Business context and reporting period
Sonoco Products Company’s Form 10-K covers the fiscal year ended December 31, 2012; it is an annual filing, not a standalone fourth-quarter filing. Sonoco manufactures consumer and industrial packaging and provides packaging services, operating 347 locations in 34 countries across four reportable segments. The filing also provides unaudited fourth-quarter results.
Financial performance and position
| Metric | 2012 | 2011 |
|---|---|---|
| Net sales | $4.786 billion | $4.499 billion |
| Net income attributable to Sonoco | $196.0 million | $217.5 million |
| Diluted GAAP EPS | $1.91 | $2.13 |
| Diluted base EPS (non-GAAP) | $2.21 | $2.29 |
| Cash provided by operations | $403.9 million | $245.3 million |
| Capital expenditures | $214.9 million | $173.4 million |
| Total debt at year-end | $1.373 billion | $1.287 billion |
| Cash and cash equivalents at year-end | $373.1 million | $175.5 million |
| Current ratio | 1.4 | 1.6 |
| Debt to total capital | 47.7% | 47.4% |
Gross profit margin improved to 17.6% from 16.8%; base EBIT was 7.3% of sales, approximately unchanged. Net income and diluted GAAP EPS declined despite higher sales. Cash from operations less capital expenditures was approximately $189 million in 2012, versus $72 million in 2011. Annual dividends were $1.19 per share, up from $1.15.
In fourth-quarter 2012, sales were $1.176 billion versus $1.130 billion a year earlier; net income attributable to Sonoco was $42.8 million versus $29.5 million, and diluted EPS was $0.42 versus $0.29.
Material changes versus prior year
- Sales rose 6.4%, principally because of $406 million of acquisition-related sales, mostly Tegrant. Excluding acquisitions, reported sales declined 2.5%; volume and mix were nearly flat, while lower selling prices and foreign exchange reduced sales.
- Base earnings fell 2.9% to $226.9 million. Lower volume and unfavorable mix, plus higher labor, pension and other costs, outweighed positive price/cost, productivity gains and Tegrant’s contribution.
- Gross margin increased with the addition of higher-margin Tegrant sales and positive price/cost. Consumer Packaging operating profit fell 7.7%; Paper and Industrial Converted Products rose 2.3%; Display and Packaging fell 14.8%; Protective Solutions rose 154.8%, substantially reflecting the acquisition.
- Operating cash flow increased $158.6 million, mainly due to lower pension contributions and improved working-capital cash flows. Investing cash outflow decreased as 2011 included the $550 million Tegrant purchase.
- Interest expense increased, primarily due to higher average debt. Debt increased $86.4 million, largely reflecting greater commercial-paper borrowings. The current portion of debt also rose substantially.
Outlook, commentary and risks
Management described 2012 as more challenging than expected: commodity-driven pressure on consumer spending, recession in Europe, slower emerging-market growth and temporary operating issues weighed on demand, mix and productivity. Sonoco reported progress integrating Tegrant and achieving targeted synergies, though Tegrant results were below projections, particularly in retail packaging.
For 2013, management expected overall volume growth of about 1.5%, relatively flat price/cost, gross margin near 18.5% and EBIT margin near 8.2%. Protective Solutions volume was projected to grow 4%–5%. Management forecast approximately $210 million of capital spending, benefit-plan contributions of about $43 million, and a base effective tax rate of approximately 33.2%. These are forward-looking estimates, not guarantees. Longer-term aspirations include sales of $5.5–$6.0 billion, annual base EPS growth of approximately 10%, and return on net assets employed of 11%–12% over three to four years.
- Environmental exposure: Environmental reserves totaled $75.6 million, including $54.0 million associated with U.S. Paper Mills. Fox River remediation estimates for OUs 2–5 range from $390 million to more than $600 million; Sonoco stated its maximum additional pretax exposure was essentially limited to U.S. Mills’ approximately $91 million equity position. Allocation, remediation costs, litigation and potential natural-resource damages remain uncertain; no reserve was recorded for the latter.
- Pension obligations: Defined-benefit and postretirement plans were underfunded by approximately $479 million. Lower discount rates increased obligations and pension expense; future funding needs depend on investment returns and actuarial assumptions.
- Market and operating risks: Raw-material, energy and freight prices may outpace customer price recovery; competition, demand, customer losses, foreign exchange, economic conditions and acquisition integration could affect results. One customer represented about 9% of consolidated revenue, and the five largest customers represented 64% of Display and Packaging sales.
- Other contingencies and estimates: Restructuring and asset-impairment charges were $32.9 million; approximately $5.7 million of additional restructuring costs were expected, mostly by the end of 2013. Goodwill impairment testing found no impairment, but management identified certain reporting units as more exposed if projected growth or margins fail to materialize.
- In January 2013, Sonoco repatriated $233 million of offshore cash and used it to repay debt, including the $135 million term-loan balance; a further $27 million repatriation was planned. The filing reported no material off-balance-sheet arrangements. The independent auditor gave an unqualified opinion and reported effective internal control over financial reporting.
Important facts for investors to verify
- Whether 2013 volume, margin and price/cost expectations were achieved, and whether Protective Solutions growth and Tegrant synergies offset weakness in other businesses.
- How much of reported sales growth and cash generation is organic and recurring, given acquisition contributions and working-capital and pension-contribution effects.
- Debt repayment and refinancing progress, interest costs, liquidity headroom and the effect of the January 2013 cash repatriation.
- Developments in Fox River litigation and remediation, including U.S. Mills’ eventual cost allocation and whether additional environmental reserves become necessary.
- Pension funding, expense and sensitivity to discount rates and plan-asset returns; also monitor goodwill and customer-renewal risks in the identified reporting units.