International Paper Company — 2016 Second-Quarter Form 10-Q Summary
Business Context and Reporting Period
Unaudited quarterly report for the three and six months ended June 30, 2016. International Paper operates through Industrial Packaging, Printing Papers and Consumer Packaging, and reports equity earnings from its 50%-owned Ilim joint venture in Russia.
Key Financial Metrics
| Metric | Q2 2016 | Q2 2015 | Six Months 2016 | Six Months 2015 |
|---|---|---|---|---|
| Net sales | $5.322 billion | $5.714 billion | $10.432 billion | $11.231 billion |
| Net earnings attributable to International Paper | $40 million | $227 million | $374 million | $540 million |
| Diluted EPS | $0.10 | $0.54 | $0.90 | $1.28 |
| Industry segment operating profit | $628 million | $676 million | $1.125 billion | $1.299 billion |
| Cash provided by operations | Not separately provided | Not separately provided | $1.225 billion | $753 million |
| Free cash flow | Not separately provided | Not separately provided | $838 million | $830 million |
- Q2 consolidated net margin was approximately 0.8%; six-month net margin was approximately 3.6%. Q2 industry segment operating margin was approximately 11.8%.
- Cash and temporary investments were $1.254 billion at June 30, 2016, versus $1.050 billion at December 31, 2015.
- Total reported debt, including current maturities, was approximately $9.446 billion; nonrecourse financial liabilities of special purpose entities were an additional $6.281 billion.
- Contractual debt maturities totaled $588 million in 2016, $60 million in 2017, $778 million in 2018, $412 million in 2019, $170 million in 2020, $644 million in 2021 and $6.8 billion thereafter.
- Credit agreements totaled $2.35 billion, including $1.45 billion of net liquidity available under the principal committed bank facility. Long-term ratings were BBB and Baa2, both with stable outlooks, from S&P and Moody’s.
- Capital spending was $637 million in the first six months. Full-year 2016 capital spending was expected to be approximately $1.3 billion.
- Cash dividends were $0.44 per share in Q2 and $0.88 per share for the first six months, compared with $0.40 and $0.80, respectively, in the prior-year periods.
Material Changes Versus Comparable Periods
- Q2 sales declined 7% year over year, while six-month sales declined 7%. The primary sales pressure was lower pricing and mix, particularly in Industrial Packaging and pulp-related businesses.
- Q2 net earnings attributable to International Paper fell to $40 million from $227 million. The largest factor was a $439 million non-cash pension settlement accounting charge associated with a $1.2 billion lump-sum pension buyout.
- Q2 operating profit declined to $628 million from $676 million. Lower pricing and mix reduced results, partly offset by higher volumes, lower maintenance outage costs, lower raw-material and freight costs, and lower interest expense.
- Industrial Packaging operating profit declined to $459 million from $528 million; Printing Papers declined to $96 million from $101 million; Consumer Packaging increased to $73 million from $47 million.
- Q2 equity earnings from Ilim declined to $46 million from $67 million, primarily reflecting lower pricing and higher input and maintenance costs.
- Operating cash flow increased to $1.225 billion from $753 million, while free cash flow was broadly stable at $838 million versus $830 million. The comparison benefited from lower pension contributions in 2016: $250 million versus $750 million in 2015.
- Unlike Q2 2015, which included $194 million of restructuring and other charges, Q2 2016 recorded no restructuring charge. Q2 2016 nevertheless included $28 million of charges related to the Asia packaging business sale and $5 million of Weyerhaeuser transaction costs.
Guidance, Outlook, Risks and Unusual Items
- Management expected relatively stable Q3 volumes overall, with seasonal declines in EMEA Industrial Packaging and expected higher volume in some Printing Papers and pulp businesses.
- Q3 pricing was expected to be modestly unfavorable in North American Industrial Packaging because of the remaining effect of first-quarter index changes; pricing elsewhere was generally expected to be stable.
- Input costs were expected to rise for recycled fiber and energy in Industrial Packaging and for energy in North American Printing Papers. Planned maintenance outage costs were expected to decline from the heavy Q2 outage schedule.
- Riegelwood pulp conversion ramp-up was expected to create an unfavorable mix because of increased production of lower-margin softwood rolls. The company also expected additional costs related to the Holmen acquisition.
- On May 1, 2016, International Paper agreed to acquire Weyerhaeuser’s pulp business for $2.2 billion in cash, subject to adjustments, including approximately $88 million of assumed debt. Closing was expected in Q4 2016, subject primarily to regulatory approvals. The expected tax benefit had an estimated net present value of approximately $300 million.
- On June 30, 2016, the company acquired Holmen Paper’s Madrid mill, recycling operations and a 50% cogeneration interest for approximately $61 million. The mill is intended to be converted to recycled containerboard with expected capacity of 380,000 metric tonnes.
- The company completed the sale of its China and Southeast Asia corrugated packaging business for approximately $149 million, with $24 million of deferred payments and buyer assumption of approximately $55 million of loans. The transaction generated $65 million of six-month pre-tax charges, including asset impairment and severance.
- Management expected an additional voluntary pension contribution of $500 million in the second half of 2016. The June 30 pension remeasurement increased the qualified plan funding deficit by approximately $602 million versus year-end 2015.
- Material contingencies include environmental remediation reserves of approximately $92 million, additional remediation liabilities of approximately $41 million, Kalamazoo River and San Jacinto River proceedings, antitrust litigation involving containerboard, and a $92 million Brazil tax assessment that was vacated at first instance but could be appealed. Management stated that material losses were not considered probable for the principal unresolved matters, although several exposures could not yet be estimated.
- Key forward-looking risks include debt and interest rates, product pricing and demand, raw-material, energy and transportation costs, foreign exchange, pension funding, environmental and litigation costs, manufacturing disruptions, joint-venture performance, regulatory approval and financing of the Weyerhaeuser acquisition, and realization of expected acquisition benefits.
Important Facts for Investors to Verify
- Whether the Weyerhaeuser pulp acquisition closed on schedule, received all required approvals and achieved the expected synergies and tax benefits.
- The effect of the pension remeasurement, planned $500 million contribution and lower discount rate on future pension expense, cash flow and balance-sheet obligations.
- Pricing, mix and input-cost trends in Industrial Packaging and pulp, particularly recycled fiber, energy, wood and freight.
- Post-close proceeds, deferred payments, liabilities and operating results associated with the Asia packaging divestiture.
- Debt refinancing needs, the closing of the subsequently priced $1.1 billion 2027 notes and $1.2 billion 2047 notes, and maintenance of investment-grade ratings.
- Developments in environmental, antitrust and tax proceedings, including the Kalamazoo River allocation litigation and Brazil tax assessment.
- The company’s use of non-GAAP Operating Earnings and Free Cash Flow, including reconciliation to GAAP results and the impact of special items and non-operating pension expense.