Quad/Graphics, Inc. — Q3 2012 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2012. Unaudited consolidated results. Quad/Graphics provides commercial printing and related media and logistics services, with United States and International operating segments. Its business is seasonal, with sales and operating income typically stronger in the second half of the year.
Financial results
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Net sales | $1,039.7 million | $1,109.4 million | $2,963.5 million | $3,109.0 million |
| Operating income from continuing operations | $59.1 million | $56.1 million | $51.4 million | $91.8 million |
| Operating margin | 5.7% | 5.1% | 1.7% | 3.0% |
| Net earnings (loss) attributable to common shareholders | $39.8 million | $(22.4) million | $66.4 million | $(40.0) million |
| Diluted earnings (loss) per share | $0.84 | $(0.48) | $1.41 | $(0.85) |
| Management-defined EBITDA and margin | $142.9 million; 13.7% | $90.9 million; 8.2% | $336.8 million; 11.4% | $292.3 million; 9.4% |
Q3 sales fell 6.3% year over year, primarily from lower print pricing and volumes; service sales also declined. Operating income rose $3.0 million despite lower sales, supported by integration savings and lower SG&A and restructuring charges. The nine-month operating income decline reflects the sales and margin impact, partly offset by cost savings. The reported nine-month net profit included a $35.3 million after-tax gain on the Canadian operations sale and a $46.0 million income tax benefit, including benefits from IRS audit settlements and expiring tax statutes; it should not be read as recurring operating performance.
Q3 net income also benefited from the absence of the prior-year $34.0 million debt-extinguishment loss and Canadian discontinued-operation losses. The company cautions that EBITDA and EBITDA margin are non-GAAP measures and not substitutes for GAAP earnings or operating cash flow.
Cash flow, debt and liquidity
- Nine-month operating cash flow was $232.2 million, compared with $162.9 million in 2011. Capital expenditures were $85.3 million, producing company-defined free cash flow of $146.9 million, versus $28.6 million.
- Cash and cash equivalents were $18.6 million at September 30, 2012, versus $25.6 million at year-end 2011. Restricted cash totaled $62.2 million and is not equivalent to unrestricted liquidity.
- Total debt was $1,294.1 million, down from $1,424.9 million at year-end 2011. The $850 million revolving facility had no borrowings outstanding; reported unused availability, net of letters of credit, was $807.3 million.
- Net cash used in financing was $196.0 million, including net debt repayments and $35.1 million of cash dividends. The company reported compliance with all debt covenants; leverage was 2.21x against a 3.50x maximum.
Material changes and management outlook
- Continued industry overcapacity, electronic-media substitution, lower volumes and pricing pressure weighed on sales and margins. Product cost as a percentage of sales rose year over year.
- Management reported $265 million of cumulative World Color Press synergy savings and estimated annual savings above $275 million, expecting the remaining savings substantially by year-end 2012. It expected total one-time integration costs below $225 million. Additional restructuring costs were expected in 2012.
- Since 2010, the company had announced 15 plant closures and reduced headcount by approximately 6,300. It planned $125–$150 million of capital investment in 2012; $85 million had been spent through September.
- On October 10, 2012, Quad announced a proposed $258.5 million asset purchase of substantially all Vertis businesses, subject to bankruptcy-court auction and approval, regulatory approval and other conditions. The company expected a possible close in Q1 2013 and planned to use cash and revolver borrowings.
- The company completed the sale of its Canadian operations to Transcontinental on March 1, 2012, recognizing a $35.3 million after-tax gain. It also invested $18.1 million for a minority interest in India-based ManipalTech.
- Goodwill remained under scrutiny because market capitalization had been below book equity for about a year. An interim assessment found no impairment in the U.S. or Latin American reporting units as of July 31, 2012; management reported no subsequent impairment indicators through September 30.
Risks, contingencies and unusual items
- Key risks include persistent print-industry pricing and demand pressure, customer contract and credit risks, technological substitution, cost inflation in labor, energy and materials, international exposure, and the ability to realize savings and maintain covenant compliance.
- The company estimated $91.1 million of multiemployer pension withdrawal liability; final amounts remain subject to discussions with plan administrators. The estimate may change.
- Bankruptcy claims from the former World Color Press proceedings remain unresolved. The company recorded $9.7 million of priority claims payable and $25.4 million of estimated unsecured notes to be issued; ultimate allowed claims could differ, and priority claims could require additional cash payments.
- Management said ordinary-course litigation was not expected to have a material financial impact. Environmental reserves and outcomes of claims are subject to change.
- A correction to deferred-tax liabilities related to the 2010 World Color Press acquisition reduced long-term deferred tax liabilities by $42.5 million, reduced goodwill by $19.2 million and increased other long-term liabilities by $23.3 million; management said it was not material and had no income-statement or cash-flow impact.
- The company declared a $0.25-per-share quarterly dividend on November 8, 2012, payable December 14, 2012.
Investor verification priorities
- Assess underlying sales and operating trends separately from the Canadian disposal, tax benefits, restructuring charges and other nonrecurring items.
- Verify whether management achieves the remaining integration savings and controls expected restructuring and integration costs.
- Review the Vertis transaction’s final price, court-auction outcome, financing, closing conditions and expected effect on debt and liquidity.
- Track resolution of multiemployer pension withdrawal liabilities and World Color Press bankruptcy claims, including potential changes to cash requirements.
- Monitor covenant headroom, debt reduction, capital spending and unrestricted liquidity amid continued industry volume and pricing pressure.