GRAPHIC PACKAGING HOLDING COMPANY INTRODUCTION
This management's discussion and analysis of financial conditions and results of
operations is intended to provide investors with an understanding of the
Company's past performance, financial condition and prospects. The following
will be discussed and analyzed:
Ø Overview of Business
Ø Overview of 2022 Results
Ø Results of Operations
Ø Financial Condition, Liquidity and Capital Resources
Ø Critical Accounting Policies
Ø New Accounting Standards
Ø Business Outlook
OVERVIEW OF BUSINESS
The Company's objective is to strengthen its position as a leading provider of
sustainable fiber-based consumer packaging solutions. To achieve this objective,
the Company offers customers its paperboard, cartons, cups, lids, foodservice
containers and packaging machines, either as an integrated solution or
separately. Cartons, carriers and containers are designed to protect and hold
products. Product offerings include a variety of laminated, coated and printed
packaging structures that are produced from the Company's coated-recycled
paperboard ("CRB"), coated unbleached kraft paperboard ("CUK") and solid
bleached sulfate paperboard ("SBS"). Innovative designs and combinations of
paperboard, films, foils, metallization, holographics and embossing are
customized to the individual needs of the customers.
The Company is implementing strategies (i) to expand market share in its current
markets and to identify and penetrate new markets; (ii) to capitalize on the
Company's customer relationships, business competencies, and mills and folding
carton assets; (iii) to develop and market innovative, sustainable products and
applications that benefit from consumer-led sustainability trends; and (iv) to
continue to reduce costs by focusing on operational improvements. The Company's
ability to fully implement its strategies and achieve its objectives may be
influenced by a variety of factors, many of which are beyond its control, such
as inflation of raw material and other costs, which the Company cannot always
pass through to its customers, and the effect of overcapacity in the worldwide
paperboard packaging industry.
Significant Factors That Impact the Company's Business and Results of Operations
Impact of Inflation/Deflation. The Company's cost of sales consists primarily of energy (including natural gas, fuel oil and electricity), pine and hardwood fiber, chemicals, secondary fibers, purchased paperboard, aluminum foil, ink, plastic films and resins, depreciation expense and labor. Costs increased in the first three months of 2022 by$195 million , compared to the first three months of 2021 due to higher commodity inflation costs ($176 million ), labor and benefits ($12 million ) and other costs, net ($7 million ). Commodity inflation was primarily due to external board ($39 million ), mill chemicals ($31 million ), secondary fiber ($26 million ), wood ($23 million ), logistics ($21 million ), energy ($21 million ), converting chemicals ($11 million ), and other costs ($4 million ). Because the price of natural gas experiences significant volatility, the Company has entered into contracts designed to manage risks associated with future variability in cash flows caused by changes in the price of natural gas. The Company has entered into natural gas swap contracts to hedge prices for a portion of its expected usage for 2022. Since negotiated sales contracts and the market largely determine the pricing for its products, the Company is at times limited in its ability to raise prices and pass through to its customers any inflationary or other cost increases that the Company may incur. The Company's operations and financial results could be adversely impacted by global events outside of the Company's control, such as the current COVID-19 pandemic and the conflict betweenRussia andUkraine . As a result of global events such as the current COVID-19 pandemic and the conflict betweenRussia andUkraine , there could be unpredictable disruptions to the Company's operations that could limit production, reduce its future revenues and negatively impact the Company's financial condition. These global events may result in supply chain and transportation disruptions to and from our facilities and affected employees could impact the Company's ability to operate its facilities and distribute products to its customers in a timely fashion. In addition, these global events may result in extreme volatility and disruptions in the capital and credit markets as well as widespread furloughs and layoffs for workers in the broader economy. As ofMarch 31, 2022 , the Company's two converting facilities inRussia provided approximately 1% of the Company'sNet Sales and less than 1% of the Company's EBITDA. The Company is adhering to allU.S. andEU sanctions, and the two facilities are operating to meet existing multi-national customer contractual commitments where possible. The Company has not made any new investments nor entered into any new contractual customer relationships inRussia and will actively explore all options for the business as contractual commitments expire. Additional information regarding this risk is contained in Part I, "Item 1A., Risk Factors" of the Company's 2021 Annual Report on Form 10-K, and in other filings with theSecurities and Exchange Commission . 23
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Commitment to Cost Reduction. In light of continuing margin pressure throughout the packaging industry, the Company has programs in place that are designed to reduce costs, improve productivity and increase profitability. The Company utilizes a global continuous improvement initiative that uses statistical process control to help design and manage many types of activities, including production and maintenance. This includes aSix Sigma process focused on reducing variable and fixed manufacturing and administrative costs and the use of Lean Sigma principles in manufacturing and supply chain processes. The Company's ability to continue to successfully implement its business strategies and to realize anticipated savings and operating efficiencies is subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond the Company's control. If the Company cannot successfully implement the strategic cost reductions or other cost savings plans, it may not be able to continue to compete successfully against other manufacturers. In addition, any failure to generate the anticipated efficiencies and savings could adversely affect the Company's financial results. Competition and Market Factors. As some products can be packaged in different types of materials, the Company's sales are affected by competition from other manufacturers' CRB, CUK, SBS, folding box board, and recycled clay-coated news. Additional substitute products also include plastic, shrink film and corrugated containers. In addition, while the Company has long-term relationships with many of its customers, the underlying contracts may be re-bid or renegotiated from time to time, and the Company may not be successful in renewing on favorable terms or at all. The Company works to maintain market share through efficiency, product innovation, service and strategic sourcing to its customers; however, pricing and other competitive pressures may occasionally result in the loss of a customer relationship. In addition, the Company's sales are driven by consumer buying habits in the markets its customers serve. Recently, the Company has seen net organic sales growth driven by the consumers' desire for sustainable packaging solutions and increased at home consumption. Changes in consumer dietary habits and preferences, increases in the costs of living, unemployment rates, access to credit markets, as well as other macroeconomic factors, may negatively affect consumer spending behavior. New product introductions and promotional activity by the Company's customers and the Company's introduction of new packaging products also impact its sales. Debt Obligations. The Company had an aggregate principal amount of$5,966 million of outstanding debt obligations as ofMarch 31, 2022 . This debt has consequences for the Company, as it requires a portion of cash flow from operations to be used for the payment of principal and interest, exposes the Company to the risk of increased interest rates and may restrict the Company's ability to obtain additional financing. Covenants in the Company's Fourth Amended and Restated Credit Agreement (as amended, the "Current Credit Agreement") and the indentures governing the 4.875% Senior Notes due 2022, 0.821% Senior Notes due 2024, 4.125% Senior Notes due 2024, 1.512% Senior Notes due 2026, 4.75% Senior Notes due 2027, 3.50% Senior Notes due 2028, 3.50% Senior Notes due 2029, 2.625% Senior Notes due 2029 and 3.75% Senior Notes due 2030 (the "Indentures") may, among other things, restrict the ability of the Company to dispose of assets, incur guarantee obligations, prepay other indebtedness, repurchase stock, pay dividends, make other restricted payments and make acquisitions or other investments. The Current Credit Agreement also requires compliance with a maximum consolidated leverage ratio and a minimum consolidated interest coverage ratio. The Company's ability to comply in future periods with the financial covenants will depend on its ongoing financial and operating performance, which in turn will be subject to many other factors, many of which are beyond the Company's control. See "Covenant Restrictions" in "Financial Condition, Liquidity and Capital Resources" for additional information regarding the Company's debt obligations. The debt and the restrictions under the Current Credit Agreement and the Indentures could limit the Company's flexibility to respond to changing market conditions and competitive pressures. The outstanding debt obligations and the restrictions may also leave the Company more vulnerable to a downturn in general economic conditions or its business, or unable to carry out capital expenditures that are necessary or important to its growth strategy and productivity improvement programs.
OVERVIEW OF FIRST QUARTER 2022 RESULTS
This management's discussion and analysis contains an analysis ofNet Sales , Income from Operations and other information relevant to an understanding of the Company's results of operations on a Consolidated basis: •Net Sales for the three months endedMarch 31, 2022 increased$596 million or 36% to$2,245 million from$1,649 million for the three months endedMarch 31, 2021 due to the acquisitions of Americraft in Q3 2021 andAR Packaging in Q4 2021, higher selling prices, increased volume from conversions to fiber-based packaging solutions, and mix, partially offset by lower volume of open market sales and unfavorable foreign exchange. •Income from Operations for the three months endedMarch 31, 2022 increased$85 million or 79% to$193 million from$108 million for the three months endedMarch 31, 2021 due to higher pricing, higher volumes from organic sales growth and acquisitions, cost savings from continuous improvement and other programs, and product mix, offset by unfavorable commodity inflation and other inflation (primarily labor and benefits), lower volume of open market sales, and higher depreciation and amortization.
Acquisitions and Closures
•On
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•OnNovember 1, 2021 , the Company acquired all the shares ofAR Packaging ,Europe's second largest producer of fiber-based consumer packaging. The acquisition included 30 converting plants in 13 countries and is reported within theEurope Paperboard Packaging reportable segment. •OnJuly 1, 2021 , the Company acquired substantially all the assets of Americraft, the largest independent folding carton converter inNorth America . The acquisition included seven converting plants acrossthe United States and is reported within theAmericas Paperboard Packaging reportable segment.
Share Repurchases and Dividends
•OnFebruary 22, 2022 , the Company's board of directors declared a regular quarterly dividend of$0.075 per share of common stock payable onApril 5, 2022 to shareholders of record as ofMarch 15, 2022 . •OnJanuary 28, 2019 , the Company's board of directors authorized an additional share repurchase program to allow the Company to purchase up to$500 million of the Company's issued and outstanding shares of common stock through open market purchases, privately negotiated transactions and Rule 10b5-1 plans (the "2019 share repurchase program"). During the first three months of 2022 and 2021, the Company did not repurchase any shares of its common stock under the 2019 share repurchase program. As ofMarch 31, 2022 , the Company has$147 million available for additional repurchases under the 2019 share repurchase program. RESULTS OF OPERATIONS Three Months Ended March 31, In millions 2022 2021 Net Sales$ 2,245 $ 1,649 Income from Operations 193 108 Nonoperating Pension and Postretirement Benefit Income 2 2 Interest Expense, Net (42) (30) Income before Income Taxes 153 80 Income Tax Expense (46) (18) Net Income$ 107 $ 62
FIRST QUARTER 2022 COMPARED WITH FIRST QUARTER 2021
The components of the change in
Three Months Ended March 31 ,
VariancesIn millions 2021 Price Volume/Mix Exchange 2022 Increase Percent Change
Consolidated$ 1,649 $ 222 $ 385 $ (11) $ 2,245 $ 596 36 % The Company'sNet Sales for the three months endedMarch 31, 2022 increased by$596 million or 36% to$2,245 million from$1,649 million for the three months endedMarch 31, 2021 due to$341 million of net sales related to the acquisitions of Americraft in Q3 2021 and AR Packaging in Q4 2021, higher selling prices, increased volume from conversions to fiber-based packaging solutions and new product introductions, and mix, offset by lower volume of open market sales and unfavorable foreign exchange, primarily the Euro, British Pound and Australian dollar. Core converting volumes were up driven by higher volumes in beverage, foodservice packaging including cups, confections, tissue, and dairy partially offset by lower volumes in frozen foods and pizza.
Income from Operations
The components of the change in Income from Operations are as follows:
Three Months Ended March 31,
Variances
Percent
In millions 2021 Price Volume/Mix Inflation Exchange Other (a) 2022 Increase Change
Consolidated $ 108 $ 222 $ 49 $ (195) $ 2 $ 7 $ 193 $ 85 79 %
(a) Includes the Company's cost reduction initiatives, planned mill maintenance costs, expenses related to acquisitions and integration activities, exit activities and shutdown and other special charges.
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Income from Operations for the three months endedMarch 31, 2022 increased$85 million or 79% to$193 million from$108 million for the three months endedMarch 31, 2021 due to due to higher pricing, higher volumes from organic sales growth and acquisitions, mix, cost savings from continuous improvement and other programs, offset by unfavorable commodity inflation and other inflation (primarily labor and benefits), lower volume of open market sales, and higher depreciation and amortization. Inflation increased for the three months endedMarch 31, 2022 by$195 million , compared to the first three months of 2021 due to higher commodity inflation costs ($176 million ), labor and benefits ($12 million ) and other costs, net ($7 million ). Commodity inflation was primarily due to external board ($39 million ), mill chemicals ($31 million ), secondary fiber ($26 million ), wood ($23 million ), logistics ($21 million ), energy ($21 million ), converting chemicals ($11 million ), and other costs ($4 million ).
Interest Expense, Net
Interest Expense, Net was$42 million and$30 million for the three months endedMarch 31, 2022 and 2021, respectively. Interest Expense, Net increased due to higher debt balances, partly offset by lower interest rates. As ofMarch 31, 2022 , approximately 36% of the Company's total debt was subject to floating interest rates.
Income Tax Expense
During the three months endedMarch 31, 2022 , the Company recognized Income Tax Expense of$46 million on Income before Income Taxes of$153 million . The effective tax rate for the three months endedMarch 31, 2022 is different from the statutory rate primarily due to discrete tax adjustments including tax expense of$10 million recorded to release the lingering tax expense remaining in Other Comprehensive Income after the settlement of certain swaps and a tax benefit of$2 million related to excess tax benefits on restricted stock that vested during the period. During the three months endedMarch 31, 2021 , the Company recognized Income Tax Expense of$18 million on Income before Income Taxes of$80 million . The effective tax rate for the three months ended is different than the statutory rate primarily due to the mix and levels of earnings between foreign and domestic tax jurisdictions with and without a valuation allowance. In addition, during the three months endedMarch 31, 2021 , the Company recorded discrete benefits of approximately$1 million related to excess tax benefits on restricted stock that vested during the period. The Company utilized its remainingU.S. federal net operating loss carryforwards during 2020. However, as a result of deductions associated with the step-up in tax basis of certain assets as a result of International Paper's exit from the GPIL partnership, the Company generated a taxable loss of$574 million during 2021 that can be carried forward forU.S. federal income tax purposes indefinitely. As such, based on the net operating loss generated in 2021 as well as future tax benefits associated with planned capital projects and tax credit carryforwards, which are available to offset futureU.S. federal income tax, the Company does not expect to be a meaningfulU.S. federal cash taxpayer until 2024.
Segment Reporting
The Company has three reportable segments as follows:
Paperboard Mills includes the eight North American paperboard mills that produce primarily CRB, CUK, and SBS, which is consumed internally to produce paperboard packaging for theAmericas andEurope Packaging segments. The remaining paperboard is sold externally to a wide variety of paperboard packaging converters and brokers. The Paperboard Mills segment'sNet Sales represent the sale of paperboard only to external customers. The effect of intercompany transfers to the paperboard packaging segments has been eliminated from the Paperboard Mills segment to reflect the economics of the integration of these segments.Americas Paperboard Packaging includes paperboard packaging, primarily folding cartons, sold primarily to Consumer Packaged Goods ("CPG") companies, and cups, lids and food containers sold primarily to foodservice companies and Quick-Service Restaurants ("QSR") serving the food, beverage, and consumer product markets in theAmericas .Europe Paperboard Packaging includes paperboard packaging, primarily folding cartons, sold primarily to CPG companies serving the food, beverage and consumer product markets including healthcare and beauty primarily inEurope .
The Company allocates certain mill and corporate costs to the reportable
segments to appropriately represent the economics of these segments. The
Corporate and Other caption includes the
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These segments are evaluated by the chief operating decision maker based primarily on Income from Operations, as adjusted for depreciation and amortization. The accounting policies of the reportable segments are the same as those described above in "Note 1 - General Information" in the Notes to Condensed Consolidated Financial Statements.
Three Months Ended
March 31,
In millions 2022 2021
NET SALES :
Paperboard Mills $ 296 $ 237
Americas Paperboard Packaging 1,422 1,169
Europe Paperboard Packaging 486 206
Corporate/Other/Eliminations(a) 41 37
Total $ 2,245 $ 1,649
INCOME (LOSS) FROM OPERATIONS:
Paperboard Mills(b) $ 11 $ (27)
Americas Paperboard Packaging 153 121
Europe Paperboard Packaging 37 20
Corporate and Other(c) (8) (6)
Total $ 193 $ 108
(a) Includes revenue from contracts with customers for the Australia and Pacific
Rim operating segments.
(b) Includes accelerated depreciation related to exit activities in 2022 and
2021.
(c) Includes expenses related to business combinations, shutdown and other
special charges, and exit activities.
2022 COMPARED WITH 2021
First Quarter 2022 Compared to First Quarter 2021
Paperboard Mills
Income from Operations increased due to downtime and mitigation costs related to Winter Storm Uri in Q1 2021, higher prices, productivity improvements, including benefits from capital projects offset by commodity inflation, lower open market volume, and higher levels of maintenance costs. The commodity inflation was primarily due to higher prices for secondary fiber, wood, chemicals, energy and freight.
Net Sales increased due to higher pricing, the Americraft acquisition in Q3 2021, organic sales growth including conversions to our fiber-based packaging solutions, and new product introductions. Higher volumes in beverage, foodservice packaging including cups, confections, tissue, and dairy were offset by lower volumes in frozen foods and pizza. In beverage, volumes increased primarily in big beer and soft drinks offset by craft and specialty.
Income from Operations increased due to higher selling prices, higher core converting volume and increased volume from conversions to our fiber based packaging solutions, cost savings from continuous improvement and other programs offset by commodity inflation and other inflation (primarily labor and benefits). The commodity inflation was primarily due to higher prices for external board, freight, and chemicals offset by secondary fiber.
Net Sales increased due to the acquisition ofAR Packaging onNovember 1, 2021 as well as higher prices and new product introductions including Keel Clip and PaperSeal offset by mix, lower core converting volumes, and unfavorable foreign currency exchange rates.
Income from Operations increased due to higher pricing, mix, cost savings
through continuous improvement and other programs, and the acquisition of
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FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
The Company broadly defines liquidity as its ability to generate sufficient funds from both internal and external sources to meet its obligations and commitments. In addition, liquidity includes the ability to obtain appropriate debt and equity financing and to convert into cash those assets that are no longer required to meet existing strategic and financial objectives. Therefore, liquidity cannot be considered separately from capital resources that consist of current or potentially available funds for use in achieving long-range business objectives and meeting debt service commitments.
Cash Flows
Three Months Ended
March 31,
In millions 2022 2021
Net Cash Provided by Operating Activities $ 18 $ 53
Net Cash Used in Investing Activities $ (195) $ (120)
Net Cash Provided by Financing Activities $ 119 $ 5
Net cash provided by operating activities for the first three months of 2022
totaled $18 million compared to $53 million for the same period in 2021. The
decrease was primarily due to higher working capital balances including accounts
receivable from higher sales and inventory due to inflation. Pension
contributions for the first three months of 2022 and 2021 were $7 million and
$14 million , respectively. In the first quarter of 2022 and 2021, the Company
made a $6 million and $14 million contribution to its remaining U.S. defined
benefit plan by effectively utilizing the excess balance related to U.S. defined
benefit plan terminated in 2020.
Net cash used in investing activities for the first three months of 2022 totaled
$195 million , compared to $120 million for the same period in 2021. Capital
spending was $223 million and $146 million in 2022 and 2021, respectively. Net
cash receipts related to the accounts receivable securitization and sale
programs were $29 million and $28 million in 2022 and 2021, respectively. For
more information on the completion of the K2 project, please see the Capital
Investment section below.
Net cash provided by financing activities for the first three months of 2022
totaled $119 million , compared to $5 million for the same period in 2021.
Current year activities include borrowings under revolving credit facilities
primarily for capital spending and payments on debt of $3 million . The Company
also paid dividends of $23 million and withheld $17 million of restricted stock
units to satisfy tax withholding obligations related to the payout of restricted
stock units. In the prior year period, the Company had a debt drawing of
$425 million Incremental Term A-2 Facility and used the proceeds, together with
cash on hand, to redeem the 4.75% Senior Notes due in 2021, an offering of
$400 million aggregate principal amount of 0.821% Senior Notes due 2024, and an
offering of $400 million aggregate principal amount of 1.512% Senior Notes due
2026. The net proceeds of $796 million were used by the Company to repay a
portion of the outstanding borrowings under GPIL's term loan credit facilities,
which is under its senior secured credit facility. The Company also paid
$150 million toward the redemption of IP's ownership interest in GPIP. In the
prior year period, the Company also made borrowings under revolving credit
facilities primarily for capital spending, redemption of IP's ownership interest
and payments on debt of $9 million . The Company also paid dividends and
distributions of $24 million and withheld $14 million of restricted stock units
to satisfy tax withholding payments related to the payout of restricted stock
units.
Supplemental Guarantor Financial Information
As discussed in "Note 4 - Debt" in the Notes to Condensed Consolidated Financial Statements, the Senior Notes issued by GPIL (the "Issuer") are guaranteed by certain domestic subsidiaries (the "Subsidiary Guarantors"), which consist of all material 100% owned subsidiaries of GPIL other than its foreign subsidiaries and in certain instances by the Company (a Parent guarantee) (collectively "the Guarantors"). GPIL's remaining subsidiaries (the "Nonguarantor Subsidiaries") include all of GPIL's foreign subsidiaries and immaterial domestic subsidiaries. The Subsidiary Guarantors are jointly and severally, fully and unconditionally liable under the guarantees. Other than tax related items, the results of operations, assets, and liabilities for GPHC and GPIL are substantially the same. Therefore, the summarized financial information below is presented on a combined basis, consisting of the Issuer and Subsidiary Guarantors (collectively, the "Obligor Group "), and is presented after the elimination of: (i) intercompany transactions and balances among the Issuer and Subsidiary Guarantors, and (ii) equity in earnings from and investments in the Nonguarantor Subsidiaries.
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