Business context and reporting period
Graphic Packaging Holding Company filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2011. It supplies paperboard, folding cartons, packaging machinery and flexible packaging to consumer and industrial markets. Its reportable segments are paperboard packaging and flexible packaging. Unless otherwise noted, figures are in millions of dollars.
Financial performance and position
| Metric | Q2 2011 | Q2 2010 | Six months 2011 | Six months 2010 |
|---|---|---|---|---|
| Net sales | $1,080.7 | $1,036.5 | $2,081.3 | $2,040.6 |
| Income from operations | $76.3 | $22.8 | $144.9 | $82.4 |
| Net income (loss) | $32.1 | $(32.8) | $58.8 | $(26.5) |
| Diluted EPS | $0.08 | $(0.10) | $0.16 | $(0.08) |
- Operating margin was approximately 7.1% in Q2 2011 versus 2.2% in Q2 2010, and 7.0% for the first half versus 4.0% in the prior-year period.
- Q2 segment sales were $907.2 paperboard packaging and $173.5 flexible packaging; operating income was $90.8 and $0.6, respectively. First-half segment sales were $1,732.2 and $349.1; operating income was $165.2 and $6.6.
- First-half operating cash flow was $117.6, versus $95.6; investing cash outflow was $124.5, versus $37.1; financing cash inflow was $57.5, compared with a $35.4 outflow. Capital spending was $70.8, versus $39.7.
- At June 30, cash was $191.2; current assets $1,195.5; current liabilities $627.3; and total debt $2,437.8, including $19.7 current debt. The current ratio was approximately 1.9. Revolver availability was $363.6 after letters of credit; international facility availability was $4.8.
- Shareholders’ equity was $1,049.9, up from $747.0 at December 31, 2010. The equity offering increased shares outstanding; 389.2 million shares were outstanding at June 30.
Material changes versus prior periods
- Q2 sales rose 4.3%; higher pricing and favorable currency effects more than offset lower volume/mix. First-half sales increased 2.0%, with $59.8 of price and $17.1 of favorable currency contribution offset by a $36.2 volume/mix decline.
- First-half operating income increased $62.5. Lower prior-year restructuring and transaction charges were a major factor: the prior-year period included $55.1 of restructuring and special charges, versus none in 2011. Higher pricing and cost savings also helped, while $79.2 of inflation and lower volume weighed on results.
- First-half interest expense declined to $75.9 from $90.0, reflecting lower debt and average rates. SG&A rose to $179.9 from $155.8, including higher stock compensation expense.
- Inflation increased costs by $79.2 year over year in the first half, particularly chemicals, purchased board and paper, labor, secondary fiber and freight. Management reported $48.7 of cost savings from continuous-improvement and manufacturing initiatives.
- In April and May, the company issued 52.5 million shares for $238.0 net proceeds, repurchased and retired approximately 7.3 million shares from the Coors Trust for $32.9, prepaid $150.0 of term loans, and acquired substantially all of Sierra Pacific Packaging for $51.9. The Sierra acquisition added folding carton, beverage carrier and corrugated box operations.
Outlook, risks and unusual items
- Management expected 2011 year-over-year operating cost savings of $70–$90; capital investment of about $170; depreciation and amortization of about $285; interest expense of $145–$155; and pension contributions of $50–$70. It also projected $200–$220 of net debt reduction from operations, in addition to equity-offering proceeds.
- The company reported a 2.49:1 consolidated secured leverage ratio against a maximum of 4.75:1 and stated it was in covenant compliance. It cited $674.2 of Credit Agreement EBITDA, a non-GAAP covenant measure incorporating projected cost savings.
- Management said cash from operations, revolver capacity and other financing sources were expected to meet debt service, capital spending and operating needs, while noting there could be no assurance. Risks include substantial leverage and restrictive covenants, raw-material and energy inflation, limited ability to pass through costs, market softness, competition, customer re-bids, and execution of cost-reduction plans.
- After quarter-end, the company called the remaining $73.3 of 9.5% Senior Subordinated Notes due 2013 for settlement on August 15, 2011. About 32% of debt was floating-rate at June 30.
- Facility closures generated $2.3 of severance and accelerated depreciation for Cincinnati and $2.6 for Jacksonville during the first half. A pension freeze effective July 1 for most North American salaried and non-union hourly employees resulted in a $0.8 curtailment gain and a $7.0 net decrease in accumulated other comprehensive loss.
- Environmental investigations and ordinary-course lawsuits remain; the company said accrued and reasonably possible losses were not material, but certain future environmental costs could not be estimated. It identified no material changes to previously disclosed risk factors.
Important facts for investors to verify
- Whether pricing and cost savings can offset continued input-cost inflation and weak volumes, particularly in flexible packaging.
- Execution and financial contribution of the Sierra acquisition, and the effect of planned Cincinnati and Jacksonville facility actions.
- Debt repayment progress, the August 2011 note redemption, interest-rate exposure, revolver availability and ongoing covenant headroom.
- Working-capital trends: first-half operating cash flow included a $94.0 use from changes in operating assets and liabilities, while inventory rose to $490.9 from $417.3 at year-end.
- Delivery against 2011 savings, capital-spending, interest, pension contribution and net-debt-reduction expectations.