PPG

PPG Industries Inc. 10-Q Summary: Quarter Ended June 30, 2008

Business Context and Reporting Period

This Form 10-Q covers the three and six months ended June 30, 2008. PPG Industries, Inc. is a multinational manufacturer of paints, coatings, and specialty materials. The reporting period is significantly impacted by the January 2, 2008, acquisition of SigmaKalon Group, a global coatings producer, for approximately $3.2 billion. Additionally, the Company reclassified its automotive glass and services business from discontinued to continuing operations following a new divestiture agreement announced in July 2008.

Key Financial Metrics

Margins: Cost of sales as a percentage of sales was 63.2% in Q2 2008 compared to 63.4% in Q2 2007. Selling, general, and administrative (SG&A) expenses rose to 20.9% of sales in Q2 2008 from 17.9% in Q2 2007, primarily due to the SigmaKalon acquisition.

Material Changes vs. Prior Period

• Revenue Growth: Net sales increased 42% in Q2 2008 and 40% YTD 2008. Approximately 32% of the Q2 increase was attributable to acquisitions (SigmaKalon), with foreign currency translation contributing 5%, price increases 3%, and volume increases 2%.
• Profitability: While net income remained flat in Q2 ($250M vs $249M), YTD net income declined 21% ($350M vs $443M). This decline is largely due to one-time acquisition-related costs of $117 million (pre-tax) in the first half of 2008, including inventory step-up and in-process R&D write-offs.
• Debt Structure: Total debt increased significantly to finance the SigmaKalon acquisition. The Company issued $1.538 billion in notes in March 2008 to refinance bridge loans and assumed $1.517 billion in SigmaKalon debt. The debt-to-total-capitalization ratio rose to 48% from 42%.
• Segment Performance: A new reportable segment, Architectural Coatings-EMEA, was established due to the acquisition. Performance Coatings and Industrial Coatings saw sales increases of 30% and 22% respectively in Q2 2008.

Guidance, Outlook, and Risks

• Restructuring: Management is evaluating manufacturing footprint and workforce reductions to integrate SigmaKalon and address rising costs. They expect to establish restructuring reserves of $150 million to $300 million by year-end.
• Divestiture: PPG agreed to sell its automotive glass and services business for $330 million in cash plus a 40% minority interest in the new entity. The transaction is expected to close in Q3 2008.
• Asbestos Litigation: The Company remains subject to a proposed settlement arrangement regarding asbestos claims. While a liability of $909 million ($613M current, $296M long-term) is recorded, the final confirmation of the bankruptcy plan remains pending. If the settlement fails, the Company faces unpredictable litigation risks.
• Environmental Contingencies: Reserves for environmental remediation totaled $284 million. Unreserved losses are estimated to be between $200 million and $300 million, primarily related to a former chromium plant in New Jersey and the Calcasieu River Estuary in Louisiana.
• Export Control Investigation: The Company is cooperating with the U.S. Department of Commerce and DOJ regarding a potential violation of export control laws involving protective coatings exported to Pakistan in 2006.

Investor Verification Checklist

• Verify the final purchase price allocation for the SigmaKalon acquisition, specifically the valuation of goodwill and intangible assets, as this impacts future amortization expenses.
• Monitor the status of the Pittsburgh Corning (PC) bankruptcy plan confirmation, as failure to confirm could materially alter the asbestos liability and future litigation exposure.
• Track the progress of the New Jersey chromium plant remediation feasibility study, as regulatory approvals could trigger significant cash outlays beyond current reserves.
• Confirm the closing date and final terms of the automotive glass divestiture to Kohlberg & Company.
• Review the outcome of the U.S. government investigation into export control violations to assess potential fines or penalties.