Sonoco Products Company — Form 10-Q Summary
Period: Quarter and nine months ended September 30, 2018; comparisons are with the quarter and nine months ended October 1, 2017. Amounts below are in U.S. dollars; financial statement figures are unaudited. The company provides consumer and industrial packaging, protective packaging, and related services through four reportable segments.
Financial performance
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net sales | $1,364.8m | $1,324.6m | $4,035.3m | $3,737.6m |
| Gross profit | $259.6m | $252.9m | $786.7m | $714.2m |
| Operating profit | $101.6m | $123.2m | $343.5m | $322.1m |
| Net income attributable to Sonoco | $72.4m | $72.8m | $235.9m | $169.7m |
| Diluted EPS | $0.72 | $0.72 | $2.34 | $1.68 |
| Cash dividends per share | $0.41 | $0.39 | $1.21 | $1.15 |
Margins: Gross margin was 19.0% in Q3 versus 19.1%; for the nine-month period it was 19.5% versus 19.1%. Q3 base diluted EPS, a non-GAAP measure, was $0.86 versus $0.76; nine-month base diluted EPS was $2.53 versus $2.07. Management’s base measures exclude specified restructuring, acquisition, pension, tax, and other items and should be considered alongside GAAP results.
Cash flow and liquidity: Nine-month operating cash flow was $451.5m versus $281.0m. Investing activities used $262.1m, including $135.4m of capital spending and $151.0m of acquisition-related spending; financing activities used $189.5m. Cash and equivalents were $250.4m at September 30, 2018, compared with $254.9m at year-end 2017. Total debt was $1.387bn, down from $1.447bn at year-end. The company reported covenant compliance with substantial headroom over minimum requirements.
Material changes and operating drivers
- Q3 sales rose 3.0%, reflecting $25m of volume/mix growth, $6m of pricing and $31m from acquisitions, partly offset by $22m of foreign currency translation and other effects. Nine-month sales increased 8.0%, including $152m from acquisitions and divestitures.
- Q3 GAAP operating profit fell 17.6%, while nine-month operating profit increased 6.7%. Restructuring and impairment charges were $22.1m in Q3 and $28.7m year to date, materially above the prior-year comparable amounts.
- Paper and Industrial Converted Products was the strongest major profit contributor: segment operating profit increased 23.4% in Q3 and 33.8% year to date, supported by favorable price/cost conditions and improved corrugating-medium operations. Consumer Packaging profit declined 18.7% in Q3 and 4.2% year to date, with resin, freight, wage, and other cost pressures. Display and Packaging’s year-to-date profit fell 27.3%; Protective Solutions’ rose 4.4%.
- Lower OCC costs and higher selling prices benefited much of the paper and tube business. Higher management incentives, wage and operating inflation, foreign exchange effects, and Hurricane Florence partly offset those benefits.
- The effective tax rate declined to 21.0% for Q3 and 24.0% year to date, versus 33.4% and 32.3%. The company attributed the decline primarily to U.S. tax-law changes and releases of uncertain-tax-position reserves.
Outlook, risks, and unusual items
- Hurricane Florence: The company estimated a Q3 and year-to-date earnings impact of approximately $4.8m, or $0.04 per diluted share, from lost production and sales. Operations had returned to production by the filing date. Management expected an additional Q4 impact of approximately $0.02–$0.03 per diluted share. About $8.0m of flood-related costs were offset by a $10.0m advance insurance payment, apart from the stated self-insured retention; insurance recovery remains subject to the policy terms.
- Restructuring: Actions included multiple facility closures, workforce reductions, and exit from a single-customer Atlanta-area packaging contract. Approximately $3.9m of additional charges were expected for announced actions, mostly to be incurred and paid by year-end 2018; further restructuring actions were possible.
- Acquisitions: Highland Packaging Solutions was acquired in April for total consideration of $148.5m. After quarter-end, on October 1, the company acquired the remaining 70% of Conitex Sonoco for approximately $133m cash and a Spanish rigid-paper facility for approximately $10m. These transactions will affect subsequent-period results and liquidity.
- Goodwill: No impairment was identified in the 2018 annual test. Management said the Display and Packaging reporting unit’s approximately $203m of goodwill was at risk if performance or outlook weakened. Its estimated fair value was approximately equal to carrying value; a 10% reduction in projected operating profits or a 100-basis-point increase in the discount rate was estimated to produce an approximately $25m pretax impairment.
- Tax dispute: The IRS proposes an approximately $89m incremental tax liability, excluding interest, and $18m in penalties concerning a 2013 tax matter. The dispute had moved to the IRS Appeals Division. Sonoco disputes the IRS position, has not recorded an additional reserve, and says an adverse outcome could materially affect results and financial condition.
- Other commitments and accounting: Environmental contingencies accrued were $19.4m. The company expected approximately $9m of additional pension and postretirement contributions during the remainder of 2018. It expected capital spending not to exceed $80m for the remainder of 2018. Adoption of lease accounting in 2019 was expected to materially increase the balance sheet through recognition of operating-lease assets and liabilities; the income-statement impact remained under evaluation.
- The filing provides no clear numerical full-year earnings or revenue guidance. Management noted that quarterly and interim results are not necessarily indicative of full-year results.
Most important facts for investors to verify
- Whether underlying segment margins and price/cost benefits persist, particularly in Paper and Industrial Converted Products, and whether Consumer Packaging cost pressures ease.
- The ultimate Q4 and insurance-recovery impact of Hurricane Florence, including the stated business-interruption estimate and self-insured retention.
- Execution and financing effects of the post-quarter Conitex Sonoco and Spain acquisitions, and their contribution to debt, cash flow, and segment performance.
- Progress on the IRS dispute, including potential tax, interest, and penalty exposure; the filing records no additional reserve for the proposed matter.
- Whether Display and Packaging meets the assumptions supporting its goodwill valuation, and whether announced restructuring delivers expected savings without additional charges.
- The scale of operating-lease liabilities recognized upon adoption of the new lease standard and any resulting income-statement effects.