Tredegar Corporation — FY2017 Form 10-K
Business and period. This annual report covers the fiscal year ended December 31, 2017. Tredegar manufactures polyethylene films (PE Films), polyester flexible packaging films (Flexible Packaging Films, or Terphane), and aluminum extrusions (Aluminum Extrusions, or Bonnell Aluminum). Results include Futura Industries from its February 15, 2017 acquisition.
Financial performance
| Metric | FY2017 | FY2016 |
|---|---|---|
| Sales, including freight | $961.3 million | $828.3 million |
| Net sales, excluding freight | $927.6 million | $799.3 million |
| Gross margin | 15.8% | 15.8% |
| Income (loss) before taxes | $(14.9) million | $27.7 million |
| Income tax benefit (expense) | $53.2 million benefit | $3.2 million expense |
| Net income | $38.3 million | $24.5 million |
| Diluted EPS | $1.16 | $0.75 |
| Cash from operating activities | $88.2 million | $48.9 million |
| Capital expenditures | $44.4 million | $45.5 million |
| Cash and cash equivalents | $36.5 million | $29.5 million |
| Debt / net debt | $152.0 million / $115.5 million | $95.0 million / $65.5 million |
FY2017 net income included significant unusual and noncash items: a $101.3 million Terphane asset impairment, a $33.8 million pretax unrealized gain on Tredegar’s private kaléo investment, an $11.9 million gain from a Terphane acquisition escrow settlement, and substantial tax benefits from Terphane worthless-stock deductions and the U.S. tax-law change. These items make reported earnings less representative of underlying operating performance. Cash flow benefited from the escrow receipt and lower tax payments, among other factors.
Segment results and changes
- PE Films: Net sales rose 6.4% to $352.5 million; ongoing operating profit rose 57.9% to $41.5 million. Surface protection and personal care volume/mix improvements and production efficiencies contributed to the recovery.
- Flexible Packaging Films: Net sales were nearly flat at $108.4 million, while ongoing operations moved to a $2.6 million loss from $1.8 million profit. Pricing pressure, raw-material costs, Brazilian inflation and plant power outages weighed on results.
- Aluminum Extrusions: Net sales increased 29.6% to $466.8 million and ongoing operating profit increased 15.0% to $43.5 million. Futura contributed $71.0 million of sales and $8.2 million of ongoing operating profit; excluding Futura, operating profit declined.
Consolidated sales increased 16.1%, largely reflecting Futura, while gross margin remained unchanged. Operating cash flow increased $39.3 million year over year. Futura’s approximately $87 million initial cash funding was principally financed with the revolving credit facility.
Liquidity, debt and capital allocation
- Working capital was approximately $133.0 million, based on current assets of $283.8 million and current liabilities of $150.8 million.
- The secured $400 million revolving credit facility matures March 1, 2021; approximately $248 million was available at year-end, subject to the most restrictive covenant. Tredegar reported covenant compliance, a 1.50x leverage ratio versus a 4.00x maximum, and 10.17x interest coverage versus a 2.50x minimum.
- The company paid $14.5 million in dividends, or $0.44 per share, in 2017. Management stated that existing cash, borrowing availability and operating cash flow should meet working-capital, capital-expenditure and dividend requirements for at least 12 months.
- The U.S. defined-benefit pension plan was underfunded by $91.8 million at year-end; expected 2018 cash contributions were approximately $5.3 million.
Outlook, risks and contingencies
- Management estimated that a personal-care product transition after 2018 could reduce annual sales by about $70 million sometime during 2019–2021; timing, profit effects and investment needs remain uncertain. The company is pursuing new products, capacity and customer diversification.
- Possible customer shifts to alternative surface-protection processes or materials could reduce annual ongoing operating profit by an estimated $5–$10 million; timing and ultimate impact are uncertain.
- Management projected 2018 capital expenditures of approximately $53 million for PE Films, $5 million for Flexible Packaging Films and $15 million for Aluminum Extrusions. It expected an approximately 22% effective tax rate for ongoing operations in 2018 following U.S. tax reform.
- Terphane faces Latin American PET overcapacity, competitive pricing, Brazilian inflation and currency exposure. It entered currency hedges covering part of its U.S.-dollar sales/Brazilian-real cost mismatch. Its 2017 impairment reduced the carrying value of its assets based on an estimated enterprise value of about $30 million.
- Other material risks include PE Films’ customer concentration and customer transitions, cyclical aluminum demand and capacity constraints, volatile raw-material and energy costs, acquisition integration, pension funding, environmental obligations, and credit-covenant compliance. PE Films’ top five customers represented 68% of its segment net sales; P&G sales were $122.4 million.
- The company settled the Terphane escrow arrangement but assumed related claims; it estimated possible future claims of approximately $3.5 million. Environmental remediation and other legal or indemnification exposures remain subject to uncertainty. No material legal proceedings were listed in Item 3.
- The estimated $54.0 million fair value of Tredegar’s approximately 20% kaléo interest is based on unobservable assumptions, including a 45% discount rate, and may differ materially from realizable value. A 500-basis-point change in that rate would alter the estimated value by roughly $10–$11 million.
Important facts for investors to verify
- How much FY2017 earnings and operating cash flow are sustainable after separating the Terphane impairment, tax benefits, kaléo revaluation, escrow settlement and other unusual items.
- Whether PE Films can replace the anticipated personal-care business and mitigate potential surface-protection transitions, including the required capital spending and timing.
- Whether Terphane can restore profitability amid excess capacity, cost inflation and currency volatility, and whether its 2017 valuation assumptions remain supportable.
- Futura’s post-acquisition performance, integration progress, and the expected $5 million earnout-related refund.
- Debt, covenant headroom, pension contributions and planned capital expenditures under weaker operating or market conditions.