Graphic Packaging Holding Company — Q1 2019 Form 10-Q
Business and period: Unaudited results for the three months ended March 31, 2019, compared with the three months ended March 31, 2018. Graphic Packaging makes paperboard packaging, cartons, cups, lids and foodservice containers for food, beverage and other consumer markets.
Financial results
- Sales: $1,505.9 million, up 1.9% from $1,477.4 million. Higher prices and $33.8 million of sales from 2018 acquisitions were partly offset by unfavorable currency and lower open-market and converting volumes.
- Operating income and margin: $134.0 million versus $74.0 million; reported operating margin was approximately 8.9%, compared with 5.0%. Improved pricing, cost savings and lower acquisition-related charges more than offset $27.2 million of higher costs and unfavorable currency. Special charges were $6.2 million, down from $26.3 million.
- Net income: $78.1 million, versus $42.7 million. Net income attributable to Graphic Packaging Holding Company was $57.9 million, or $0.19 per diluted share, versus $29.9 million, or $0.10 per diluted share. Interest expense increased to $35.0 million from $28.8 million.
- Segments: Americas Paperboard Packaging sales were $1,022.8 million and operating income was $125.6 million; Europe sales were $173.8 million and operating income was $19.2 million. Paperboard Mills recorded a $4.0 million operating loss. Corporate and Other operating loss narrowed to $6.8 million from $46.0 million, partly reflecting lower special and acquisition-related charges.
- Cash flow: Operating activities used $172.1 million, compared with $190.1 million used in Q1 2018. Investing activities provided $43.2 million, including $279.5 million of beneficial interest on sold receivables and $153.3 million of beneficial interest obtained in exchange for proceeds. Capital spending, including packaging machinery, was $80.0 million. Financing activities provided $120.5 million; cash declined $8.2 million to $62.3 million.
- Liquidity and debt: At March 31, cash was $62.3 million and current assets were $1,836.9 million versus current liabilities of $1,022.2 million. Balance-sheet debt was $3,178.8 million, including current debt; the filing separately reports $3,188.7 million of aggregate principal debt. Revolving facilities had $1,008.0 million available. About 49% of total debt was floating rate. The company was compliant with its debt covenants: leverage ratio 2.91 to 1.00 against a maximum below 4.25, and interest coverage 8.29 to 1.00 against a minimum of 3.00.
- Shareholder returns: The quarterly dividend was $0.075 per share. The company repurchased 5.0 million shares for approximately $60 million at an average $11.82 per share; approximately $531 million remained available across its repurchase programs.
Material changes and management commentary
- Sales increased modestly, while reported operating income and earnings per share rose substantially. Management attributed operating improvement to pricing, continuous-improvement savings, completed capital projects and synergies; inflation and foreign exchange were offsets.
- Core converting volumes were lower, particularly in dry and frozen foods, away-from-home products and cereal; new product introductions and beverage volumes provided partial offsets. In Europe, beverage multipacks and substitution of paperboard for plastic supported volume.
- Costs rose $27.2 million year over year, principally from wood ($12.5 million) and labor and benefits ($9.0 million), partly offset by lower secondary-fiber costs ($1.1 million).
- ASC 842 lease accounting was adopted January 1, 2019, materially increasing reported assets and liabilities without a material effect on results or cash flows. At quarter-end, operating lease liabilities were $203.4 million and finance lease liabilities were $127.7 million.
- The company began a three-year program to dismantle and dispose of idle and abandoned assets, primarily at paperboard mills; expected charges are approximately $40 million.
- Management reported that a material weakness in controls over business-combination accounting identified at year-end 2018 was remediated in Q1 2019. Disclosure controls were effective as of March 31, 2019.
Outlook, risks and contingencies
- 2019 outlook: Capital investment of approximately $320 million, comprising about $270 million for process-capability improvements, $40 million for capital spares and $10 million for packaging machinery. Expected depreciation and amortization is $430–$440 million, excluding approximately $10 million of pension amortization; interest expense is $135–$145 million; pension contributions are $10–$12 million.
- The company had approximately $168 million of U.S. federal net operating losses at December 31, 2018 and did not expect to be a meaningful U.S. federal cash taxpayer until 2021.
- Key risks include raw-material, energy and labor cost inflation; limits on passing through costs; consumer demand and product-preference changes; competition and substitution by other packaging materials; foreign-currency movements; execution of cost savings and acquisitions; and substantial debt and floating-rate exposure. Debt covenants may constrain borrowing, investment, dividends and repurchases. Management said cash generation and available financing should be adequate for expected needs, but gave no assurance.
- The company is involved in ordinary-course lawsuits and environmental investigations and remediation matters. It said current accruals and reasonably possible losses beyond accruals are not material, while some potential environmental costs cannot be estimated. It did not report material changes to previously disclosed risk factors.
- Ratings at quarter-end were BB+ from S&P and Ba1 from Moody’s, both with stable outlooks. The filing provides no specific sales or earnings guidance.
Important facts for investors to verify
- Whether pricing and productivity gains can continue to offset inflation, and whether lower converting volumes persist.
- Operating cash flow and working-capital trends, including the company’s reliance on receivables-sale programs and their effect on liquidity.
- Debt levels, floating-rate exposure, refinancing needs, covenant headroom and the effect of further share repurchases on leverage.
- Progress and costs of the $320 million 2019 investment plan and the idle-asset program’s expected $40 million charges.
- Whether the expected timing of U.S. federal cash taxes and the environmental and legal exposure estimates remain valid.