O-I Glass, Inc. (Owens-Illinois, Inc.) — Q2 2012 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2012. The company manufactures glass containers and reports Europe, North America, South America, and Asia Pacific as its operating segments. Amounts below are in millions of dollars except per-share data.
Financial performance
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Net sales | $1,766 | $1,959 | $3,505 | $3,678 |
| Gross profit | $376 | $355 | $754 | $698 |
| Gross margin | 21.3% | 18.1% | 21.5% | 19.0% |
| Continuing earnings attributable to the Company | $134 | $71 | $256 | $154 |
| Diluted continuing EPS | $0.81 | $0.42 | $1.54 | $0.92 |
| Net earnings attributable to the Company | $133 | $73 | $254 | $155 |
| Interest expense | $62 | $100 | $126 | $176 |
| Segment Operating Profit (non-GAAP) | $266 | $224 | $526 | $432 |
Sales declined 10% in Q2 and 5% for the six-month period. Management attributed the decreases mainly to unfavorable foreign exchange and lower shipments, partly offset by improved pricing. Glass-container shipments fell about 6% in Q2 and 4% year to date. Segment Operating Profit rose 19% in Q2 and 22% year to date, reflecting manufacturing improvements, cost reductions, and pricing gains.
- Q2 by segment: Europe sales fell 18% to $731 and Segment Operating Profit declined to $107 from $112. North America sales rose 2% to $516 and profit increased to $96 from $50. South America sales fell 7% to $282 and profit to $47 from $53. Asia Pacific sales fell 7% to $230 while profit increased to $16 from $9.
- Six-month segment profit: Europe $215 versus $188; North America $174 versus $113; South America $85 versus $98; Asia Pacific $52 versus $33.
Q2 continuing earnings per share improved partly because 2011 included $27 of items management considered non-recurring ($0.17 per share); the comparable six-month 2011 period included $32 ($0.20 per share). No such items were reported for 2012. Lower interest expense also benefited results, reflecting the 2011 refinancing and the non-recurrence of certain debt-repurchase and financing-fee costs.
Cash flow, debt, and liquidity
- Cash at June 30, 2012 was $336, versus $260 a year earlier. Total debt was approximately $4.0 billion, versus $4.3 billion a year earlier; debt due within one year was $452 and long-term debt was $3,567.
- Cash from continuing operating activities was $6 for the first six months, compared with $92 in 2011. Capital expenditures were $124 versus $153. Company-defined free cash flow was negative $118, compared with negative $61.
- Working-capital changes used $380 of cash, versus $219 in the prior-year period. Management cited inventory builds, including North American inventory to reduce supply-chain risk and European inventory ahead of production curtailments.
- The secured credit agreement had $807 of unused availability; its outstanding borrowings carried a 2.74% weighted-average interest rate. The European receivables securitization balance was $302 at a 1.42% weighted-average rate.
- Management said operating cash flow and available credit should be sufficient for working capital, debt service, and other obligations on both a short- and long-term basis.
Material changes, outlook, and risks
- Operations and outlook: North American performance rebounded following prior-year production and supply-chain problems. Europe experienced weakening demand; the company began production curtailments late in Q2 and said these could continue to affect regional profit for the remainder of 2012. The filing provides no overall earnings or sales guidance.
- Tax outlook: Excluding items management considers non-recurring, the company expected a 2012 effective tax rate of 24%–25%, versus 21.6% for 2011, citing a change in the geographic mix of earnings.
- Accounting changes: Effective January 1, 2012, U.S. inventories moved from LIFO to average cost, applied retrospectively. Had the change not been made, Q2 2012 manufacturing expense would have been $7 higher and Company net earnings $7 lower (about $0.04 per share); six-month effects were $1 and $0.01 per share. Pension expense allocation to segments also changed retrospectively.
- Asbestos: About 4,700 plaintiffs and claimants had pending claims at June 30, with approximately 350 additional claims considered likely to be asserted. Recorded asbestos liabilities totaled $413 ($165 current and $248 long-term), but management said ultimate liability cannot reasonably be estimated. First-half asbestos payments were $58. The company maintained that cash resources would be adequate, while warning that any additional charge could materially affect results.
- Other contingencies: Venezuela expropriated two subsidiaries in 2010. The company began World Bank arbitration in 2011 and could not predict compensation amount or timing. Q2 and first-half discontinued-operation losses were $1 and $2, respectively, mainly legal fees. The company also planned replacement capacity in China after local authorities required certain plant land to be returned; compensation was expected to offset most or all of the future rebuild spending.
- Other risks: Management highlighted currency movements, economic conditions in Europe and Australia, pricing and inflation, energy and raw-material costs, supply-chain issues, asbestos claims, and political or expropriation events. The filing reported no material changes in risk factors or market risk from the 2011 Form 10-K.
Important facts for investors to verify
- Whether shipment trends, particularly in Europe and Asia Pacific, and announced European production curtailments continue to pressure sales and segment profit.
- Whether pricing and manufacturing improvements can offset inflation and foreign-exchange headwinds, especially in North America and South America.
- Cash conversion and inventory levels: first-half operating cash flow was only $6 despite $262 of consolidated net earnings, with a $380 working-capital use.
- Debt maturities, refinancing terms, and continued availability under the credit agreement and receivables securitization program.
- Future asbestos claims, payments, and annual accrual reviews, given the company’s statement that ultimate liability cannot reasonably be estimated.
- Progress and potential recovery from Venezuela arbitration, and the costs and compensation assumptions for replacement capacity in China.
- The effect of retrospective inventory-costing and pension-allocation changes when comparing reported results with prior periods.