Packaging Corporation of America — Q3 2010 Form 10-Q
Business context and period. PCA manufactures and sells containerboard and corrugated packaging products. This unaudited quarterly report covers the three and nine months ended September 30, 2010; comparisons are with the corresponding 2009 periods unless noted.
Financial performance
| Metric | Q3 2010 | Q3 2009 | Nine months 2010 | Nine months 2009 |
|---|---|---|---|---|
| Net sales | $642.8 million | $553.6 million | $1,809.0 million | $1,615.3 million |
| Gross profit | $166.5 million | $110.5 million | $384.9 million | $339.0 million |
| Gross margin | 25.9% | 20.0% | 21.3% | 21.0% |
| Operating income (loss) | $(12.3) million | $96.3 million | $89.0 million | $281.7 million |
| Net income | $93.3 million | $72.7 million | $150.5 million | $207.2 million |
| Diluted EPS | $0.91 | $0.71 | $1.46 | $2.03 |
- Q3 sales rose 16.1%, reflecting $61.3 million of higher prices and $27.9 million of higher sales volume. Corrugated shipments increased 4.3%; containerboard sales to outside customers increased 12.0%.
- For the first nine months, sales rose 12.0%, mainly from higher volumes. Corrugated shipments increased 8.6% and outside containerboard sales increased 21.6%.
- Operating results and reported earnings were materially affected by alternative-energy tax-credit accounting. Excluding the tax-credit and specified asset-disposal and closure items, management reported Q3 net income of $61.7 million, or $0.60 diluted EPS, versus $25.3 million, or $0.25, in 2009. Nine-month adjusted net income was $113.3 million, or $1.10 diluted EPS, versus $79.7 million, or $0.78. These are non-GAAP measures.
- Cash from operations was $211.0 million for the nine months, versus $209.3 million. Capital expenditures were $230.9 million; investing cash outflow was $231.7 million. Financing cash outflow was $67.3 million, including $24.8 million of share repurchases and $46.4 million of dividends paid. Cash declined $87.9 million to $172.8 million.
- At September 30, total debt was approximately $658.0 million: $109.0 million under the receivables facility and $550.0 million of senior notes. Capital lease obligations were $22.7 million. Unused borrowing capacity under credit agreements was $172.2 million, net of letters of credit. PCA reported covenant compliance.
- Current assets were $813.0 million and current liabilities $426.1 million. The $150 million receivables facility, with $109 million outstanding, had been extended through March 1, 2011.
Material changes, outlook, and risks
- Tax credits: Following IRS guidance and receipt of its cellulosic biofuel producer registration, PCA reallocated 2009 black-liquor fuel volumes between credit programs. It recorded a $111.9 million charge reversing previously recognized alternative-fuel-mixture credit income and a $145.8 million income-tax benefit for cellulosic biofuel credits. The net Q3 income benefit was $33.4 million. PCA had $114.3 million of credits remaining to offset future federal cash taxes; the cellulosic credit carryforward expires December 31, 2015. Tax treatment remains subject to uncertainty, and PCA notes possible tax liability if benefits are determined taxable.
- Operating costs and outlook: Management expected Q4 2010 earnings excluding special items to be below Q3, citing seasonally lower volumes, three fewer corrugated shipping days, and expected higher wood, energy, and recycled-fiber costs. October recycled-fiber prices were about $20 per ton above the Q3 average; winter seasonality was expected to raise energy costs.
- Investment and liquidity: PCA forecast 2010 capital expenditures of $310–$320 million, including up to $180 million for energy-optimization projects at the Counce and Valdosta mills. It had spent $230.9 million through September and reported $183.4 million of additional committed spending for the remainder of 2010 and beyond. Management expected available cash, operating cash flow, tax credits, and borrowing and capital-market access to meet foreseeable needs; refinancing future maturities depends on market and business conditions.
- Legal and environmental matters: PCA and eight other producers were named in five purported class actions alleging a containerboard supply-and-price conspiracy from August 2005 onward; plaintiffs seek treble damages and costs. PCA denies the allegations and intends to defend itself. The environmental reserve was $9.3 million; management said additional environmental costs were not reasonably expected to have a material impact.
- Other notable items: PCA repurchased 1.09 million shares in Q3 for approximately $25.1 million at an average $22.94 per share; $36.8 million remained under the authorization. The Windsor, Colorado plant closure and energy-project asset disposals contributed to reported charges. Management cited economic conditions, industry demand and pricing, fiber and energy costs, facility interruptions, and environmental or tax regulation as risks.
Investor verification priorities
- Confirm the amount, utilization schedule, and tax treatment of the $114.3 million remaining credits, including the 2015 expiration and any exposure to reassessment.
- Review the containerboard antitrust cases, potential damages and defense developments; the filing does not provide a clear estimate of potential loss.
- Track Q4 and subsequent operating performance against the stated lower-earnings outlook and expected fiber, wood, and energy cost increases.
- Verify completion, spending, and expected returns of the Counce and Valdosta energy projects, along with capital commitments and available liquidity.
- Assess debt refinancing needs, credit-facility availability and covenants, and the effect of share repurchases and dividends on cash resources.