Graphic Packaging Holding Company — Q2 2020 Form 10-Q
Business context and reporting period
Global paper-based packaging producer serving food, beverage, foodservice and consumer-products markets. This unaudited quarterly report covers the three and six months ended June 30, 2020; comparisons are to the corresponding 2019 periods. Unless noted, financial amounts are in millions of dollars.
Financial performance and position
| Metric | Q2 2020 | Q2 2019 | First half 2020 | First half 2019 |
|---|---|---|---|---|
| Net sales | $1,611.0 | $1,552.8 | $3,210.1 | $3,058.7 |
| Income from operations | $114.8 | $144.4 | $274.8 | $278.4 |
| Net income | $66.7 | $86.1 | $46.9 | $164.2 |
| Net income attributable to GPHC | $52.1 | $63.8 | $39.4 | $121.7 |
| Diluted EPS attributable to GPHC | $0.19 | $0.22 | $0.14 | $0.41 |
Q2 operating margin was approximately 7.1%, versus 9.3% a year earlier; first-half operating margin was 8.6%, versus 9.1%. Q2 sales grew 3.7%, while operating income fell 20.5%. First-half sales grew 4.9%, while operating income declined 1.3%. First-half net income included a $152.5 noncash pension settlement charge; the settlement also drove a $151.0 nonoperating pension and postretirement expense.
For the first half, operating cash flow was $143.8, investing cash flow was negative $388.7, and financing cash flow was positive $180.4. Cash declined $69.3 to $83.6. Capital spending was $306.6, and acquisitions used $122.6. Management attributed improved operating cash flow partly to changes in receivables-sale programs and improved operations.
At June 30, cash was $83.6; current assets were $2,050.0 and current liabilities $1,612.8. Debt principal was $3,529.3; balance-sheet short-term/current debt was $483.2 and long-term debt was $3,028.8. Available revolving-credit capacity was $1,364.6. The company reported compliance with debt covenants: leverage ratio 3.02 against a maximum of 4.25, and interest coverage 8.54 against a minimum of 3.00. Approximately 38% of debt carried floating rates.
Material changes and drivers
- Sales growth reflected acquisitions, higher prices and organic volume growth, partly offset by lower open-market paperboard volume and unfavorable foreign exchange. Acquisitions contributed $85.2 of Q2 sales and $114.1 for the first half.
- Q2 operating income was pressured by product mix, planned mill maintenance, exit costs, a higher multi-employer pension settlement accrual, and labor and benefit inflation. Higher prices, productivity savings, volume growth and commodity deflation provided offsets.
- Americas Paperboard Packaging improved: Q2 operating income was $157.1 versus $125.3. Paperboard Mills swung to a Q2 operating loss of $35.3 from income of $12.5, amid weaker open-market sales, mix and maintenance. Europe Q2 operating income rose to $20.7 from $15.5.
- Debt increased from year-end, including a $450.0 issuance of 3.50% senior notes due 2028. Proceeds repaid part of revolving-credit borrowings. The company also paid $250.0 to redeem part of International Paper’s GPIP interest, reducing its ownership from 21.6% to 18.3%.
- First-half share repurchases totaled 12.3 million shares at an average $12.82; approximately $305 remains available under the program. The quarterly dividend was $0.075 per share.
Outlook, risks and unusual items
- 2020 outlook: capital investment approximately $625; depreciation and amortization approximately $460, excluding about $6 of pension amortization and $26 of accelerated exit-related depreciation; pension contributions expected at $10–$20.
- Management said COVID-19 had not materially affected overall business or results to date, but described uncertain risks to operations, supply chains, employees, customer demand and markets. Food and beverage packaging volumes benefited, while some foodservice demand weakened. The company expected SBS mill market downtime in Q3 due to reduced cupstock demand.
- The company expects not to be a meaningful U.S. federal cash taxpayer until 2024, based on NOLs, other tax attributes, planned capital projects and anticipated IP ownership reductions.
- Exit activity costs were $33.0 in the first half. The company expects $15–$20 of further post-employment, retention and incentive charges and $50–$60 of accelerated depreciation and asset/inventory write-offs related to two smaller CRB mill closures planned for 2022. Additional Greif facility closures were planned by year-end 2020.
- The company announced an approximately $600 investment in a new Kalamazoo CRB paper machine, with two smaller mills expected to close in 2022 to remain capacity neutral. Environmental remediation, litigation, commodity and energy volatility, customer/product substitution, competition, debt and covenant limitations, and execution of cost-saving and acquisition plans remain risks. Management said ordinary-course lawsuits were not expected to have a material adverse effect; environmental outcomes and some potential costs remain uncertain.
- Management stated that cash from operations and available financing should be adequate for debt service, capital spending and operating needs, but gave no assurance. Credit ratings were BB+ from S&P and Ba1 from Moody’s, both with stable outlooks.
Important facts for investors to verify
- Whether COVID-related demand shifts, including foodservice weakness and expected Q3 SBS downtime, persist or change.
- Underlying operating performance excluding pension settlement, exit charges, acquisition impacts and other special items; particularly the continuing weakness in Paperboard Mills.
- Execution, final costs and expected returns of the Kalamazoo machine investment, mill closures and Greif integration.
- Debt, liquidity, covenant headroom and the effects of planned capital spending, dividends, repurchases and further IP ownership exchanges.
- Whether receivables-sale program changes and working-capital movements support repeatable operating cash flow.
- Accuracy of pension and multi-employer withdrawal estimates, tax assumptions supporting the expected 2024 federal cash-tax timing, and any material environmental or legal developments.