1996 Annual Report

Chairman's Letter
To Our Stockholders

1996 was a very difficult year for Bethlehem Steel, and yet it was a year in which significant actions were taken that will position Bethlehem for improved profitability and the achievement of our Vision to be the Premier Steel Company. Three actions were particularly important: we enhanced the competitiveness of our three core steel Divisions, announced and began implementing a Restructuring Plan, and made steady progress in dealing with our pension and health care legacy costs.

As a result of the Restructuring Plan, we had a net loss for the year of $309 million, including $382 million in after-tax restructuring charges. Excluding these charges, we had net income of $73 million, down from $180 million in 1995. 1996 was clearly a very difficult and, in some respects, a disappointing year. We recognize that our financial results were not satisfactory, and we will take the necessary and appropriate actions in 1997 and in the years ahead to improve them.

Restructuring To Improve Future Profitability And Stockholder Value

In 1996, we announced a Restructuring Plan that will result in exiting five businesses, which will contribute significantly to improving our performance in the future. During the second half of 1996, we decided that the long-term outlook for these unprofitable business units was such that we could no longer keep them as part of Bethlehem. We decided to exit our BethEnergy Eagle Nest coal business, Bethlehem Structural, BethForge, CENTEC roll business, and BethShip Sparrows Point Shipyard. We also decided to write down our Bethlehem Coke operation as an impaired asset, but we will continue to operate that business as long as it has a satisfactory performance. In total, these decisions resulted in recording $465 million of pre-tax restructuring charges in 1996. These decisions are consistent with our basic requirement that all of our business units must earn a competitive rate of return on the investment we have in them.

As to the current status of these restructured businesses, we have already sold and leased our Eagle Nest coal assets. Also, we have concluded that we will not be able to sell Bethlehem Structural as an ongoing business and, therefore, we will close it by the end of the first quarter of this year. We are continuing to negotiate with qualified buyers for the sale of our BethForge, CENTEC, and Sparrows Point Shipyard businesses. We hope to be able to conclude satisfactory sales transactions for them during the first half of this year. If not, we will close them and their assets will be sold.

Implementing the Restructuring Plan will eliminate the significant operating losses caused by these businesses, will result in a stronger company better positioned for the future, and will allow us to focus even greater attention on our three core steel businesses.

Concentrating On Our Core Steel Businesses

Bethlehem’s core steel businesses are the Burns Harbor Division, the Sparrows Point Division, and Pennsylvania Steel Technologies. We believe they provide a solid base on which we can build our company and add value for our stockholders. We will grow our company by intensifying our concentration on these businesses and by continuously improving their competitive positions in their markets.

Burns Harbor

The Burns Harbor Division accounts for about one-half of our total revenues and ships about 5 million tons of high quality steel products per year, primarily to the automotive and machinery markets. Burns Harbor has competitive costs and has won many quality awards from its customers. During 1996, we further enhanced Burns Harbor by making relatively modest capital expenditures to increase steelmaking capability, by modernizing the plate mill and hot strip mill, and by investing in Chicago Cold Rolling, L.L.C. This investment will make it possible for Burns Harbor to process more hot rolled sheet into higher value cold rolled sheet. We will continue to enhance Burns Harbor’s competitiveness, and we believe a competitive rate of return will be earned on the investment we have in this Division.

Sparrows Point

The Sparrows Point Division accounts for about one-third of our total revenues and ships about 3 million tons per year of high quality sheet, plate and tin mill products, primarily to the construction and container markets. Sparrows Point has also won many quality awards and other forms of recognition from its customers. This past year, the Division established "reliability to customers" as a primary objective and, taking full advantage of its coating lines, further increased its percentage of higher value sheet product shipments. While Sparrows Point is currently profitable, one of our greatest challenges and highest priorities is to develop plans and implement actions for Sparrows Point to earn a competitive rate of return on the capital invested. We must continue to improve productivity and reduce costs, and we may also consider some future modernization.

With facilities at Burns Harbor and Sparrows Point, Bethlehem continues to be the nation’s largest producer of plate, most of it in the higher value grades required for the more demanding industrial uses. Also, higher value cold rolled sheet, coated sheet and tin mill products accounted for more than 70 percent of sheet products shipped from these Divisions in 1996, up from 65 percent in 1995.

Pennsylvania Steel Technologies

Pennsylvania Steel Technologies is a leading supplier of railroad rails to the rail transportation market, high quality specialty blooms to the forging industry, and large-diameter pipe to the energy market. PST has a recently modernized electric steelmaking facility, a continuous caster, and state-of-the-art rail making technology. PST’s operations were impaired by a severe flood in January 1996. Extraordinary actions by our employees returned the Division to operation quickly, and the utilization of its facilities has continued to improve throughout the year. PST is now well positioned to serve the growing market for premium railroad rail, specialty blooms, flat bars and large diameter pipe. With continuing cost and productivity improvements, we believe it will earn a competitive rate of return on the capital we have invested in this business.

Rebuilding Our Financial Strength

We have been working diligently on rebuilding Bethlehem’s financial strength. We have a highly leveraged balance sheet due primarily to our legacy obligations for pensions and health care. Our objective is to have a capital structure that will earn us an investment grade credit rating. Our debt level and maturities over the next few years are relatively modest. Our debt to invested capital ratio was 36 percent in 1996, increasing by two percent over 1995 from the restructuring decision.

Over the past three years, we have reduced our unfunded pension liability by about three-quarters of a billion dollars. At the end of 1996, our pension fund had assets of more than $4.2 billion. Our unfunded liability was reduced to $870 million from 1995’s $1.1 billion. Eliminating our unfunded pension liability is one of our highest priorities because it will significantly reduce pension expense and strengthen our financial position.

We are also working vigorously on another major capital structure and legacy cost issue—health care costs for retirees and their families—through a number of initiatives. These include greater use of Health Maintenance Organizations and other managed health care options, capping certain health care costs for retirees, and innovations such as our Bethlehem, Pennsylvania family health center.

Improving Continuously

An important part of our strategy is to have continuous improvement in all of our activities. During 1996, we made many improvements especially with regard to our objectives related to customers, suppliers, employees and citizenship.

Customers

Bethlehem has won many quality awards and other certifications from automakers. Burns Harbor and, more recently, Burns Harbor’s Lackawanna, New York, Galvanized Products Division have received the QS-9000 automotive quality certification. With both facilities now certified, we are well positioned to supply our automotive customers. In 1996, through our Burns Harbor Division, Bethlehem was named a "Supplier of the Year" by General Motors—the only steel producer in the world to be so honored—and was also selected to supply all the sheet steel for General Motors’ popular Saturn line of cars.

Sparrows Point’s plate mill received Q-Plus certification from the Carrier Corporation on the basis of the quality systems at the Division. During the course of the year, Pennsylvania Steel Technologies was qualified as a supplier of head-hardened rail by all the Class One railroads in the United States and doubled its shipments of this premium rail product compared to 1995.

Suppliers

In 1996, we made significant progress through our Strategic Sourcing initiative and expect further progress this year. We established new relationships with suppliers covering a substantial portion of the $3 billion in raw materials, energy, equipment, goods and services we purchase annually. These relationships are achieving the key objectives of Strategic Sourcing: to forge a strong, competitive base of supply partners who share our commitment to deliver superior value to our customers; to realize significant, immediate and sustainable improvements in the total cost, quality and value of our purchased goods and services; and to establish mutual commitments to continuous improvement.

Employees

We are fortunate that we have capable and dedicated employees who will lead us into the next century, and we are helping to provide them with the skills they need. During 1996, we continued to develop partnership activities among all employees. We initiated additional employee education and training programs to help develop the skilled and knowledgeable work force required to compete in an increasingly competitive, global business environment. In 1996, various educational programs provided more than 550,000 employee training hours, an average of over 30 hours per employee. For example, more than half of our employees have already completed a custom financial management program that includes financial concepts, measurements and business fundamentals. This program is designed to help our employees focus their efforts on increasing our return on net assets and stockholder value.

The 1996 contract reopener of 1993’s six-year agreement with the United Steelworkers of America was completed, and we now have a contract through mid-1999.

We are committed to the safety and health of our employees and believe that safety is a fundamental corporate value which must not be compromised. During the past year we continued to improve our safety performance and expand safety training. Our total injury incidence rate was 21 percent better than 1995. Over the past two years, we reduced our disabling injuries by more than 40 percent. For the 16th time in the past 28 years, our Railroad subsidiary in Bethlehem, Pennsylvania won a Harriman Institute Award for its safety performance. In a joint effort with the USWA, we began implementing a new "employee safety process" to provide greater involvement of all employees in creating the best possible safety environment, both on and off the job.

We continued with activities to have profit sharing for our employees based upon performance and to increase employee ownership of Bethlehem stock so that our employees’ interests are aligned with those of our stockholders. We have initiated many other activities among our employees that are aimed at making continuous improvement in all aspects of our business a way of life at Bethlehem.

Citizenship

We believe that being a good citizen helps generate value for our stockholders. Citizenship is expressed in many ways, including environmental performance, community support and economic development.

During 1996, we issued our first annual Environmental Progress Report, which is consistent with our endorsement of the CERES Principles, an environmental code of conduct. To explore environmental and other issues of mutual interest with our communities, Burns Harbor and Sparrows Point established Community Awareness Panels in their local areas. We received the Pennsylvania Governor’s Award for Environmental Excellence for developing a process to treat the dust captured from electric furnaces. We also received an award from the U.S. Environmental Protection Agency for our comprehensive waste reduction program to recycle office waste materials and increase the use of recycled products. We provided leadership in United Way and other charitable organizations, with Sparrows Point and Burns Harbor each contributing, largely through employee giving, more than $1 million to their local United Way campaigns. We are actively supporting efforts to revitalize the properties on the South Side of Bethlehem and certain other communities that have been affected by the restructuring of our businesses.

Changes To The Board

During this past year, Shirley D. Peterson, President of Hood College, joined our Board. We look forward to continuing to work with Shirley and having her advice and counsel. We also want to acknowledge and thank Thomas L. Holton and Winthrop Knowlton, who will be retiring as Directors in April, for their many years of outstanding and loyal service to Bethlehem.

Our Business Outlook Is Positive

We believe that the domestic economy will continue on a course of moderate and sustainable growth and low inflation. We also believe that the global economy will show some additional strength this year compared to 1996. Based on this economic environment, we believe that steel markets will continue to be relatively good in the United States and that domestic industry steel shipments in 1997 will be close to the estimated 100 million tons shipped in 1996.

We recognize, however, that competition will be intense as new capacity enters the marketplace, and unfairly traded imports continue to be of concern. We will continue to take actions to improve our competitiveness by enhancing our customer service and reliability, increasing the utilization of our facilities, aggressively reducing costs and improving our productivity.

While 1996 was certainly a challenging year for Bethlehem, it was also a year in which many important decisions were made that have strengthened our company. We enter 1997 with a skilled work force, excellent facilities and a company better positioned to take advantage of the opportunities of the future and to improve stockholder value.

Fair and open trade is important for Bethlehem and its customers. We fully support international trade initiatives that will open foreign markets and help cause fair trade in the global marketplace.

In 1997 and beyond, our Vision is to be the Premier Steel Company—our Strategy to achieve that Vision is to concentrate on steel, rebuild our financial strength and have continuous improvement in all our activities—our Objectives are to serve our customers, partner with our employees, be good citizens, and increase the value of our company for our stockholders.

We have four principal goals for 1997: to successfully execute our business plans at every Business Division, Service Unit, Department and for the Corporation as a whole; to effectively implement our Restructuring Plan; to continue progress with respect to our pension and health care legacy costs; and to continue to advance plans for the improvement of Bethlehem’s future profitability.

We are determined to be the supplier of choice for our customers, the employer of choice for our employees and the communities in which we operate, and the investment of choice for our stockholders.

Curtis H. Barnette, Chairman
January 29, 1997