Packaging Corporation of America — Q2 2012 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2012; filed August 7, 2012. PCA manufactures and sells containerboard, corrugated products, boxes and containers, primarily in the United States. It reports one business segment.
Financial performance
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Net sales | $712.5 million | $665.5 million | $1,383.8 million | $1,295.0 million |
| Income from operations | $83.9 million | $67.9 million | $253.0 million | $133.8 million |
| Net income | $45.2 million | $39.4 million | $63.0 million | $76.8 million |
| Diluted EPS | $0.46 | $0.39 | $0.65 | $0.76 |
| Gross margin | 22.2% | 20.6% | 21.9% | 20.9% |
- Q2 sales rose 7.1%, primarily on higher volume; corrugated shipments increased 6.6%. Operating income rose 23.6%, aided by higher volume and lower energy, chemical, repair and recycled-fiber costs. Lower export pricing and higher medical, depreciation and transportation costs partly offset those gains.
- For the first half, sales rose 6.9%, but reported operating income includes a $95.5 million alternative fuel mixture credit, while tax expense includes a related $118.5 million reduction in cellulosic biofuel tax benefits. The net non-cash, after-tax effect was a $23.0 million charge. Excluding disclosed special items, first-half net income was $88.5 million and diluted EPS was $0.91, versus $79.1 million and $0.78 in 2011.
- Q2 net income and diluted EPS excluding special items were $47.7 million and $0.49, versus $39.6 million and $0.39 in Q2 2011.
- Six-month operating cash flow was $150.0 million, down from $165.2 million. Capital spending was $69.3 million; investing cash outflow was $48.9 million, including $57.4 million of Treasury grant proceeds. Cash increased $358.8 million to $515.1 million.
- At June 30, total debt was $1.201 billion, including $414.7 million classified as current; long-term debt was $786.1 million. Cash exceeded current liabilities by $515.1 million to $689.9 million; unused borrowing capacity was $327.7 million, with $13.3 million supporting letters of credit.
Material changes and unusual items
- On June 26, PCA issued $400 million of 3.90% senior notes due 2022 to refinance $400 million of 5.75% notes due 2013. The old notes were redeemed July 26 for $432.5 million, including a $21.3 million premium and accrued interest. PCA reported a $2.5 million after-tax refinancing charge in Q2 and a further $13.6 million after-tax charge in Q3.
- Q2 interest expense increased to $13.3 million from $6.3 million, including a $3.4 million charge related to early settlement of a treasury lock. PCA paid $65.5 million to settle that agreement.
- The $95.5 million alternative fuel mixture credit and $118.5 million reduction in tax benefits drove a reported first-half effective tax rate of 72.6%; excluding the credit effects, PCA reported a 36.1% rate.
- PCA acquired Packaging Specialists for $35.4 million in March 2012. A $57.4 million Treasury grant for the Valdosta energy project was recorded as a reduction to property, plant and equipment.
- The quarterly dividend increased from $0.20 to $0.25 per share beginning with the April payment. PCA repurchased 371,322 shares for $10.1 million in Q2; $117.7 million remained under its $150 million authorization.
Outlook, risks and contingencies
- Management expected Q3 2012 earnings, excluding refinancing charges and special items, to exceed Q2 levels, citing seasonally higher sales, increased mill production after maintenance shutdowns, and lower mill costs. Purchased electricity and chemical prices were expected to rise, while recycled-fiber prices were expected to fall.
- Management expected $110 million of 2012 capital expenditures and $50 million to $60 million for box-plant acquisitions or strategic investments. It believed cash, operating cash flow, committed borrowing capacity and capital-market access would meet foreseeable liquidity needs.
- Key risks include economic and industry demand, product pricing and competition, fiber and energy cost volatility, unplanned facility outages, and environmental or tax law changes. Boiler MACT requirements could require significant mill modifications; timing and costs were uncertain.
- The IRS was reviewing the 2009 cellulosic biofuel credits. PCA had as much as $100.5 million in alternative energy tax credits available to offset future taxes, including amounts subject to uncertain tax positions; the tax treatment of alternative fuel mixture credits was not definitively resolved.
- PCA faced the Kleen Products antitrust class action alleging containerboard supply restrictions and price increases. The company disputed the allegations but could not predict the outcome or estimate a reasonably possible loss. Environmental reserves were $10.9 million; PCA said additional remediation costs were not reasonably expected to materially affect results.
- PCA reported compliance with debt covenants and effective disclosure controls as of June 30, 2012. It reported no material changes to the risk factors in its 2011 Form 10-K.
Important facts for investors to verify
- Review the reconciliation of reported and adjusted earnings, especially the alternative-energy tax-credit accounting and refinancing charges.
- Confirm the post-quarter redemption funding, premium and ongoing interest costs following the 2022 notes issuance.
- Monitor IRS review and the ultimate tax treatment and usability of alternative energy credits.
- Track the antitrust litigation, potential Boiler MACT compliance costs, and execution of the capital-spending and acquisition plans.
- Assess whether operating cash flow can sustain dividends, investment and debt service as working-capital needs and industry conditions change.