International Paper Company — 2011 Second-Quarter Form 10-Q Summary
Business context and reporting period
International Paper filed an unaudited Form 10-Q for the quarter and six months ended June 30, 2011. The company operates in industrial packaging, printing papers, consumer packaging and distribution, with a 50% equity investment in Ilim Holding S.A. Results for Ilim are reported on a one-quarter lag.
Financial performance and key metrics
| Metric | Three months ended June 30, 2011 | Three months ended June 30, 2010 | Six months ended June 30, 2011 | Six months ended June 30, 2010 |
|---|---|---|---|---|
| Net sales | $6.648 billion | $6.121 billion | $13.035 billion | $11.928 billion |
| Net earnings attributable to International Paper | $224 million | $93 million | $566 million | $(69) million |
| Diluted EPS | $0.52 | $0.21 | $1.30 | $(0.16) |
| Industry segment operating profit | $483 million | $353 million | $1.068 billion | $373 million |
| Cash provided by operations | Not separately provided | Not separately provided | $1.162 billion | $800 million |
| Free cash flow | $419 million | Not clearly provided | $838 million | $395 million |
Second-quarter sales increased approximately 9% year over year. Based on reported figures, industry segment operating profit was approximately 7.3% of sales and net earnings attributable to International Paper were approximately 3.4% of sales. Six-month operating profit was approximately 8.2% of sales and attributable net earnings were approximately 4.3% of sales.
Management reported second-quarter diluted EPS before special items of $0.80, compared with $0.42 in the prior-year quarter and $0.74 in the first quarter of 2011. This is a non-GAAP measure; reported diluted EPS was $0.52.
Cash and temporary investments were $2.399 billion at June 30, 2011, compared with $2.073 billion at December 31, 2010. Current assets were $9.416 billion and current liabilities were $4.821 billion. Reported debt consisted of $610 million of notes payable and current maturities plus $7.875 billion of long-term debt. The company reported approximately $8.5 billion of debt at fair value and maintained investment-grade ratings of BBB with a stable outlook from S&P and Baa3 with a stable outlook from Moody’s.
Contractually committed credit agreements totaled $2.5 billion, including a $1.5 billion bank facility expiring in November 2012 and up to $1.0 billion of receivables-backed commercial paper financing. Capital spending was $410 million in the first six months, and full-year 2011 capital spending was expected to be approximately $1.2 billion to $1.3 billion.
Material changes versus comparable periods
- Industrial Packaging operating profit increased to $269 million from $192 million in the prior-year quarter, supported by higher pricing, although higher raw material, freight and maintenance costs offset some gains.
- Printing Papers operating profit increased to $243 million from $47 million, benefiting from pricing and a $21 million gain related to the repurposing of the Franklin, Virginia mill.
- Consumer Packaging reported a $33 million operating loss versus $48 million of profit, primarily because of a $129 million Shorewood North American asset impairment.
- Distribution operating profit declined to $4 million from $26 million because of lower trade margins, higher freight and fuel costs, and a routine inventory valuation adjustment.
- Equity earnings from Ilim increased to $57 million from $5 million in the comparable quarter, reflecting stronger pulp and board pricing, higher volumes and improved mill operations.
- Interest expense, net declined to $137 million from $157 million, primarily reflecting debt reduction.
- The quarterly dividend increased to $0.2625 per common share from $0.125 in the prior-year quarter; first-half dividends paid were $197 million versus $66 million.
- Six-month cash from operations increased to $1.162 billion from $800 million, while free cash flow increased to $838 million from $395 million. Free cash flow included specified adjustments for receivables securitization, tax receivables and alternative fuel credits.
Guidance, outlook, commentary and unusual items
Management expected third-quarter demand to remain steady domestically, with seasonal declines in Europe. Pricing was expected to remain generally stable, while higher energy, transportation, chemical and recycled-fiber costs were expected to offset approximately $65 million of lower maintenance-outage spending. Recycled fiber costs alone were expected to increase by $20 million to $30 million.
The company expected 2011 to be funded through cash balances, operating cash flow and available credit facilities while continuing to reduce interest expense and preserve liquidity. Management expected no required domestic qualified pension contribution in 2011, although discretionary contributions remained possible.
- Second-quarter restructuring and other items produced a $10 million pretax gain, including a $21 million gain from revising Franklin mill closure estimates, partly offset by $10 million of xpedx restructuring costs.
- The company recorded a $129 million pretax, $104 million after-tax impairment of Shorewood’s North American long-lived assets.
- The Vicksburg mill flooding caused approximately 80,000 tons of downtime and reduced second-quarter earnings by slightly more than $0.03 per share, including approximately $20 million of related costs.
- International Paper agreed to acquire approximately 53.5% of Andhra Pradesh Paper Mills for approximately $257 million, make a $62 million non-compete payment and potentially acquire up to 75% through a tender offer. The transaction remained subject to regulatory matters; a $105 million escrow deposit was recorded.
- On July 12, 2011, after quarter-end, the company commenced a fully financed cash tender offer for Temple-Inland at $30.60 per share.
- The company filed an amended 2009 tax return claiming alternative fuel mixture credits as non-taxable income. The tax position remains subject to IRS review and could affect future cash taxes and credit elections.
- Environmental remediation reserves totaled approximately $94 million, including a Cass Lake, Minnesota reserve increased to $51 million. A more expensive cleanup alternative could materially increase costs.
- Containerboard antitrust lawsuits seek class certification, damages and related costs. Management considers the allegations without merit, but the proceedings were preliminary and losses could not be reasonably estimated.
- The company’s Ilim shareholder agreement could, under certain circumstances, require a purchase of the partners’ 50% interest for an estimated $700 million to $750 million. The parties stated they had no current intention to commence the applicable deadlock procedures.
Most important facts for investors to verify
- Reconcile reported EPS of $0.52 with management’s non-GAAP EPS before special items of $0.80, particularly the Shorewood impairment and other special items.
- Assess whether pricing gains can continue to offset inflation in energy, chemicals, transportation, recycled fiber and other raw materials.
- Review the liquidity and financing implications of the APPM transaction and the Temple-Inland tender offer, including committed financing and resulting leverage.
- Evaluate the economic exposure represented by debt held through variable-interest entities, including approximately $5.1 billion of debt obligations offset for financial reporting purposes.
- Monitor IRS developments regarding alternative fuel mixture and cellulosic bio-fuel tax credits and the potential effect on cash taxes.
- Review environmental reserves, antitrust litigation, personal-injury claims and other contingencies for possible costs exceeding recorded amounts.
- Confirm the timing and cost benefits of the Franklin mill repurposing, xpedx restructuring and Shorewood reorganization.