Graphic Packaging Holding Company — Q3 2011 Form 10-Q
Business context and reporting period
The company makes paperboard packaging, folding cartons, flexible packaging and related products for food, beverage and other consumer and industrial markets. This unaudited quarterly report covers the three and nine months ended September 30, 2011; comparisons are with the corresponding 2010 periods. Amounts are in U.S. dollars.
Financial performance and position
| Metric | Q3 2011 | Q3 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Net sales | $1,073.3 million | $1,042.8 million | $3,154.6 million | $3,083.4 million |
| Operating income (loss) | $(17.7) million | $78.5 million | $127.2 million | $160.9 million |
| Net income (loss) | $(47.5) million | $17.6 million | $11.3 million | $(8.9) million |
| Diluted EPS | $(0.12) | $0.05 | $0.03 | $(0.03) |
| Operating cash flow | — | $198.9 million | $169.0 million |
- Q3 sales rose 2.9%; nine-month sales rose 2.3%. Higher pricing and favorable currency were partly offset by lower volumes in several markets.
- Q3 operating loss included a $96.3 million non-cash goodwill impairment charge. Excluding that charge, management reported operating income of $78.6 million, versus $78.5 million a year earlier. The charge followed weaker-than-forecast results in a flexible-packaging reporting unit; its net after-tax impact was $80.0 million.
- Gross profit, calculated as sales less cost of sales, was $154.0 million in Q3 (about 14.4% of sales), compared with $155.1 million (about 14.9%) in Q3 2010. For nine months, it was $477.6 million (about 15.1%) versus $449.7 million (about 14.6%).
- Paperboard packaging operating income increased to $93.0 million in Q3 from $86.8 million and to $258.2 million for nine months from $237.5 million. Flexible packaging reported a Q3 operating loss of $94.2 million, including the impairment; its nine-month operating loss was $87.6 million.
- Net interest expense was $34.8 million in Q3 and $110.7 million for nine months, down from $44.0 million and $134.0 million, respectively, reflecting lower debt and average interest rates. The company reported a nine-month tax expense of $4.7 million; tax effects included goodwill-tax amortization and the impairment-related benefit.
- At September 30, cash was $157.1 million; current assets were $1,160.6 million and current liabilities $616.7 million. Total debt was $2,363.7 million, down from $2,579.1 million at December 31, 2010; net debt was approximately $2,206.6 million. Equity was $988.2 million.
- Nine-month investing cash use was $163.1 million, including $108.4 million of capital spending and $51.9 million to acquire Sierra Pacific Packaging. Financing cash use was $16.8 million. Operating cash flow less capital spending was approximately $90.5 million.
Material changes, outlook and risks
- The April and May equity offerings generated approximately $238 million net proceeds. The company used proceeds in part for debt reduction and to acquire Sierra; it also repurchased and retired shares held by the Coors Trust. Shares outstanding rose to 389.3 million at September 30 from 343.7 million at year-end 2010.
- The company prepaid $150 million of term loans and the remaining $73.3 million of 9.5% subordinated notes due 2013. It reported $372.1 million available under revolving facilities, including the effect of standby letters of credit, and was in compliance with debt covenants. Its consolidated secured leverage ratio was 2.49:1 against a maximum of 4.75:1.
- Management expected 2011 cost savings of $70–$90 million, capital investment of about $160 million, depreciation and amortization of about $280 million, interest expense of $145–$150 million, and $200–$220 million of net debt reduction from operations, in addition to equity-offering proceeds. Pension contributions were expected at $50–$60 million. These are expectations, not guarantees.
- Inflation increased costs by $117.8 million in the first nine months versus 2010, led by chemicals, labor, purchased board, fiber and freight. Management cautioned that pricing may not fully offset cost increases; market softness, lower volume, weak construction and industrial activity, and consumer demand could pressure results. Cost-saving execution and raw-material and energy prices remain important risks.
- Other unusual items included severance and accelerated depreciation associated with planned Cincinnati and Jacksonville facility closures, and the Sierra acquisition. The company disclosed environmental investigations and ordinary-course lawsuits, but said it did not expect the matters to have a material adverse effect; future remediation costs could not be estimated with certainty. No material risk-factor changes from the 2010 Form 10-K were reported.
- Management stated that operating cash, revolving availability and other financing sources were expected to be adequate for debt service, capital spending and working capital, while noting this depended on operating results and economic and credit-market conditions. Substantial debt, covenant restrictions, cost inflation and inability to pass costs through are key risks.
Important facts for investors to verify
- Review the assumptions and valuation inputs behind the $96.3 million flexible-packaging goodwill impairment and whether further impairment risk remains.
- Track pricing versus inflation, volume trends by segment, and whether targeted cost savings are being realized.
- Monitor debt reduction, interest-rate exposure, covenant headroom and revolving-credit availability against cash needs and planned capital investment.
- Assess Sierra acquisition performance and the effects of the equity offering and share repurchases on per-share results and dilution.