OI

Business Context and Reporting Period

Company: Owens-Illinois, Inc. (O-I Glass, Inc.)
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2006
Business Overview: The Company is the world's largest manufacturer of glass containers and a leading manufacturer of healthcare packaging and plastic closure systems. Operations span 22 countries across Europe, North America, Asia Pacific, and South America. The Company operates two primary segments: Glass Containers (90% of 2006 sales) and Plastics Packaging (10% of 2006 sales).

Key Financial Metrics (2006)

Material Changes vs. Prior Period

• Revenue Growth: Consolidated net sales increased 4.8% to $7.42 billion, driven by a 6.1% increase in Glass Containers sales due to higher unit shipments, improved pricing, and favorable foreign currency rates. Plastics Packaging sales decreased 5.0% primarily due to the divestiture of the Asia Pacific plastics business in late 2005.
• Profitability Improvement: The Company reported a net loss of $27.5 million in 2006, a significant improvement from the $558.6 million loss in 2005. The 2005 loss was heavily impacted by a $494 million goodwill impairment and a $306.6 million deferred tax valuation allowance charge, neither of which recurred in 2006.
• Segment Performance: Glass Containers Segment Operating Profit decreased 5.0% to $751.3 million due to inflationary cost increases (energy, raw materials) offsetting price increases and productivity gains. Plastics Packaging Segment Operating Profit decreased 10.0% to $114.5 million.
• Asbestos Liability: The Company recorded a $120.0 million charge in Q4 2006 to increase the reserve for future asbestos-related costs, compared to a $135.0 million charge in 2005. Cash payments for asbestos costs decreased 5.0% to $162.5 million.
• Debt and Liquidity: Total debt increased to $5.46 billion. Working capital tightened significantly from $460 million in 2005 to $67 million in 2006 due to increased production inventories and receivables.

Guidance, Outlook, and Risks

Management Commentary: Management prioritizes increasing prices to offset inflation, improving liquidity, and achieving European integration synergies. The Company expects cash flow from operations and available credit ($765.6 million unused) to be sufficient to fund obligations.

Key Risks and Contingencies:

• Asbestos Litigation: Approximately 18,000 claims were pending as of year-end. The ultimate liability cannot be estimated with certainty, and future charges may materially affect results.
• High Leverage: With $5.5 billion in debt, the Company is vulnerable to economic downturns and interest rate fluctuations. Approximately 47% of debt is subject to variable rates.
• Energy Costs: Energy costs account for 15-20% of manufacturing costs. Higher energy prices negatively impacted operating profit by $153.5 million in 2006 compared to 2005.
• Goodwill Impairment: While no impairment was recorded in 2006, the Asia Pacific Glass unit remains sensitive to changes in projected cash flows or cost of capital.
• Accounting Changes: The Company adopted FAS No. 158 in 2006, resulting in a non-cash charge of $639.9 million to Accumulated Other Comprehensive Income to reflect the funded status of pension plans.

Investor Verification Checklist

• Asbestos Reserve Adequacy: Verify the assumptions used for the $120 million Q4 charge and the total accrued liability of approximately $3.11 billion.
• Working Capital Trends: Investigate the sharp decline in working capital ($393 million decrease) and its impact on liquidity covenants.
• Energy Hedging Effectiveness: Review the mark-to-market losses on natural gas hedges ($8.7 million loss in 2006) and exposure to future price volatility.
• Debt Covenants: Confirm compliance with financial covenants (interest coverage, leverage ratios) given the high debt load and reduced operating cash flow.
• Pension Funding: Assess the impact of the FAS No. 158 adoption on balance sheet equity and future cash contribution requirements ($55.3 million expected for 2007).