Packaging Corporation of America — Q2 2011 Form 10-Q
Business context and reporting period. PCA manufactures containerboard and corrugated packaging, primarily in the United States. This unaudited filing covers the quarter and six months ended June 30, 2011; comparisons are with the corresponding 2010 periods. PCA reported one business segment.
Financial performance
| Metric | Q2 2011 | Q2 2010 | Six months 2011 | Six months 2010 |
|---|---|---|---|---|
| Net sales | $665.5M | $615.5M | $1,295.0M | $1,166.2M |
| Gross profit | $136.9M | $131.7M | $270.0M | $218.5M |
| Income from operations | $67.9M | $67.7M | $133.8M | $101.4M |
| Net income | $39.4M | $38.0M | $76.8M | $57.2M |
| Diluted EPS | $0.39 | $0.37 | $0.76 | $0.56 |
| Gross margin | 20.6% | 21.4% | 20.9% | 18.7% |
Quarterly sales rose 8.1%, mainly from higher volume ($35.9M) and prices ($14.1M). Operating income was nearly flat: price and volume gains were offset by higher chemical, transport, labor, energy, recycled-fiber and other costs. First-half sales increased 11.0%; operating income rose 32.0%. First-half 2010 included a $9.2M alternative-fuel tax-credit benefit; excluding listed special items, first-half diluted EPS was $0.78 in 2011 versus $0.50 in 2010. Management’s adjusted Q2 net income was $39.6M ($0.39 per diluted share), compared with $39.1M ($0.38) in 2010.
Cash flow and investment. First-half operating cash flow was $165.2M, versus $108.6M in 2010. Capital expenditures were $145.2M; acquisition spending was $26.9M. Investing cash outflow totaled $178.2M. Financing cash outflow was $64.4M, including $45.4M of share repurchases and $35.8M of dividends paid. Cash declined $77.4M to $119.2M.
Balance sheet and liquidity. At June 30, cash was $119.2M and current assets were $742.3M versus current liabilities of $425.7M. Debt was approximately $658.3M carrying value, plus $22.2M in capital lease obligations. Debt included $109.0M under the receivables facility and $550.0M face value of senior notes, including $400.0M due August 2013. PCA reported $176.7M of unused borrowing capacity, net of letters of credit, and compliance with debt covenants. Total assets were $2.26B and stockholders’ equity was $1.02B.
Material changes and business developments
- Corrugated shipments increased 3.2% in Q2; outside containerboard sales volume increased 19.5%. First-half corrugated shipments rose 3.2% and outside containerboard volume rose 9.8%.
- Higher input costs pressured quarterly margins. Recycled-fiber prices were 30% above Q2 2010 and rose a further 8% in July; diesel was 33% higher year over year, and caustic soda prices rose 45%.
- PCA acquired Field Packaging Group on April 14 for $26.9M. Preliminary allocation included $14.7M of goodwill and $6.3M of customer-list intangibles; allocation was to be finalized by the end of Q3.
- The $150M share-repurchase authorization was completed in Q2. A separate $100M authorization had $80.7M remaining at June 30. PCA repurchased $45.4M of shares in the first half.
- The quarterly dividend was increased from $0.15 to $0.20 per share, effective with the dividend paid April 15, 2011.
Outlook, risks and contingencies
- Management expected Q3 earnings excluding special items to exceed Q2, citing higher sales volumes, increased mill production and less downtime. The Counce mill was expected to slow during recovery-boiler rebuilds; recycled fiber, electricity and fuel costs were expected to rise.
- 2011 capital spending was expected to total $260M, including $115M for energy optimization at the Counce and Valdosta mills. Those projects were scheduled for completion in Q4 2011; benefits and returns depend on energy prices, operating rates and completion costs.
- A fire at the Valdosta mill on April 4 caused an estimated 11,000 tons of lost production and sales. PCA received $6.5M of insurance proceeds, net of a $3M deductible, and expected additional proceeds as capital work was completed.
- PCA had a $102.1M reserve for uncertain cellulosic biofuel tax positions. The IRS review of the 2009 return and claimed credits was underway. Including the reserve, the company reported up to $179M of tax credits available to offset future federal taxes; use depends on future taxable income and credits may expire after 2015. Tax treatment remains uncertain and an adverse determination could require taxes and an income charge.
- A consolidated antitrust class action alleges containerboard supply and price-fixing violations and seeks treble damages. The court denied defendants’ motions to dismiss in April 2011. PCA disputed the allegations but could not estimate a reasonably possible loss.
- PCA maintained a $9.9M environmental reserve and said additional remediation and asset-retirement spending was not reasonably expected to have a material impact. Potential Boiler MACT requirements could require significant boiler modifications; timing and costs remained uncertain following an EPA delay and reconsideration.
- Key stated risks include economic and industry conditions, product demand and pricing, fiber and energy costs, facility outages, and environmental or tax regulation. The filing reported no material changes to the 2010 Form 10-K risk factors.
Important facts for investors to verify
- Whether Q3 volume and production gains offset the expected increases in fiber, electricity and fuel costs and the Counce rebuild slowdown.
- Progress, spending, completion timing and realized savings from the Counce and Valdosta energy projects.
- IRS findings and the recoverability, timing and expiration risk of the biofuel tax credits, including the $102.1M reserve.
- Developments in the antitrust litigation and any change in PCA’s ability to estimate potential exposure.
- Insurance recovery still due for the Valdosta fire, and final purchase-price allocation for Field Packaging Group.
- Debt refinancing plans for the $400M notes due in 2013, liquidity and covenant headroom, and the pace of remaining share repurchases.