PPG INDUSTRIES INC annual report, FY2010

Business Context and Reporting Period

PPG Industries, Inc. is a global manufacturer of coatings, optical and specialty materials, commodity chemicals and glass. Its six reportable segments are Performance Coatings, Industrial Coatings, Architectural Coatings—EMEA, Optical and Specialty Materials, Commodity Chemicals and Glass. This Form 10-K covers the fiscal year ended December 31, 2010; fourth-quarter data are also provided, but the filing is an annual report rather than a quarterly filing.

PPG operates 121 manufacturing facilities in 41 countries and generated 27% of 2010 sales from developing regions. Sales are typically strongest in the second and third quarters, while operating cash flow is generally strongest in the fourth quarter because of receivables collection.

Financial Performance and Liquidity

Metric	2010	2009	Change
Net sales	$13,423 million	$12,239 million	Up 10%
Income before taxes	$1,295 million	$617 million	Up 110%
Net income attributable to PPG	$769 million	$336 million	Up 129%
Diluted EPS	$4.63	$2.03	Up 128%
Cash from operating activities	$1,310 million	$1,345 million	Down $35 million
Capital spending	$341 million	$265 million	Up $76 million
Dividends paid	$360 million	$353 million	Up $7 million

Net income attributable to PPG represented approximately 5.7% of sales. Cost of sales excluding depreciation and amortization was 61.2% of sales, versus 61.6% in 2009. Selling, general and administrative expense declined to 22.2% of sales from 24.0%.
Fourth-quarter 2010 sales were $3,379 million, net income attributable to PPG was $205 million and diluted EPS was $1.24, compared with fourth-quarter 2009 sales of $3,116 million, net income of $142 million and diluted EPS of $0.85.
Operating working capital declined to $2,595 million from $2,671 million, and declined to 19.2% of annualized fourth-quarter sales from 21.4%. Days sales outstanding improved to 66 days from 67 days, and inventory turnover increased to five times from four times.
Cash and cash equivalents were $1,341 million and short-term investments were $637 million at December 31, 2010, for approximately $2.0 billion of cash and short-term investments.
Total debt, including capital leases, was approximately $4,047 million; long-term debt was $4,043 million and short-term debt was $24 million. Debt represented 53% of total debt and equity, compared with 47% in 2009. No amounts were outstanding under the $1.2 billion revolving credit facility at year-end.
PPG issued $1 billion of notes in November 2010, receiving $983 million net of issuance costs. The notes mature in 2016, 2020 and 2040. The company stated that cash, operating cash flow and available debt capacity were sufficient to fund operations, capital spending, acquisitions, dividends, debt service, pension contributions, share repurchases and asbestos obligations.

Material Changes Versus the Prior Comparable Period

Sales increased primarily from higher volumes across all segments except Architectural Coatings—EMEA, with additional contributions from pricing, foreign currency and acquisitions.
Industrial Coatings sales increased 21% to $3,708 million and segment income increased to $378 million from $159 million, reflecting automotive OEM and emerging-market recovery.
Glass sales increased 16% to $985 million, and segment income improved to $74 million from a $39 million loss, primarily because of higher fiber-glass volumes and lower manufacturing costs.
Performance Coatings segment income increased to $661 million from $551 million. Optical and Specialty Materials segment income increased to $307 million from $235 million, and Commodity Chemicals segment income increased to $189 million from $152 million.
Architectural Coatings—EMEA sales declined 4% to $1,874 million and segment income declined to $113 million from $128 million because of lower volumes, unfavorable currency translation and inflation.
Coatings raw-material inflation increased costs by approximately $210 million in 2010, compared with a $150 million benefit from lower prices in 2009. Pricing and cost reductions partly offset the inflation, but pricing did not fully offset inflation in coatings during the second half of 2010.
The 2009 restructuring charge of $186 million did not recur in 2010. Restructuring actions were finalized by year-end, with approximately $250 million of annual savings from the completed 2008 and 2009 programs.
2010 included an $85 million after-tax charge, or $0.51 per diluted share, from a U.S. healthcare-law change affecting the tax deductibility of retiree medical costs. The effective tax rate increased to 32.0% from 31.0%.
PPG repurchased 8.1 million shares for $586 million in 2010, compared with 1.5 million shares for $59 million in 2009. Shares outstanding declined to approximately 160.4 million from 165.7 million.

Guidance, Outlook, Risks and Unusual Items

Management expected higher demand in 2011 as the global recovery broadened, while anticipating slower growth in emerging markets and continued weakness or only modest improvement in developed-market construction, particularly in Europe.
Management expected ongoing tax expense in the 26% to 27% range, pension and postretirement benefit costs to decline by approximately $20 million to $30 million, and 2011 capital spending of $375 million to $425 million.
PPG expected 2011 environmental remediation cash outlays of approximately $80 million and $50 million to $70 million annually through 2014. REACH compliance spending during 2011–2018 was estimated at $25 million to $40 million.
Natural-gas prices are material to Commodity Chemicals and Glass; each $1 per million British thermal unit change was estimated to affect annual operating costs by approximately $60 million to $70 million. PPG used hedges to manage a portion of this exposure.
Environmental reserves totaled $272 million at year-end, while reasonably possible unreserved environmental losses were estimated at $200 million to $400 million. The estimate increased from the previously reported range of $200 million to $300 million.
The proposed Pittsburgh Corning asbestos settlement remained subject to court approval and appellate processes. PPG recorded an asbestos-related obligation of approximately $821 million, including $578 million classified as current, and disclosed aggregate future settlement payments of approximately $825 million in cash plus PPG stock and other assets. The settlement was not effective at year-end.
Other contingencies include antitrust litigation related to flat glass, environmental proceedings, product liability claims, asbestos claims not covered by the proposed channeling injunction and export-control matters. In December 2010, PPG and a subsidiary agreed to penalties and fines totaling approximately $3.8 million, which were accrued in the fourth quarter.
Additional risks include raw-material and energy inflation, supply disruptions, foreign-exchange volatility, uneven economic recovery, international political and regulatory conditions, climate and chemical regulations, litigation outcomes and potential business interruptions.
Deloitte & Touche issued unqualified opinions on the consolidated financial statements and internal control over financial reporting. Management reported effective disclosure controls and internal controls as of December 31, 2010.

Important Facts for Investors to Verify

Reconcile reported earnings growth with the $85 million tax-law charge, asbestos-related charges, environmental costs and other unusual items.
Assess whether pricing actions and cost reductions can offset continued coatings raw-material inflation and energy-price volatility.
Review debt maturities, including approximately $477 million due in 2012 and $615 million due in 2013, against projected operating cash flow and liquidity.
Monitor court approval and the funding effective date of the proposed asbestos settlement, as well as the retained liability for non-channelled and premises claims.
Evaluate the $272 million environmental reserve and the additional reasonably possible unreserved exposure of $200 million to $400 million.
Confirm the sustainability of operating cash flow after capital spending, dividends, pension contributions, share repurchases and potential acquisitions.
Review pension and other postretirement obligations, including the combined year-end funded deficits of approximately $825 million for pensions and $1,235 million for other postretirement benefits.