8,683       11,722  
 
           
Income (loss) before income taxes
    4,650       (12,854 )
Income tax (provision) benefit
    (1,268 )     6,848  
 
           
Net income (loss)
  $ 3,382     $ (6,006 )
 
           
 
(1)   The financial information for Polymer Holdings is identical to that set forth in the table, except that Polymer Holdings’ interest expense, tax provision and net loss were $11.7 million, $0.6 million and $1.0 million, respectively, for the three months ended September 30, 2005.

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     The following table summarizes certain information relating to our operating results as a percentage of total revenues and has been derived from the financial information presented above. We believe this presentation is useful to investors in comparing historical results. Certain amounts in the table may not sum due to the rounding of individual components.
                 
    Three Months Ended     Three Months Ended  
    September 30, 2005 (1)     September 30, 2004  
            (Restated)  
Revenues:
               
Sales
    97.3 %     99.1 %
Other
    2.7       0.9  
 
           
Total Revenues
    100.0       100.0  
 
           
Costs and expenses:
               
Cost of goods sold
    81.7       84.8  
 
           
Gross profit
    18.3       15.2  
Research and development expenses
    2.4       2.6  
Selling, general and administrative expenses
    6.9       7.8  
Depreciation and amortization of identifiable intangibles
    4.2       5.3  
Earnings in joint venture
    (0.1 )      
Interest, net
    3.1       5.5  
 
           
Income (loss) before income taxes
    1.7       (6.1 )
Income tax (provision) benefit
    (0.5 )     3.2  
 
           
Net income (loss)
    1.2 %     (2.8 )%
 
           
 
(1)   The financial information for Polymer Holdings is identical to that set forth in the table, except that Polymer Holdings’ interest expense, tax provision and net income were 4.2%, 0.2% and 0.3%, respectively, for the three months ended September 30, 2005.
Total Revenues
     Total revenues increased by 30.9% to $276.5 million for the three months ended September 30, 2005, as compared to $211.2 million for the three months ended September 30, 2004. This increase was primarily due to increased prices for our products and the overall increase in sales volumes. Sales volumes increased approximately 12.1 kT, or 13.3%, during the comparable periods primarily due to the increased demand in the asphalt modification end-use market. This increased demand was primarily due to additional road investment projects in Eastern Europe, expansion of home construction, and favorable autumn weather. The Euro remained fairly constant, the Japanese Yen weakened approximately 1.2% and the Brazilian Real appreciated approximately 26.8% during the three months ended September 30, 2005, as compared to the three months ended September 30, 2004.
     Sales. Sales increased by 28.5% to $269.0 million for the three months ended September 30, 2005, as compared to $209.4 million for the three months ended September 30, 2004. $28.6 million of the increase in sales was due to increased prices for our products, $27.8 million was due to increased sales volumes and an estimated $3.2 million was due to the appreciation of the functional currencies of our foreign operations against the U.S. dollar. Sales are divided into KRATON D and KRATON G.
     For the three months ended September 30, 2005, KRATON D sales increased by 49.2% to $197.2 million as compared to $132.2 million for the three months ended September 30, 2004. $36.3 million of the increase in sales was due to increased prices for our products, $26.1 million was due to increased sales volumes and $2.6 million was due to the appreciation of the functional currencies of our foreign operations against the U.S. dollar. The increase in sales volumes was primarily due to the increase in demand within the asphalt modification end-use market previously discussed.
     For the three months ended September 30, 2005, KRATON G sales decreased by 7.0% to $71.8 million from $77.2 million as compared to the three months ended September 30, 2004. $7.8 million of this decrease in sales was due to decreased sales volumes, which was only partially offset by $1.8 million in increased prices for our products and an estimated $0.6 million due to the appreciation of the functional currencies of our foreign operations against the U.S. dollar. The decrease in sales volumes was primarily due to increased competition and available alternative technologies.
     Other revenue. Other revenues increased by 316.7% to $7.5 million for the three months ended September

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30, 2005, as compared to $1.8 million for the three months ended September 30, 2004. Other revenue primarily consists of the sales of small quantities of residual products that are a by-product of the manufacturing process of KRATON IR, an isoprene rubber product we report as part of our KRATON D sales at our Netherlands facility. The increase in other revenues in the current period is primarily due to the fact that there was no production at our Netherlands facility during the three months ended September 30, 2004, as a result of the June 6, 2004 fire and subsequent shut down of the facility until October 1, 2004.
Cost of Goods Sold
     Costs of goods sold increased by 26.1% to $225.9 million for the three months ended September 30, 2005, as compared to $179.2 million for the three months ended September 30, 2004. As a percentage of total revenues, cost of goods sold decreased to 81.7% from 84.8%. The $46.7 million increase in cost of goods sold was due to: (1) an estimated $30.5 million of increased monomer and other variable costs, (2) an estimated $16.8 million increase due to an increase in volumes, (3) an estimated $4.5 million increase in cost of goods sold associated with the increased by-product sales and (4) an estimated $1.4 million increase related to other manufacturing expenses. In addition, the increase in cost of goods sold was offset by $6.5 million of reduced costs in the third quarter of 2005, as compared to the prior year period. The $6.5 million of reduced costs is due to $6.6 million of additional cost of sales in the 2004 period as compared to $0.1 million in the 2005 period as a result of the subsequent sale of inventory that was written up to fair value and sold during the periods. On December 23, 2003, in connection with the Acquisition, we wrote-up our inventory by $38.4 million to reflect the amount of manufacturing profit in inventory. Average acquisition costs for isoprene and butadiene increased by approximately 29% and 31%, respectively, in the comparable periods due to the continuing rise of crude oil prices and tight supply and demand conditions in the marketplace.
Gross Profit
     Gross profit increased by 57.3% to $50.5 million for the three months ended September 30, 2005, as compared to $32.1 million for the three months ended September 30, 2004. Gross profit as a percentage of total revenues increased from 15.2% in the three months ended September 30, 2004 to 18.3% in the three months ended September 30, 2005, due to the factors noted above. Excluding the $0.1 million and $6.6 million non-cash increase in cost of goods sold relating to the subsequent sale of inventory that had been written up to fair value for the three months ended September 30, 2005 and 2004, respectively, gross profit would have been $50.6 million and $38.7 million, or 18.3% of total revenues for both periods.
Operating Expenses
     Research and development expenses. Research and development expenses increased by 21.8% to $6.7 million for the three months ended September 30, 2005, as compared to $5.5 million the three months ended September 30, 2004. Research and development expenses increased due to the increased incentive compensation related to improved financial performance. As a percentage of total revenues, research and development expenses decreased to 2.4% from 2.6%.
     Selling, general and administrative expenses. Selling, general and administrative expenses increased by 15.8% to $19.1 million for the three months ended September 30, 2005, as compared to $16.5 million for the three months ended September 30, 2004. Selling, general and administrative expenses increased due to the increased incentive compensation related to improved financial performance and severance costs. As a percentage of total revenues, selling, general and administrative expenses decreased to 6.9% from 7.8% due to the increase in total revenues in the 2005 period, partially offset by the increase in expenses in the second quarter of 2005.
     Depreciation and amortization of identifiable intangibles. Depreciation and amortization expense increased by 2.7% to $11.5 million for the three months ended September 30, 2005, as compared to $11.2 million for the three months ended September 30, 2004. This increase was primarily due to assets that were under construction during 2004, that were completed and placed in service.
     Earnings in joint venture. The Kashima plant is operated by a joint venture with JSR Corporation under the name KRATON JSR Elastomers K.K. Earnings in the joint venture increased to $0.2 million for the three months ended September 30, 2005, as compared to a loss of less than $0.1 million for the three months ended

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September 30, 2004. This increase in earnings was primarily due to increased sales prices, partially offset by decreased sales volumes. We use the equity method of accounting for our joint venture at the Kashima site.
     Interest expense — Polymer Holdings. Polymer Holdings’ interest expense was $11.7 million for both the three months ended September 30, 2005 and the three months ended September 30, 2004. Items impacting interest expense were an increase of $3.0 million related to the accretion of the debt discount associated with the issuance of the 12% Discount Notes offset by $1.7 million of expense relating to the change in fair value of the interest rate swaps in the 2004 period and a $1.3 million decrease related to lower debt balances at higher interest rates. During the three months ended September 30, 2005, and September 30, 2004, the average debt balances outstanding were $564.6 million and $550.4 million, respectively. The effective interest rates on our debt during the same periods were 8.2% and 6.6%, respectively. Included in interest expense is $0.6 million and $0.7 million of expense related to the amortization of deferred financing costs for the three months ended September 30, 2005 and 2004, respectively.
     Interest expense — KRATON. KRATON’s interest expense decreased 25.6% to $8.7 million for the three months ended September 30, 2005, as compared to $11.7 million for the three months ended September 30, 2004. This decrease was primarily due to $1.7 million of expense relating to the change in fair value of the interest rate swaps in the 2004 period and a $1.3 million decrease related to lower debt balances at higher interest rates. During the three months ended September 30, 2005, and September 30, 2004, the average debt balances outstanding were $463.8 million and $550.4 million, respectively. The effective interest rates on our debt during the same periods were 7.3% and 6.6%, respectively. Included in interest expense is $0.6 million and $0.7 million of expense related to the amortization of deferred financing costs for the three months ended September 30, 2005 and 2004, respectively.
Income Tax (Provision) Benefit
     Income tax (provision) benefit — Polymer Holdings. Polymer Holdings’ income tax provision was $0.6 million for the three months ended September 30, 2005, as compared to income tax benefit of $6.8 million for the three months ended September 30, 2004. For the three months ended September 30, 2005, our operations generated income before income taxes due to the aforementioned increased gross profit. In the three months ended September 30, 2004, our operations generated a loss before income taxes due to reduced gross profit.
     Income tax (provision) benefit — KRATON. KRATON’s income tax provision was $1.3 million for the three months ended September 30, 2005, as compared to income tax benefit of $6.8 million for the three months ended September 30, 2004. For the three months ended September 30, 2005, our operations generated income before income taxes due to the aforementioned increased gross profit. In the three months ended September 30, 2004, our operations generated a loss before income taxes due to reduced gross profit.
Net Income (Loss)
     Net income (loss) Polymer Holdings. Polymer Holdings net income was $1.0 million for the three months ended September 30, 2005, as compared to $6.0 million of net loss for the three months ended September 30, 2004, for the reasons discussed above.
     Net income (loss) KRATON. KRATON’s net income was $3.4 million for the three months ended September 30, 2005, as compared to $6.0 million of net loss for the three months ended September 30, 2004, for the reasons discussed above.

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Nine Months Ended September 30, 2005, Compared to Nine Months Ended September 30, 2004
     The following table summarizes certain information relating to our operating results that has been derived from our financial statements.
                 
    Nine Months Ended     Nine Months Ended  
    September 30, 2005 (1)     September 30, 2004  
    (in thousands)     (in thousands)  
            (Restated)  
Revenues:
               
Sales
  $ 732,338     $ 589,886  
Other
    20,287       8,738  
 
           
Total revenues
    752,625       598,624  
 
           
Costs and expenses:
               
Cost of goods sold
    586,145       514,692  
 
           
Gross profit
    166,480       83,932  
 
           
Research and development expenses
    19,500       17,246  
Selling, general and administrative expenses
    54,692       46,503  
Depreciation and amortization of identifiable intangibles
    33,760       31,849  
Earnings (loss) in joint venture
    (1,050 )     (134 )
Interest, net
    25,833       27,719  
 
           
Income (loss) before income taxes
    33,745       (39,251 )
Income tax benefit
    (9,189 )     15,332  
 
           
Net income (loss)
  $ 24,556     $ (23,919 )
 
           
 
(1)   The financial information for Polymer Holdings is identical to that set forth in the table, except that Polymer Holdings’ interest expense, tax provision and net income were $34.6 million, $6.2 million and $18.8 million, respectively, for the nine months ended September 30, 2005.
     The following table summarizes certain information relating to our operating results as a percentage of total revenues and has been derived from the financial information presented above. We believe this presentation is useful to investors in comparing historical results. Certain amounts in the table may not sum due to the rounding of individual components.
                 
    Nine Months Ended     Nine Months Ended  
    September 30, 2005 (1)     September 30, 2004  
            (Restated)  
Revenues:
               
Sales
    97.3 %     98.5 %
Other
    2.7       1.5  
 
           
Total Revenues
    100.0       100.0  
 
           
Costs and expenses:
               
Cost of goods sold
    77.9       86.0  
 
           
Gross profit
    21.1       14.0  
 
           
Research and development expenses
    2.6       2.9  
Selling, general and administrative expenses
    7.3       7.8  
Depreciation and amortization of identifiable intangibles
    4.5       5.3  
Earnings (loss) in joint venture
    (0.1 )      
Interest, net
    3.4       4.6  
 
           
Income (loss) before income taxes
    4.5       (6.6 )
Income tax benefit
    (1.2 )     2.6  
 
           
Net income (loss)
    3.3 %     (4.0 )%
 
           
 
(1)   The financial information for Polymer Holdings is identical to that set forth in the table, except that Polymer Holdings’ interest expense, tax provision and net income were 4.6%, 0.8% and 2.5%, respectively, for the nine months ended September 30, 2005.
Total Revenues
     Total revenues increased by 25.7% to $752.6 million for the nine months ended September 30, 2005, as compared to $598.6 million for the nine months ended September 30, 2004. This increase was due to the increased

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prices for our products, an increase in sales volumes and the strengthening foreign currency exchange rates against the U. S. dollar. Sales volumes increased approximately 6.3 kT, or 2.4% during the comparable periods. The Euro appreciated approximately 3.0%, the Japanese Yen appreciated approximately 1.2% and the Brazilian Real appreciated approximately 19.0% during the nine months ended September 30, 2005, as compared to the nine months ended September 30, 2004.
     Sales. Sales increased by 24.1% to $732.3 million for the nine months ended September 30, 2005, as compared to $589.9 million for the nine months ended September 30, 2004. The increase in sales was the result of $116.4 million due to increased prices for our products, an estimated $13.9 million relating to the increase in volumes and an estimated $12.1 million due to the appreciation of the functional currencies of our foreign operations against the U.S. dollar. Sales are divided into KRATON D and KRATON G.
     For the nine months ended September 30, 2005, KRATON D sales increased by 35.5% to $509.3 million as compared to $376.0 million for the nine months ended September 30, 2004. The increase in sales was the result of $111.2 million due to increased prices for our products, an estimated $11.8 million increase relating to volumes and an estimated $10.3 million due to the appreciation of the functional currencies of our foreign operations against the U.S. dollar. The increase in sales volume was due to higher sales into the asphalt modification end use market due to the additional road investment projects in Eastern Europe, expansion of home construction, and favorable autumn weather.
     For the nine months ended September 30, 2005, KRATON G sales increased by 4.3% to $223.0 million from $213.9 million as compared to the nine months ended September 30, 2004. The increase in sales was the result of $8.5 million due to increased prices for our products and an estimated $1.8 million due to the appreciation of the functional currencies of our foreign operations against the U.S. dollar, partially offset by $1.2 million relating to reduced sales volumes. The decrease in sales volumes was primarily due to increased competition and available alternative technologies.
     Other revenue. Other revenues increased by 133.3% to $20.3 million for the nine months ended September 30, 2005, as compared to $8.7 million for the nine months ended September 30, 2004. Other revenue primarily consists of the sales of small quantities of residual products that are a by-product of the manufacturing process of KRATON IR, an isoprene rubber product we report as part of our KRATON D sales at our Netherlands facility. The increase in other revenues in the current period is primarily due to the fact that there was no production at our Netherlands facility during the three months ended September 30, 2004, as a result of the June 6, 2004 fire and subsequent shut down of the facility until October 1, 2004.
Cost of Goods Sold
     Costs of goods sold increased by 13.9% to $586.1 million for the nine months ended September 30, 2005, as compared to $514.7 million for the nine months ended September 30, 2004. As a percentage of total revenues, cost of goods sold decreased to 77.9% from 86.0%. The $71.4 million increase in cost of goods sold was due to: (1) an estimated $66.0 million of increased monomer and other variable costs, (2) an estimated $10.1 million of increase in cost of goods sold associated with the increased by-product sales (3) an estimated $9.0 million increase due to the appreciation of the functional currencies of our foreign operations against the U.S. dollar, (4) an estimated $8.8 million of increased other manufacturing expenses, and (5) an estimated $8.4 million of increase relating to the sales volume increase. In addition, the increase in cost of goods sold was offset by $30.9 million of reduced costs in 2005, as compared to the prior year period. The $30.9 million of reduced costs is due to $32.6 million of additional cost of sales in the 2004 period as compared to $1.7 million in the 2005 period as a result of the subsequent sale of inventory that was written up to fair value and sold during the periods. On December 23, 2003, in connection with the Acquisition, we wrote-up our inventory by $38.4 million to reflect the amount of manufacturing profit in inventory. Average acquisition costs for styrene, isoprene and butadiene increased by approximately 19%, 43% and 37%, respectively, in the comparable periods due to the continuing rise of crude oil prices and tight supply and demand conditions in the marketplace.
Gross Profit
     Gross profit increased by 98.5% to $166.5 million for the nine months ended September 30, 2005, as compared to $83.9 million for the nine months ended September 30, 2004. Gross profit as a percentage of total

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revenues increased from 14.0% in the nine months ended September 30, 2004 to 22.1% in the nine months ended September 30, 2005, due to the factors noted above. Excluding the $1.7 million and $32.6 million non-cash increase in cost of goods sold relating to the subsequent sale of inventory that had been written up to fair value for the nine months ended September 30, 2005 and 2004, respectively, gross profit would have been $168.2 million and $116.6 million, or 22.3% and 19.5% of total revenues for those periods, respectively.
Operating Expenses
     Research and development expenses. Research and development expenses increased by 13.4% to $19.5 million for the nine months ended September 30, 2005, as compared to $17.2 for the nine months ended September 30, 2004. Research and development expenses increased due to the increase in the U.S. dollar equivalent of Euro-denominated expenses as a result of the appreciation of the Euro against the U.S. dollar and increased incentive compensation related to improved financial performance. As a percentage of total revenues, research and development expenses decreased to 2.6% from 2.9%.
     Selling, general and administrative expenses. Selling, general and administrative expenses increased by 17.6% to $54.7 million for the nine months ended September 30, 2005, as compared to $46.5 million for the nine months ended September 30, 2004. Selling, general and administrative expenses increased due to: (1) the increase in the U.S. dollar equivalent of Euro-denominated expenses as a result of the appreciation of the Euro against the U.S. dollar, (2) increased incentive compensation related to improved financial performance, and (3) one-time costs associated with the filing of the registration statements as required by the registration rights agreements governing the 8.125% Notes and 12% Discount Notes. As a percentage of total revenues, selling, general and administrative expenses decreased to 7.3% from 7.8% due to the increase in revenues in the nine months ended September 30, 2005, partially offset by the increase in expenses in the nine months ended September 30, 2005.
     Depreciation and amortization of identifiable intangibles. Depreciation and amortization expense increased by 6.3% to $33.8 million for the nine months ended September 30, 2005, as compared to $31.8 million for the nine months ended September 30, 2004. This increase was primarily due to assets that were under construction during 2004 that were completed and placed in service.
     Earnings in joint venture. The Kashima plant is operated by a joint venture with JSR Corporation under the name KRATON JSR Elastomers K.K. Earnings in the joint venture increased 1,000.0% to $1.1 million for the nine months ended September 30, 2005, as compared to $0.1 million for the nine months ended September 30, 2004. This increase in earnings was primarily due to increased sales prices, partially offset by decreased sales volumes. We use the equity method of accounting for our joint venture at the Kashima site.
     Interest expense-Polymer Holdings. Polymer Holdings’ interest expense increased 24.9% to $34.6 million for the nine months ended September 30, 2005, as compared to $27.7 million for the nine months ended September 30, 2004. This increase was primarily due to an $8.6 million increase related to the accretion of the debt discount associated with the issuance of the 12% Discount Notes offset by $1.7 million of expense relating to the change in fair value of the interest rate swaps in the 2004 period. During the nine months ended September 30, 2005 and September 30, 2004, the average debt balances outstanding were $562.5 million and $555.9 million, respectively. The effective interest rates on our debt during the same periods were 7.9% and 5.8%, respectively. Included in interest expense is $1.8 million and $2.0 million of expense related to the amortization of deferred financing costs for the nine months ended September 30, 2005 and 2004, respectively.
     Interest expense-KRATON. KRATON’s interest expense decreased 6.9% to $25.8 million for the nine months ended September 30, 2005, as compared to $27.7 million for the nine months ended September 30, 2004. This decrease was primarily due to $1.7 million of expense relating to the change in fair value of the interest rate swaps in the 2004 period. During the nine months ended September 30, 2005 and September 30, 2004, the average debt balances outstanding were $464.5 million and $555.8 million, respectively. The effective interest rates on our debt during the same periods were 7.1% and 5.8%, respectively. Included in interest expense is $1.7 million and $2.0 million of expense related to the amortization of deferred financing costs for the nine months ended September 30, 2005 and 2004, respectively.

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Income Tax (Provision) Benefit
     Income tax (provision) benefit — Polymer Holdings. Polymer Holdings’ income tax provision was $6.2 million for the nine months ended September 30, 2005, as compared to income tax benefit of $15.3 million for the nine months ended September 30, 2004. For the nine months ended September 30, 2005, our operations generated income before income taxes due to the aforementioned increased gross profit. In the nine months ended September 30, 2004, our operations generated a loss before income taxes due to reduced gross profit.
     Income tax (provision) benefit — KRATON. KRATON’s income tax provision was $9.2 million for the nine months ended September 30, 2005, as compared to income tax benefit of $15.3 million for the nine months ended September 30, 2004. For the nine months ended September 30, 2005, our operations generated income before income taxes due to the aforementioned increased gross profit. In the nine months ended September 30, 2004, our operations generated a loss before income taxes due to reduced gross profit.
Net Income (Loss)
     Net income (loss) Polymer Holdings. Polymer Holdings net income was $18.8 million for the nine months ended September 30, 2005, as compared to $23.9 million of net loss for the nine months ended September 30, 2004, for the reasons discussed above.
     Net income (loss) KRATON. KRATON’s net income was $24.6 million for the nine months ended September 30, 2005, as compared to $23.9 million of net loss for the nine months ended September 30, 2004, for the reasons discussed above.
Liquidity and Capital Resources
     Operating activities. Net cash provided by operating activities was $29.2 million, a decrease of $28.6 million for the nine months ended September 30, 2005, as compared to net cash provided by operating activities of $57.8 million for the nine months ended September 30, 2004. The decrease in cash provided by operating activities in the nine months ended September 30, 2005, was primarily due to increased accounts receivable resulting from the increase in product sales previously discussed, the timing of accounts payable payments and the impact of inventory.
     Investing activities. Net cash used for investing activities was $8.5 million for the nine months ended September 30, 2005, as compared to $28.7 million for the nine months ended September 30, 2004. This decrease was primarily driven by the decrease in capital expenditures of $20.2 million during the nine months ended September 30, 2005, as compared to the prior period, which is due to the spending during the nine months ended September 30, 2004, related to the completion of the 15 kT KRATON D plant expansion at our Berre, France facility and the 13 kT KRATON G expansion at our Belpre, Ohio facility.
     Financing activities. Net cash used in financing activities was $0.6 million for the nine months ended September 30, 2005, as compared to $17.8 million of net cash used in financing activities for the nine months ended September 30, 2004. The decrease is primarily due to the $15.1 million voluntary prepayments on the Term Loans in the 2004 period.
     Sources of liquidity. We are a holding company without any operations or assets other than our subsidiaries. Our liquidity depends on distributions from our subsidiaries and we expect to continue to fund our liquidity requirements principally with cash derived from operations. However, our subsidiaries are not obligated to make any funds available to us for payment on our obligations. KRATON’s ability to distribute amounts to Polymer Holdings is restricted by the terms of its senior secured credit facility and the indenture governing the 8.125% Notes. In particular, KRATON’s senior secured credit facility does not permit (and the indenture governing KRATON’s 8.125% Notes may not permit) the payment of dividends or other distributions to us necessary to make payments of interest and principal when due on Polymer Holdings’ 12% Discount Notes.
     We have historically funded our liquidity needs with cash from the operations of our subsidiaries. Net cash provided by operations was $29.2 million for the nine months ended September 30, 2005. We believe that during 2005 we will generate sufficient cash flows from operations to fund our liquidity needs. KRATON has available to it, upon compliance with customary conditions, a senior secured revolving credit facility in the amount of $60 million, which was fully available at September 30, 2005. The Acquisition significantly increased our level of indebtedness. The ability of KRATON to pay principal and interest on its indebtedness, fund working capital, make

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anticipated capital expenditures and to make funds available to Polymer Holdings for payment on its 12% Discount Notes when due depends on the future performance of KRATON, which is subject to general economic conditions and other factors, some of which are beyond our control. There can be no assurance that our business will generate sufficient cash flow from operations or that future borrowings will be available under KRATON’s senior secured revolving credit facility to fund liquidity needs in an amount sufficient to enable KRATON and Polymer Holdings to service their indebtedness. Furthermore, if we decide to undertake additional investments in existing or new facilities, this will likely require additional capital, and there can be no assurance that this capital will be available.
     Under the terms of the senior secured credit facility, KRATON is subject to certain financial covenants, including maintenance of a minimum interest rate coverage ratio and a maximum leverage ratio and limits on consolidated capital expenditures. Currently, KRATON is required to maintain an interest coverage ratio of 2.00:1.00 through the fourth fiscal quarter of 2006 and a maximum leverage ratio of 6.95:1.00 for the first three fiscal quarters of 2005. Beginning in the fourth fiscal quarter of 2005 and the first two fiscal quarters of 2006, KRATON is required to maintain a maximum leverage ratio of 6.45:1.00 and it becomes progressively more restrictive. In addition, KRATON’s consolidated capital expenditures are capped at $31 million for 2005, $39 million for 2006, $37 million for 2007 and $32 million for 2008 and thereafter with certain unused amounts permitted to be carried forward. KRATON’s failure to comply with any of these financial covenants would give rise to a default under the senior secured credit facility.
     As of September 30, 2005, Polymer Holdings was in compliance with the financial covenants contained in Polymer Holdings’ 12% Discount Notes, and KRATON was in compliance with the applicable financial ratios in KRATON’s senior secured credit facility and the other covenants contained in KRATON’s senior secured credit facility and the indenture governing KRATON’s 8.125% Notes.
     In October 2004, KRATON obtained an amendment to the senior secured credit facility because of the potential impact of a variety of factors, principally increased monomer costs, on its ability to comply with the financial covenants contained in the senior secured credit facility in future periods. In particular, the senior secured credit facility requires KRATON to comply with specified financial ratios and tests, including a maximum leverage ratio and a minimum interest coverage ratio. As a result of the amendment, the issuance of the 12% Discount Notes by Polymer Holdings and the subsequent prepayment of $76.2 million of the term loan portion of the senior secured credit facility, KRATON has significantly improved its ability to comply with these covenants in the future. Polymer Holdings owns 100% of KRATON equity interests, and neither KRATON, nor any of its subsidiaries, guarantees the 12% Discount Notes and, therefore, the 12% Discount Notes are not included in KRATON’s consolidated total debt. Furthermore, by using $76.2 million of the proceeds to prepay part of the term loan portion of the senior secured credit facility KRATON significantly reduced its consolidated total debt. According to the amendment to the senior secured credit facility the maximum leverage ratio must not exceed 6.95 to 1.00 in the first three quarters of 2005 and 6.45 to 1.00 in the fourth quarter of 2005 and the first half of 2006. The leverage ratio becomes more restrictive during the remaining term. These levels are less restrictive than those in effect prior to the amendment to the senior secured credit facility. For more information regarding covenants contained in the senior secured credit facility, see “Description of Our Indebtedness — Senior Credit Facility — Covenants.”
     Capital expenditures. In 2005, we expect to spend approximately $18 million to $23 million on capital expenditures, of which approximately $12 million to $15 million is expected to be maintenance and infrastructure-related spending and approximately $6 million to $8 million is expected to be expansionary and cost reduction spending. Capital expenditures decreased $20.2 million to $8.6 million in the nine months ended September 30, 2005, as compared to the nine months ended September 30, 2004. The decrease is primarily due to the spending during the nine months ended September 30, 2004, associated with the completion of the 15 kT KRATON D plant expansion at our Berre, France facility and the 13 kT KRATON G expansion at our Belpre, Ohio facility. Our minimum capital expenditure levels to maintain and achieve incremental improvements in our facilities are approximately $12 million to $15 million per year. This amount does not include any capital expenditures required as a result of the study of the Pernis operations discussed in “Other Contingencies.” We believe that we will be able to finance such capital investments from cash generated from operations and do not anticipate utilizing the revolving portion of our senior secured credit facility, or other financing activities, to finance such investments.
Contractual Commitments
     Our principal outstanding contractual obligations relate to the long-term debt under the senior secured credit facility, the 8.125% Notes, the 12% Discount Notes, the operating leases of some of our facilities and the

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feedstock contracts with Shell Chemicals, or its affiliates, to provide us with styrene, butadiene and isoprene. The following table summarizes our contractual cash obligations for the periods indicated.
Payments Due by Period
     As of September 30, 2005, our contractual cash obligations for the remainder of 2005, and 2006, 2007, 2008 and 2009 by year and thereafter are as follows:
                                                         
Contractual Obligations   Total     2005     2006     2007     2008     2009     Thereafter  
    (in millions)  
Long-term debt(1)
  $ 613.3     $ 0.7     $ 2.7     $ 2.7     $ 2.7     $ 2.7     $ 601.8  
Estimated interest payments on debt(1)
    313.9       4.0       32.3       32.1       31.9       40.8       172.8  
Operating leases
    37.9       1.7       6.4       5.5       5.4       5.2       13.7  
Purchase obligations(2)(3)
    300.8       3.1       12.4       12.4       12.4       12.4       248.1  
 
                                         
Total contractual cash obligations
  $ 1,265.9     $ 9.5     $ 53.8     $ 52.7     $ 52.4     $ 61.1     $ 1,036.4  
 
(1)   KRATON’s contractual obligations exclude $150.0 million related to Polymer Holdings’ 12% Discount Notes all of which is due in 2014. KRATON’s total long-term debt, estimated interest payments and contractual cash obligations subsequent to 2009 are $451.8 million, $82.8 million and $795.5 million, respectively.
 
(2)   Pursuant to the feedstock supply contracts with Shell Chemicals or its affiliates, we are obligated to purchase minimum quantities of isoprene each year. We have two isoprene supply contracts, which require us to purchase minimum quantities. If we do not meet these minimums, we would be obligated to pay a penalty of approximately U.S. $300.0 per ton up to a maximum aggregate penalty of approximately $4.2 million.
 
(3)   Pursuant to a production agreement with Basell Polyfine GMBH, we are obligated to pay a minimum indirect service fee each year of approximately $8.2 million. Not included in this table are future obligations arising under our Operating Agreements and Site Services, Utilities, Materials and Facilities Agreements that do not specify fixed or minimum quantities of goods or services to be purchased and do not contain fixed, minimum or variable price provisions. Under such agreements, our obligations to third parties are based on costs incurred by them in connection with the operation and maintenance of, and other services provided to, our European facilities. For a description of these agreements, see “Business—Shell Chemicals Operating Agreements.” The initial terms of these agreements range between 20 years and 40 years and each agreement includes bilateral renewal rights. During the years ended December 31, 2004, 2003 and 2002, we incurred costs aggregating $66.5 million, $55.9 million and $44.2 million, respectively, under these agreements.
     Pursuant to the styrene and butadiene feedstock supply contracts with Shell Chemicals, and its affiliates for our European operations, we are obligated to purchase minimum quantities. The contracts do not contain a stated penalty for failure to purchase the minimum quantities. However, if we do not purchase the minimum requirements, we are required under the terms of the contracts to meet with Shell Chemicals in an effort to determine a resolution equitable to both parties.
Description of Our Indebtedness
     Senior Secured Credit Facility
     As part of the Acquisition, KRATON entered into a new senior secured credit agreement with various lenders, Goldman Sachs Credit Partners L.P., UBS Securities LLC, UBS AG, Stamford Branch, Credit Suisse First Boston, Morgan Stanley Senior Funding Inc. and General Electric Capital Corporation. The senior secured credit facility was amended in connection with the consummation of the sale of the 12% Discount Notes. The following is a summary of the material terms of the senior secured credit facility, as amended. This description does not purport to be complete and is qualified in its entirety by reference to the provisions of the senior secured credit agreement.
     Structure.
     KRATON’s senior secured credit facility consists of:
    a senior secured term loan of $360.0 million, which we refer to as the Term Facility, and
 
    a senior secured revolving credit facility of up to $60.0 million, which we refer to as the Revolving Facility.
     The full amount of the Term Facility was drawn in a single drawing at the closing to fund the Acquisition. Subject to customary conditions, including the absence of defaults under the senior secured credit agreement, amounts available under the Revolving Facility may be borrowed, repaid and reborrowed on or after the closing, as applicable, including in the form of letters of credit and swing line loans, until the maturity date thereof. The Revolving Facility may be utilized to fund our working capital and for other general corporate purposes.

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     Maturity, Amortization and Prepayment. The Term Facility has a maturity of seven years and amortizes in 24 consecutive equal quarterly installments in an aggregate annual amount equal to 1.0% of the original principal amount of the Term Facility during the first six years thereof, with the balance payable in four equal quarterly installments in year seven. Unless terminated earlier, the Revolving Facility has a maturity of five years and has a single maturity.
     The senior secured credit facility is subject to mandatory prepayment with, in general, (1) 100% of the net cash proceeds of certain asset sales, subject to certain reinvestment rights; (2) 100% of the net cash proceeds of certain insurance and condemnation payments, subject to certain reinvestment rights; (3) 50% of the net cash proceeds of equity offerings (declining to 25%, if a leverage ratio is met); (4) 100% of the net cash proceeds of debt incurrences (other than debt incurrences permitted under the senior secured credit facility); and (5) 50% of our excess cash flow (declining to 25%, if a leverage ratio is met). Any such prepayment is applied first to the Term Facility and thereafter to the Revolving Facility.
     Interest and Fees. The term loans under the Term Facility bear interest at a rate equal to the adjusted Eurodollar rate plus 2.75% per annum or, at our option, the base rate plus 1.75% per annum, in each case declining by 0.25% if certain leverage ratios are attained and by a further 0.25% if certain ratings are obtained. The loans under the Revolving Facility initially bear interest at a rate equal to the adjusted Eurodollar rate plus 2.75% per annum or at our option, the base rate plus 1.75% per annum, and may decline by as much as 0.25% if certain leverage ratios are met. A commitment fee equal to 0.5% per annum times the daily average undrawn portion of the Revolving Facility accrues and is payable quarterly in arrears.
     Guarantees. All of KRATON’s obligations under the senior secured credit facility are guaranteed by Polymer Holdings and existing and subsequently acquired or organized domestic subsidiaries and by us.
     Security. The senior secured credit facility is secured by first priority security interests in substantially all of our assets and the assets of the guarantors. In addition, the senior facilities are secured by a first priority security interest in 100% of our capital stock and each of our domestic subsidiaries, 65% of the capital stock of each of our foreign subsidiaries, to the extent owned by us or a guarantor, and all intercompany indebtedness owed to us or any guarantor.
     Covenants. The senior secured credit facility contains a number of covenants that, among other things, restrict our ability and the ability of our subsidiaries to (1) dispose of assets; (2) incur additional indebtedness; (3) incur guarantee obligations; (4) repay other indebtedness; (5) make certain restricted payments and pay dividends; (6) create liens on assets or prohibit liens securing the new senior secured credit facility; (7) make investments, loans or advances; (8) make distributions to Polymer Holdings; (9) make certain acquisitions; (10) engage in mergers or consolidations; (11) enter into sale and leaseback transactions; (12) engage in certain transactions with subsidiaries and affiliates; or (13) amend the terms of the 8.125% Notes and otherwise restrict corporate activities. In addition, under the senior secured credit facility, we are required to comply with specified financial ratios and tests, including a minimum interest coverage ratio, a maximum leverage ratio and maximum capital expenditures.
     Under the terms of the senior secured credit facility, we are subject to certain financial covenants, including maintenance of a minimum interest rate coverage ratio and a maximum leverage ratio and are subject to limits on our consolidated capital expenditures. Currently, we are required to maintain an interest coverage ratio of 2.00:1.00 through the fourth fiscal quarter of 2006 and a maximum leverage ratio of 6.95:1.00 for the first three fiscal quarters of 2005. Beginning in the fourth fiscal quarter of 2005 and the first two fiscal quarters of 2006, we are required to maintain a maximum leverage ratio of 6.45:1.00 and it becomes progressively more restrictive. In addition, our consolidated capital expenditures are capped at $31 million for 2005, $39 million for 2006, $37 million for 2007 and $32 million for 2008 and thereafter with certain unused amounts permitted to be carried forward. Our failure to comply with any of these financial covenants would give rise to a default under the senior secured credit facility.
     As of September 30, 2005, KRATON was in compliance with all covenants under the senior secured credit facility.
     Events of Default. The senior secured credit facility contains customary events of default, including (1) nonpayment of principal or interest; (2) defaults under certain other agreements or instruments of indebtedness;

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(3) noncompliance with covenants; (4) breaches of representations and warranties; (5) bankruptcy-related events or dissolution; (6) judgments in excess of specified amounts; (7) certain ERISA matters; (8) invalidity of guarantees of the senior secured credit facility or impairment of security interests in collateral; and (9) certain change of control events.
     Amendment and Waiver under the senior secured credit facility. In October 2004, as part of a refinancing of indebtedness, we amended our senior secured credit facility in order (1) to permit the issuance by Polymer Holdings of the 12% Discount Notes, (2) to provide for more flexibility in the minimum required interest coverage ratio covenant and the maximum permitted leverage covenant, (3) to change the maximum permitted capital expenditures covenant, and (4) to increase the interest rate on the loans until, after March 31, 2005, a specified senior leverage ratio is met or until certain ratings are obtained.
     KRATON’s 8.125% Senior Subordinated Notes due 2014
     As part of the Acquisition, KRATON issued $200.0 million aggregate principal amount of Senior Subordinated Notes due 2014 that bear interest at a rate of 8.125% per annum. The following is a summary of the material terms of the 8.125% Notes. This description does not purport to be complete and is qualified, in its entirety, by reference to the provisions of the indenture governing the 8.125% Notes.
     Maturity Date. The 8.125% Notes mature on January 15, 2014.
     Interest Payment Dates. Interest on the 8.125% Notes is payable semi-annually on January 15 and July 15 each year, commencing July 15, 2004.
     Guarantees. The 8.125% Notes are guaranteed on a senior subordinated basis by all of KRATON’s existing and future subsidiaries that guarantee the indebtedness under KRATON’s senior secured credit facility described above.
     Security and Ranking. The 8.125% Notes and the guarantees are KRATON’s and the guarantor subsidiaries’ general unsecured obligations, are subordinate to KRATON’s and the guarantor subsidiaries’ existing and future senior indebtedness, including indebtedness under the senior secured credit facility, and rank equally with KRATON’s and the guarantor subsidiaries’ future senior subordinated indebtedness. The 8.125% Notes and the guarantees effectively rank junior to KRATON’s secured indebtedness and to the secured indebtedness of all of KRATON’s guarantor subsidiaries to the extent of the value of the assets securing the indebtedness and are structurally subordinated to all liabilities of KRATON’s subsidiaries that are not guarantors of the 8.125% Notes.
     Optional Redemption. Generally, KRATON cannot elect to redeem the 8.125% Notes until January 15, 2009. On or after such date, KRATON may elect to redeem the 8.125% Notes at certain predetermined redemption prices, plus accrued and unpaid interest. Prior to January 15, 2007, KRATON may redeem up to 35% of the aggregate principal amount of the 8.125% Notes with the net cash proceeds of certain permitted equity offerings or contributions at a redemption price equal to 108.125% of the principal amount of the 8.125% Notes being redeemed, plus accrued and unpaid interest.
     Covenants. The 8.125% Notes contain certain affirmative covenants including, among others, limitations on covenants to furnish the holders of 8.125% Notes with financial statements and other financial information and to provide the holders of 8.125% Notes notice of material events.
     The 8.125% Notes contain certain negative covenants including limitations on indebtedness, limitations on restricted payments, limitations on restrictions on distributions from certain subsidiaries, limitations on lines of business, and merger and consolidations.
     As of September 30, 2005, KRATON was in compliance with all covenants under the 8.125% Notes.
     On October 24, 2005, KRATON completed an offer to exchange all of its outstanding 8.125% Notes issued under an exemption from the registration requirement of the Securities Act, for notes registered under the Securities Act. In this offer, 100% of the outstanding notes issued under the exemptions from registration were tendered and exchanged for registered notes. The registered notes are identical to the unregistered notes, except that the registered notes do not carry transfer restrictions.

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     As previously discussed, the Registration Rights Agreement provided for the SEC to declare the registration statement to be effective on or before July 1, 2005, or KRATON would be in Registration Default. The SEC did not declare the registration statement to be effective on or before July 1, 2005, and accordingly, KRATON accrued the Special Interest subsequent to July 1, 2005, through October 24, 2005, the date KRATON completed the offer to exchange.
     Polymer Holdings’ 12% Senior Discount Notes Due 2014
     As part of a refinancing of indebtedness in October 2004, Polymer Holdings issued the 12% Discount Notes. The following is a summary of the material terms of the 12% Discount Notes. This description does not purport to be complete and is qualified, in its entirety, by reference to the provisions of the indenture governing the 12% Discount Notes.
     Maturity Date. The 12% Discount Notes mature on July 15, 2014.
     Accretion. The 12% Discount Notes were issued at a substantial discount to their principal amount at maturity and generated gross proceeds of approximately $91.9 million. The accreted value of each 12% Discount Note will continue to increase on a daily basis from the date of issuance until January 15, 2009 at a rate of 12% per annum, reflecting the accrual of non-cash interest, such that the accreted value on January 15, 2009 will equal the principal amount at maturity.
     Cash Interest Payment Dates. Cash interest will accrue and be payable on the 12 % Discount Notes at a rate of 12% per annum from January 15, 2009, or from the most recent date to which interest has been paid, and will be payable semi-annually in arrears on January 15 and July 15 of each year, commencing July 15, 2009, to the holders of record on the immediately preceding January 1 and July 1.
     Guarantees. None of Polymer Holdings’ subsidiaries, including KRATON, guarantee the 12% Discount Notes.
     Holding Company Structure and Ranking. Polymer Holdings is a holding company and does not have any material assets or operations other than ownership of KRATON’s capital stock. All of its operations are conducted through KRATON and KRATON’s subsidiaries and, therefore, Polymer Holdings will be dependent upon KRATON’s cash flow and the cash flow of our subsidiaries to meet its obligations under the 12% Discount Notes. As a result of the holding company structure, any right of Polymer Holdings and its creditors, including the holders of the 12% Discount Notes, to participate in the assets of any of its subsidiaries upon such subsidiary’s liquidation or reorganization will be structurally subordinated to the claims of that subsidiary’s creditors and holders of preferred stock of such subsidiary, if any. In addition, in the event of the bankruptcy, liquidation, reorganization or other winding up of Polymer Holdings, or upon a default in payment with respect to, or the acceleration of, any indebtedness under the senior secured credit facility or other secured indebtedness of Polymer Holdings, the assets of Polymer Holdings will be available to pay obligations on the 12% Discount Notes only after all secured indebtedness has been repaid from such assets.
     Optional Redemption. Generally, Polymer Holdings cannot elect to redeem the 12% Discount Notes until January 15, 2009. On or after such date, Polymer Holdings may elect to redeem the 12% Discount Notes at certain predetermined redemption prices, plus accrued and unpaid interest. Prior to January 15, 2007, Polymer Holdings may redeem up to 35% of the aggregate principal amount of the 12% Discount Notes with the net cash proceeds of certain permitted equity offerings or contributions at a redemption price equal to 112% of the accreted value of the 12% Discount Notes being redeemed on the date of redemption.
     Covenants. The 12% Discount Notes contain certain affirmative covenants including, among others, to furnish the holders of 12% Discount Notes with financial statements and other financial information and to provide the holders of 12% Discount Notes notice of material events.
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limitations on restricted payments, limitations on restrictions on distributions from certain subsidiaries, limitations on lines of business, and merger and consolidations.
     As of September 30, 2005, Polymer Holdings was in compliance with all covenants under the 12% Discount Notes.
     On October 20, 2005, Polymer Holdings completed an offer to exchange all of its outstanding 12% Discount Notes issued under an exemption from the registration requirement of the Securities Act, for notes registered under the Securities Act. In this offer, 100% of the outstanding notes issued under the exemptions from registration were tendered and exchanged for registered notes. The registered notes are identical to the unregistered notes, except that the registered notes do not carry transfer restrictions.
     As previously discussed, the Registration Rights Agreement provided for the SEC to declare the registration statement to be effective on or before July 1, 2005, or Polymer Holdings would be in Registration Default. The SEC did not declare the registration statement to be effective on or before July 1, 2005, and accordingly, Polymer Holdings accrued the Special Interest subsequent to July 1, 2005, through October 20, 2005, the date Polymer Holdings completed the offer to exchange.
Other Contingencies
     As a chemicals manufacturer, our operations in the United States and abroad are subject to a wide range of environmental laws and regulations at both the national and local levels. These laws and regulations govern, among other things, air emissions, wastewater discharges, solid and hazardous waste management, site remediation programs and chemical use and management.
     Pursuant to these laws and regulations, our facilities are required to obtain and comply with a wide variety of environmental permits for different aspects of their operations. Generally, many of these environmental laws and regulations are becoming increasingly stringent, and the cost of compliance with these various requirements can be expected to increase over time.
     Management believes that we are in material compliance with all current environmental laws and regulations. We estimate that any expenses incurred in maintaining compliance with these requirements will not materially affect our results of operations or cause us to exceed our level of anticipated capital expenditures. However, we cannot assure you that regulatory requirements or permit conditions will not change, and we cannot predict the aggregate costs of additional measures that may be required to maintain compliance as a result of such changes or expenses.
     In the context of our separation from Shell Chemicals in February 2001, Shell Chemicals agreed to indemnify us for specific categories of environmental claims brought with respect to matters occurring before our separation from Shell Chemicals in February 2001. However, the indemnity from Shell Chemicals is subject to dollar and time limitations. Coverage under the indemnity also varies depending upon the nature of the environmental claim, the location giving rise to the claim and the manner in which the claim is triggered. Therefore, if claims arise in the future related to past operations, we cannot assure you that those claims will be covered by the Shell Chemicals’ indemnity and also cannot be certain that any amounts recoverable will be sufficient to satisfy claims against us.
     In addition, we may in the future be subject to claims that arise solely from events or circumstances occurring after February 2001 that would not, in any event, be covered by the Shell Chemicals’ indemnity. While we recognize that we may in the future be held liable with respect for remediation activities beyond those identified to date, at present we are not aware of any circumstances that are reasonably expected to give rise to remediation claims that would have a material adverse effect on our results of operations or cause us to exceed our projected level of anticipated capital expenditures.
     On December 16, 2003, Shell Chemicals, the operator of our Pernis facility in the Netherlands delivered a preliminary study reviewing the facility’s operations and physical plant. Based on a study consisting of interviews of plant personnel, a review of plant documentation, and limited fieldwork relating to selected areas of the manufacturing complex that included both our manufacturing assets and those of Shell Chemicals, the study preliminarily estimated that significant expenditures could be required by us over an indeterminate period.

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The study identified both required maintenance and suggested near-term and long-term improvements to the facility and physical plant. On March 8, 2004, Shell presented an update of this study, which had been reviewed by the plant manager for the facility, and provided some analysis of the preliminary study. Limited engineering work had been done at this point, and estimates of costs were still based solely on factored estimates. On or about September 30, 2005, Shell Chemicals delivered a more detailed engineering estimate which indicates we would incur approximately $20 million to $30 million of required spending over the next 5 years to bring the facility up to Shell corporate standards for like assets. We are currently discussing the basis and assumptions used in the engineering study and intend to conduct additional engineering work to assess the validity of the Shell Chemicals study. We are also reviewing ways we could lower the cost of this estimate particularly in light of the existing isoprene contract that may expire on December 31, 2009, should either party give 24 months prior written notice.
Off-Balance Sheet Transactions
     We are not involved in any material off-balance sheet transactions as of September 30, 2005.
Market Risk
     We are exposed to market risk from changes in interest rates, foreign currency exchange rates, and commodity prices.
     Interest rate risk. We have $263.3 million of variable rate debt outstanding under our senior secured credit facility as of September 30, 2005. The debt bears interest at the adjusted Eurodollar plus 2.50% per annum or at our option, the base rate plus 1.50% per annum. Under our Credit Agreement, we are required to hedge, or otherwise protect against interest rate fluctuations, a portion of our variable rate debt. As a result, we entered into two interest rate swap agreements in the amount of $80.0 million each, effective June 11, 2004 and July 6, 2004, respectively. Both of these agreements will terminate on June 24, 2007, have a fixed rate quarterly payment date on each of September 24, December 24, March 24 and June 24, commence on June 24, 2004, and end on the termination date. The agreements have an average fixed rate of 3.524%. As of September 30, 2005, the fair market value of the agreements was a $2.6 million asset.
     Foreign currency risk. We conduct operations in many countries around the world. Our results of operations are subject to both currency transaction risk and currency translation risk. We incur currency transaction risk whenever we enter into either a purchase or sale transaction using a currency other than the local currency of the transacting entity. With respect to currency translation risk, our financial condition and results of operations are measured and recorded in the relevant domestic currency and then translated into U.S. dollars for inclusion in our historical combined financial statements. Exchange rates between these currencies and U.S. dollars in recent years have fluctuated significantly and may do so in the future. Approximately half of our revenue and costs are denominated in U.S. dollars; Euro-related currencies are also significant. The net appreciation of the Euro against the U.S. dollar and other world currencies since 2001 has had a positive impact on our sales as reported in U.S. dollars in our historical combined financial statements. Historically, we have not undertaken hedging strategies to minimize the effect of currency fluctuations.
     Commodity price risk. We are subject to commodity price risk under agreements for the supply of our raw materials and energy. We have not hedged our commodity price exposure. We do not currently intend to hedge our commodity price exposure.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
     Our variable rate debt consists of borrowings under the senior secured credit facility. The interest rates are a function of the bank prime rate or LIBOR. A 1% point change in the base interest rate on our $263.3 million of variable rate debt would result in an approximate $2.6 million change in income before taxes. In addition, we have entered into interest rate swaps that will terminate on June 24, 2007 covering $160 million of debt that convert the variable rate debt to a fixed rate that averages 3.524%. A 1% point change in the base interest rate would result in an approximate $1.6 million change in income before taxes that would serve to offset the change noted above.

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ITEM 4. CONTROLS AND PROCEDURES
     We have carried out an evaluation, under the supervision and with the participation of our management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures, including the possibility of human error and the circumvention or overriding of the controls and procedures. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives. Based upon our evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that, as of September 30, 2005, the disclosure controls and procedures are effective to provide reasonable assurance that information required to be disclosed in the reports we are required to prepare pursuant to the indenture for the notes it is recorded, processed, summarized and reported as and when required.
     There have been no changes in our internal control over financial reporting during the quarter ended September 30, 2005 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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PART II — Other Information
ITEM 1. LEGAL PROCEEDINGS
     Pursuant to the sale agreements between us and Shell Chemicals relating to the Separation from Shell Chemicals in 2001, Shell Chemicals has agreed to indemnify us for certain liabilities and obligations to third parties or claims against us by a third party relating to matters arising prior to the closing of the acquisition by Ripplewood Chemical, subject to certain time limitations. Shell Chemicals has been named in several lawsuits relating to the elastomers business that we have acquired. In particular, claims have been filed against Shell Chemicals alleging workplace asbestos exposure at the Belpre, Ohio facility. We are indemnified by Shell Chemicals with respect to these claims, subject to certain time limitations. In addition, we and Shell Chemicals have entered into a consent order relating to certain environmental remediation at the Belpre, Ohio facility.
     While we are involved from time to time in litigation and governmental actions arising in the ordinary course of business, we are not aware of any actions which we believe would materially adversely affect our business, financial condition or results of operations.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
     Not Applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
     Not Applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITYHOLDERS
     Not Applicable.
ITEM 5. OTHER INFORMATION
     Not Applicable.
ITEM 6. EXHIBITS
(a) Exhibits
10.1   Option Grant Agreement dated December 2, 2004, between TJ Chemical Holdings LLC, or TJ Chemical, and Steven Demetriou.
 
10.2   Option Grant Agreement dated December 2, 2004, between TJ Chemical and James Ball.
 
10.3   Employment Agreement dated November 9, 2005, between KRATON and Kevin M. Fogarty.
 
10.4   Option Grant Agreement dated October 24, 2005, between TJ Chemical and Raymond K. Guba.
 
10.5   Profit Unit Award Agreement Dated October 24, 2005, between KRATON Management LLC and Raymond K. Guba.
 
10.6   Notional Unit Award Grant Agreement dated October 24, 2005, between KRATON and Raymond K. Guba.
 
31.1   Certification of CEO pursuant to Rule 13a-14(a) or Rule 15d-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes — Oxley Act of 2002.
 
31.2   Certification of Interim CFO pursuant to Rule 13a-14(a) or Rule 15d-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes — Oxley Act of 2002.
 
31.3   Certification of CFO pursuant to Rule 13a-14(a) or Rule 15d-14(a) under the Securities Exchange Commission Act of 1934, as adopted pursuant to Section 302 of the Sarbanes — Oxley Act of 2002.
 
32.1   Certification of CEO and CFO pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes — Oxley Act of 2002.

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Signatures
     The registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
         
  Polymer Holdings LLC
KRATON Polymers LLC
 
 
Date: November 14, 2005  /s/ George B. Gregory    
  George B. Gregory   
  Chief Executive Officer   
 
         
     
  /s/ Nicholas G. Dekker    
  Nicholas G. Dekker   
  Interim Chief Financial Officer   

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Exhibit Index
10.1   Option Grant Agreement dated December 2, 2004, between TJ Chemical Holdings LLC, or TJ Chemical, and Steven Demetriou.
 
10.2   Option Grant Agreement dated December 2, 2004, between TJ Chemical and James Ball.
 
10.3   Employment Agreement dated November 9, 2005, between KRATON and Kevin M. Fogarty.
 
10.4   Option Grant Agreement dated October 24, 2005, between TJ Chemical and Raymond K. Guba.
 
10.5   Profit Unit Award Agreement Dated October 24, 2005, between KRATON Management LLC and Raymond K. Guba.
 
10.6   Notional Unit Award Grant Agreement dated October 24, 2005, between KRATON and Raymond K. Guba.
 
31.1   Certification of CEO pursuant to Rule 13a-14(a) or Rule 15d-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes — Oxley Act of 2002.
 
31.2   Certification of Interim CFO pursuant to Rule 13a-14(a) or Rule 15d-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes — Oxley Act of 2002.
 
31.3   Certification of CFO pursuant to Rule 13a-14(a) or Rule 15d-14(a) under the Securities Exchange Commission Act of 1934, as adopted pursuant to Section 302 of the Sarbanes—Oxley Act of 2002.
 
32.1   Certification of CEO and CFO pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes — Oxley Act of 2002.

56

exv10w1
 

Exhibit 10.1
OPTION GRANT AGREEMENT
This OPTION GRANT AGREEMENT, made as of the 2d day of December, 2004 between TJ Chemical Holdings LLC (the “Company”) and Steven Demetriou (the “Participant”).
WHEREAS, the Company has adopted and maintains the TJ Chemical Holdings LLC 2004 Option Plan (the “Plan”) to promote the interests of the Company and the Holders of Membership Units in the Company by providing key employees, consultants, members and service providers of the Company and its affiliates with an appropriate incentive to encourage them to continue in the employ or service and to improve the growth and profitability of the Company and its affiliates;
WHEREAS, the Plan provides for the Grant to Participants of non-qualified Options to purchase Membership Unit(s) in the Company;
NOW, THEREFORE, in consideration of the premises and the mutual covenants hereinafter set forth, the parties hereto hereby agree as follows:
1. Grant of Options. Pursuant to, and subject to, the terms and conditions set forth herein and in the Plan, the Company hereby grants to the Participant a non-qualified option (the “Option”) with respect to 25,000 Membership Unit(s) in the Company.
2. Grant Date. The Grant Date of the Option hereby granted is December 2, 2004.
3. Vesting Commencement Date. The Vesting Commencement Date of the Option hereby granted is December 1, 2004.
4. Incorporation of Plan. All terms, conditions and restrictions of the Plan and the LLC Agreement are incorporated herein and made part hereof as if stated herein. If there is any conflict between the terms and conditions of the Plan or the LLC Agreement and this Option Grant Agreement, the terms and conditions of this Option Grant Agreement, as interpreted by the Committee in its sole discretion, shall govern, unless explicitly provided to the contrary in the Plan or this Option Grant Agreement. All capitalized terms used herein shall have the meaning given to such terms in the Plan.
5. Exercise Price. The exercise price per Membership Unit underlying the Option granted hereby is $1.00.
6. Vesting Date. The Option shall become exercisable as follows: fifty percent (50%) of the Membership Unit(s) (rounded down to the nearest Membership Unit) underlying the Option shall become exercisable on each of the first two anniversaries of the Vesting Commencement Date; Provided that the unvested portion of the Option shall become immediately vested as of the effective date of a Change in Control.
7. Expiration Date. The Option or such portion thereof that has not yet become exercisable on the date the Participant’s Services are terminated for any reason shall expire on such date. The Option or such portion thereof that has become exercisable on or before the date the Participant’s Services are terminated shall expire on the earlier of ( a) the commencement of business on the date the Participant’s Services are terminated for Cause; (b) 90 calendar days after the date the Participant’s Services are terminated for any reason other than Cause, death or Disability; (c) one year after the date the Participant’s Services are terminated by reason of death or Disability; or (d) the 10th anniversary of the Grant Date.

 


 

8. Limitations on Transfer of Membership Units; Termination of Employment. The Participant acknowledges that upon becoming a member of the Company, the Participant will be subject to all the terms and conditions provided in the LLC Agreement. Notwithstanding anything herein or the LLC Agreement to the contrary, the Participant shall not sell or transfer any Membership Unit acquired pursuant to the exercise of an Option, except (i) to the Participant’s beneficiaries or estate upon the Participant’s death, (ii) upon consent of the Committee, (iii) pursuant to Sections 6.03, 6.04, 6.06 of the LLC Agreement, or (iv) if such sale or transfer occurs following the date set forth in Section 6.07 of the LLC Agreement.
In the event of a termination of a Participant’s Services, the Company shall have the right to purchase the Participant’s Membership Units acquired pursuant to the Options in accordance with Section 6.06 of the LLC Agreement. Any Membership Units acquired pursuant to the exercise of the Options shall be subject to certain Tag-Along and Drag-Along rights in accordance with Article VI of the LLC Agreement.
9. Delays or Omissions. No delay or omission to exercise any right, power or remedy accruing to any party hereto upon any breach or default of any party under this Option Grant Agreement, shall impair any such right, power or remedy of such party nor shall it be construed to be a waiver of any such breach or default, or an acquiescence therein, or of or in any similar breach or default thereafter occurring nor shall any waiver of any single breach or default be deemed a waiver of any other breach or default theretofore or thereafter occurring. Any waiver, permit, consent or approval of any kind or character on the part of any party of any breach or default under this Option Grant Agreement, or any waiver on the part of any party or any provisions or conditions of this Option Grant Agreement, shall be in writing and shall be effective only to the extent specifically set forth in such writing.
10. Limitation on Transfer of Options. Except as set forth in this Section 10, the Option shall be exercisable only by the Participant. The Option shall not be assignable or transferable other than by will or by the laws of descent and distribution. Notwithstanding the foregoing, the Participant may request authorization from the Committee to assign the Option granted herein to a trust or custodianship, the beneficiaries of which may include only the Participant, the Participant’s spouse or the Participant’s lineal descendants (by blood or adoption), and, if the Committee grants such authorization, the Participant may assign his rights accordingly. In the event of any such assignment, such trust or custodianship shall be subject to all the restrictions, obligations, and responsibilities as apply to the Participant under the Plan and this Option Grant Agreement and shall be entitled to all the rights of the Participant under the Plan and this Option Grant Agreement; Provided that notwithstanding such assignment, if the events or dates set forth in Sections 6 and 7 of the Option Grant Agreement occur with respect to the Participant, the Option shall not vest or expire at the times set forth in Sections 6 and 7 hereof; Provided further that upon such assignment in accordance with this Section 10, all references in the Plan and Option Grant Agreement except for Sections 6 and 7 of the Option Grant Agreement (and any other provision of Services with the Company or its affiliates (or the termination thereof)) shall be deemed to be replaced by a reference to the Transferee of the Option.
11. Indemnification. The Participant agrees, to the fullest extent permitted by law, to indemnify and hold harmless the Company and any director, officer, or employee thereof against any and all losses, liabilities, claims, damages, and expenses of any nature whatsoever (including attorneys’ fees and disbursements, judgments, fines and amounts paid in settlement) (collectively, “Losses”) arising out of or based upon any breach or failure by the Participant to comply with his obligations made herein. This Section 11 shall survive any termination or execution of this Option Grant Agreement.

 


 

12. Representations.
     12.1 Participant Representations. In addition to any representations made by the Participant in the LLC Agreement, the Participant hereby represents and warrants to the Company that: (a) the Participant is an “accredited investor” as defined in Rule 501(a) under the Securities Act; ~provided that the Company may, in its discretion and subject to compliance with all applicable securities laws, waive the foregoing representation with respect to a limited number of Participants; (b) the Participant, alone or together with his representatives, possesses such expertise, knowledge, and sophistication in financial and business matters generally, and in the type of transactions in which the Company proposes to engage in particular; (c) the Participant is aware that the LLC Agreement provides significant restrictions on the ability of a Participant to sell, transfer, assign, mortgage, hypothecate, or otherwise encumber the Membership Units; (d) the Participant has duly executed and delivered this Option Grant Agreement; and (e) the Participant’s authorization, execution, delivery, and performance of this Option Grant Agreement do not conflict with any other agreement or arrangement to which the Participant is a party or by which it is bound.
     12.2 Truth of Representations and Warranties. The Participant represents and warrants that all of his representations set forth in Section 12.1 of this Option Grant Agreement are true and correct as of the date hereof and will be true and correct on any Exercise Date.
13. Integration. This Option Grant Agreement, and the other documents referred to herein or delivered pursuant hereto (including, without limitation, the LLC Agreement) which form a part hereof contain the entire understanding of the parties with respect to its subject matter and there are no restrictions, agreements, promises, representations, warranties, covenants or undertakings with respect to the subject matter hereof other than those expressly set forth in such documents. This Option Grant Agreement, the Plan and the LLC Agreement supersede all prior agreements and understandings between the parties with respect to its subject matter.
14. Counterparts. This Option Grant Agreement may be executed in two or more counterparts, each of which shall be deemed an original, but all of which shall constitute one and the same instrument.
15. Governing Law. This Option Grant Agreement shall be governed by and construed and enforced in accordance with the laws of the State of Delaware without regard to the provisions thereof governing conflict of laws.
16. Participant Acknowledgment. The Participant hereby acknowledges receipt of a copy of the Plan and the LLC Agreement. The Participant hereby acknowledges that all decisions, determinations and interpretations of the Committee in respect of the Plan, this Option Grant Agreement and the Option shall be final and conclusive.
[Remainder of page intentionally left blank]

 


 

     IN WITNESS WHEREOF, the Company has caused this Option Grant Agreement to be duly executed by its duly authorized officer and said Participant has hereunto signed this Option Grant Agreement on his own behalf, thereby representing that he has carefully read and understands this Option Grant Agreement, the Plan, and the LLC Agreement as of the day and year first written above.
     
 
  TJ CHEMICAL HOLDINGS LLC
 
 
  /s/ Richard A. Ekleberry
 
   
 
  By: Richard A. Ekleberry
 
  Title: Vice President
 
   
 
  STEVEN DEMETRIOU
 
 
  /s/ Steven Demetriou
 
   

 

exv10w2
 

Exhibit 10.2
OPTION GRANT AGREEMENT
This OPTION GRANT AGREEMENT, made as of the 2d day of December, 2004 between TJ Chemical Holdings LLC (the “Company”) and James Ball (the “Participant”).
WHEREAS, the Company has adopted and maintains the TJ Chemical Holdings LLC 2004 Option Plan (the “Plan”) to promote the interests of the Company and the Holders of Membership Units in the Company by providing key employees, consultants, members and service providers of the Company and its affiliates with an appropriate incentive to encourage them to continue in the employ or service and to improve the growth and profitability of the Company and its affiliates;
WHEREAS, the Plan provides for the Grant to Participants of non-qualified Options to purchase Membership Unit(s) in the Company;
NOW, THEREFORE, in consideration of the premises and the mutual covenants hereinafter set forth, the parties hereto hereby agree as follows:
1. Grant of Options. Pursuant to, and subject to, the terms and conditions set forth herein and in the Plan, the Company hereby grants to the Participant a non-qualified option (the “Option”) with respect to 25,000 Membership Unit(s) in the Company.
2. Grant Date. The Grant Date of the Option hereby granted is December 2, 2004.
3. Vesting Commencement Date. The Vesting Commencement Date of the Option hereby granted is December 1, 2004.
4. Incorporation of Plan. All terms, conditions and restrictions of the Plan and the LLC Agreement are incorporated herein and made part hereof as if stated herein. If there is any conflict between the terms and conditions of the Plan or the LLC Agreement and this Option Grant Agreement, the terms and conditions of this Option Grant Agreement, as interpreted by the Committee in its sole discretion, shall govern, unless explicitly provided to the contrary in the Plan or this Option Grant Agreement. All capitalized terms used herein shall have the meaning given to such terms in the Plan.
5. Exercise Price. The exercise price per Membership Unit underlying the Option granted hereby is $1.00.
6. Vesting Date. The Option shall become exercisable as follows: fifty percent (50%) of the Membership Unit(s) (rounded down to the nearest Membership Unit) underlying the Option shall become exercisable on each of the first two anniversaries of the Vesting Commencement Date; Provided that the unvested portion of the Option shall become immediately vested as of the effective date of a Change in Control.
7. Expiration Date. The Option or such portion thereof that has not yet become exercisable on the date the Participant’s Services are terminated for any reason shall expire on such date. The Option or such portion thereof that has become exercisable on or before the date the Participant’s Services are terminated shall expire on the earlier of ( a) the commencement of business on the date the Participant’s Services are terminated for Cause; (b) 90 calendar days after the date the Participant’s Services are terminated for any reason other than Cause, death or Disability; (c) one year after the date the Participant’s Services are terminated by reason of death or Disability; or (d) the 10th anniversary of the Grant Date.

 


 

8. Limitations on Transfer of Membership Units; Termination of Employment. The Participant acknowledges that upon becoming a member of the Company, the Participant will be subject to all the terms and conditions provided in the LLC Agreement. Notwithstanding anything herein or the LLC Agreement to the contrary, the Participant shall not sell or transfer any Membership Unit acquired pursuant to the exercise of an Option, except (i) to the Participant’s beneficiaries or estate upon the Participant’s death, (ii) upon consent of the Committee, (iii) pursuant to Sections 6.03, 6.04, 6.06 of the LLC Agreement, or (iv) if such sale or transfer occurs following the date set forth in Section 6.07 of the LLC Agreement.
In the event of a termination of a Participant’s Services, the Company shall have the right to purchase the Participant’s Membership Units acquired pursuant to the Options in accordance with Section 6.06 of the LLC Agreement. Any Membership Units acquired pursuant to the exercise of the Options shall be subject to certain Tag-Along and Drag-Along rights in accordance with Article VI of the LLC Agreement.
9. Delays or Omissions. No delay or omission to exercise any right, power or remedy accruing to any party hereto upon any breach or default of any party under this Option Grant Agreement, shall impair any such right, power or remedy of such party nor shall it be construed to be a waiver of any such breach or default, or an acquiescence therein, or of or in any similar breach or default thereafter occurring nor shall any waiver of any single breach or default be deemed a waiver of any other breach or default theretofore or thereafter occurring. Any waiver, permit, consent or approval of any kind or character on the part of any party of any breach or default under this Option Grant Agreement, or any waiver on the part of any party or any provisions or conditions of this Option Grant Agreement, shall be in writing and shall be effective only to the extent specifically set forth in such writing.
10. Limitation on Transfer of Options. Except as set forth in this Section 10, the Option shall be exercisable only by the Participant. The Option shall not be assignable or transferable other than by will or by the laws of descent and distribution. Notwithstanding the foregoing, the Participant may request authorization from the Committee to assign the Option granted herein to a trust or custodianship, the beneficiaries of which may include only the Participant, the Participant’s spouse or the Participant’s lineal descendants (by blood or adoption), and, if the Committee grants such authorization, the Participant may assign his rights accordingly. In the event of any such assignment, such trust or custodianship shall be subject to all the restrictions, obligations, and responsibilities as apply to the Participant under the Plan and this Option Grant Agreement and shall be entitled to all the rights of the Participant under the Plan and this Option Grant Agreement; Provided that notwithstanding such assignment, if the events or dates set forth in Sections 6 and 7 of the Option Grant Agreement occur with respect to the Participant, the Option shall not vest or expire at the times set forth in Sections 6 and 7 hereof; Provided further that upon such assignment in accordance with this Section 10, all references in the Plan and Option Grant Agreement except for Sections 6 and 7 of the Option Grant Agreement (and any other provision of Services with the Company or its affiliates (or the termination thereof)) shall be deemed to be replaced by a reference to the Transferee of the Option.
11. Indemnification. The Participant agrees, to the fullest extent permitted by law, to indemnify and hold harmless the Company and any director, officer, or employee thereof against any and all losses, liabilities, claims, damages, and expenses of any nature whatsoever (including attorneys’ fees and disbursements, judgments, fines and amounts paid in settlement) (collectively,
“Losses”) arising out of or based upon any breach or failure by the Participant to comply with his obligations made herein. This Section 11 shall survive any termination or execution of this Option Grant Agreement.

 


 

12. Representations.
     12.1 Participant Representations. In addition to any representations made by the Participant in the LLC Agreement, the Participant hereby represents and warrants to the Company that: (a) the Participant is an “accredited investor” as defined in Rule 501(a) under the Securities Act; ~provided that the Company may, in its discretion and subject to compliance with all applicable securities laws, waive the foregoing representation with respect to a limited number of Participants; (b) the Participant, alone or together with his representatives, possesses such expertise, knowledge, and sophistication in financial and business matters generally, and in the type of transactions in which the Company proposes to engage in particular; (c) the Participant is aware that the LLC Agreement provides significant restrictions on the ability of a Participant to sell, transfer, assign, mortgage, hypothecate, or otherwise encumber the Membership Units; (d) the Participant has duly executed and delivered this Option Grant Agreement; and (e) the Participant’s authorization, execution, delivery, and performance of this Option Grant Agreement do not conflict with any other agreement or arrangement to which the Participant is a party or by which it is bound.
     12.2 Truth of Representations and Warranties. The Participant represents and warrants that all of his representations set forth in Section 12.1 of this Option Grant Agreement are true and correct as of the date hereof and will be true and correct on any Exercise Date.
13. Integration. This Option Grant Agreement, and the other documents referred to herein or delivered pursuant hereto (including, without limitation, the LLC Agreement) which form a part hereof contain the entire understanding of the parties with respect to its subject matter and there are no restrictions, agreements, promises, representations, warranties, covenants or undertakings with respect to the subject matter hereof other than those expressly set forth in such documents. This Option Grant Agreement, the Plan and the LLC Agreement supersede all prior agreements and understandings between the parties with respect to its subject matter.
14. Counterparts. This Option Grant Agreement may be executed in two or more counterparts, each of which shall be deemed an original, but all of which shall constitute one and the same instrument.
15. Governing Law. This Option Grant Agreement shall be governed by and construed and enforced in accordance with the laws of the State of Delaware without regard to the provisions thereof governing conflict of laws.
16. Participant Acknowledgment. The Participant hereby acknowledges receipt of a copy of the Plan and the LLC Agreement. The Participant hereby acknowledges that all decisions, determinations and interpretations of the Committee in respect of the Plan, this Option Grant Agreement and the Option shall be final and conclusive.
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     IN WITNESS WHEREOF, the Company has caused this Option Grant Agreement to be duly executed by its duly authorized officer and said Participant has hereunto signed this Option Grant Agreement on his own behalf, thereby representing that he has carefully read and understands this Option Grant Agreement, the Plan, and the LLC Agreement as of the day and year first written above.
     
 
  TJ CHEMICAL HOLDINGS LLC
 
 
  /s/ Richard A. Ekleberry
 
   
 
  By: Richard A. Ekleberry
 
  Title: Vice President
 
   
 
  JAMES BALL
 
 
  /s/ James Ball
 
   

 

exv10w3
 

Exhibit 10.3
EMPLOYMENT AGREEMENT
KEVIN FOGARTY
     EMPLOYMENT AGREEMENT (the “Agreement”) dated as of November 9, 2005 by and between KRATON Polymers LLC, (“KRATON”), a Delaware limited liability company, which is a wholly owned subsidiary of Polymer Holdings LLC (“Parent”), a Delaware limited liability company and Kevin Fogarty (the “Executive”).
     In consideration of the premises and mutual covenants herein and for other good and valuable consideration, the parties agree as follows:
          1. Term of Employment. Subject to the provisions of Section 7 of this Agreement, Executive shall continue to be employed by the Company for a period commencing on June 15, 2005 (the “Effective Date”) and ending on the day before the third anniversary of the Effective Date (the “Employment Term”) on the terms and subject to the conditions set forth in this Agreement; provided, however, that commencing with the third anniversary of the Effective Date and on each anniversary thereafter (each an “Extension Date”), the Employment Term shall be automatically extended for an additional one-year period, unless KRATON or Executive provides the other party hereto 30 days prior written notice before the next Extension Date that the Employment Term shall not be so extended.
          2. Position.
               a. During the Employment Term, Executive shall serve as Executive Vice President of KRATON. In such position, Executive shall have the duties and authority commensurate with the position as shall be determined from time to time by the Board of Directors of KRATON (“Board”). Executive shall report to the chief executive officer of KRATON (the Chief Executive Officer”).
               b. During the Employment Term, Executive will devote Executive’s full business time and best efforts to the performance of Executive’s duties hereunder and will not engage in any other business, profession or occupation for compensation or otherwise which would conflict or interfere with the rendition of such services either directly or indirectly, without the prior written consent of the Board; provided that nothing herein shall preclude Executive, subject to the prior approval of the Board, from accepting appointment to or continue to serve on any board of directors or trustees of any business corporation or any charitable organization; provided in each case, and in the aggregate, that such activities do not conflict or interfere with the performance of Executive’s duties hereunder or conflict with Section 8.
          3. Base Salary. During the Employment Term, the Company shall pay Executive a base salary (the “Base Salary”) at the annual rate of $315,000, payable in regular installments in accordance with the Company’s usual payment practices. Executive shall be entitled to annual reviews and increases in Executive’s Base Salary, if any, as may be determined in the sole discretion of the Board.

 


 

          4. Incentive Compensation.
               a. Annual Bonus. With respect to the first partial fiscal year and each full fiscal year during the Employment Term, Executive shall be eligible to earn an annual bonus award (an “Annual Bonus”) equal to (i) up to fifty percent (50%) of Executive’s Base Salary (the “Target”) based upon the achievement of performance objectives established by the Board, and (ii) up to 100% of the Target if such performance objectives are exceeded due to extraordinary performance, as determined by the Board, provided that, with respect to fiscal year 2005, Executive’s Annual Bonus will not be less than $150,000, provided the Executive is employed with KRATON on December 31, 2005. The Company has established a deferred compensation plan, under which Executive may elect to defer, no later than July 1st (or such later date as is provided in the plan) of the year in which the affected Annual Bonus is earned, up to 50% of such Annual Bonus which may be paid at a later date in shares or units through KRATON Management LLC. The terms and conditions of the deferred compensation plan shall be provided in a separate plan document, which will provide, among other things, that the Board shall determine the value of the shares or units as applicable for purposes of the deferred compensation plan.
               b. Notional Restricted Unit Award. As soon as practicable after the date hereof, the Company shall grant Executive a restricted unit award with a current notional value of $300,000 based on the value of membership units of TJ Chemical Holdings LLC, as determined by the Board. Each “Restricted Unit” will be the equivalent of one notional membership unit of TJ Chemical Holdings LLC. Executive shall not have any beneficial ownership in the notional membership units underlying the Restricted Units and the grant of Restricted Units shall represent an unsecured promise to deliver membership units of T.J. Chemical Holdings LLC (either directly or through membership units of KRATON Management LLC) on a future date. Twenty percent of the Restricted Units shall vest on each anniversary of the grant date, provided that Executive remains employed with the Company through the applicable vesting date. Except as provided in the next succeeding sentence, upon termination of employment for any reason all unvested Restricted Units shall immediately and automatically be forfeited. In the event of a Change in Control, if the Executive’s employment is terminated without Cause or for Good Reason during the two-year period immediately following the date of the Change in Control, all unvested Restricted Units shall become immediately vested. Distribution of membership units representing the portion of vested Restricted Units shall occur as soon as practicable after the earlier of a Change in Control or termination of Executive’s employment, provided that following a Change in Control, unvested Restricted Units shall remain outstanding and continue to vest as provided above until the Executive’s employment terminates.
          5. Employee Benefits.
               a. General. During the Employment Term, Executive shall be entitled to participate in the Company’s employee benefit plans, as amended from time to time, (other than bonus, incentive or severance plans) as in effect from time to time

 


 

(collectively “Employee Benefits”), on the same basis as those benefits are generally made available to other senior executives of the Company.
               b. Other. During the Employment Term, Executive shall be eligible to participate in the equity incentive plans of the Company, its Parent and TJ Chemical Holdings LLC.
          6. Business Expenses. During the Employment Term, reasonable business expenses incurred by Executive in the performance of Executive’s duties hereunder shall be reimbursed by the Company in accordance with Company policies.
          7. Termination. The Employment Term and Executive’s employment hereunder may be terminated by either party at any time and for any reason; provided that Executive will be required to give KRATON at least 60 days advance written notice of any resignation of Executive’s employment. Notwithstanding any other provision of this Agreement, the provisions of this Section 7 shall exclusively govern Executive’s rights upon termination of employment with the Company and its affiliates.
               a. By KRATON For Cause or By Executive Resignation without Good Reason.
          (i) The Employment Term and Executive’s employment hereunder may be terminated by KRATON for Cause (as defined below) and shall terminate automatically upon Executive’s resignation without Good Reason (as defined below), provided that Executive will be required to give KRATON at least 60 days advance written notice of any such resignation, and provided further that KRATON may elect to waive such notice period and to pay Executive in lieu of such notice.
          (ii) For purposes of this Agreement “Cause” shall mean (A) Executive’s continued failure substantially to perform Executive’s duties hereunder (other than as a result of total or partial incapacity due to physical or mental illness) for a period of 30 days following written notice by KRATON to Executive of such failure; provided that it is understood that this clause (A) shall not permit KRATON to terminate Executive’s employment for Cause because of dissatisfaction with the quality of services provided by or disagreement with the actions taken by Executive in the good faith performance of Executive’s duties to KRATON, (B) failure of Executive to maintain his principal residence in the same metropolitan area as KRATON’s principal headquarters, which is currently located in Houston, Texas, or elsewhere as mutually agreed to by Executive and Company, (C) theft or embezzlement of Company property, (D) Executive’s conviction of or plea of guilty or no contest to (x) a felony or (y) a crime involving moral turpitude, (E) Executive’s willful malfeasance or willful misconduct in connection with Executive’s duties hereunder or any act or omission which is materially injurious to the financial condition or business reputation of the Company or any of its

 


 

subsidiaries or affiliates, or (F) Executive’s breach of the provisions of Sections 9 or 10 of this Agreement.
          (iii) If Executive’s employment is terminated by KRATON for Cause, or if Executive resigns without Good Reason, Executive shall be entitled to receive, within 30 days following such termination with respect to (A)-(C) below and at such time, if any, as the Employee Benefits under (D) below become due in accordance with the applicable terms thereof:
          (A) the Base Salary through the date of termination, to the extent not already paid;
          (B) any Annual Bonus earned but unpaid as of the date of termination for any previously completed fiscal year;
          (C) reimbursement for any unreimbursed business expenses properly incurred by Executive in accordance with KRATON policy prior to the date of Executive’s termination; and
          (D) such vested Employee Benefits, if any, as to which Executive may be entitled under the employee benefit plans of the Company as described in Section 5(a) (including, without limitation, any retirement benefits, medical, life insurance or disability benefits, accrued but unpaid vacation or other benefits Executive is entitled to pursuant to the terms of the applicable plans then in effect (the amounts described in clauses (A) through (D) hereof being referred to as the “Accrued Obligations”).
          Following such termination of Executive’s employment by KRATON for Cause or resignation by Executive without Good Reason, except as set forth in this Section 7(a)(iii), Executive shall have no further rights to any compensation or any other benefits in the nature of severance or termination pay or in connection with the termination of his employment.
               b. Disability or Death.
          (i) The Employment Term and Executive’s employment hereunder shall terminate upon Executive’s death and may be terminated by KRATON if Executive becomes physically or mentally incapacitated and is therefore unable for a period of six (6) consecutive months or for an aggregate of nine (9) months in any twenty-four (24) consecutive month period to perform Executive’s duties (such incapacity is hereinafter referred to as “Disability”); provided that a termination on the basis of a Disability must occur within 90 days of the date when Executive is subject to termination due to Disability. Any question as to the existence of the Disability of Executive as to which Executive and KRATON cannot agree shall be determined in writing by a qualified independent physician mutually acceptable to Executive and KRATON. If Executive and

 


 

KRATON cannot agree as to a qualified independent physician, each shall appoint such a physician and those two physicians shall select a third who shall make such determination in writing. The determination of Disability made in writing to the Company and Executive shall be final and conclusive for all purposes of the Agreement.
          (ii) Upon termination of Executive’s employment hereunder for either Disability or death, Executive or Executive’s estate (as the case may be) shall be entitled to receive:
          (A) at the times set forth in Section 7(a)(iii) hereof, the Accrued Obligations;
          (B) a pro rata portion of any Annual Bonus that Executive would have been entitled to receive pursuant to Section 4 hereof in such year based upon the percentage of the fiscal year that shall have elapsed through the date of Executive’s termination of employment, payable when such Annual Bonus would have otherwise been payable had Executive’s employment not terminated.
          Following Executive’s termination of employment due to death or Disability, except as set forth in this Section 7(b)(ii), Executive shall have no further rights to any compensation or any other benefits in the nature of severance or termination pay or in connection with the termination of his employment.
               c. By KRATON Without Cause or Resignation by Executive for Good Reason.
          (i) The Employment Term and Executive’s employment hereunder may be terminated by KRATON without Cause or by Executive’s resignation for Good Reason.
          (ii) If Executive’s employment is terminated by KRATON without Cause (other than by reason of death or Disability) or by Executive’s resignation for Good Reason, Executive shall be entitled to receive:
          (A) At the times set forth in Section 7(a)(iii) hereof, the Accrued Obligations;
          (B) continuation of Executive’s annual Base Salary until the first anniversary of such termination, provided that if, prior to such first anniversary, Executive begins to provide services (as an employee, consultant or otherwise) to another person or entity and such services are expected to continue or actually continue for more than 30 days, then the period of continuation of Base Salary shall be reduced to the later of (A) 6 months following

 


 

such termination of employment or (B) the date the Executive begins to provide such services (the ”Severance Continuation Period”) and, in either case, the Base Salary continuation shall be paid at the same time and in the same manner as if Executive had remained employed by KRATON during such period; and
          (C) medical benefits for Executive and his eligible dependents comparable to those medical benefits Executive participated in on the date of termination during the Severance Continuation Period, provided in any case such medical benefits shall cease if Executive becomes entitled to medical benefits from a new employer. KRATON may provide such medical benefits by paying the Executive’s COBRA continuation coverage through such Severance Continuation Period.
          (iii) For purposes of this Agreement, “Good Reason” shall mean (A) the failure of the Company to pay or cause to be paid Executive’s Base Salary or Annual Bonus (if any) when due, (B) a reduction in Executive’s Base Salary, the Target Annual Bonus opportunity described in Section 4 herein, or Employee Benefits other than an across-the-board reduction in salary or bonus opportunity for all of the members of the Company’s management team and other than a decrease in Employee Benefits that applies to all employees otherwise eligible to participate in the affected plan, or (C) a relocation of Executive’s primary work location more than 50 miles from the work location on the date hereof, without written consent; provided that none of these events shall constitute Good Reason unless the Company fails to cure such event within 30 days after receipt from Executive of written notice specifying in reasonable detail the event which constitutes Good Reason; provided, further, that “Good Reason” shall cease to exist for an event on the 60th day following the later of its occurrence or Executive’s knowledge thereof, unless Executive has given KRATON written notice thereof prior to such date.
          The payments and benefits described in subparagraphs (B) — (C) above shall be subject to and conditioned upon the Executive’s execution and delivery of a valid and effective general release and waiver, in a form satisfactory to the Company, waiving all claims the Executive may have against the Company, its affiliates and their respective executives, directors, partners, members, shareholders, successors and assigns. Following Executive’s termination of employment by the Company without Cause (other than by reason of Executive’s death or Disability) or by Executive’s resignation for Good Reason, except as set forth in Section 7(c)(ii), Executive shall have no further rights to any compensation or any other benefits in the nature of severance or termination pay or in connection with the termination of his employment.

 


 

               d. Expiration of Employment Term.
          (i) Election Not to Extend the Employment Term. In the event either party elects not to extend the Employment Term pursuant to Section 1, unless Executive’s employment is earlier terminated pursuant to paragraphs (a), (b) or (c) of this Section 7, Executive’s termination of employment hereunder (whether or not Executive continues as an employee of the Company thereafter) shall be deemed to occur on the close of business on the day immediately preceding the next scheduled Extension Date. If Executive’s employment is terminated due to Executive’s election not to extend the Employment Term, Executive shall be entitled to receive the Accrued Obligations. If Executive’s employment is terminated by KRATON other than for Cause following KRATON ’s election not to extend the Employment Term, Executive shall be entitled to receive (1) at the times set forth in Section 7(a)(iii) hereof, the Accrued Obligations, (2) continuation of Executive’s annual Base Salary during the Severance Continuation Period at the same time and in the same manner as if Executive had remained employed by KRATON during such period, and (3) medical benefits for Executive and his eligible dependents comparable to those medical benefits Executive participated in on the date of termination during the Severance Continuation Period, provided in any case such medical benefits shall cease if Executive becomes entitled to medical benefits from a new employer. KRATON may provide such medical benefits by paying the Executive’s COBRA continuation coverage through such Severance Continuation Period.
     The payments and benefits described in this subparagraph (i) shall be subject to and conditioned upon the Executive’s execution and delivery of a valid and effective general release and waiver, in a form satisfactory to the Company, waiving all claims the Executive may have against the Company, its affiliates and their respective executives, directors, partners, members, shareholders, successors and assigns. Following such termination of Executive’s employment hereunder as a result either party’s election not to extend the Employment Term, except as set forth in this Section 7(d)(i), Executive shall have no further rights to any compensation or any other benefits in the nature of severance or termination pay or in connection with the termination of his employment.
          (ii) Continued Employment Beyond the Expiration of the Employment Term. Unless the parties otherwise agree in writing, continuation of Executive’s employment with the Company beyond the expiration of the Employment Term shall be deemed an employment at-will and shall not be deemed to extend any of the provisions of this Agreement and Executive’s employment may thereafter be terminated at will by either Executive or the Company; provided that the provisions of Sections 8, 9 and 10 of this Agreement (and the Company’s potential severance obligation under Section 7(d)(i) if applicable) shall survive any

 


 

termination of this Agreement or Executive’s termination of employment hereunder.
               e. Notice of Termination. Any purported termination of employment by the Company or by Executive (other than due to Executive’s death) shall be communicated by written Notice of Termination to the other party hereto in accordance with Section 11(h) hereof. For purposes of this Agreement, a “Notice of Termination” shall mean a notice which shall indicate the specific termination provision in this Agreement relied upon and shall set forth in reasonable detail the facts and circumstances claimed to provide a basis for termination of employment under the provision so indicated.
               f. Equity Investment. Nothwithstanding anything herein to the contrary, upon a termination of employment, the Executive shall have such rights and obligations with respect to any options to purchase membership units of TJ Chemical Holdings LLC (“TJ Chemical”) then held by the Executive and with respect to Executive’s investment in TJ Chemical and/or KRATON Management LLC (including with respect to profits units and/or membership units, as applicable) in accordance with the applicable governing documents thereof.
          8. Non-Competition.
               a. Executive acknowledges and recognizes the highly competitive nature of the businesses of the Company and accordingly agrees as follows:
          (i) During the Employment Term and, for a period of one year following the date Executive ceases to be employed by the Company (the “Restricted Period”), Executive will not, whether on Executive’s own behalf or on behalf of or in conjunction with any person, company, business entity or other organization engaged in a Competitive Business (as defined below), directly or indirectly solicit or assist in soliciting on behalf of any entity engaged in a Competitive Business, the business of any client or prospective client:
          (A) with whom Executive had personal contact or dealings on behalf of the Company during the one year period preceding Executive’s termination of employment;
          (B) with whom employees reporting to Executive have had personal contact or dealings on behalf of the Company during the one-year period immediately preceding the Executive’s termination of employment; or
          (C) for whom Executive had direct or indirect responsibility during the one-year period immediately preceding Executive’s termination of employment.

 


 

          (ii) During the Restricted Period, Executive will not directly or indirectly:
          (A) engage in a Competitive Business;
          (B) enter the employ of, or render any services to, any person or entity (or any division of any person or entity) who or which engages in a Competitive Business; provided that Executive shall not be prohibited from rendering any services to any company that derives less than 10% of its revenues from a Competitive Business (a “Permitted Company”), if such services or employment relate solely to a business of the Company that is not in competition with a Competitive Business;
          (C) acquire a financial interest in, or otherwise become actively involved with, any Competitive Business, directly or indirectly, as an individual, partner, shareholder, officer, director, principal, agent, trustee or consultant; provided, however, a Competitive Business shall not include a Permitted Company, or
          (D) interfere with, or attempt to interfere with, business relationships (whether formed before, on or after the date of this Agreement) between the Company and customers, clients, suppliers partners, members or investors of the Company of which it is reasonable to expect that Executive is aware.
          (iii) For purposes of this Agreement, “Competitive Business” means the development, manufacture, license, sale or provision of products or services that the Company currently, or at any time during the Employment Term, sells, manufactures, licenses or provides, or has specific plans to do so, including without limitation styrenic block copolymers made by anionic polymerization.
          (iv) Notwithstanding anything to the contrary in this Agreement, Executive may, directly or indirectly own, solely as an investment, securities of any person engaged in a Competitive Business which is publicly traded on a national or regional stock exchange or on the over-the-counter market if Executive (i) is not a controlling person of, or a member of a group which controls, such person and (ii) does not, directly or indirectly, own 5% or more of any class of securities of such person.
          (v) During the Restricted Period, Executive will not, whether on Executive’s own behalf or on behalf of or in conjunction with any person, company, business entity or other organization whatsoever, directly or indirectly:
          (A) solicit or encourage any employee of the Company to leave the employment of the Company or

 


 

          (B) hire any such employee who was employed by the Company as of the date of Executive’s termination of employment with the Company or who left the employment of the Company coincident with, or within six months prior to or after, the termination of Executive’s employment with the Company. Notwithstanding the foregoing, following a Change in Control, Executive will not be restricted from hiring any employee who is terminated without Cause following such Change in Control.
          (vi) During the Restricted Period, Executive will not, directly or indirectly, solicit or encourage to cease to work with the Company any individual consultant then under contract with the Company.
               b. It is expressly understood and agreed that although Executive and the Company consider the restrictions contained in this Section 8 to be reasonable, if a final judicial determination is made by a court of competent jurisdiction that the time or territory or any other restriction contained in this Agreement is an unenforceable restriction against Executive, the provisions of this Agreement shall not be rendered void but shall be deemed amended to apply as to such maximum time and territory and to such maximum extent as such court may judicially determine or indicate to be enforceable. Alternatively, if any court of competent jurisdiction finds that any restriction contained in this Agreement is unenforceable, and such restriction cannot be amended so as to make it enforceable, such finding shall not affect the enforceability of any of the other restrictions contained herein.
          9. Confidentiality; Inventions.
               a. Confidentiality. During the Employment Term and thereafter, Executive will not disclose or use for Executive’s own benefit or purposes or the benefit or purposes of any other person, firm, partnership, joint venture, association, corporation or other business organization, entity or enterprise other than the Company, any trade secrets, or other confidential information or data of the Company relating to the Company’s customers, development programs, costs, marketing, trading, investment, sales activities, promotion, credit and financial data, manufacturing processes, financing methods, plans, or the business and affairs of the Company generally; provided that the foregoing shall not apply to information which is not unique to the Company or which is generally known to the industry or the public other than as a result of Executive’s breach of this covenant. Except as required by law, Executive will not disclose to anyone, other than his immediate family, legal or financial advisors or any subsequent employer, the contents of this Agreement. Executive agrees that upon termination of Executive’s employment with the Company for any reason, he will return to the Company immediately all memoranda, books, papers, plans, information, letters and other data, and all copies thereof or therefrom, in any way relating to the business of the Company, except that he may retain personal notes, notebooks and diaries and personally owned books, reference material or information of a similar nature, that do not contain confidential information of the type described in the preceding sentence of this section. Executive further agrees that he will not retain or use for Executive’s account at any time

 


 

any trade names, trademark or other proprietary business designation used or owned in connection with the business of the Company.
               b. Prior Inventions. Executive has attached hereto, as Exhibit A, a list describing all material creations, inventions, and developments which were created or contributed to by Executive either solely or jointly with others prior to Executive’s employment with the Company which relate to the Company’ proposed or current business, services, products or research and development (collectively referred to as “Prior Inventions”). If no such list is attached, Executive either will advise the Company that Prior Inventions exist but cannot be disclosed because of prior existing confidentiality obligations or, absent such advice, will be understood to represent that there are no such Prior Inventions. If in the course of Executive’s employment with the Company, Executive uses or relies upon a Prior Invention, or any works of authorship (including software, related items, data bases, documentation, site content, text or graphics), developments, improvements or trade secrets which were created or contributed to by Executive either solely or jointly with others prior to Executive’s employment with the Company (“Prior Intellectual Property”) in Executive’s creation or contribution to any work of authorship, invention, product, service, process, machine or other property of the Company, Executive will inform the Company promptly and, upon request, use Executive’s best efforts to procure any consents of third parties necessary for the Company’ use of such Prior Intellectual Property. To the fullest extent permissible by law, and to the extent not in contravention of any prior legal obligation of Executive to others all of which are disclosed to KRATON on Exhibit B, attached hereto, Executive hereby grants the Company a non-exclusive royalty-free, irrevocable, perpetual, worldwide license under all of Executive’s Prior Inventions to make, have made, copy, modify, distribute, use and sell works of authorship, products, services, processes and machines and to otherwise operate the Company’ current and future business.
               c. Ownership of Inventions. Executive agrees that Executive will promptly make full written disclosure to the Company, and hereby assigns to the Company, or its designee, all of Executive’s right, title, and interest in and to any and all creations, inventions or developments, whether or not patentable, which Executive may solely or jointly conceive or develop or reduce to practice, during the period of time Executive is in the employ of the Company (collectively referred to as “the Company Inventions”), other than (and the Company Inventions shall not include) any such creations, inventions or developments which demonstrably bear no relationship whatsoever to the business of the Company, the chemical industry, or the application of technologies, ideas, or processes directly or indirectly related to the business of the Company or the chemical industry to any other industries or disciplines. For the avoidance of doubt, the Company Inventions shall include any creations, inventions or developments that relate directly or indirectly to a Competitive Business. Executive further acknowledges that all original works of authorship which are created or contributed to by Executive (solely or jointly with others) within the scope of and during the period of Executive’s employment with the Company (“the Company Copyrights”) are to be deemed “works made for hire,” as that term is defined in the United States Copyright Act, and the copyright and all intellectual property rights therein shall be the sole property of the Company. To the extent any of such works are deemed not to be

 


 

“works made for hire,” Executive hereby assigns the copyright and all other intellectual property rights in such works to the Company.
               d. Contracts with the United States. Executive agrees to execute any licenses or assignments of the Company Inventions or the Company Copyrights as required by any contract between the Company and the United States or any of its agencies.
               e. Maintenance of Records. Executive agrees to keep and maintain adequate and current written records of all the Company Inventions made by Executive (solely or jointly with others) during the term and within the scope of Executive’s employment with the Company. The records will be in the form of notes, sketches, drawings, and any other format that may be specified to Executive or within the Company’ policies, manuals or procedures by the Company. The records will be available to and remain the sole property and intellectual property of the Company at all times.
               f. Further Assurances. Executive covenants to take all requested actions and execute all requested documents to assist the Company, or its designee, at the Company’ expense, in every way; consistent with applicable law, (1) to secure the Company’s above rights in the Prior Intellectual Property and Company Inventions and any of the Company’s Copyrights, patents, mask work rights or other intellectual property rights relating thereto in any and all countries, and (2) to pursue any patents or registrations with respect thereto. This covenant shall survive the termination of this Agreement. If the Company is unable for any reason, after reasonable efforts, to secure Executive’s signature on any document for this purpose, then Executive hereby irrevocably designates and appoints the Company and its duly authorized officers and agents as Executive’s agent and attorney in fact, for the limited purpose of acting for and in Executive’s behalf and stead to execute such documents and to do all other lawfully permitted acts in connection with the execution of such documents.
          10. Specific Performance. Executive acknowledges and agrees that the Company’s remedies at law for a breach or threatened breach of any of the provisions of Sections 8 through 10 would be inadequate and, in recognition of this fact, Executive agrees that, in the event of such a breach or threatened breach, in addition to any remedies at law, the Company, without posting any bond, shall be entitled to obtain equitable relief in the form of specific performance, temporary restraining order, temporary or permanent injunction or any other equitable remedy which may then be available and in the event of a breach of Sections 8 through 10, shall be entitled to cease making any payments or providing any benefit otherwise required by this Agreement.
          11. Miscellaneous.
               a. Governing Law. This Agreement shall be governed by and construed in accordance with the laws of the State of Delaware, without regard to conflicts of laws principles thereof.

 


 

               b. Entire Agreement/Amendments. Except for the documents related to the Company and its affiliates’ equity incentive plans, this Agreement contains the entire understanding of the parties with respect to the employment of Executive by the Company, there are no restrictions, agreements, promises, warranties, covenants or undertakings between the parties with respect to the subject matter herein other than those expressly set forth herein. This Agreement may not be altered, modified, or amended except by written instrument signed by the parties hereto.
               c. No Waiver. The failure of a party to insist upon strict adherence to any term of this Agreement on any occasion shall not be considered a waiver of such party’s rights or deprive such party of the right thereafter to insist upon strict adherence to that term or any other term of this Agreement.
               d. Severability. In the event that any one or more of the provisions of this Agreement shall be or become invalid, illegal or unenforceable in any respect, the validity, legality and enforceability of the remaining provisions of this Agreement shall not be affected thereby.
               e. Assignment. This Agreement shall not be assignable by Executive. This Agreement may be assigned by the Company to a person or entity which is an affiliate or a successor in interest to substantially all of the business operations of the Company. Upon such assignment, the rights and obligations of the Company hereunder shall become the rights and obligations of such affiliate or successor person or entity.
               f. Set Off. The Company’s obligation to pay Executive the amounts provided and to make the arrangements provided hereunder shall be subject to set-off, counterclaim or recoupment of amounts owed by Executive to the Company or its affiliates.
               g. Successors; Binding Agreement. This Agreement shall inure to the benefit of and be binding upon personal or legal representatives, executors, administrators, successors, heirs, distributes, devises and legatees.
               h. Notice. For the purpose of this Agreement, notices and all other communications provided for in the Agreement shall be in writing and shall be deemed to have been duly given when delivered by hand or overnight courier or three days after it has been mailed by United States registered mail, return receipt requested, postage prepaid, addressed to the respective addresses set forth below Agreement, or to such other address as either party may have furnished to the other in writing in accordance herewith, except that notice of change of address shall be effective only upon receipt.
If to the Company:
KRATON Polymers LLC
c/o Texas Pacific Group
301 Commerce Street, suite 3300

 


 

Fort Worth, Texas 76102
AND
KRATON Polymers LLC
700 Milam Street 13th floor, North Tower
Houston, TX 77002
Attention: General Counsel
Fax: 832.204.1346
If to Executive:
To the most recent address of Executive set forth in the personnel records of the Company.
                  i. Executive Representation. Executive hereby represents to the Company that the execution and delivery of this Agreement by Executive and the Company and the performance by Executive of Executive’s duties hereunder shall not constitute a breach of, or otherwise contravene, the terms of any employment agreement or other agreement or policy to which Executive is a party or otherwise bound.
                  j. Cooperation. Executive shall at the Company’s expense provide his reasonable cooperation in connection with any action or proceeding (or any appeal from any action or proceeding) which relates to events occurring during Executive’s employment hereunder. This provision shall survive any termination of this Agreement.
                  k. Withholding Taxes. The Company may withhold from any amounts payable under this Agreement such Federal, state and local taxes as may be required to be withheld pursuant to any applicable law or regulation.
                  l. Counterparts. This Agreement may be signed in counterparts, each of which shall be an original, with the same effect as if the signatures thereto and hereto were upon the same instrument.
                  m. Insurance. Notwithstanding anything to the contrary herein:
          (i) All rights the Executive has to indemnification as a director, officer or fiduciary pursuant to any agreement, applicable statue, Company by-laws or articles of organization as in effect from time to time shall not be impacted by the provisions of this Agreement and all such rights, if any, shall survive the termination and/or expiration of this Agreement and/or the termination of the Executive’s employment with the Company; and

 


 

          (ii) So long as the Executive is employed by the Company and for a period of six (6) years following the Executive’s termination of employment, the Company agrees to purchase and maintain insurance for the Executive’s benefit, covering director, officer and fiduciary liability on the same basis as active directors, officers and/or fiduciaries, as applicable, of the Company.
          IN WITNESS WHEREOF, the parties hereto have duly executed this Agreement as of the day and year first above written.
     
KRATON POLYMERS LLC
  KEVIN FOGARTY
 
/s/ Richard A. Ott
  /s/ Kevin M. Fogarty
 
   
By: Richard A. Ott
   
Title: Vice President
   

 

exv10w4
 

Exhibit 10.4
OPTION GRANT AGREEMENT
          THIS OPTION GRANT AGREEMENT, made as of the 24th day of October, 2005 between TJ Chemical Holdings LLC (the “Company”) and Raymond Guba (the “Participant”).
          WHEREAS, the Company has adopted and maintains the TJ Chemical Holdings LLC 2004 Option Plan (the “Plan”) to promote the interests of the Company and the Holders of Membership Units in the Company by providing key employees, consultants, members and service providers of the Company and its affiliates with an appropriate incentive to encourage them to continue in the employ or service and to improve the growth and profitability of the Company and its affiliates;
          WHEREAS, the Plan provides for the Grant to Participants of non-qualified Options to purchase Membership Unit(s) in the Company;
          NOW, THEREFORE, in consideration of the premises and the mutual covenants hereinafter set forth, the parties hereto hereby agree as follows:
1. Grant of Options. Pursuant to, and subject to, the terms and conditions set forth herein and in the Plan, the Company hereby grants to the Participant a non-qualified option (the “Option”) with respect to 1,000,000 Membership Unit(s) in the Company.
2. Grant Date. The Grant Date of the Option hereby granted is September 29, 2005.
3. Vesting Commencement Date. The Vesting Commencement Date of the Option hereby granted is October 24, 2005.
4. Incorporation of Plan. All terms, conditions and restrictions of the Plan and the LLC Agreement are incorporated herein and made part hereof as if stated herein. If there is any conflict between the terms and conditions of the Plan or the LLC Agreement and this Option Grant Agreement, the terms and conditions of this Option Grant Agreement, as interpreted by the Committee in its sole discretion, shall govern, unless explicitly provided to the contrary in the Plan or this Option Grant Agreement. All capitalized terms used herein shall have the meaning given to such terms in the Plan.
5. Exercise Price. The exercise price per Membership Unit underlying the Option granted hereby is $1.00.
6. Vesting Date. The Option shall become exercisable as follows: twenty percent (20%) of the Membership Unit(s) (rounded down to the nearest Membership Unit) underlying the Option shall become exercisable on each of the first five anniversaries of the Vesting Commencement Date; provided that the Participant remains employed with the Company or any of its affiliates on each such anniversary; and provided further that notwithstanding the foregoing, if within the two-year period following a Change in Control the Participant’s Services are terminated by the Company or its affiliate without Cause or by the Participant for Good Reason, the unvested portion of the Option shall become immediately vested as of the effective date of the termination

 


 

of such Participant’s Services. For purposes of this Option Grant Agreement, the definition of Good Reason contained in the Plan shall govern the Participant’s rights during the two-year period following a Change in Control, without regard to that definition’s reference to the Participant’s employment agreement.
7. Expiration Date. The Option or such portion thereof that has not yet become exercisable on the date the Participant’s Services are terminated for any reason shall expire on such date. The Option or such portion thereof that has become exercisable on or before the date the Participant’s Services are terminated shall expire on the earlier of (a) the commencement of business on the date the Participant’s Services are terminated for Cause; (b) 90 calendar days after the date the Participant’s Services are terminated for any reason other than Cause, death or Disability; (c) one year after the date the Participant’s Services are terminated by reason of death or Disability; or (d) the 10th anniversary of the Grant Date.
8. Limitations on Transfer of Membership Units; Termination of Employment. The Participant acknowledges that upon becoming a member of the Company, the Participant will be subject to all the terms and conditions provided in the LLC Agreement. Notwithstanding anything herein or the LLC Agreement to the contrary, the Participant shall not sell or transfer any Membership Unit acquired pursuant to the exercise of an Option, except (i) to the Participant’s beneficiaries or estate upon the Participant’s death, (ii) upon consent of the Committee, (iii) pursuant to Sections 6.03, 6.04, 6.06 of the LLC Agreement, or (iv) if such sale or transfer occurs following the date set forth in Section 6.07 of the LLC Agreement.
          In the event of a termination of a Participant’s Services, the Company shall have the right to purchase the Participant’s Membership Units acquired pursuant to the Options in accordance with Section 6.06 of the LLC Agreement. Any Membership Units acquired pursuant to the exercise of the Options shall be subject to certain Tag-Along and Drag-Along rights in accordance with Article VI of the LLC Agreement.
9. Delays or Omissions. No delay or omission to exercise any right, power or remedy accruing to any party hereto upon any breach or default of any party under this Option Grant Agreement, shall impair any such right, power or remedy of such party nor shall it be construed to be a waiver of any such breach or default, or an acquiescence therein, or of or in any similar breach or default thereafter occurring nor shall any waiver of any single breach or default be deemed a waiver of any other breach or default theretofore or thereafter occurring. Any waiver, permit, consent or approval of any kind or character on the part of any party of any breach or default under this Option Grant Agreement, or any waiver on the part of any party or any provisions or conditions of this Option Grant Agreement, shall be in writing and shall be effective only to the extent specifically set forth in such writing.
10. Limitation on Transfer of Options. Except as set forth in this Section 10, the Option shall be exercisable only by the Participant. The Option shall not be assignable or transferable other than by will or by the laws of descent and distribution. Notwithstanding the foregoing, the Participant may request authorization from the Committee to assign the Option granted herein to a trust or custodianship, the beneficiaries of which may include only the Participant, the Participant’s spouse or the Participant’s lineal descendants (by blood or adoption), and, if the Committee grants such authorization, the Participant may assign his rights accordingly. In the

2


 

event of any such assignment, such trust or custodianship shall be subject to all the restrictions, obligations, and responsibilities as apply to the Participant under the Plan and this Option Grant Agreement and shall be entitled to all the rights of the Participant under the Plan and this Option Grant Agreement; provided that notwithstanding such assignment, if the events or dates set forth in Sections 6 and 7 of the Option Grant Agreement occur with respect to the Participant, the Option shall not vest or expire at the times set forth in Sections 6 and 7 hereof; provided further that upon such assignment in accordance with this Section 10, all references in the Plan and Option Grant Agreement except for Sections 6 and 7 of the Option Grant Agreement (and any other provision of Services with the Company or its affiliates (or the termination thereof)) shall be deemed to be replaced by a reference to the Transferee of the Option.
11. Indemnification. The Participant agrees, to the fullest extent permitted by law, to indemnify and hold harmless the Company and any director, officer, or employee thereof against any and all losses, liabilities, claims, damages, and expenses of any nature whatsoever (including attorneys’ fees and disbursements, judgments, fines and amounts paid in settlement) (collectively, “Losses”) arising out of or based upon any breach or failure by the Participant to comply with his obligations made herein. This Section 11 shall survive any termination or execution of this Option Grant Agreement.
12. Representations.
     12.1 Participant Representations. In addition to any representations made by the Participant in the LLC Agreement, the Participant hereby represents and warrants to the Company that: (a) the Participant is an “accredited investor” as defined in Rule 501(a) under the Securities Act; provided that the Company may, in its discretion and subject to compliance with all applicable securities laws, waive the foregoing representation with respect to a limited number of Participants; (b) the Participant, alone or together with his representatives, possesses such expertise, knowledge, and sophistication in financial and business matters generally, and in the type of transactions in which the Company proposes to engage in particular; (c) the Participant is aware that the LLC Agreement provides significant restrictions on the ability of a Participant to sell, transfer, assign, mortgage, hypothecate, or otherwise encumber the Membership Units; (d) the Participant has duly executed and delivered this Option Grant Agreement; and (e) the Participant’s authorization, execution, delivery, and performance of this Option Grant Agreement do not conflict with any other agreement or arrangement to which the Participant is a party or by which it is bound.
     12.2 Truth of Representations and Warranties. The Participant represents and warrants that all of his representations set forth in Section 12.1 of this Option Grant Agreement are true and correct as of the date hereof and will be true and correct on any Exercise Date.
13. Integration. This Option Grant Agreement, and the other documents referred to herein or delivered pursuant hereto (including, without limitation, the LLC Agreement) which form a part hereof contain the entire understanding of the parties with respect to its subject matter and there are no restrictions, agreements, promises, representations, warranties, covenants or undertakings with respect to the subject matter hereof other than those expressly set forth in such documents. This Option Grant Agreement, the Plan and the LLC Agreement supersede all prior agreements and understandings between the parties with respect to its subject matter.

3


 

14. Counterparts. This Option Grant Agreement may be executed in two or more counterparts, each of which shall be deemed an original, but all of which shall constitute one and the same instrument.
15. Governing Law. This Option Grant Agreement shall be governed by and construed and enforced in accordance with the laws of the State of Delaware without regard to the provisions thereof governing conflict of laws.
16. Participant Acknowledgment. The Participant hereby acknowledges receipt of a copy of the Plan and the LLC Agreement. The Participant hereby acknowledges that all decisions, determinations and interpretations of the Committee in respect of the Plan, this Option Grant Agreement and the Option shall be final and conclusive.
     [Remainder of page intentionally left blank.]

4


 

          IN WITNESS WHEREOF, the Company has caused this Option Grant Agreement to be duly executed by its duly authorized officer and said Participant has hereunto signed this Option Grant Agreement on his own behalf, thereby representing that he has carefully read and understands this Option Grant Agreement, the Plan, and the LLC Agreement as of the day and year first written above.
             
    TJ CHEMICAL HOLDINGS LLC  
 
 
  /s/ David A. Spuria    
         
 
  By:   David A. Spuria    
    Title: Vice President    
 
           
    RAYMOND GUBA    
 
    /s/ Raymond Guba    
         

5

exv10w5
 

Exhibit 10.5
PROFITS UNIT AWARD AGREEMENT
PROFITS UNIT AWARD AGREEMENT, (“Agreement”) dated as of October 24, 2005 (the “Date of Grant”), by and between KRATON Management LLC, a Delaware limited liability company (the “Company”) and Raymond Guba (the “Participant”). Unless the context otherwise provides, capitalized terms not defined herein shall have the meanings ascribed to them in the Limited Liability Company Operating Agreement of KRATON Management LLC, as amended from time to time (the “Management LLC Agreement”).
1. Description of Profits Units. Each Company Profits Unit represents the right to a pro rata share of any distributions received by the Company in respect of the corresponding TJ Chemical Profits Units held by the Company in accordance with the Management LLC Agreement. Each TJ Chemical Profits Unit represents the right to receive a pro rata portion of the appreciation of the assets of TJ Chemical above the Threshold Amount (as defined in the TJ Chemical LLC Agreement) for such TJ Chemical Profits Unit after the Date of Grant. The Threshold Amount for the Company Profits Units granted hereunder is $250,019,229, representing the current value of the assets of TJ Chemical (net of debt) as of the Date of Grant, provided that such Threshold Amount may be appropriately and equitably adjusted by the Board of Directors of TJ Chemical for contributions and distributions that affect the aggregate balances of all Capital Accounts (as defined in the TJ Chemical LLC Agreement) maintained under the TJ Chemical LLC Agreement in order to place all holders of profits units, including the Participant, in the same position they would have been in had such contributions and distributions not been made. The pro rata portion of appreciation shall be determined based on all outstanding TJ Chemical Membership Units and TJ Chemical Profits Units for which the applicable Threshold Amount has been achieved (but only as to the appreciation above the Threshold Amount with respect to the applicable TJ Chemical Profits Units).
Each Company Profits Unit is intended to be a “profits interest” within the meaning of Rev. Proc. 93-27 (6/09/93) and Rev. Proc. 2001-43 (8/03/01). By virtue of ownership of a Company Profits Unit, the Participant shall have no right or obligation to make any Capital Contribution to the Company at any time and shall have no rights to any capital contributed to the Company.
2. Grant of Award. The Company hereby grants to the Participant 300,000 Company Profits Units (the “Profits Units”), subject to the terms and conditions of this Agreement and the Management LLC Agreement.
3. Vesting. Notwithstanding Section 4.8 of the Management LLC Agreement, 50% of the Profits Unit shall vest when the fair value of the assets of TJ Chemical equal or exceed two times (2X) the Threshold Amount and the remaining 50% of the Profits Units shall vest when the fair value of the assets of TJ Chemical equal or exceed three times (3X) the Threshold Amount, in each case, as determined by the Board of Directors of TJ Chemical, provided that the Participant is employed by the KRA TON Group on such vesting date, and provided further that if, at the time the Company makes a determination as to whether the Participant is entitled to any appreciation with respect to the Profits Units, the value of the assets of the Company is more

 


 

than two times (2X) but less than (3X) the value of the assets on the grant date, a pro-rata portion of the second 50% will vest based on the appreciation above the amount equal to two times (2X) the value of the assets on the grant date, and provided, further, that 100% of the Profits Units shall vest upon the effective date of a disposition by the Initial Investors of 51 % or more of their aggregate interests in KRA TON to one or more unrelated third Persons if the Participant is employed by the KRATON Group through such date. Notwithstanding anything to the contrary in any other agreement, including the Management LLC Agreement, in the event the Participant’s employment with the KRATON Group is terminated prior to a portion or all Profits Units becoming vested as provided above, all unvested Profits Units shall immediately and without any further action be forfeited on the date of termination.
4. LLC Agreements. This Agreement shall be subject to all of the provisions of the Management LLC Agreement, and such provisions are incorporated herein by this reference. The Participant understands that, as a condition to receiving the Profits Units granted hereunder, the Participant must execute and comply with the Management LLC Agreement. The Participant shall be a Member and holder of Profits Unit for all purposes under the Management LLC Agreement. Unless expressly stated otherwise in this Agreement, to the extent that, with respect to any right or obligation of the Participant, any provisions of this Agreement are not consistent with the Management LLC Agreement, the provisions of the Management LLC Agreement shall govern.
5. Representations by Participant. The Participant represents and warrants that he has received, read and executed a copy of the Management LLC Agreement.
6. Restrictions on Transferability. Except as specifically provided in Article IX of the Management LLC Agreement, the Profits Units may not be sold, transferred or otherwise disposed of without the written approval of the Managing Member.
7. Corporate Transaction: Termination of Employment. The Company shall have the right to cancel the Profits Units in the event of a merger, consolidation, recapitalization or other corporate transaction involving TJ Chemical in which TJ Chemical cancels the corresponding TJ Chemical Profits Units and shall distribute the cash, securities or other property, or any combination thereof, if any, received from TJ Chemical in respect of such corresponding TJ Chemical Profits Units in accordance with Section 9.6 of the Management LLC Agreement. If the Participant becomes a Terminated Employee, the Company shall have the right to purchase any then-vested Profits Units held by the Participant in accordance with Article IX of the Management LLC Agreement.
8. Fair Value. Any determination relating to the value of the assets of TJ Chemical or any TJ Chemical Profits Unit shall be determined in good faith by the Board of Directors of TJ Chemical in accordance with the TJ Chemical LLC Agreement and all determinations of the Board of Directors shall be final and binding on all parties.
9. Assignment. This Agreement and the rights hereunder shall not be assignable or transferable by the Participant without the prior written consent of the Company. This Agreement shall inure to the benefit of and be binding upon the parties and to their respective heirs, executors, administrators, successors and permitted assigns.

 


 

10. Amendments. The terms and provisions of this Agreement may not be amended except by a written instrument signed by the parties hereto.
11. Counterparts: Effectiveness. This Agreement may be executed in any number of counterparts, each of which shall be considered an original, but all such counterparts shall together constitute but one and the same contract.
12. Severability. Every provision of this Agreement is intended to be severable. If any term or provision hereof is illegal or invalid for any reason whatsoever, such term or provision shall be enforced to the maximum extent permitted by law and, in any event, such illegality or invalidity shall not affect the validity of the remainder of this Agreement.
13. Non-Waiver. No provision of this Agreement shall be deemed to have been waived except if the giving of such waiver is contained in a written notice given to the party claiming such waiver, and no such waiver shall be deemed to be a waiver of any other or further obligation or liability of the party or parties in whose favor the waiver was given.
14. Applicable Law. This Agreement and the rights and obligations of the parties hereto shall be interpreted and enforced in accordance with and governed by the laws of the state of Delaware without regard to its principles of conflict of laws.
15. Integration. This Agreement, and the other documents referred to herein or delivered pursuant hereto (including, without limitation, the Management LLC Agreement and the TJ Chemical LLC Agreement) which form a part hereof contain the entire understanding of the parties with respect to its subject matter and there are no restrictions, agreements, promises, representations, warranties, covenants or undertakings with respect to the subject matter hereof other than those expressly set forth in such documents and such documents supersede all prior agreements and understandings between the parties with respect to their subject matter.

 


 

IN WITNESS WHEREOF, the Company and the Participant have duly executed this Agreement as of the day and year first above written.
KRATON MANAGEMENT LLC
         
By:
  /s/ David A. Spuria    
         
Name: David A. Spuria    
Title: Vice-President    
 
       
RAYMOND GUBA    
 
/s/ Raymond Guba    
     

 

exv10w6
 

Exhibit 10.6
NOTIONAL UNIT AWARD GRANT AGREEMENT
THIS NOTIONAL UNIT AWARD GRANT AGREEMENT (this “Agreement”), made as of the 24th day of October, 2005 between KRATON Polymers LLC (the “Company”) and Raymond Guba (the “Participant’).
WHEREAS, pursuant to Section 4.02 of the Second Amended and Restated Limited Liability Company Operating Agreement of TJ Chemical Holdings LLC (the “TJ Chemical Operating Agreement”), each of the Voting Members of TJ Chemical Holdings LLC (“TJ Chemical’) has approved the grant of a Notional Unit award with a current notional value of $150,000 to the Participant pursuant to his employment agreement with the Company, dated October 24, 2005 (the “Employment Agreement”);
NOW, THEREFORE, in consideration of the premises and the mutual covenants hereinafter set forth, the parties hereto hereby agree as follows:
1. Grant of a Notional Unit Award. Pursuant to, and subject to, the terms and conditions set forth herein, the Company hereby grants to the Participant an award (the “Award”) of Notional Units (“Notional Units”) with a current notional value of $150,000 based on the value of membership unit(s) of TJ Chemical. Each Notional Unit will be the equivalent of one notional membership unit of TJ Chemical.
2. Grant Date. The Grant Date of the Award hereby granted is September 29, 2005.
3. No Beneficial Ownership. The Participant shall not have any beneficial ownership in the notional membership units underlying the Notional Units and the grant of Notional Units shall represent an unsecured promise to deliver membership units of TJ Chemical (either directly or through membership units of KRATON Management LLC (“Management LLC’)) on a future date.
4. Vesting Date. The Award shall vest as follows: Twenty percent of the Notional Units shall vest on each of the first five anniversaries of the Effective Date (as defined in the Employment Agreement), provided that the Participant remains employed with the Company through the applicable vesting date. Except as provided in the next succeeding sentence, upon termination of employment for any reason all unvested Notional Units shall immediately and automatically be forfeited. In the event of a Change in Control (as defined in the TJ Chemical 2004 Option Plan), if the Participant’s employment is terminated without Cause or for Good Reason (as those terms are defined in the Employment Agreement) during the two-year period immediately following the date of the Change in Control, all unvested Notional. Units shall become immediately vested.
5. Distribution of Membership Units. Distribution of membership units representing the portion of vested Notional Units shall occur as soon as practicable after the earlier of a Change in Control or termination of the Participant’s employment, provided that following a Change in Control, unvested Notional Units shall remain outstanding and continue to vest as provided above until the Participant’s employment terminates.
6. Limitations on Transfer of Membership Units; Termination of Employment. The Participant acknowledges that upon becoming a member of TJ Chemical or Management LLC, as applicable, the Participant will be subject to all the terms and conditions provided in the TJ Chemical Operating Agreement or the Limited Liability Company Operating Agreement of KRA TON Management LLC, as amended from time to time (the “Management LLC Operating Agreement”), (collectively, the

 


 

“Operating Agreements” and each an “Operating Agreement”), as applicable, including all transfer restrictions, tag-along and drag-along rights and call rights provided therein.
7. Delays or Omissions. No delay or omission to exercise any right, power or remedy accruing to any party hereto upon any breach or default of any party under this Agreement, shall impair any such right, power or remedy of such party nor shall it be construed to be a waiver of any such breach or default, or an acquiescence therein, or of or in any similar breach or default thereafter occurring nor shall any waiver of any single breach or default be deemed a waiver of any other breach or default theretofore or thereafter occurring. Any waiver, permit, consent or approval of any kind or character on the part of any party of any breach or default under this Agreement, or any waiver on the part of any party or any provisions or conditions of this Agreement, shall be in writing and shall be effective only to the extent specifically set forth in such writing.
8. Limitation on Transfer of Notional Units. Except as set forth in this Section 8, the Award shall be distributable only to the Participant. The Award shall not be assignable or transferable other than by will or by the laws of descent and distribution. Notwithstanding the foregoing, the Participant may request authorization from the Company to assign his Award granted herein to a trust or custodianship, the beneficiaries of which may include only the Participant, the Participant’s spouse or the Participant’s lineal descendants (by blood or adoption), and, if the Company grants such authorization, the Participant may assign his rights accordingly. In the event of any such assignment, such trust or custodianship shall be subject to all the restrictions, obligations, and responsibilities as apply to the Participant under this Agreement and shall be entitled to all the rights of the Participant under this Agreement; provided that upon such assignment in accordance with this Section 8, all references in this Agreement shall be deemed to be replaced by a reference to the transferee of the Award, except references to employment obligations or the termination thereof, which shall continue to be references to the Participant, including Sections 4 and 5.
9. Indemnification. The Participant agrees, to the fullest extent permitted by law, to indemnify and hold harmless the Company, Management LLC and TJ Chemical and any member, director, officer, or employee thereof against any and all losses, liabilities, claims, damages, and expenses of any nature whatsoever (including attorneys’ fees and disbursements, judgments, fines and amounts paid in settlement) (collectively, “Losses”) arising out of or based upon any breach or failure by the Participant to comply with his obligations made herein. This Section 9 shall survive any termination or execution of this Agreement.

 


 

10. Representations.
     10.1 Participant Representations. In addition to any representations made by the Participant in the applicable Operating Agreement, the Participant hereby represents and warrants to the Company, Management LLC and TJ Chemical that: (a) the Participant is aware that the applicable Operating Agreements provide significant restrictions on the ability of a Participant to sell, transfer, assign, mortgage, hypothecate, or otherwise encumber the membership units; (b) the Participant has duly executed and delivered this Agreement; and (c) the Participant’s authorization, execution, delivery, and performance of this Agreement do not conflict with any other agreement or arrangement to which the Participant is a party or by which it is bound.
     10.2 Truth of Representations and Warranties. The Participant represents and warrants that all of his representations set forth in Section 10.1 of this Agreement are true and correct as of the date hereof.
11. Integration. This Agreement, and the other documents referred to herein or delivered pursuant hereto (including, without limitation, the Operating Agreements) which from a part hereof contain the entire understanding of the parties with respect to its subject matter and there are no restrictions, agreements, promises, representations, warranties, covenants or undertakings with respect to the subject matter hereof other than those expressly set forth in such documents. This Agreement and the Operating Agreements supersede all prior agreements and understandings between the parties with respect to its subject matter.
12. Counterparts. This Agreement may be executed in two or more counterparts, each of which shall be deemed an original, but all of which shall constitute one and the same instrument.
13. Governing Law. This Agreement shall be governed by and construed and enforced in accordance with the laws of the State of Delaware without regard to the provisions thereof governing conflict of laws.
14. Participant Acknowledgment. The Participant hereby acknowledges receipt of a copy of the Operating Agreements. The Participant hereby acknowledges that all decisions, determinations and interpretations of the Board of Directors of the Company in respect of this Agreement shall be final and conclusive.
[Remainder of page intentionally left blank.]

 


 

IN WITNESS WHEREOF, the Company has caused this Agreement to be duly executed by its duly authorized officer and said Participant has hereunto signed this Grant Agreement on his own behalf, thereby representing that he has carefully read and understands this Agreement and the Operating Agreements as of the day and year first written above.
             
    KRATON POLYMERS LLC    
 
    /s/ Joseph J. Waiter    
         
 
  By: Joseph J. Waiter    
 
  Title: Vice President and General Counsel    
 
           
    Raymond Guba    
 
    /s/ Raymond Guba    
         

 

exv31w1
 

Exhibit 31.1
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
UNDER SECTION 302 OF SARBANES-OXLEY ACT OF 2002
I, George B. Gregory, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Polymer Holdings LLC and KRATON Polymers LLC;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15 (e) and 15d-15 (e)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
(b) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
(c) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent function):
(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
         
Date: November 14, 2005
       
 
       
 
  By: /s/ George B. Gregory    
 
       
 
  George B. Gregory    
 
  Chief Executive Officer    

 

exv31w2
 

Exhibit 31.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER
UNDER SECTION 302 OF SARBANES-OXLEY ACT OF 2002
I, Nicholas G. Dekker, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Polymer Holdings LLC and KRATON Polymers LLC;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15 (e) and 15d-15 (e)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
(b) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
(c) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent function):
(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
         
Date: November 14, 2005
       
 
       
 
  By: /s/ Nicholas G. Dekker    
 
       
 
  Nicholas G. Dekker    
 
  Interim Chief Financial Officer    

 

exv31w3
 

Exhibit 31.3
CERTIFICATION OF CHIEF FINANCIAL OFFICER
UNDER SECTION 302 OF SARBANES-OXLEY ACT OF 2002
I, Raymond K. Guba, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Polymer Holdings LLC and KRATON Polymers LLC;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15 (e) and 15d-15 (e)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
(b) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
(c) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent function):
(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
         
Date: November 14, 2005
       
 
       
 
  By: /s/ Raymond K. Guba    
 
       
 
  Raymond K. Guba    
 
  Vice President Finance and    
 
  Chief Financial Officer    

 

exv32w1
 

Exhibit 32.1
Certification
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
(Subsections (a) and (b) of Section 1350, Chapter 63 of Title 18, United States Code)
Pursuant to section 906 of the Sarbanes-Oxley Act of 2002 (subsections (a) and (b) of section 1350, chapter 63 of title 18, United States Code), each of the undersigned officers of Polymer Holdings LLC and KRATON Polymers LLC (together, the “Company”), does hereby certify, to such officer’s knowledge, that:
The Quarterly Report on Form 10-Q for the fiscal quarter ended September 30, 2005 of the Company fully complies with the requirements of the Securities and Exchange Act of 1934, as amended, and information contained in the Form 10-Q fairly presents, in all material respects, the financial condition and results of operations of the Company.
         
Dated: November 14, 2005
       
 
       
 
  By: /s/ George B. Gregory    
 
       
 
  George B. Gregory    
 
  Chief Executive Officer    
 
       
 
  By: /s/ Nicholas G. Dekker    
 
       
 
  Nicholas G. Dekker    
 
  Interim Chief Financial Officer    
 
       
 
  By: /s/ Raymond K. Guba    
 
       
 
  Raymond K. Guba    
 
  Vice President, Finance and    
 
  Chief Financial Officer    
(A signed original of this written statement required by Section 906 has been provided to KRATON Polymers LLC and Polymer Holdings LLC and will be retained by them and furnished to the Securities and Exchange Commission or its staff upon request.)